“What is the effect on capital for additional loan. Will capital increase or decrease or there will be no effect.”
Hafeez from India
Hafeez, you know that our business’s total liability is the combination of our total capital and our total outside liability. Take loan loan is the part of total outside liability. There will not any effect on new taken loan on capital. It will just increase the our outside liabilities. In accounting equation, we will increase our cash or bank balance and total loan in the liability side. In long run, new taken loan will capital, we will not repay it on its maturity. At that time, our creditor will go to court. Court can give order to repay loan by selling our assets. By selling our assets at low rate with urgent need, our balance sheet’s capital will also decrease. In accounting, it is called balance sheet shrinking. Now, more at balance sheet shrinking.