Accounting Equation
The foundation of double-entry bookkeeping: everything a business owns is financed either by debt or by owners’ capital.
Formula
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Example
Assets $500k, liabilities $300k → equity = $200k
How it works
The accounting equation says a business’s resources must always be matched by the way those resources were funded. If the company did not pay for an asset with its own cash from owners, then it was financed by borrowing, so the value must appear as either a liability or equity. This is the basic structure behind double-entry bookkeeping, where every transaction affects at least two parts of the equation while keeping it balanced.
When to use it
Use this formula when checking whether a balance sheet is complete and balanced, or when finding an unknown equity or liability amount from the other two values. It is especially useful in basic bookkeeping, financial statement preparation, and business analysis.
Worked example, step by step
A small business has: Assets = $78,000 Liabilities = $31,000 Use the accounting equation: Assets = Liabilities + Equity Substitute the known values: $78,000 = $31,000 + Equity Subtract liabilities from assets: Equity = $78,000 - $31,000 Equity = $47,000 Final answer: Equity = $47,000
Common mistakes to avoid
- Adding liabilities and equity together without checking that the result equals assets
- Using revenue or profit instead of equity
- Forgetting that equity is the leftover amount after liabilities are subtracted from assets
Did You Know?
This single equation must always balance — it is why the report is called a “balance sheet.”
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