Accounting Equation

Corporation Transaction C3.

On December 3, 2006 ASI spends $5,000 of cash to purchase computer equipment for use in the business. The effect of this transaction on its accounting equation is:

The accounting equation indicates that one asset increases and one asset decreases. Since the amount of the increase is the same as the amount of the decrease, the accounting equation remains in balance.

This transaction is recorded in the asset accounts Equipment and Cash. The Equipment account increases by $5,000 and the Cash account decreases by $5,000. The journal entry for this transaction is:

The effect on the accounting equation from the first three transactions is:

The totals tell us that the corporation has assets of $9,900 and the source of those assets is the stockholders. The totals tell us that the company has assets of $9,900 and that the only claim against those assets is the stockholders’ claim.

The balance sheet dated December 3, 2006 reflects the financial position of the corporation as of midnight on December 3:

The purchase of equipment is not an immediate expense. It will become depreciation expense only after the equipment is placed in service. We will assume that as of December 3 the equipment has not been placed into service. Therefore, there is no expense in this transaction or in the earlier transactions to be reported on the income statement.

Corporation Transaction C4.

On December 4, 2006 ASI obtains $7,000 by borrowing money from its bank. The effect of this transaction on the accounting equation is:

As you see, ACI’s assets increase and its liabilities increase by $7,000.

This transaction is recorded in the asset account Cash and the liability account Notes Payable with the following journal entry:

To see the effect on the accounting equation from the first four transactions, click here:

These totals indicate that the transactions through December 4 result in assets of $16,900. There are two sources for those assets; the creditors provided $7,000 of assets, and the stockholders provided $9,900. You can also interpret the accounting equation to say that the corporation has assets of $16,900 and the creditors have a claim of $7,000. The residual of $9,900 is the stockholders’ claim.

The balance sheet dated December 4 reports the corporation’s financial position as of that date:

The receipt of money from the bank loan is not revenue since ASI did not earn the money by providing services, investing, etc. As a result, there is no income statement effect from this transaction or earlier transactions.

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