Accounting Equation Adjustment: Reflective Analysis

How does the accounting equation change when a business is closed down and its assets are disposed of?

In the given scenario, what is the new asset value, liabilities value, and equity value?

Answer:

After adjusting for the gain and loss on the sale of assets, the new asset value is $115,000. The liabilities remain the same, leading to a new equity value of $78,000. Thus, the updated accounting equation would be $115,000 = $37,000 + $78,000.

When a business is closed down and its assets are disposed of, the accounting equation (Assets = Liabilities + Equity) must be updated to reflect the changes in value. In the given problem, the original equation is Assets ($125,000) = Liabilities ($37,000) + Equity ($88,000). After the sale of assets, we need to adjust the assets for the loss or gain on sale.

First, assets of $70,000 sold for $20,000 result in a loss of $50,000. Second, assets of $50,000 sold for $90,000 result in a gain of $40,000. Therefore, the new value of assets is the original $125,000 minus the $50,000 loss plus the $40,000 gain:

$125,000 (original assets) - $50,000 (loss on sale) + $40,000 (gain on sale) = $115,000 (new asset value).

The liabilities remain unchanged at $37,000, so to find the new equity, we subtract the liabilities from the new asset value:

$115,000 (new asset value) - $37,000 (liabilities) = $78,000 (new equity).

Therefore, the updated accounting equation would be: $115,000 = $37,000 + $78,000, which corresponds to answer choice (b).