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1) How come a situation where Capital Increases, Liabilities decreases?
For eg. In the following question
“The bank tells the business it no longer owes the bank $100 in bank charges.”
How come liabilities decrease while capital increase?
2) Likewise how does capital decrease when liabilities increase?
If the bank suddenly told you that you owe $100, you would Dr Finance costs and CR Liabilities.
The Dr to Finance costs is an expense that would reduce profits and owner’s capital.
When that charge is cancelled, liabilities to the bank decrease, profits increase as do owner’s capital.
Thank you so much for your help. That solves my problem quite a lot. I just have one more query.
If there’s a bank charge like the one above which reaches a settlement, how are we gonna put the double entry plus what will be the effect on the accounting equation?
Will it affect the assets after the payment or will it affect the capital?If the bank charges are cancelled there are tow possiblities:
1 They had been accrued. To reverse this Dr Accruals/Creditors, Cr Bank charges.
Liability to the bank decreases, liablity to the owners increases because their capital increases.
2 They had been paid already and are now refunded. To reverse this Dr Cash, Cr Bank charges.
The asset of cash increases, liablity to the owners increases because their capital increases.
Why can’t assets be reduced instead of capital being reduced?
For eg: “the business finds it has been overcharged $50 for some furniture it bought on credit”
The answer here is Assets=decrease Capital=decrease.
on the other hand, “a gas bill of $200 is received by the business” it says capital decreases while liabilities increase…so why can’t it be assets decrease instead of capital?
I am sorry I made a slight mistake:
It’s assets=decrease liabilities=decrease
Not, assets = decrease
Capital= decreaseAssuming they haven’t yet paid for the furniture, then assets=decrease liabilities=decrease is correct.
The furniture is worth $50 less and tehy owe $50 less.
With respect to the gas bill, if the bill is received and not yet paid, the journal would be:
Dr Gas Expenses, Cr Liabilities. Gas expenses will decrease profit and hence decrease capital.
If the bill is received and paid immediately, the entry is:
Dr Gas Expenses, Cr Asset (cash).
Thank you so much for the reply. It has solved my problems quite a lot. I have just one more query.
If there were any bank charges, let’s say, the one we discussed above and it’s going to be settled, how the entries are gonna be? And how will it affect the accounting equation?
Is it the asset that’s going to be affected?
Thank you so much for your assistance and moreover enduring patience to my certainly annoying queries.
My doubts are cleared completely…. Thanks to you and opentuition for instant replies.
And yes looking forward to trouble you again with my annoying queries.
Once again Thank you very much.
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