Accounting Fundamentals · Lesson 2 · about 12 minutes

Assets, liabilities, and equity

Most of the basic financial picture can be organized around three ideas: what a business has, what it owes, and what is left for the owner.

Assets: what the business has

An asset is something the business controls that has economic value.

Common examples include cash, equipment, inventory, buildings, and money customers owe the business.

A useful beginner question is: What useful thing does the business have?

Liabilities: what the business owes

A liability is an obligation the business has to someone else.

Bank loans are liabilities. So are unpaid bills and other amounts the business is required to pay.

If a bank lends a business $2,000, the cash becomes an asset, but the amount owed to the bank becomes a liability.

Equity: what remains

Equity is the owner’s claim on the business after liabilities are taken into account.

For now, think of it this way:

Assets − Liabilities = Equity

Suppose a business has $10,000 in assets and owes $4,000.

$10,000 − $4,000 = $6,000 of equity.

This is closely related to one of accounting’s most important relationships, which we will study next.

Checkpoint

Before continuing, you should be able to explain these without memorized textbook language:

• Asset: something of value the business has or controls.
• Liability: something the business owes.
• Equity: what remains for the owner after liabilities are considered.

If those distinctions are clear, you are ready for the accounting equation.