Accounting Equation: 25 Example Problems and Solutions [With PDF]

The accounting equation is the foundation of all accounting. It illustrates the relationship between a company’s assets, liabilities, and equity and ensures that financial transactions are accurately recorded. Understanding this equation is key to mastering the fundamentals of accounting.

In this post, we’ll explore the accounting equation in-depth and provide 25 example problems with solutions to help accounting students, beginners, and professionals understand how transactions affect the equation.

What is the Accounting Equation?

The basic accounting equation is:

Assets = Liabilities + Equity

This equation must always be balanced after each transaction. Here’s a breakdown of each element:

• Assets: What a business owns (cash, inventory, equipment).
• Liabilities: What a business owes (loans, accounts payable).
• Equity: The owner’s interest in the business, which is the residual interest after deducting liabilities from assets.

To learn more about accounting equations, check out this article.

Let’s dive into practical examples to see how various transactions impact the accounting equation.

Problem 1: Basic Accounting Equation

Problem:
A company has total assets worth $50,000 and liabilities amounting to $20,000. Calculate the owner’s equity.

Solution:
Using the accounting equation:
Assets = Liabilities + Equity
$50,000 = $20,000 + Equity
Equity = $50,000 – $20,000
Equity = $30,000

Problem 2: Purchase of Equipment on Credit

Problem:
A business buys equipment for $10,000, paying $3,000 in cash and the rest on credit. How does this transaction affect the accounting equation?

Solution:

• Assets (Equipment) increase by $10,000.
• Cash (Asset) decreases by $3,000.
• Liabilities (Accounts Payable) increase by $7,000.
  Thus, the change in the accounting equation:
  Assets = Liabilities + Equity
• $10,000 (Equipment) – $3,000 (Cash) = + $7,000 (Liabilities)

Net effect: Assets increase by $7,000 and Liabilities increase by $7,000. Equity remains unchanged.

Problem 3: Paying Off a Loan

Problem:
A business repays a loan of $5,000 using cash. How does this affect the accounting equation?

Solution:

• Assets (Cash) decrease by $5,000.
• Liabilities (Loan) decrease by $5,000.
  Thus, the change in the accounting equation:
  Assets = Liabilities + Equity
• – $5,000 (Cash) = – $5,000 (Loan)

Net effect: Assets and Liabilities both decrease by $5,000, with no change in Equity.

Problem 4: Owner’s Investment

Problem:
The owner invests an additional $15,000 in the business. What is the effect on the accounting equation?

Solution:

• Assets (Cash) increase by $15,000.
• Equity (Owner’s Equity) increases by $15,000.
  Thus, the change in the accounting equation:
  Assets = Liabilities + Equity
• $15,000 (Cash) = + $15,000 (Equity)

Net effect: Assets and Equity both increase by $15,000.

Problem 5: Revenue Earned but Not Received

Problem:
A business provides services worth $8,000, but the customer will pay later. How does this affect the accounting equation?

Solution:

• Assets (Accounts Receivable) increase by $8,000.
• Equity (Revenue) increases by $8,000.
  Thus, the change in the accounting equation:
  Assets = Liabilities + Equity
• $8,000 (Accounts Receivable) = + $8,000 (Equity)

Net effect: Assets and Equity both increase by $8,000.

Problem 6: Complex Scenario: Combination of Transactions

Problem:
A business has $100,000 in assets and $40,000 in liabilities. It buys equipment for $20,000, paying $5,000 in cash and financing the rest. The owner also withdraws $10,000 from the business. Calculate the new balances for assets, liabilities, and equity.

Solution:
Initial Accounting Equation:
Assets = $100,000, Liabilities = $40,000, Equity = $60,000 (calculated using Assets – Liabilities).

Transaction 1: Equipment purchase ($20,000, $5,000 cash and $15,000 loan)

• Assets increase by $20,000 (equipment) and decrease by $5,000 (cash).
• Liabilities increase by $15,000 (loan).
• No impact on equity.

Transaction 2: Owner withdraws $10,000.

• Assets (Cash) decrease by $10,000.
• Equity decreases by $10,000.

New Accounting Equation:
Assets = $100,000 + $20,000 (Equipment) – $5,000 (Cash) – $10,000 (Withdrawal) = $105,000
Liabilities = $40,000 + $15,000 (Loan) = $55,000
Equity = $60,000 – $10,000 (Withdrawal) = $50,000
Final Equation: $105,000 = $55,000 + $50,000

Problem 7: Paying Rent Expense

Problem:
A company pays $2,000 in rent for its office space. How does this affect the accounting equation?

Solution:

• Assets (Cash) decrease by $2,000.
• Equity (Rent Expense) decreases by $2,000 because expenses reduce equity.
  Thus, the change in the accounting equation:
  Assets = Liabilities + Equity
• – $2,000 (Cash) = – $2,000 (Equity)

Net effect: Assets and Equity both decrease by $2,000.

Problem 8: Purchase of Supplies on Credit

Problem:
A business purchases office supplies worth $1,500 on credit. What is the effect on the accounting equation?

Solution:

• Assets (Supplies) increase by $1,500.
• Liabilities (Accounts Payable) increase by $1,500.
  Thus, the change in the accounting equation:
  Assets = Liabilities + Equity
• $1,500 (Supplies) = + $1,500 (Liabilities)

Net effect: Assets and Liabilities both increase by $1,500.

Problem 9: Revenue Received in Advance (Unearned Revenue)

Problem:
A company receives $3,000 in advance from a customer for services to be performed next month. How does this affect the accounting equation?

Solution:

• Assets (Cash) increase by $3,000.
• Liabilities (Unearned Revenue) increase by $3,000 because the service has not yet been performed.
  Thus, the change in the accounting equation:
  Assets = Liabilities + Equity
• $3,000 (Cash) = + $3,000 (Unearned Revenue)

Net effect: Assets and Liabilities both increase by $3,000.

Problem 10: Dividend Payment

Problem:
The company declares and pays a dividend of $4,000 to its shareholders. How does this impact the accounting equation?

Solution:

• Assets (Cash) decrease by $4,000.
• Equity (Retained Earnings) decreases by $4,000 because dividends reduce equity.
  Thus, the change in the accounting equation:
  Assets = Liabilities + Equity
• – $4,000 (Cash) = – $4,000 (Equity)

Net effect: Assets and Equity both decrease by $4,000.

Problem 11: Loan Interest Payment

Problem:
A business pays $500 in interest on a loan. How does this affect the accounting equation?

Solution:

• Assets (Cash) decrease by $500.
• Equity (Interest Expense) decreases by $500.
  Thus, the change in the accounting equation:
  Assets = Liabilities + Equity
• – $500 (Cash) = – $500 (Equity)

Net effect: Assets and Equity both decrease by $500.

Problem 12: Sale of Goods (Partial Credit Sale)

Problem:
A company sells goods worth $10,000. The customer pays $6,000 in cash, and the remaining $4,000 will be paid next month. How does this affect the accounting equation?

Solution:

• Assets (Cash) increase by $6,000.
• Assets (Accounts Receivable) increase by $4,000.
• Equity (Revenue) increases by $10,000.
  Thus, the change in the accounting equation:
  Assets = Liabilities + Equity
• $6,000 (Cash) + $4,000 (Accounts Receivable) = + $10,000 (Equity)

Net effect: Assets increase by $10,000, and Equity increases by $10,000.

Problem 13: Purchase of Inventory

Problem:
A business purchases inventory worth $8,000, paying $5,000 in cash and the remaining on credit. How does this transaction affect the accounting equation?

Solution:

• Assets (Inventory) increase by $8,000.
• Assets (Cash) decrease by $5,000.
• Liabilities (Accounts Payable) increase by $3,000.
  Thus, the change in the accounting equation:
  Assets = Liabilities + Equity
• $8,000 (Inventory) – $5,000 (Cash) = + $3,000 (Liabilities)

Net effect: Assets increase by $3,000, and Liabilities increase by $3,000.

Problem 14: Accrued Salaries

Problem:
A company owes $2,500 in salaries to its employees, but the payment will be made next month. How does this affect the accounting equation?

Solution:

• Liabilities (Salaries Payable) increase by $2,500.
• Equity (Salaries Expense) decreases by $2,500 because expenses reduce equity.
  Thus, the change in the accounting equation:
  Assets = Liabilities + Equity
• $0 (No change in assets) = + $2,500 (Liabilities) – $2,500 (Equity)

Net effect: Liabilities increase by $2,500, and Equity decreases by $2,500.

Problem 15: Disposal of Equipment at a Loss

Problem:
A business sells equipment with a book value of $12,000 for $8,000. How does this transaction affect the accounting equation?

Solution:

• Assets (Equipment) decrease by $12,000.
• Assets (Cash) increase by $8,000.
• Equity (Loss on Disposal) decreases by $4,000 (the difference between the book value and sale price).
  Thus, the change in the accounting equation:
  Assets = Liabilities + Equity
• – $12,000 (Equipment) + $8,000 (Cash) = – $4,000 (Equity)

Net effect: Assets decrease by $4,000, and Equity decreases by $4,000.

Problem 16: Issuance of Stock

Problem:
A company issues $20,000 of common stock to new investors. How does this affect the accounting equation?

Solution:

• Assets (Cash) increase by $20,000.
• Equity (Common Stock) increases by $20,000.
  Thus, the change in the accounting equation:
  Assets = Liabilities + Equity
• $20,000 (Cash) = + $20,000 (Common Stock)

Net effect: Assets and Equity both increase by $20,000.

Problem 17: Depreciation of Equipment

Problem:
The company records $3,000 in depreciation for its equipment. How does this affect the accounting equation?

Solution:

• Assets (Equipment’s book value) decrease by $3,000 due to depreciation.
• Equity (Retained Earnings) decreases by $3,000 because depreciation is an expense that reduces equity.
  Thus, the change in the accounting equation:
  Assets = Liabilities + Equity
• – $3,000 (Accumulated Depreciation) = – $3,000 (Equity)

Net effect: Assets and Equity both decrease by $3,000.

Problem 18: Settlement of a Lawsuit

Problem:
A company settles a lawsuit by paying $7,000 in cash. How does this affect the accounting equation?

Solution:

• Assets (Cash) decrease by $7,000.
• Equity (Retained Earnings) decreases by $7,000 because legal expenses reduce equity.
  Thus, the change in the accounting equation:
  Assets = Liabilities + Equity
• – $7,000 (Cash) = – $7,000 (Equity)

Net effect: Assets and Equity both decrease by $7,000.

Problem 19: Withdrawal of Cash by Owner

Problem:
An owner withdraws $6,000 in cash from the business for personal use. How does this affect the accounting equation?

Solution:

• Assets (Cash) decrease by $6,000.
• Equity (Owner’s Equity) decreases by $6,000 because owner withdrawals reduce equity.
  Thus, the change in the accounting equation:
  Assets = Liabilities + Equity
• – $6,000 (Cash) = – $6,000 (Equity)

Net effect: Assets and Equity both decrease by $6,000.

Problem 20: Purchase of a Vehicle with a Loan

Problem:
A business purchases a vehicle worth $25,000. The company pays $5,000 in cash and finances the remaining $20,000 with a loan. What is the impact on the accounting equation?

Solution:

• Assets (Vehicle) increase by $25,000.
• Assets (Cash) decrease by $5,000.
• Liabilities (Loan Payable) increase by $20,000.
  Thus, the change in the accounting equation:
  Assets = Liabilities + Equity
• $25,000 (Vehicle) – $5,000 (Cash) = + $20,000 (Liabilities)

Net effect: Assets increase by $20,000, and Liabilities increase by $20,000. No change in Equity.

Problem 21: Investment of Personal Funds into Business

Problem:
An owner invests personal funds of $10,000 into the business. How does this affect the accounting equation?

Solution:

• Assets (Cash) increase by $10,000.
• Equity (Owner’s Equity) increases by $10,000.
  Thus, the change in the accounting equation:
  Assets = Liabilities + Equity
• $10,000 (Cash) = + $10,000 (Owner’s Equity)

Net effect: Assets and Equity both increase by $10,000.

Problem 22: Bad Debts Written Off

Problem:
A business writes off $2,000 of accounts receivable as uncollectible (bad debt). How does this affect the accounting equation?

Solution:

• Assets (Accounts Receivable) decrease by $2,000.
• Equity (Retained Earnings) decreases by $2,000 because the bad debt expense reduces equity.
  Thus, the change in the accounting equation:
  Assets = Liabilities + Equity
• – $2,000 (Accounts Receivable) = – $2,000 (Equity)

Net effect: Assets and Equity both decrease by $2,000.

Problem 23: Prepaid Expenses

Problem:
A company pays $1,200 for a one-year insurance policy in advance. How does this affect the accounting equation?

Solution:

• Assets (Prepaid Insurance) increase by $1,200.
• Assets (Cash) decrease by $1,200.
  Thus, the change in the accounting equation:
  Assets = Liabilities + Equity
• $1,200 (Prepaid Insurance) – $1,200 (Cash) = No change in Liabilities or Equity.

Net effect: No change in total Assets or Liabilities/Equity, but there’s a reclassification of Assets.

Problem 24: Receiving a Bank Loan

Problem:
A business receives a bank loan of $15,000. How does this impact the accounting equation?

Solution:

• Assets (Cash) increase by $15,000.
• Liabilities (Bank Loan Payable) increase by $15,000.
  Thus, the change in the accounting equation:
  Assets = Liabilities + Equity
• $15,000 (Cash) = + $15,000 (Loan Payable)

Net effect: Assets and Liabilities both increase by $15,000.

Problem 25: Owner Withdraws Goods for Personal Use

Problem:
The owner withdraws inventory worth $1,500 from the business for personal use. How does this transaction affect the accounting equation?

Solution:

• Assets (Inventory) decrease by $1,500.
• Equity (Owner’s Equity) decreases by $1,500.
  Thus, the change in the accounting equation:
  Assets = Liabilities + Equity
• – $1,500 (Inventory) = – $1,500 (Owner’s Equity)

Net effect: Assets and Equity both decrease by $1,500.

Conclusion

Understanding how different transactions affect the accounting equation is essential for maintaining accurate financial records.

By practicing these problems, you’ll become more comfortable with the flow of accounting data and how it impacts the overall financial picture of a business.

Feel free to use these 25 accounting equation problems and solutions to test your knowledge or guide your studies.

Mastering the accounting equation will become second nature as you continue to explore more complex transactions.

Explore more practical examples and resources on our Accounting Challenges page.