Accounting Online Program Certification Practice Test

What elements of the accounting equation will change if a sole trader sells goods for cash?

1. Assets and liabilities

2. Assets and capital

3. Liabilities and capital

4. Equity and income

The correct answer is: Assets and capital

When a sole trader sells goods for cash, the transaction impacts the accounting equation, which is defined as Assets = Liabilities + Capital (or Equity). In this case, the sale of goods for cash increases the cash asset because the sole trader receives cash in exchange for the goods sold. Simultaneously, this transaction also affects the owner's capital, as it contributes to the income of the business, ultimately increasing the owner's equity in the business. Specifically, the cash received from the sale increases the total assets on the balance sheet, while the income generated from the sale leads to an increase in the capital or equity section of the accounting equation. Thus, both assets and capital are affected by this transaction, with assets increasing due to the cash inflow and capital increasing as the profit from the sale adds to the net worth of the sole trader. This understanding highlights an important aspect of accounting: while liabilities remain unchanged in this scenario, the overall effect on the balance sheet is a direct relationship between asset increases and capital increases when sales transactions occur.