When a business pays off a note payable, the effect on the accounting equation is that assets decrease, liabilities decrease, and stockholders’ equity remains unchanged. This is due to the fact that when the business pays off a liability (the note payable), it uses its cash (an asset), thus reducing both the assets and the liabilities.
To break this down further: the cash used to pay off the note payable is an outflow, leading to a reduction in the asset side of the equation. Simultaneously, the note payable, which is a liability, decreases as the business settles its obligation. Stockholders’ equity is not impacted directly by this transaction since it does not affect the net income or retained earnings at this point.
In summary, the correct effect of paying off a note payable in the accounting equation is:
– Assets decrease
– Liabilities decrease
– Stockholders’ equity remains the same