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Lesson 3: Accounting Equation
The Basic Accounting Equation
The accounting equation is basically an algebraic equation as shown below.
This accounting equation comprises the elements in the financial statements.
The basic accounting equation can be expanded by including more elements
– income and expenses. The expanded equation shows all the elements of the financial
statements.
Assets = Liabilities + Equity + Income - Expenses
ACCOUNTING PRINCIPLES II (ADVANCE ACCOUNTING PRINCIPLES)
Learning Module By: Gwendolyn C. Tatoy
14
The Basic Elements of Accounting
Real Accounts are Assets, Liabilities and Owner’s Equity. These are
reported in the Statement of FInancial Position (Balance Sheet) and are not closed at the
end of the accounting period.
Assets
Are economic resources or things of value by the business which can be
classified as current asset and non-current asset.
Liabilities
Are economic or legal obligations of the business or what the business owes
to other businesses or persons. This can be current liability and non-current liability.
Owner’s Equity (capital, net assets or net worth)
This is the residual amount after subtracting liabilities from assets. It is the
owner’s interest in, or claim to the assets of a business. The difference between assets
and liabilities.
Nominal Accounts are those that comprise the elements in the Income
Statement. These are temporary accounts which are closed at the end of the accounting
period.
Income
These are earnings of the business from sales of goods or services rendered.
Expenses
These are costs incurred in conducting the business activities.
The difference between income and expenses represent profit or loss.
Income expenses = profit
Income expenses = loss
Illustration:
1. A salon has an obligation of P300,000. If the P800,000 (Asset) = P300,000 (liabilities) – ?
total asssets are P800,000. How much is the (Owner’s Equity)
owner’s equity? Owner’s Equity = P500,000
ACCOUNTING PRINCIPLES II (ADVANCE ACCOUNTING PRINCIPLES)
Learning Module By: Gwendolyn C. Tatoy
15
2. A business’ residual interest showed a balance P500,000 (Asset) - P350,000 (Owner’s equity) = ?
of P350,000. If it claims an ownership of assets (Liability)
worth P500,000, how much is the liability? Liability = P150,000
3. If an enterprise has an owner’s equity of P700,000 (Owner’s Equity) – P300,000 (Liability)
P700,000 and a financial obligation of = ? (Assets)
P300,000. How much is the enterprise’s total Assets = P400,000
assets?
4. If total income is P100,000 and total expenses P100,000 (Profit) – P75,000 (Expenses) = ? Profit
is P75,000, how much is the profit or loss of or Loss
the business? Profit = P 25,000
An account is an accounting form of record in which the effect of similar
business transactions are grouped or classified. It is an accounting device that records the
increase and decrease of a specific accounting element. It may be expressed in a T-
account since it resembles the letter “T”. Debits (value received) are recorded on the
left and Credits (value parted with) on the right side of the account.
Cash
An account title describes the
Debit Credit specific item of account
1/8 20,000 1/4 10,000 involved in a transaction
1/30 15,000 1/14 3,000
Debit represents increases in assets Credit represents decreases in
and expenses and decreases in assets and expenses and increases in
liability, capital and revenu liability, capital and income
Chart of Account
To maintain uniformity in the account name used in the business to record
its economic transactions, a business must have a chart of account, a listing of all the
accounts. The increases or decreases in an accounting element as affected by a business
transaction are recorded in a device called account name, account title or account.
The chart of account is arranged in the financial statement order – asset,
liability owner’s equity, income and expenses.
ACCOUNTING PRINCIPLES II (ADVANCE ACCOUNTING PRINCIPLES)
Learning Module By: Gwendolyn C. Tatoy
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Contra accounts = presented in the Adjunct accounts = presented in the
financial statements as deduction to financial statements as addition to
their related accounts. related accounts
Ex. Accumulated depreciation Ex. Freight - in
1. What is the expanded accounting equation?
2. What is an account?
3. Differentiate real from nominal accounts.
4. When can a firm incur a loss?
5. What are the elements of the financial statements and give 1 example of account title
I. The following relates to the financial position of an enterprise. Solve the missing item.
Co. A Co. B Co. C Co. D
Assets P120,000 P 250,000 ? P 350,000
+ Liabilities ? P 100,000 P 120,000 ?
= Owner’s Equity P 50,000 ? P 150,000 P 175,000
ACCOUNTING PRINCIPLES II (ADVANCE ACCOUNTING PRINCIPLES)
Learning Module By: Gwendolyn C. Tatoy
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MULTIPLE CHOICE:
1. It is an economic resource controlled by the entity that has resulted from past events and has a
potential to produce economic benefits.
a. Asset c. Equity
b. Liability d. Income
2. It is a present obligation that has resulted from past events and has the potential to cause a transfer of
an economic resource in its settlement.
a. asset. c. expense.
b. liability. d. income.
3. Which of the following is incorrect regarding profit?
a. Profit is measured only indirectly as an arithmetical difference.
b. Profit is the excess of total income over total expenses.
c. Profit increases equity.
d. Profit is earned if total income is less than total expenses.
4. A business incurs total expenses of ₱630,000 and reports loss of ₱270,000. How much is the total
income?
a. 900,000 c. 380,000
b. 320,000 d. 360,000
5. Equation 1: Profit = Revenue greater than expenses
Equation 2: Assets = Liabilities + Capital
a. Only equation 1 is correct
b. Only equation 2 is correct
c. Both equations are correct
d. Both equations are incorrect.
6. Which of the following would result to total expenses of ₱480,000?
a. Total income of ₱360,000 and profit ₱120,000
b. Total income of ₱580,000 and loss of ₱100,000
c. Total income of ₱630,000 and profit of ₱150,000
d. Total income of ₱630,000 and loss of ₱150,000
7. A business owner’s contribution to the business results in
a. an increase in assets and an increase in income.
b. a decrease in assets and an increase in owner’s equity.
c. an increase in assets and an increase in liabilities.
d. an increase in assets and an increase in owner’s equity.
8. Entity A has ending total assets of ₱150M and ending total liabilities of ₱90M. Entity A had a beginning
equity of ₱30M. If Entity A incurred total expenses of ₱50M during the year, how much was the total
income?
a. ₱90M
b. ₱40M
c. ₱50M
d. ₱80M
ACCOUNTING PRINCIPLES II (ADVANCE ACCOUNTING PRINCIPLES)
Learning Module By: Gwendolyn C. Tatoy
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Name: Score:
Lesson 3 Activity
Course/Yr & Sec:
Answer Sheet
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II. Problem
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III. Multiple choice:
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ACCOUNTING PRINCIPLES II (ADVANCE ACCOUNTING PRINCIPLES)
Learning Module By: Gwendolyn C. Tatoy
