Statements of Financial Accounting Concepts set forth financial accounting and r

Question

Statements of Financial Accounting Concepts set forth financial accounting and reporting objectives and fundamentals that will be used by the Financial Accounting Standards Board in developing standards. Concepts Statement No. 6 defines various elements of financial statements.

Answer the following questions based on SFAC No. 6.

Define and discuss the term “equity.”

What transactions or events change owners’ equity?

Define “investments by owners” and provide examples of this type of transaction. What financial statement element other than equity is typically affected by owner investments?

Define “distributions to owners” and provide examples of this type of transaction. What financial statement element other than equity is typically affected by distributions?

What are examples of changes within owners’ equity that do not change the total amount of owners’ equity?

Statements of Financial Accounting Concepts set forth financial accounting and reporting objectives and fundamentals that will be used by the Financial Accounting Standards Board in developing standards. Concepts Statement No. 6 defines various elements of financial statements.

Answer the following questions based on SFAC No. 6.

Explanation / Answer

A)

In accounting and finance, equity is the difference between the value of theassets/interest and the cost of the liabilities of something owned.

In an accounting context, shareholders' equity (or stockholders' equity, shareholders' funds, shareholders' capital or similar terms) represents the equity of a company as divided among individual shareholders of common orpreferred stock. Accounting shareholders are the cheapest risk bearers as they deal with the public. Negative shareholders' equity is often referred to as a (positive) shareholders' deficit.

B)

Owner's Draw

When the owner withdraws cash from a sole proprietorship's equity account, it is listed as an owner's draw transaction. Withdrawing the funds directly from the equity account will reduce the business equity. The transaction would post to the general ledger as a debit to the owners draw account and a credit to the cash balance. This reduces the cash asset account and your equity balance, keeping the accounting equation balanced in the process.

Asset Transactions

Transactions that change the value of the company's assets will result in a change to the company's equity. When you increase the balance in an asset account without a corresponding expense, it increases the business equity. For example, a cash investment in the business increases the cash asset account. It is recorded as a debit to the asset account and a credit to an investment account. If you reduce an asset, for example, making a payment for a marketing or advertising campaign, it reduces your cash account. The equity balance is reduced by the amount of the payment

Liability Transactions

An increase in your liabilities reduces the overall equity in the business. Liabilities indicate a payment that must be made. If you hire a service for an on-site repair, technical support or other task, the liability generated when you receive the invoice reduces your equity by increasing the total liabilities. This would post as a debit to the expense account and a credit to the payable account.

C)

Investments by Owners

Owner investment, also called owner’s investment or contributed capital, is the amount of assets that the owner puts into the company. In other words, this is the amount of money or other assets that the owner contributes to the business either to start it or to keep it running.

Example

Both of these types of investments can happen at anytime during the life of a company. Typically, asset contributions happen in the beginning though. Take a startup lawn care business called Joe’s Lawn for example.

Joe has been mowing grass since he was ten years old. Now he is graduating high school and ready to actually start a business. He registers his business with the state and contributes all of his lawn care equipment. This contribution credits his owner investment account and debits the company equipment account.

ELEMENTS OF FINANCIAL STATEMENTS

The Financial Accounting Standards Board (FASB) has defined the following elements of financial statements of business enterprises: assets, liabilities, equity, revenues, expenses, gains, losses, investment by owners, distribution to owners, and comprehensive income. According to FASB, the elements of financial statements are the building blocks with which financial statements are constructed. These FASB definitions, articulated in its "Elements of Financial Statements of Business Enterprises," are as follows:

D)

Distribution to Owners

Distributions to owners decreases in equity resulting from transfers to owners. are decreases in equity resulting from transfers to owners.

A cash dividend paid by a corporation to its shareholders is the most common distribution to owners.

Revenues, gains, expenses, and losses describe changes in equity due to profit-generating transactions.

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