Accounting Equation Theory

 Accounting Equation 

Learning objective

- Meaning of an accounting equation
-effect of transaction on an accounting equation

Meaning of an accounting equations

An accounting equation is a mathematical expression which shows that the assets and liability of a firm are equal. An Accounting equation is based on the dual aspect concept of accounting meaning, every transaction has two aspects - Debit and Credit. It holds that for every debit there is a credit of equal amount and vice versa. It means total claim (those of outsiders and of  the proprietor's) will always equal the total assets of the firm. The claim , also known as equities, are of two types:

1. Owner's equity or capital and 
2. Liabilities or amounts due to outsiders 

We can express it as follows:

 Assets = Equities (total claims)
                    Or 
Assets = Liabilities + Capital
                    Or
Liabilities = Assets - Capital
                    Or
Capital = Assets - Liabilities

The above relationship is known as the Accounting Equation or the Balance sheet Equation.

Effect of transactions on accounting Equation

A transaction may effect either both sides of the equation by the same amount or one side of the equation only, by both increasing or decreasing it by equal amounts.
Transactions from the accounting equation viewpoint, can be divided into two, i.e., 

1. Transactions affecting two items and
2. Transaction affecting more than two items.

  Transactions affecting two items : As the suggests, these are those transactions that effect two items of the accounting equation or balance sheet. Transactions affecting opposite sides are: