Question

A company pays $1,900 for supplies previously purchased on account. Indicate the amount of increases and decreases in the accounting equation.

Answer 1

Answer:

Assets decreases by $1,900 while liabilities also decreases by $1,900.

Explanation:

Accounting equation shows that the assets of a company is equal to the addition of its liabilities and shareholders' equity. This is stated mathematically as follows:

Assets = Liabilities + Shareholders' equity ................................. (1)

The aim of the accounting equation is to ensure that the balance sheet is always balanced, that is, a change in one of the components of the accounting equation must result in a corresponding change in another component of the accounting equation. This ensures the accounting equation always balance.

in the question, purchasing an item on account means that the item was purchased on credit i.e. without paying for it immediately. This makes the supplier a creditor to the company and creditor is one of the components of liabilities in the accounting equation. The payment of $1,900 to the creditor implies a decrease in the liabilities by $1,900.

In addition, cash is one of the components of assets in the accounting equation stated above. Therefore, the payment of $1,900 by the company to the creditor/supplier reduces assets by $1,900.

Based on this information, the accounting equation (1) above can be restated as follows:

Assets - $1,900  = Liabilities - $1,900 + Shareholders' equity ............ (2)

This shows that assets decreases by $1,900 while liabilities also decreases by $1,900.

To test that the accounting equation always balance, equation (2) can be solved and we will obtain equation (1) back again as follows:

Assets - $1,900 + $1,900 = Liabilities + Shareholders' equity

Since - $1,900 + $1,900 = 0, we have equation (1) back again as follows:

Assets = Liabilities + Shareholders' equity

I wish you the best.