On the other hand, liabilities are obligations owned by entity to another party arising from past transactions. Loan from your bank is one example. Once you receive the money from your bank, you owe the bank and the loan plus interest must be paid back in the future. Account payables, wages you owe to your employee, and taxes payables are another examples.
Equity represents the residual value of the assets of the business that the owners can claim after all liabilities are paid. If you start a new business using $1,000,- of your own money (equity) and borrowing $2,000,- from the bank (liability), then your asset will be $3,000,-, which is exactly what the equation says.
Now the “Equity” part in the equation can be extended to:
Equity = (Revenues – Expenses) + (Capitals – Withdrawals)
Revenues are amounts your business earns by selling products and/or services. Expenses are costs your business incurred to earn revenues. So, if you sell 10 chairs of $50,- each, then your revenue will be $500,-. If each chair costs $20,-, your expenses will be $200,-.
Capitals represent contributions by the owners into the business, while withdrawals are amounts the owners take out of the business.