Types of Equity Accounts

Accounts that represent ownership of a firm

What is equity?

Equity is the amount funded by the owner or shareholders of a company for the start-up and continuous operation of the business. Total equity also represents the residual amount left in assets after all liabilities have been paid off. To find total equity, simply deduct total debt from total assets. When a firm has zero debt (an unlevered firm), total equity equals total assets.

Typical Equity Accounts:

Common stock – represents the owner or shareholder’s interest as a result of their capital contribution. This account represents the shares that entitles the owner to voting rights and residual claim on the company’s assets.

Preferred stock – quite similar to common stock, the preferred stock is a type of share that often has no voting rights, but is guaranteed a cumulative dividend. If the dividend is not paid in one year, then it will accumulate until paid off.

Example: A preferred share of a company is entitled to $5 cumulative dividends in a year. The company has declared a dividend this year, but has not paid dividends for the past two years. The shareholder will receive $15 ($5/year x 3 years) in dividends this year.

Contributed Surplus – represents any amount in excess of the par value paid by investors for stocks purchase that have a par value. This account will be zero if the common stock sold is no par. This account also holds different types of gains and losses resulting in the sale of shares, or other complex financial instruments.

Example: The company issues 100,000 $1 par value shares for $10 per share. $100,000 (100,000 shares x $1/share) goes to common stock, and the excess $900,000 (100,000 shares x ($10-$1)) goes to Contributed Surplus.

Treasury stock – represents the amount of common stock that the company has purchased back from the investors. This is reflected in the books as a contra-equity account (deducted from total equity).

Retained Earnings – this is portion of net income that is not paid out as dividends to shareholders, but kept for reinvesting or to pay-off future obligations.