The accounting equation

The accounting equation - The see saw effect

Initially assets are equal to liabilities plus owner's equity (proprietorship) *A=L+E* Once the business commences operations this equation extends to: *Assets + Expenses = Revenue + Liabilities + Owner's equity (proprietorship)*

In period 2 the actual bad debt occurs: general journal

Let us suppose it is $450, then the following transaction occurs

Bad and doubtful debts: occurs in the same period

There are two possible situations for bad debts 1. *Where a bad debt occurs in the same period as the credit sale then the entry is*: This is all that is involved. At the end of the period the bad debt is posted to the Profit and Loss account.

accounting equation: The see saw effect

There must be equal weight at each end The left hand side of the seesaw is the debit side & the right hand side is the credit side Any decrease in the debit side of the seesaw must be matched by a decrease in the credit side, or an increase in the debit side. All changes must be of equal effect.

Bad and doubtful debts: occurs in a later period

when the credit sale is made in the first period, it is anticipated that part of the funds owing on that credit sale will not be received The business sets up an allowance account.

Illustration of use - the accounting equation

A difficult question to ask would be to describe the effect of failing to make the reversing entry for Prepaid Rent Expense of $400. This question can be approached as follows: 1) Draw the seesaw; that is A + E = R + L + P. 2) Use arrows pointing upward or downward under the item classification to show the effect of the original adjusting entry. 3) Reverse the arrows to show the effect of the reversing entry. 4) Change terminology to overstate (O/S) and understate (U/S). 5) For failure to act to decrease, O/S will occur, and to increase U/S takes place. 6) The student must then state the effect on both the Profit and Loss and balance sheet, including the dollar amount.

the accounting equation response

Expenses are understated, leading to profit being overstated by $400 in the Profit and Loss statement. In the balance sheet assets are overstated and owner's equity (proprietorship) is overstated (that is, profit increases by $400)