doing math

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The Accounting Equation

level 3 course

Assets = liabilities + equity, and how every transaction keeps it balanced.

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the lesson

The idea, the techniques and a tip for each skill, right here. The Learn page adds worked examples for every skill and untimed practice.

Read the lesson · about 3 minutes

The idea

Every business fits one line: assets = liabilities + equity. Assets are what the business owns, like cash, equipment and money customers owe it. Liabilities are what it owes, like loans and unpaid bills. Equity, or book equity, is what is left for the owners.

The two sides always stay equal. A loan adds cash and a debt of the same size. A cash sale adds cash and raises profit, which belongs to the owners, so equity rises. Buying equipment for cash swaps one asset for another.

Equity is a figure on paper. It is not the cash in the bank, and it is not what the business would sell for.

Techniques

Rearrange the equation

You know two of assets, liabilities and equity.

  1. Missing assets: add liabilities and equity.
  2. Missing liabilities or equity: take the known one away from assets.
  3. Equity is negative when the debts are bigger than the assets.
worked example

Example: A café has $40,000 of assets and $15,000 of equity. What are its liabilities?

  1. Liabilities = assets − equity.
  2. $40,000 − $15,000 = $25,000.

Answer: $25,000

Match every change

A transaction happens and you want to know what changed.

  1. Name the asset that went up or down.
  2. Then ask what matched it: a debt, the owners, or another asset.
  3. Borrowed money or work owed raises liabilities. Earnings and owner money raise equity; expenses and withdrawals lower it.
worked example

Example: A bakery has $20,000 of assets and $8,000 of liabilities. A bank lends it $5,000 in cash. What is its equity now?

  1. Assets rise to $25,000; liabilities rise to $13,000.
  2. Equity: $25,000 − $13,000 = $12,000, the same as before.

Answer: $12,000

Roll equity forward

You know equity at the start of a year.

  1. Start with opening equity.
  2. Add what the owner put in and the net income, or subtract a net loss.
  3. Subtract what the owner took out, once.
worked example

Example: Equity starts the year at $30,000. The owner invests $4,000, net income is $9,000, and the owner takes $6,000 in distributions. What is ending equity?

  1. $30,000 + $4,000 + $9,000 = $43,000.
  2. $43,000 − $6,000 = $37,000.

Answer: $37,000

Tips by skill

  • TipFind book equity: Equity is assets minus liabilities. It can be negative when the debts are bigger.
  • TipSolve for the missing piece: Write assets = liabilities + equity. If assets are missing, add. Otherwise subtract the known piece from assets.
  • TipWhich way does the equation move?: Find the asset that moved, then what matched it: a debt, the owners, or another asset. A loan is owed, not earned.
  • TipEnding equity: Start, plus owner money, plus net income (or minus a loss), minus distributions once.

Watch out for

  • Adding assets and liabilities to find equity. Equity is what is left after the debts, so subtract.
  • Treating a loan as if it raised equity. Borrowed money is owed back, so liabilities rise.
  • Adding distributions to equity, or taking them off twice as if they were also an expense.

skills · practice stats

From rounds of this course only: box, review and test-out answers are left out. Once a skill has 40 tries, it compares your first 20 tries with your last 20.

rest ladder

Win 3 of your last 4 rounds and the course rests. A win is 90% right, within 2× the round's par. Pass the review when it comes back and the next rest is longer.

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  3. 7 days
  4. 14 days
  5. 30 days
  6. 60 days
  7. mastered · every 90 days

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