Accounting equation, assets, liabilities, capital, drawings, revenue and expenses

1. 1. A business has assets of $82 000 and liabilities of $31 000 at the end of the year. During the year the owner introduced $9000 capital, made drawings of $6500 and earned a profit of $14 500. What was the opening capital?

   A $34 000
   B $40 500
   C $43 000
   D $57 500

   2. Which transaction increases both assets and capital?

   A Bought goods on credit
   B Owner paid private savings into the business bank account
   C Paid a credit supplier by cheque
   D Owner withdrew cash from the business for personal use

   3. The owner pays a business electricity bill of $420 using private cash and does not require repayment. What is the correct effect in the books of the business?

   A Expenses increase and capital introduced increases
   B Expenses increase and drawings increase
   C Assets decrease and expenses increase
   D Liabilities increase and capital decreases

   4. A business had opening capital of $29 000. During the year the owner introduced $3000, withdrew $4000 and ended with assets of $47 000 and liabilities of $13 000. What was the profit for the year?

   A $2000
   B $4000
   C $6000
   D $8000

   5. A business buys inventory for cash, $800. What is the effect on the accounting equation?

   A Assets increase by $800 and capital increases by $800
   B Assets decrease by $800 and capital decreases by $800
   C Total assets remain unchanged
   D Liabilities decrease by $800 and capital increases by $800

   6. Goods costing $600 are sold for cash, $950. What is the effect on total assets and capital?

   A Assets increase $350 and capital increases $350
   B Assets increase $950 and capital increases $950
   C Assets decrease $600 and capital increases $350
   D Assets increase $350 and liabilities decrease $600

   7. A business pays a bank loan instalment of $2300. This includes loan repayment of $2000 and interest of $300. What is the effect?

   A Assets decrease $2300, liabilities decrease $2000, capital decreases $300
   B Assets decrease $2000, liabilities decrease $2300, capital increases $300
   C Assets decrease $2300, liabilities decrease $2300, capital unchanged
   D Assets decrease $300, liabilities decrease $2000, capital decreases $2300

   8. The owner withdraws goods costing $500 for personal use. The goods normally sell for $750. What is the correct effect?

   A Assets decrease $750 and capital decreases $750
   B Assets decrease $500 and capital decreases $500
   C Assets decrease $500 and revenue decreases $750
   D Assets decrease $750 and drawings increase $500

   9. A credit sale of $1200, involving goods costing $700, is completely omitted from the books. What is the effect on assets and capital?

   A Assets understated by $500 and capital understated by $500
   B Assets understated by $1200 and capital understated by $1200
   C Assets overstated by $700 and capital understated by $500
   D Assets understated by $1900 and capital overstated by $500

   10. A credit customer owing $1000 pays by cheque after deducting a 5% cash discount. What is the effect on total assets and capital?

   A Assets decrease $50 and capital decreases $50
   B Assets increase $950 and capital increases $950
   C Assets decrease $1000 and capital decreases $50
   D Assets remain unchanged and capital decreases $50

   Written and Compiled By Sir Hunain Zia (AYLOTI), World Record Holder With 154 Total A Grades, 11 World Records and 7 Distinctions, Educate A Change.

   11. A business has assets of $60 000 and capital of $22 500. It then pays a credit supplier $5000 and the owner withdraws $2500 cash. What are the new liabilities?

   A $30 000
   B $32 500
   C $35 000
   D $37 500

   12. Which item is a liability?

   A Prepaid insurance
   B Accrued rent payable
   C Inventory held for resale
   D Commission revenue earned

   13. Which transaction increases capital but does not immediately increase profit?

   A Owner introduces equipment into the business
   B Goods are sold above cost
   C Rent income is received
   D A bank loan is received

   14. Accrued expenses at the year-end are not recorded. What is the effect?

   A Profit overstated and liabilities understated
   B Profit understated and liabilities overstated
   C Profit overstated and assets overstated
   D Profit understated and capital understated

   15. Income received in advance is wrongly treated as revenue. What is the effect?

   A Profit understated and liabilities overstated
   B Profit overstated and liabilities understated
   C Assets understated and capital understated
   D Assets overstated and capital overstated

   16. A prepaid expense at the year-end is omitted from the financial statements. What is the effect?

   A Assets overstated and profit overstated
   B Assets understated and profit understated
   C Liabilities overstated and profit understated
   D Liabilities understated and profit overstated

   17. Revenue earned but not yet received is omitted from the books. What is the effect?

   A Assets understated and capital understated
   B Assets overstated and capital overstated
   C Liabilities understated and capital overstated
   D Liabilities overstated and profit understated

   18. The owner withdraws cash from the business, but it is recorded as wages. What is the effect on profit and drawings?

   A Profit understated and drawings understated
   B Profit overstated and drawings overstated
   C Profit understated and drawings overstated
   D Profit overstated and drawings understated

   19. A business obtains a bank loan and uses the full amount immediately to buy machinery. What is the effect?

   A Assets increase and liabilities increase
   B Assets increase and capital increases
   C Liabilities decrease and capital increases
   D Assets decrease and liabilities decrease

   20. A business pays a supplier $1920 in full settlement of a debt of $2000. What is the effect?

   A Assets decrease $1920, liabilities decrease $2000, capital increases $80
   B Assets decrease $2000, liabilities decrease $1920, capital decreases $80
   C Assets decrease $1920, liabilities decrease $1920, capital unchanged
   D Assets decrease $2000, liabilities decrease $2000, capital unchanged

   Written and Compiled By Sir Hunain Zia (AYLOTI), World Record Holder With 154 Total A Grades, 11 World Records and 7 Distinctions, Educate A Change.

   21. A service business receives $600 cash for work completed immediately. What is the effect?

   A Assets increase and capital increases
   B Assets increase and liabilities increase
   C Assets decrease and capital decreases
   D Liabilities decrease and capital increases

   22. A trader buys goods for resale on credit, $1100. What is the effect?

   A Assets increase and capital increases
   B Assets increase and liabilities increase
   C Assets decrease and liabilities decrease
   D Liabilities increase and capital decreases

   23. The business pays the owner’s personal insurance bill, $300, from the business bank account. How should this be treated?

   A Expense of the business
   B Drawings by the owner
   C Capital introduced by the owner
   D Liability of the business

   24. Bank charges of $70 are incorrectly recorded as drawings. What is the effect?

   A Profit understated and drawings overstated
   B Profit overstated and drawings overstated
   C Profit understated and drawings understated
   D Profit overstated and drawings understated

   25. At the start of the year, assets were $10 000 and liabilities were $4000. At the end of the year, assets were $15 000 and liabilities were $3000. There were no drawings or capital introduced. What was the profit?

   A $4000
   B $5000
   C $6000
   D $12 000

   26. Opening capital was $25 000. The owner introduced $5000, withdrew goods costing $2000 and the business made a loss of $3000. What was the closing capital?

   A $20 000
   B $25 000
   C $27 000
   D $35 000

   27. Which item is a liability of a business?

   A Accrued wages owed to employees
   B Cash held in the till
   C Motor vehicle owned by the business
   D Amount owed by a credit customer

   28. Which statement best describes capital?

   A The amount owed by the business to suppliers
   B The owner’s claim on the net assets of the business
   C Cash paid by customers during the year
   D The total assets owned by the business

   29. What is the effect of an expense on the accounting equation?

   A It increases assets and increases capital
   B It decreases assets or increases liabilities and decreases capital
   C It decreases liabilities and increases capital
   D It increases drawings and leaves capital unchanged

   30. The owner buys inventory for private use using personal cash. The inventory never enters the business. What is the effect on the business accounting equation?

   A Assets increase and capital increases
   B Assets decrease and drawings increase
   C Liabilities increase and capital decreases
   D No effect

   Written and Compiled By Sir Hunain Zia (AYLOTI), World Record Holder With 154 Total A Grades, 11 World Records and 7 Distinctions, Educate A Change.

   31. The owner pays a business loan of $1200 directly from private funds. What is the effect on the business?

   A Liabilities decrease and capital increases
   B Assets decrease and liabilities decrease
   C Assets increase and capital increases
   D Liabilities decrease and drawings increase

   32. The business pays the owner’s personal loan instalment of $500 from the business bank account. What is the effect?

   A Assets decrease and expenses increase
   B Assets decrease and drawings increase
   C Liabilities decrease and capital increases
   D Capital introduced increases and assets increase

   33. A business receives a bank loan of $10 000 and immediately pays loan arrangement interest of $400 from the same bank account. What is the net effect?

   A Assets increase $9600, liabilities increase $10 000, capital decreases $400
   B Assets increase $10 000, liabilities increase $9600, capital increases $400
   C Assets increase $9600, liabilities increase $9600, capital unchanged
   D Assets increase $10 400, liabilities increase $10 000, capital increases $400

   34. Equipment costing $6000 is bought. The business pays $2000 immediately and agrees to pay the remaining $4000 later. What is the effect?

   A Assets increase $6000 and liabilities increase $6000
   B Assets increase $4000 and liabilities increase $4000
   C Assets increase $2000 and capital decreases $2000
   D Assets decrease $2000 and liabilities increase $4000

   35. A customer pays $900 in advance for services to be provided next month. What is the effect when the cash is received?

   A Assets increase and revenue increases
   B Assets increase and liabilities increase
   C Liabilities decrease and capital increases
   D Assets increase and capital increases

   36. Services of $900 are later provided to a customer who had paid in advance. What is the effect when the service is provided?

   A Assets increase and liabilities increase
   B Liabilities decrease and capital increases
   C Assets decrease and capital decreases
   D Liabilities increase and capital decreases

   37. Accrued income of $700 was correctly recorded last year. The cash is received this year. What is the effect when the cash is received?

   A Total assets increase and capital increases
   B Total assets remain unchanged and capital remains unchanged
   C Assets increase and liabilities increase
   D Assets decrease and capital decreases

   38. An irrecoverable debt of $450 is written off. What is the effect?

   A Assets decrease and capital decreases
   B Assets decrease and liabilities decrease
   C Assets increase and capital increases
   D Liabilities increase and capital decreases

   39. A debt of $200 previously written off as irrecoverable is recovered in cash. What is the effect?

   A Assets increase and capital increases
   B Assets decrease and capital decreases
   C Assets increase and liabilities increase
   D Liabilities decrease and capital increases

   40. A provision for doubtful debts of $300 is created for the first time. What is the effect?

   A Assets increase and capital increases
   B Assets decrease and capital decreases
   C Liabilities increase and capital decreases
   D Liabilities decrease and capital increases

   Written and Compiled By Sir Hunain Zia (AYLOTI), World Record Holder With 154 Total A Grades, 11 World Records and 7 Distinctions, Educate A Change.

   41. Inventory costing $5000 has a net realisable value of $4200. If it is recorded at cost, what is the effect?

   A Assets overstated and profit overstated by $800
   B Assets understated and profit understated by $800
   C Liabilities overstated and profit understated by $800
   D Capital understated and assets overstated by $800

   42. Goods for resale costing $1500 are bought on credit but incorrectly recorded as equipment. What is the immediate effect on the accounting equation totals?

   A Assets overstated and capital overstated
   B Liabilities understated and capital overstated
   C No effect on total assets, liabilities or capital
   D Assets understated and liabilities understated

   43. Capital expenditure of $2000 is incorrectly recorded as revenue expenditure. Ignoring depreciation, what is the effect?

   A Profit understated and assets understated
   B Profit overstated and assets overstated
   C Profit understated and liabilities overstated
   D Profit overstated and capital understated

   44. Revenue expenditure of $800 is incorrectly recorded as an asset. What is the effect?

   A Profit understated and assets understated
   B Profit overstated and assets overstated
   C Profit overstated and liabilities overstated
   D Profit understated and capital overstated

   45. At the end of the year, assets are $24 000 and liabilities are $9600. During the year, the owner introduced $2000, made drawings of $3500 and the business made a loss of $1500. What was the opening capital?

   A $11 400
   B $14 400
   C $17 400
   D $20 400

   46. What does it mean if a business has liabilities greater than assets?

   A The business has negative capital
   B The business has no expenses
   C The business has made a gross profit
   D The business has no drawings

   47. Which transaction increases liabilities and decreases capital?

   A Accrued expense is recorded
   B Owner introduces cash into the business
   C A customer pays an amount owed
   D A supplier allows a cash discount

   48. A business pays rent for the current month in cash. What is the effect?

   A Assets decrease and capital decreases
   B Assets decrease and liabilities decrease
   C Liabilities increase and capital decreases
   D Assets decrease and drawings increase

   49. Which item is not an asset?

   A Trade receivable
   B Prepaid rent
   C Trade payable
   D Inventory

   Written and Compiled By Sir Hunain Zia (AYLOTI), World Record Holder With 154 Total A Grades, 11 World Records and 7 Distinctions, Educate A Change.

   50. At the end of the year, assets are $75 000 and liabilities are $28 000. Opening capital was $39 000. During the year, the owner introduced $4000 and made drawings of $6000. What was the profit for the year?

   A $6000
   B $8000
   C $10 000
   D $18 000

1. A
   Closing capital = assets − liabilities = 82 000 − 31 000 = 51 000.
   Opening capital + 9000 − 6500 + 14 500 = 51 000.
   Opening capital = 34 000.

2. B
   Owner introducing private savings increases business assets and increases capital.

3. A
   Business expense is paid by the owner privately. In business books: expense increases and capital introduced increases.

4. C
   Closing capital = 47 000 − 13 000 = 34 000.
   29 000 + 3000 − 4000 + profit = 34 000.
   Profit = 6000.

5. C
   Inventory increases by $800 and cash decreases by $800. Total assets remain unchanged.

6. A
   Cash increases by $950, inventory decreases by $600. Net assets increase by $350. Profit increases capital by $350.

7. A
   Bank decreases by $2300. Loan liability decreases by $2000. Interest expense decreases capital by $300.

8. B
   Drawings of goods are recorded at cost, not selling price. Assets decrease by $500 and capital decreases by $500.

9. A
   If recorded: receivables +1200, inventory −700, net assets +500. Profit/capital also +500. Omission understates both by $500.

10. A
    Receivable decreases $1000, bank increases $950. Net assets decrease $50. Discount allowed decreases capital by $50.

Written and Compiled By Sir Hunain Zia (AYLOTI), World Record Holder With 154 Total A Grades, 11 World Records and 7 Distinctions, Educate A Change.

11. B
    Original liabilities = 60 000 − 22 500 = 37 500.
    Paying supplier reduces liabilities by 5000 = 32 500.
    Drawings affect assets and capital, not liabilities.

12. B
    Accrued rent payable is an amount owed by the business, so it is a liability.

13. A
    Owner introducing equipment increases capital, but it is not profit because it is not income earned from trading.

14. A
    Accrued expenses omitted means expenses are understated, so profit is overstated. Liabilities are also understated.

15. B
    Income received in advance is a liability. If wrongly treated as revenue, profit is overstated and liabilities are understated.

16. B
    Prepaid expense is an asset. If omitted, assets are understated and expenses are overstated, so profit is understated.

17. A
    Accrued income is an asset and revenue. If omitted, assets and profit/capital are understated.

18. A
    Drawings wrongly recorded as wages means expenses are overstated, so profit is understated. Drawings are understated.

19. A
    Loan creates liability. Machinery increases assets. So assets and liabilities both increase.

20. A
    Bank decreases $1920. Payable decreases $2000. Discount received of $80 increases profit/capital.

21. A
    Cash received for work completed increases assets and increases revenue, which increases capital.

22. B
    Inventory increases and trade payables increase. Assets and liabilities both increase.

23. B
    The business paying the owner’s personal bill is drawings, not a business expense.

24. B
    Bank charges should reduce profit. If recorded as drawings, profit is overstated and drawings are overstated.

25. C
    Opening capital = 10 000 − 4000 = 6000.
    Closing capital = 15 000 − 3000 = 12 000.
    Profit = 12 000 − 6000 = 6000.

26. B
    Closing capital = 25 000 + 5000 − 2000 − 3000 = 25 000.

27. A
    Accrued wages are owed to employees, so they are a liability.

28. B
    Capital is the owner’s claim on the net assets of the business.

29. B
    An expense either decreases assets or increases liabilities, and it reduces profit/capital.

30. D
    The goods were bought privately and never entered the business. No business transaction occurred.

Written and Compiled By Sir Hunain Zia (AYLOTI), World Record Holder With 154 Total A Grades, 11 World Records and 7 Distinctions, Educate A Change.

31. A
    The business loan decreases. Since the owner paid it personally, capital introduced increases.

32. B
    Business cash decreases and the owner has taken a personal benefit. This is drawings.

33. A
    Loan received = assets +10 000, liabilities +10 000.
    Interest paid = assets −400, capital −400.
    Net: assets +9600, liabilities +10 000, capital −400.

34. B
    Equipment +6000, cash −2000, so net assets increase $4000. Amount owing creates liability of $4000.

35. B
    Cash received in advance increases assets and creates a liability because the service is still owed.

36. B
    When the service is provided, the liability decreases and revenue increases capital.

37. B
    Cash replaces accrued income. One asset increases and another asset decreases. Total assets and capital stay unchanged.

38. A
    Writing off a debt reduces trade receivables and creates an expense, reducing capital.

39. A
    Cash is received and the recovered debt is treated as income, increasing capital.

40. B
    Provision for doubtful debts reduces the value of trade receivables and decreases profit/capital.

41. A
    Inventory should be valued at lower of cost and NRV. Overstatement = 5000 − 4200 = $800. Assets and profit are overstated.

42. C
    Inventory and equipment are both assets. The wrong asset classification does not affect total assets, liabilities or capital.

43. A
    Capital expenditure wrongly treated as expense means assets are understated and profit is understated.

44. B
    Revenue expenditure wrongly treated as asset means expenses are understated, so profit is overstated, and assets are overstated.

45. C
    Closing capital = 24 000 − 9600 = 14 400.
    Opening capital + 2000 − 3500 − 1500 = 14 400.
    Opening capital = 17 400.

46. A
    If liabilities are greater than assets, capital is negative. Basically, the owner’s claim has gone underwater.

47. A
    Recording accrued expense increases liabilities and decreases profit/capital.

48. A
    Cash decreases and rent expense reduces profit/capital.

49. C
    Trade payable is a liability, not an asset.

50. C
    Closing capital = 75 000 − 28 000 = 47 000.
    39 000 + 4000 − 6000 + profit = 47 000.
    Profit = 10 000.

Written and Compiled By Sir Hunain Zia (AYLOTI), World Record Holder With 154 Total A Grades, 11 World Records and 7 Distinctions, Educate A Change.