What is the Accounting Equation? Formula, Meaning & Practical Use

The accounting equation is a basic financial rule that states a company’s total assets are always equal to the sum of its liabilities and equity. This keeps the balance sheet balanced and helps record transactions properly using double-entry accounting.

Reema Sharma, a young fintech founder in Bengaluru, launched her startup QuickCalc in 2023 with ₹5,00,000. She borrowed ₹2,00,000 from her uncle and invested the rest as her own money. With this ₹5,00,000, she bought laptops, software licences, and furniture for her small team. Here’s how her accounting looked:

• Assets: ₹5,00,000 (laptops, licences, furniture)
• Liabilities: ₹2,00,000 (loan from uncle)
• Owner’s Equity: ₹3,00,000 (Reema’s investment)

So, her equation was: Assets = Liabilities + Owner’s Equity
₹5,00,000 = ₹2,00,000 + ₹3,00,000

This simple equation helped Reema track her business’s worth. 

In this blog, the meaning, formula, and use of the accounting equation will be explained. 

What Is the Accounting Equation?

The accounting equation is a rule used to keep money records correct. It is written like this:

Assets = Liabilities + Owner’s Equity

This means that everything a business owns (assets) is paid for by loans (liabilities) or the owner’s own money (equity). This rule is used in every balance sheet. It is followed in small shops, big companies, and also in fintech startups.

This rule helps to see where the money came from and how it is being used. Without this equation, business records can go wrong.

In 2024, Nitin started a digital wallet company with ₹4,00,000. He took a loan of ₹1,50,000 and added ₹2,50,000 from his own savings. He bought a laptop, a mobile payment software, and paid office rent.

• Assets: ₹4,00,000
• Liabilities: ₹1,50,000
• Equity: ₹2,50,000
• Equation: ₹4,00,000 = ₹1,50,000 + ₹2,50,000

How the Accounting Equation Works?

The accounting equation is not only a formula. It is used every day when money comes in or goes out. In the double-entry system, two accounts are always changed for every transaction. If money is added in one place, it is taken from another. This keeps the balance sheet fair and correct.

This is very useful in fintech companies, where money moves fast and many things change daily. The equation helps to show what was bought, where the money came from, and how it was paid.

Aarav started a blockchain payments company in 2024 with ₹8,00,000. He got ₹5,00,000 from a loan and ₹3,00,000 from his savings. He spent ₹4,00,000 on blockchain software and ₹2,00,000 on office rent. The remaining ₹2,00,000 stayed in the bank.

Every transaction was recorded like this:
 

This shows that even after all transactions, the total assets (₹8,00,000) still equal the sum of liabilities (₹5,00,000) and equity (₹3,00,000), proving the accounting equation stays balanced.

Components of the Accounting Equation:

The accounting equation has three main parts:

1. Assets
2. Liabilities
3. Owner’s Equity

Each part plays a key role. All three work together to make sure the books stay balanced. These parts are explained below using easy fintech examples.

a) Assets

Assets are the things that a business owns. These give value to the business. Assets can include cash, computers, software, and furniture. If they are used quickly, they are called current assets. If they are kept for a long time, they are called fixed assets.

Example: In 2023, Tanya started a fintech company in Mumbai. She offered prepaid cards to students. She used ₹9,00,000 to buy laptops, internet servers, and marketing tools. These were her business assets.

Her records looked like this:

• Cash: ₹2,00,000
• Laptops and Servers: ₹5,00,000
• Marketing Tools: ₹2,00,000
• Total Assets: ₹9,00,000

This helped Tanya know what her company owned.

b) Liabilities

Liabilities are amounts of money that the business owes. These include loans, unpaid rent, and salaries. Liabilities must be paid for the company to work properly.

In 2024, Rahul created an app to help workers send money home. He borrowed ₹6,00,000 from an NBFC. He also had to pay ₹1,00,000 in rent and ₹50,000 in salaries.

His liability records were:

• NBFC Loan: ₹6,00,000
• Rent Payable: ₹1,00,000
• Salaries Payable: ₹50,000
• Total Liabilities: ₹7,50,000

This showed how much Rahul owed others for his business.

"Jo karz mein jeete hain, woh risk bhi samajhte hain.", A perfect line for those in fintech too.

c) Owner’s Equity

Equity is the money the owner puts into the business. It also includes profits that are saved instead of given out. After all the debts are paid, what is left is called equity.

In 2023, Ishaan started a fintech app for gig workers. He received ₹12,00,000 in total. ₹5,00,000 was from his own pocket and ₹7,00,000 came from three angel investors.

His equity details were:

• Ishaan’s Own Money: ₹5,00,000
• Investor Funding: ₹7,00,000
• Total Equity: ₹12,00,000

This helped Ishaan see what part of the business truly belonged to him and his investors.

Practical Use of the Equation in Fintech Accounting

The accounting equation is not just a rule. It is used every day in fintech to track business health. Apps, payment tools, and wallets use it to check money flow and records.

The basic formula is:

Assets = Liabilities + Owner’s Equity

This rule is always followed. If money goes out or comes in, the sides must still stay equal. Let's see how fintech firms use it.

Example of Aarav’s UPI App Accounting
 

Common Mistakes and How to Avoid Them?

1. Not Keeping Both Sides Equal

Sometimes, only one side of the equation is changed. This can make the balance wrong.

Example:
Only assets were added, but liabilities or equity were not updated.

Wrong: ₹5,00,000 = ₹2,00,000 + ₹2,00,000
(Left side is ₹5,00,000 but right side is ₹4,00,000 – not equal)

Fix: Always check if both sides are the same after every transaction.

2. Mixing Personal and Business Money

In fintech startups, founders often mix their own money with business money. This makes tracking hard.

Solution:
Open a separate account for the company. Keep a record for every rupee.

3. Not Recording Small Transactions

People may forget to add small payments, like ₹50 or ₹100, into the books.

Why it's bad:
If done many times, these small mistakes become big.

Solution: Use fintech software to log every single change.

4. Ignoring Equity Changes

When new partners come in or shares are given, equity changes. If not recorded, the equation breaks.

Tip:
Keep owner’s equity up to date. Even bonus shares or new investors should be noted.

Importance of the Accounting Equation in Fintech

For every startup, big or small, the accounting equation must be used. It helps fintech founders know how much their business owns, owes, and earns.

Why It Is Important:

1. Simple tracking of money
   Assets, liabilities, and equity are recorded. Nothing gets lost.
    
2. Helps during audits
   When accounts are checked, everything is clear and balanced.
    
3. Easy reporting to investors
   If someone wants to invest, this equation shows how the business is doing.
    
4. Used in daily fintech apps
   Mobile wallets, UPI apps, and loan apps also follow this behind the scenes.

Example: 

Ravi starts a mobile wallet app with ₹10,00,000.
He borrows ₹4,00,000 and puts ₹6,00,000 from his savings.
He uses the money to buy software, servers, and hire staff.

• Assets = ₹10,00,000
• Liabilities = ₹4,00,000
• Owner’s Equity = ₹6,00,000

10,00,000 = 4,00,000 + 6,00,000

Even in apps, such balances are checked each day. One side must always match the other.

Conclusion

The accounting equation has been used for many years and is still very important today. It helps people understand how money moves in a business. With this equation, assets, liabilities, and owner’s equity can be seen clearly. Mistakes in money records can be reduced when the equation is followed correctly. 

In new businesses and in big companies, this rule is used to keep records neat and correct. By using it regularly, smart decisions about money can be made. Even when a business grows, the same simple rule is followed. So, the accounting equation must always be remembered and used with care.

FAQs:

Q1. Can the accounting equation be used in small businesses?
Yes, it can be used in all types of businesses, small or big.

Q2. Is the accounting equation used every day?
Yes, it is used every day to check if the records are balanced.

Q3. Does the accounting equation ever change?
No, the basic form of the accounting equation always stays the same.
 

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LoansJagat Team

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