“Claims” against wealth/assets are recorded on which side(s) of the EQUATION?
The correct answer and explanation is:
Correct Answer: Liabilities and Owner’s Equity (Right Side of the Equation)
In accounting, claims against wealth or assets are recorded on the right side of the accounting equation, which includes liabilities and owner’s equity.
The fundamental accounting equation is:
Assets = Liabilities + Owner’s Equity
Assets represent the resources owned by a business, such as cash, inventory, and equipment. These are found on the left side of the equation. On the right side are liabilities and owner’s equity, which represent the claims to those resources.
Liabilities are the obligations or debts the business owes to outsiders such as creditors, banks, and suppliers. These are third-party claims on the business’s assets. Examples include loans payable, accounts payable, and mortgages.
Owner’s Equity represents the owner’s claims on the business after all liabilities have been paid. This includes investments made by the owner and profits retained in the business. For a corporation, this is also known as shareholders’ equity and includes common stock and retained earnings.
By recording claims on the right side of the equation, the accounting system maintains a balance. Any increase in assets must be offset by an increase in either liabilities or equity, and any decrease in liabilities or equity must be matched by a decrease in assets.
For example, if a company borrows $10,000 from a bank, its cash (an asset) increases by $10,000 and its liabilities also increase by $10,000. Both sides of the equation remain equal.
In summary, all claims against a business’s assets are accounted for through liabilities and owner’s equity, both found on the right-hand side of the accounting equation. This ensures that the books are always balanced and accurately reflect the financial position of the business.