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C H A P T E R

Accounting Equation

MEANING OF KEY TERMS USED IN THE CHAPTER

1. Accounting Equation Accounting Equation shows the relationship among capital,
liabilities and assets. Total assets are equal to the sum of capital and
liabilities.
Mathematical Expression of Accounting Equation:
(i) Assets = Liabilities + Capital; or
(ii) Capital = Assets – Liabilities; or
(iii) Liabilities = Assets – Capital.
2. Assets Assets are the resources that the business owns. They refer to properties
or legal rights owned by the business, which can be measured in terms
of money.
3. Liabilities Liabilities are the financial obligations of an enterprise. In common
parlance, it refers to financial obligations of the enterprise other than
capital of the owners.
4. Capital Capital is the amount invested by the owner in the business. It increases
by the profit earned during the year and decreases by the loss incurred
during the year and drawings made.
Or
Capital is the excess of assets over external liabilities, i.e.,
Capital = Assets – Liabilities.

CHAPTER SUMMARY

• Accounting Equation is the basis for Double Entry System of Book Keeping. Total assets of the business firm
are provided by the creditors/lenders and the owners. Therefore, at any point of time, the total assets of a
business are equal to its total liabilities. Liabilities to the outsiders are known as liabilities but liability to the
owners, in accounting is referred to as capital.
We can express the relationship that exists among assets, liabilities and capital in the form of an accounting
equation as follows:
Total Assets = Total Liabilities
Or
Total Assets = Liabilities + Capital
Or
Capital = Total Assets – Liabilities