At the heart of every accounting system lies the fundamental equation, Assets = Liabilities + Owner's Equity. This equation expresses the basic truth that every resource a business controls (an asset) is financed either by creditors (a liability) or by owners (equity). Every transaction a company records must keep this equation in balance.
Assets are resources owned or controlled by a business that provide future economic benefits. They are split into current assets, expected to be converted to cash or used within one year (such as cash, accounts receivable, and inventory), and non-current assets held for longer periods (such as property, plant, and equipment). Liabilities are the opposite side: obligations arising from past transactions that represent claims by creditors. Current liabilities, like accounts payable, are due within a year, while long-term liabilities, such as bonds payable, extend beyond.
Owner's equity represents the residual interest in assets after deducting liabilities, including owner investments, retained earnings, and accumulated profits. To organize how these balances change, accountants also track two temporary flows. Revenue is income earned from normal operations such as sales of goods or services, while expenses are costs incurred to generate that revenue, including salaries, rent, and utilities. Together, revenues and expenses flow into the calculation of net income, which in turn affects equity. A chart of accounts is the structured list of every account a business uses, organizing them into the categories of assets, liabilities, equity, revenues, and expenses.