Accounting Equation Illustration

To be precise, accounting equation is the most important concept for preparing financial statements. It is the rule that assets of the business are always equal to liabilities of the business. So accounting equation becomes
Assets = Liabilities

Business liabilities consist of two types. 1) External liabilities . 2) Internal liabilities / Equity

Example: On 1 January 2X11, John decided to open up a bakery in the market to sell fresh baked items. He had some savings and invested USD 10,000 into his business.The business is a separate entity in terms of accounting. It has obtained its assets from its owner, John. Business therefore owes this money to the business. The money invested into business by the owner is the Capital.

Capital In accounting, capital is an investment of money with the intention of earning a return. As long as the amount of money is invested in the business, it will be treated as the money owed to the owner by the accountants.so the Journal entry that would be made on the investment of funds would be

Bank Account (DR) USD 10,000
Capital(CR) USD 10,000

Capital invested is a form of liability, because it is an amount owed by the company to its owner.So Accounting equation would become now :

Assets = Liabilities + Capital (Equity)

As the cash is the asset so 10,000 = 0 + 10,000 It equates our accounting equation.