[GNC] Asset vs Equity accounts? (Stan Brown)

[Larry Long]

 Stan,
You gave an excellent intro into the fundamentals of accounting (and GnuCash)!I would like to follow up with a basic question of my own.
Let's say that I have added my new car's value to Assets and my auto loan to Liabilities.After a year, I log the car's depreciation as a reduction to it's account in Assets.Where is the account for the offsetting depreciation amount?Is that an expense?
Thank you.
Larry Long
    On Monday, February 15, 2021, 12:30:19 AM EST, gnucash-user-request at gnucash.org <gnucash-user-request at gnucash.org> wrote:  
...
Date: Sun, 14 Feb 2021 17:08:02 -0800
From: Stan Brown <the_stan_brown at fastmail.fm>
To: gnucash-user at gnucash.org
Subject: Re: [GNC] Asset vs Equity accounts?
Message-ID: <167aeb21-5037-b157-34fe-85173c33ac94 at fastmail.fm>
Content-Type: text/plain; charset=utf-8

...
Hi, Gord. Welcome to GnuCash!
I think you may have missed a fundamental concept, and that's giving you
all of the questions you mentioned above.

The fundamental concept is: Every transaction, without exception,
comprises two or more sub-entries, called "splits" in Gnucash. The
splits in any give transaction must balance; if they don't, GC
automatically creates an "imbalance" split to tell you the amount
they're out of balance.

What do I mean by "the splits must balance"? To answer that, let's first
rearrange and expand that accounting equation you mentioned. You stated
correctly:
    Equity = Assets - Liabilities

That's correct as far as it goes, but it leaves out two other categories
of accounts: Income and Expense. You can think of Income and Expense as
adjustments to Equity from your day-to-day operations, but for a
beginner it's probably easier to just think of them as independent types
of accounts. That expands the basic equation in this way:
    Equity + Income - Expenses = Assets - Liabilities
"Equity" is accountant-speak for your net worth. Income increases your
net worth, and expenses reduce it. But from the equation, since
everything must balance, you can see other possibilities too.

Here's an example. Suppose you go to the grocery store and charge $120
worth of groceries to your Visa card. Then your transaction has two splits:
    Expense:Groceries +120
    Liability:Visa    +120
Expenses (left side of the equation) and liabilities (right side) both
increase by $120, so your transaction is in balance.

Now let's take your car question. Your car is an asset. Let's suppose
you just bought it for $20,000. You paid $2500 down and financed
$17,500. The transaction would be recorded in three splits:
    Assets:Car          +20,000
    Liability:Car loan  +17,500
    Assets:Bank Acct    - 2,500
How does that work in terms of the accounting equation? Assets are
increasing by 20,000 for the car but decreasing by 2,500 from bank
account, for a net increase of 17,500; liabilities are increasing by
17,400. So each side of the equation is increasing by 17,500, and once
again your transaction balances.

Most types of transactions will increase both sides of the equation or
decrease both sides, but some are a plus and a minus on one side that
net out to not changing the equation. For instance, you get your Visa
bill for $1822 and pay it. Here's your transaction:
    Liability:Visa  -1822
    Asset:Bank Acct -1822
The right side of the equation is Assets - Liabilities. If an asset
moves up or down, and a liability moves up or down by the same amount,
there is no net change on that side of the equation. The details have
changed, but not the totals, because of that minus sign in "Assets -
Liabilities". Once again, your transaction is in balance.

Now let's take your house. Suppose it's worth $300,000, or at least
that's what you paid for it, and your current mortgage balance is
$170,000. There are three splits in the transaction that records this.
Two of them are easy to see:
    Asset:House        300,000
    Liability:Mortgage 170,000
But this is out of balance. How should the 130,000 difference be
recorded to keep things in balance? As you suspected, that's part of
your net worth, so the third split in this transaction is
    Equity:Net Worth  130,000

(If you own your house free and clear, you record the full value in
Asset:House and also in Equity:Net Worth. Again, the equation balances
because each side is increased by $300,000.)

Hopefully from this you get the idea. It's not a question of which one
account you should record something in, but which two (or more)
accounts, to keep every transaction in balance.

--
Stan Brown
Tehachapi, CA, USA
https://BrownMath.com
https://OakRoadSystems.com

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