Capital Account

Capital Account Definition

The capital account in accounting refers to the general ledger that records the transactions related to owners funds i.e. their contributions as well as earnings earned by the business till date after reduction of any distributions such as dividends. It is reported in the balance sheet under the equity side as “shareholders’ equity” in the case of a company. For a sole proprietorship, it is represented as “owner’s equity”.

Explanation

Formula

The formula for a capital account can easily be derived using the accounting equationAccounting EquationAccounting Equation is the primary accounting principle stating that a business's total assets are equivalent to the sum of its liabilities & owner’s capital. This is also known as the Balance Sheet Equation & it forms the basis of the double-entry accounting system. read more. Let us first have a look at the accounting equation.

Assets = Liabilities + Capital

As we can see, the amount of assets in any business at any point in time is the sum of its liabilities and capital. Thus, if we want to calculate the amount in the capital account, we need to use the below formula:

Capital = Assets – Liabilities

We can derive the amount of capital by reducing the number of liabilities from the number of assets reflecting on the balance sheetBalance SheetA balance sheet is one of the financial statements of a company that presents the shareholders' equity, liabilities, and assets of the company at a specific point in time. It is based on the accounting equation that states that the sum of the total liabilities and the owner's capital equals the total assets of the company.read more of any business.

Examples of Capital Account

You can download this Capital Account Excel Template here – Capital Account Excel Template

Let us have a look at the extracts of the balance sheet of a company, ABC Ltd. We will try to understand how the capital account of a company looks like:

Capital account Example

As seen in the above balance sheet extracts, this account of a company is reflected as “Equity” in the balance sheet. The total equity includes different components of equity, such as share capital, share premium, retained earningsRetained EarningsRetained Earnings are defined as the cumulative earnings earned by the company till the date after adjusting for the distribution of the dividend or the other distributions to the investors of the company. It is shown as the part of owner’s equity in the liability side of the balance sheet of the company.read more, and so on.

Components of Capital Accounts

Capital Account

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For eg:
Source: Capital Account (wallstreetmojo.com)

  1. Stock Capital: This includes the amount of equity and preference stock. It represents the amount invested by the stockholders against which they have been issued units of stocks.
  2. Additional Paid-in Capital: It represents the amount received from the stockholders in excess of face value. It is also known as “stock premium”.
  3. Other Capital Contributions: For sole proprietors and partnership firms, they would include the owners’ capital account, i.e. the capital balance of the sole proprietor and the partners, respectively.
  4. Retained Earnings: This represents the accumulated profits of a business on a particular date. Also, any reserves created out of such accumulated profits shall also be taken into account.

Importance

Limitations

  • This account alone is not decisive for reaching any conclusion; if investors want to analyse the financial position of a business, they need to look at the entire balance sheet.
  • The calculation can vary slightly from one business form to another.

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