Fundamentals of

Accounting
Course Material No. 3

EJ Blanco
Course Instructor
2 FUNDAMENTALS OF ACCOUNTING• NU LAGUNA

The Accounting
Equation 1
LEARNING OUTCOMES

Here’s what I will teach you in this course material:

LESSON OUTLINE
• Demonstrate an understanding of the accounting equation
• The Accounting
Equation • Solve problems by applying the accounting equation

• Discuss the five major types of accounts

Unit Outline
• Types of Accounts
• Cite examples of each type of account

• Prepare a chart of accounts

RESOURCES NEEDED
For this lesson, you would need the following resources:

Accounting books and other references as uploaded in the files

section in MS Teams.
FUNDAMENTALS OF ACCOUNTING • NU LAGUNA 3

TABLE OF CONTENTS

Word Search
Pretest 4
Before you start, try answering the following
questions. The Accounting Equation
5
1. If you hear of Debits and Credits, what’s the first
thing that comes to your mind?
_______________________________________ 8 Types of Accounts
2. What is an asset?
_______________________________________
3. What is a liability?
_______________________________________ 11 Lesson Summary
4. What is equity?
_______________________________________
5. What are revenues and expenses?
Key Terms
_______________________________________ 11

11 Post Test

References
13
4 FUNDAMENTALS OF ACCOUNTING• NU LAGUNA

The Accounting
Equation
This topic provides an
overview of an overview of
the accounting equation as
well as the elements and
accounts involved in it. This
also equips you with an
understanding and analysis
of business transactions
with the aid of the
accounting equation.

WORD SEARCH
Find all 10 words relevant to our topic!
FUNDAMENTALS OF ACCOUNTING • NU LAGUNA 5

The Accounting Equation

Before you can create financial statements, you need to first understand the single most
fundamental concept of accounting – The Accounting Equation that is:
ASSETS = LIABILITIES + EQUITY
This means that the whole assets of the company come from the liability, or debt of the
company, and from the capital of the owner of the business, and the income it generated
from the business operations.

Double Entry Bookkeeping

• Double entry bookkeeping tells us that if we add something from the one side, which
is asset, we must add the same amount to the other side to keep them in balance.
• For example, if we were to increase cash (an asset) we might have to increase note
payable (a liability account) so that the basic accounting equation remains in balance.

• In double-entry bookkeeping, there is the concept of debit (dr) and credit (cr). Debit
is the left, and credit is the right.
• There is also a concept of normal balances. A normal balance, either a debit normal
balance or a credit normal balance, is the side where a specific account increases.
• In the accounting equation, asset is on the left side, while liabilities and equity is on
the right side. Therefore, asset has a debit normal balance, meaning that cash as an
asset is debited to increase, while credited to decrease.
• On the other hand, liabilities and owners’ equity have a credit normal balance. This
means that a liability account is credited to increase, while debited to decrease. The
accounting equation provides the foundation for what eventually becomes the
balance sheet.
• In a nutshell, the following are the account types and its normal balances:

ACCOUNT NORMAL BALANCE

ASSET DEBIT
LIABILITY CREDIT
EQUITY CREDIT
REVENUE CREDIT
EXPENSE DEBIT
6 FUNDAMENTALS OF ACCOUNTING• NU LAGUNA

Elements of the accounting equation

Assets. The resources or properties owned by the business. Examples of assets
include cash, accounts receivable and inventories.
Liabilities. The obligations or debts by the business. Examples of liabilities
include accounts payable and loans payable.
Equity. Any assets left after paying the liabilities. There are four elements that
affect equity: Investment, Withdrawal, Revenue and Expenses.

Illustration of the effects of business transaction in the accounting elements:

1. Assets invested by the owner
DATE TRANSACTION
July 1 Gab Nepomuceno, a retired Olympian, started a delivery business on July 1,
2021. He invested PHP800,000 cash and cars amounting to P200,000.
Effect to the accounting equation:
ASSETS = LIABILITIES + OWNER'S EQUITY
Cash 800,000 Nepomuceno, Capital 1,000,000
Cars 200,000

2. Borrowings of money from the bank

DATE TRANSACTION
July 2 Nepomuceno borrowed P100,000 cash from PNB for use in his business
Effect to the accounting equation:
ASSETS = LIABILITIES + OWNER'S EQUITY
Cash 100,000 Loans Payable, PNB 100,000

3. Asset purchased for cash

DATE TRANSACTION
July 7 Nepomuceno bought furniture from his friend Kyle and paid P45,000 cash
Effect to the accounting equation:
ASSETS = LIABILITIES + OWNER'S EQUITY
Cash -45,000
Furniture 45,000

4. Assets purchased on account

DATE TRANSACTION
July 9 Various equipment was purchased on account from his supplier Andrew for
P55,000
FUNDAMENTALS OF ACCOUNTING • NU LAGUNA 7

Effect to the accounting equation:

ASSETS = LIABILITIES + OWNER'S EQUITY
Equipment 55,000 Accounts Payable 55,000

5. Cash withdrawal by owner

DATE TRANSACTION
July 13 Nepomuceno made a cash withdrawal of P5,000 for personal use

Effect to the accounting equation:

ASSETS = LIABILITIES + OWNER'S EQUITY
Cash -5,000 Nepomuceno, Drawing -5,000

6. The account due to Andrew was paid in cash

DATE TRANSACTION
July 15 Nepomuceno paid Andrew
Effect to the accounting equation:
ASSETS = LIABILITIES + OWNER'S EQUITY
Cash (55,000.00) Accounts Payable (55,000.00)

The following table shows a summary of the above business transactions:

Date of Transaction ASSETS = LIABILITIES + OWNER'S EQUITY
July 1, 2021 Cash 800,000 Nepomuceno, Capital 1,000,000.00
July 1, 2021 Cars 200,000
July 2, 2021 Cash 100,000 Loans Payable, PNB 100,000
July 7, 2021 Cash (45,000)
July 7, 2021 Furniture 45,000
July 9, 2021 Equipment 55,000 Accounts Payable 55,000
July 13, 2021 Cash (5,000) Nepomuceno, Drawing (5,000.00)
July 15, 2021 Cash (55,000) Accounts Payable (55,000)
Total 1,095,000 100,000 995,000

Assets 1,095,000 = Liabilities 100,000 + Equity 995,000

For each transaction, tell whether the assets, liabilities and equity will increase
(I), decrease (D) or is not affected (NE).

CRITICAL THINKING

For every transaction, the

Write your answers in a separate sheet and we will discuss next
session. accounting equation should
always be balanced.
8 FUNDAMENTALS OF ACCOUNTING• NU LAGUNA

Types of Major Accounts

In the previous topic, we discussed the elements of the accounting equation, namely
assets, liabilities and equity. It is difficult to record transactions using assets, liabilities and
equity classification. We use a device to record the changes in the accounting equation.
The device used to record changes in accounting equation is called the Account.
Below are the 5 major accounts:
• Assets are the resources owned and controlled by the firm.
• Liabilities are obligations of the firm arising from past events which are to be
settled in the future.
• Equity or Owner’s Equity are the owner’s claims in the business. It is the residual
interest in the assets of the enterprise after deducting all its liabilities.
• Income is the increase in economic benefits during the accounting period in the
form of inflows of cash or other assets or decreases of liabilities that result in
increase in equity. Income includes revenue and gains.
• Expenses are decreases in economic benefits during the accounting period in the
form of outflows of assets or incidences of liabilities that result in decreases in
equity.

Classification of accounts

1. Assets
• Current Assets are assets that can be realized (collected, sold, used up) one year
after year-end date. Examples include Cash, Accounts Receivable, Merchandise
Inventory, Prepaid Expense, etc.
• Non-current Assets are assets that cannot be realized (collected, sold, used up)
one year after year-end date. Examples include Property, Plant and Equipment
(equipment, furniture, building, land), long term investments, etc.

Current Assets
• Cash is money on hand, or in banks, and other items considered as
medium of exchange in business transactions.
• Accounts Receivable are amounts due from customers arising from credit
sales or credit services.
• Notes Receivable are amounts due from clients supported by promissory
notes.
• Inventories are assets held for resale
FUNDAMENTALS OF ACCOUNTING • NU LAGUNA 9

• Supplies are items purchased by an enterprise which are unused as of the

reporting date.
• Prepaid Expenses are expenses paid in advance. They are assets at the
time of payment and become expenses through the passage of time.
• Accrued Income is revenue earned but not yet collected
• Short term investments are the investments made by the company that
are intended to be sold immediately

Non-Current Assets
• Property, Plant and Equipment are long-lived assets which have been
acquired for use in operations.
• Long term Investments are the investments made by the company for
long-term purposes
• Intangible Assets are assets without a physical substance. Examples
include franchise and copyright.
2. Liabilities
• Current Liabilities are liabilities that fall due (paid, recognized as revenue) within
one year after year-end date. Examples include Accounts Payable, Utilities
Payable and Unearned Income.
• Non-current Liabilities are liabilities that do not fall due (paid, recognized as
revenue) within one year after year-end date. Examples include Notes Payable,
Loans Payable, Mortgage Payable, etc.

Current Liabilities
• Accounts Payable are amounts due, or payable to, suppliers for goods
purchased on account or for services received on account.
• Notes Payable are amounts due to third parties supported by promissory
notes.
• Accrued Expenses are expenses that are incurred but not yet paid
(examples: salaries payable, taxes payable)
• Unearned Income is cash collected in advance; the liability is the services
to be performed or goods to be delivered in the future.

Non-Current Liabilities
• Loans Payable are amounts due to banks or financial institutions.
• Mortgage Payable are liabilities of a property owner to pay a loan that is
secured by property.
3. Owner’s Equity
• Capital is the value of cash and other assets invested in the business by the owner
of the business.
 10 FUNDAMENTALS OF ACCOUNTING• NU LAGUNA

• Drawing is an account debited for assets withdrawn by the owner for personal
use from the business.
4. Income
• Service revenue for service entities
• Sales for merchandising and manufacturing companies

6. Expense
• Cost of Goods Sold or Cost of Sales – the expenses incurred to produce the goods or
services sold by a company. include the cost of materials, labor, the price of goods that
are resold, such as in grocery stores, overhead, and storage. For example: in a bakery
business, the costs of flour, sugar, and other materials used to produce bread.
• Salaries Expense – the payments to employees for their services. Example: salaries of
bakers, cashiers, sales ladies
• Utilities Expense – the costs pertaining to electricity, water, telephone, internet, etc.
• Rent Expense - costs incurred by a business to utilize a property or location for an
office, retail space, factory, or storage space.
• Interest Expense – costs incurred in borrowing money such as interest charged by
banks for the loans availed of by the company.

Chart of Accounts
• A chart of accounts is a listing of the accounts used by companies in their financial
records.
• The chart of accounts helps to identify where the money is coming from and where
it is going.
• The chart of accounts is the foundation of the financial statements.
The following are the steps in the preparation of a basic chart of accounts:
1. Create two columns.
2. Prepare the assets first, then liabilities, then equity, then revenue and expenses.
3. List all assets, liabilities, equity, revenue, and expenses account in the first column.
4. On the second column, choose an account code (discretion of the company).
5. On the third column, write the description for each account on when to use it.
An example of a chart of accounts is given below:
ASSETS
Account Account Code Description
Cash 1000 Used for actual cash transactions
Accounts Receivable 1200 Used for customers who will pay in the future
Inventory 1300 Used for items held for resale
Prepaid Expenses 1400 Used for expenses paid in advance
Supplies 1500 Used for items to be used in the future
Office Equipment 1600 Used for equipment used in the office
 FUNDAMENTALS OF ACCOUNTING • NU LAGUNA 11

Store Equipment 1700 Used for equipment used in the store

Land 1800 Used for land used in operations
LIABILITIES
Accounts Payable 2000 Used for the debts of a company
Notes Payable 2100 Used for promissory notes issued by the company
Salaries Payable 2200 Used for salaries to be paid in the future
EQUITY
Owner's Capital 3000 Used to record owner's investments
Owner's Withdrawal 4000 Used to record owner's withdrawal
Service Revenue 5000 Used to record earnings
Salaries Expense 6000 Used for salaries expense incurred
Utilities Expense 6100 Used for utilities expense incurred

LESSON SUMMARY

In this lesson, you were able to understand the concept of the accounting equation and its
relevance in analyzing business transactions. This will provide you with a strong foundation
KEY TERMS
of accounting and is relevant in understanding our future topics.

KEY TERMS

Accounting Equation Expense Increase

Assets Chart of Accounts Decrease
Liabilities Debit Transaction
Equity Credit Balance
Revenue Double-entry accounting Entry

POST TEST

PART 1. MULTIPLE CHOICE

_______ 1. These are resources owned by the business.

a. Liabilities c. Assets
b. Equity d. Revenue
_______ 2. If I borrow money from the bank, debit should be to asset while credit should
be to:
12 FUNDAMENTALS OF ACCOUNTING• NU LAGUNA

a. Liabilities c. Assets
b. Equity d. Revenue
_______ 3. This refers to the remaining assets after paying the liabilities.
a. Expenses c. Assets
b. Equity d. Revenue
_______ 4. In the accounting equation, asset is on the right side while liabilities and equity are on
the left side
a. True c. Sometimes
b. False d. Maybe
_______ 5. If I invest money to the business, what account should be credited?
a. Liabilities c. Assets
b. Equity d. Revenue
_______ 6. If I withdraw money from the business, what account should be debited?
a. Liabilities c. Assets
b. Equity d. Revenue
_______ 7. These are obligations by the company that needs to be settled or paid:
a. Equity c. Liabilities
b. Assets d. Revenue
_______ 8. This is what a company earned during a period for the sale of its products or
services:
a. Income c. Liabilities
b. Expense d. Cost
_______ 9. Which of the following is FALSE about the Accounting Equation?
a. ASSETS = LIABILITIES + EQUITY
b. EQUITY = ASSETS – LIABILITIES
c. ASSETS = LIABILITIES - EQUITY
d. LIABILITIES = ASSETS - EQUITY
_______ 10. These are resources used up during the period.
a. Income c. Liabilities
b. Expense d. Assets
PART 2A.
Identify the normal balance (DEBIT OR CREDIT) of the following accounts.
Example: Accounts Receivable - DEBIT
1. ADVERTISING EXPENSE
2. LOANS PAYABLE
3. BUILDING
4. CASH
5. DE JESUS, CAPITAL
6. SALES
7. DELIVERY TRUCK
8. LAND
FUNDAMENTALS OF ACCOUNTING • NU LAGUNA 13

9. OFFICE SUPPLIES
10. NOTES PAYABLE
11. NOTES RECEIVABLE
12. INVENTORIES
13. ACCOUNTS PAYABLE
14. OFFICE EQUIPMENT
15. SERVICE REVENUE

PART 2B.
Classify the following accounts according to its type (ASSET, LIABILITY, OWNER’S EQUITY,
INCOME OR EXPENSE)
Example: Accounts Receivable - ASSET

1. ADVERTISING EXPENSE
2. LOANS PAYABLE
3. BUILDING
4. CASH
5. DE JESUS, CAPITAL
6. SALES
7. DELIVERY TRUCK
8. LAND
9. OFFICE SUPPLIES
10. NOTES PAYABLE
11. NOTES RECEIVABLE
12. INVENTORIES
13. ACCOUNTS PAYABLE
14. OFFICE EQUIPMENT
15. SERVICE REVENUE

Prepare for a seatwork/quiz next synchronous session.

REFERENCES

Ballada, W. et al (2021). Basic Financial Accounting and Reporting Made Easy

(23rd edition). Manila: DomDane Publishers & Made Easy Books
Label, W. (2016). Accounting for Non-Accountants (3rd ed.). Naperville: Sourcebooks.