THE ACCOUNTING EQUATION

Glencoe Accounting Real World Applications & Connections 5th Edition

Key Vocabulary

Property Property Rights Financial Claims Credit Creditor Assets Investments

Equity Owner’s Equity Liabilities Business

Transaction Account Accounts

Receivable Accounts Payable On Account

Glencoe Accounting Real World Applications & Connections 5th Edition

Things to Think About

What is the relationship between property and financial claims?

What does equity mean when it is used in accounting?

What are the parts of the accounting equation?

What are the 4 steps used to analyze business transactions?

How do investments by the Owner affect the equation? Cash payments? Buying on credit or a credit transaction?

Glencoe Accounting Real World Applications & Connections 5th Edition

Property: Ownership and Control

Anything of value that is owned or controlled.

Difference between control and ownership:

Own – purchased, have legal rights to, financial claims (you can sell it).

Control – Like renting, specific time frame and usage. No financial claim (you can’t sell it).

Glencoe Accounting Real World Applications & Connections 5th Edition

Financial Claims

Property rights = financial claims Example: you purchase an Ipod for $400

Property = Financial Claims(Cost) (Financial

Investment)Ipod = Your claim to the Ipod$400 = $400

Glencoe Accounting Real World Applications & Connections 5th Edition

Credit

Let’s change our example: You are now purchasing the Ipod, but on credit. You give the store $100 now and you owe $300 later.

Property = Financial Claims Ipod = Your claim (Owner) + Creditor’s Claim

$400= $100 + $300

Glencoe Accounting Real World Applications & Connections 5th Edition

Business

Let’s look at a business example: A delivery service is purchasing a vehicle for $10,000. A $3,000 cash down payment and borrowing $7,000 from the bank.

Property = Creditor’s Financial Claim + Owner’s Financial Claim

Truck$10,000 = $7,000 + $3,000

In other words:ASSETS = LIABILITIES + OWNER’S

EQUITY

Glencoe Accounting Real World Applications & Connections 5th Edition

Accounts

Common Accounts in Business:ASSETS = LIABILITIES + OWNER’S

EQUITYCash in Bank Accounts Payable Owner,

CapitalAccounts ReceivableEquipment - Computer - Office - DeliverySuppliesInventory

Glencoe Accounting Real World Applications & Connections 5th Edition

Analysis of a Business Transaction

Analysis Identify

Classify

+/-

Balance

1. Identify the accounts affected.

2. Classify the accounts affected.

3. Determine the amount of increase or decrease for each account affected.

4. Make sure the accounting equation remains in balance.

Glencoe Accounting Real World Applications & Connections 5th Edition

Business Transactions

Every business transaction affects at least two accounts.

After recording each transaction, the accounting equation must remain in balance.

Glencoe Accounting Real World Applications & Connections 5th Edition

Transaction 1Jimmy Smith has invested $25,000 to open a business

checking account in the name of Jimmy’s Pet Supplies.

Analysis Identify 1. Cash transactions are recorded in the

account Cash in Bank. Jimmy investment of personal funds are recorded in Capital acct.

Classify 2. Cash in Bank is an Asset account, Capital is Owner’s Equity Account.

+/- 3. Cash in Bank is increased $25,000.Jimmy Smith, Capital is increased

$25,000.Balance 4. The accounting equation remains

balanced.

Glencoe Accounting Real World Applications & Connections 5th Edition

Transaction 2

The Owner, Jimmy Smith, issued a $2,500 check to purchase a Computer System.

Analysis Identify 1. The Computer Equipment account is used to record the transaction. The business paid cash so the account Cash in Bank is affected.

Classify 2. Both Computer Equipment and Cash in Bank are Asset accounts.

+/- 3. Computer Equipment is increased $2,500.Cash in Bank is decreased $2,500.

Balance 4. The accounting equation remains balanced.

Glencoe Accounting Real World Applications & Connections 5th Edition

Transaction 3

Jimmy’s Pet Supplies purchased a truck on account from Used Autos for $15,000.

Analysis Identify 1. The Delivery Equipment account is used to record the transaction. The business promise to pay later so the Accounts Payable is affected.

Classify 2. Delivery Equipment is an asset account. Accounts Payable is a liability account.

+/- 3. Delivery Equipment is increased $15,000.

Accounts Payable is increased $15,000.

Balance 4. The accounting equation remains balanced.

Glencoe Accounting Real World Applications & Connections 5th Edition

Assets = Liabilities + Owner’s Equity

Cash Computer Deliveryin Bank + Equipment + Equipment = Accounts Payable + Jimmy Smith, Capital

Trans 1 $25,000 = $25,000

Trans 2 - $2,500 + $2,500 = ______

Bal: $22,500 + $2,500 = $25,000

Trans3 ______ + ______ + $15,000 = $15,000 + ________

Bal: $22,500 + $2,500 + $15,000 = $15,000 + $25,000