Correct Answer:

B) Assets = Liabilities + Owner’s Equity

This equation is the foundation of double-entry accounting, where every financial transaction affects at least two accounts, ensuring the equation always stays in balance. Here’s why this equation is correct:

Assets represent everything a company owns that has value, such as cash, inventory, equipment, and property.

Liabilities are what the company owes to others, such as loans, accounts payable, and mortgages.

Owner’s Equity (or shareholders’ equity in a corporation) is the residual interest in the assets of the company after deducting liabilities. It represents the owner’s claim on the assets of the business.

The equation shows that the resources (assets) of a company are financed either by borrowing money (liabilities) or by the owner’s investment (equity). Thus, the sum of liabilities and owner’s equity must always equal the total assets.

Incorrect Answers:

A) Assets = Liabilities – Owner’s Equity

Why it’s incorrect: This option suggests that assets are equal to liabilities minus owner’s equity, which doesn’t make sense in accounting terms.

If you rearrange the correct equation (Assets = Liabilities + Owner’s Equity), you’ll see that subtracting owner’s equity from liabilities would not give you the total assets; it would give you a figure that doesn’t accurately represent the value of the company’s assets.

C) Liabilities = Owner’s Equity – Assets

Why it’s incorrect: This option implies that liabilities are equal to owner’s equity minus assets. This is not logical in accounting because liabilities are not derived by subtracting assets from equity.

Instead, liabilities are the obligations that a company has to creditors and are part of the equation that balances with assets and owner’s equity.

D) All of the above

Why it’s incorrect: This option is incorrect because options A and C are both incorrect as explained above. Only option B correctly represents the accounting equation.

Summary:

The correct accounting equation is Assets = Liabilities + Owner’s Equity because it accurately reflects the financial position of a company.

The incorrect options A, C, and D either misunderstand the relationship between assets, liabilities, and owner’s equity, or they represent illogical or impossible scenarios in accounting.