KiKi has the following transactions:

She purchases $5,000 worth of a mutual fund with cash from her savings account.
She spends $6,000 on a vacation with cash from her money market account.
She spends $10,000 on new furniture and uses her credit card to make the purchase.

What is the combined impact of these transactions on her net worth?

Question

KiKi has the following transactions:

She purchases $5,000 worth of a mutual fund with cash from her savings account.
She spends $6,000 on a vacation with cash from her money market account.
She spends $10,000 on new furniture and uses her credit card to make the purchase.

What is the combined impact of these transactions on her net worth?

BlackTom AI · Accepted Answer

Here's a clear walk-through of the scenario and each answer option, focusing on how net worth is affected by these transactions.

- Restating the question and options:
  KiKi makes three transactions:
  1) Buy $5,000 of a mutual fund with cash from savings (cash decreases, investments increase by 5,000).
  2) Spend $6,000 on a vacation with cash from a money market account (cash decreases again, money market balance decreases by 6,000).
  3) Spend $10,000 on furniture using a credit card (furniture asset increases by 10,000, but liabilities increase by 10,000 since the card is a payable).
  Answer choices:
  a. $21,000 decrease.
  b. $6,000 decrease.
  c. $15,000 increase.
  d. $6,000 increase.

- Analysis of option a: $21,000 decrease.
  This would imply a large drop in overall net worth. However, each change here is a transfer between assets or an offset by a liability rather than a loss of wealth. When you swap cash for an investment, net worth stays the same because one asset is replaced with another of equivalent value. When you spend cash, you simply reduce one asset (cash or cash equivalents); there’s no automatic wealth destruction unless the spending exceeds available assets. Finally, buying with credit increases both an asset (furniture) and a liability (credit card debt) by the same amount, leaving net worth unchanged. Therefore, a $21,000 decrease is not supported by the mechanics of these transactions.

- Analysis of option b: $6,000 decrease.
  If we interpret net worth strictly as assets minus liabilities, the vacations and the cash shifts from the savings and money market are transfers between asset accounts. The cash spent reduces cash in one account and the reachable assets elsewhere are unchanged in aggregate value. Yet, because the vacation is paid from cash, there is a reduction in liquid assets; without a compensating increase elsewhere, some might mistakenly view this as reducing net worth. The credit card transaction, however, later offsets itself by increasing both an asset (furniture) and a liability (credit card) by the same amount, restoring net worth to its prior level. In a full accounting view, the three actions collectively amount to a net worth change of zero, not a $6,000 decrease. So this option does not reflect the complete, offsetting nature of the transactions.

- Analysis of option c: $15,000 increase.
  An increase of net worth would require an increase in net assets without a corresponding increase in liabilities. Here, any asset increase (furniture) is exactly offset by an increase in liabilities (credit card) when the purchase is financed by credit. The mutual fund purchase is an exchange within assets (cash to investment), which does not create additional net worth. Therefore, an overall $15,000 increase is inconsistent with how the transactions balance out in a standard balance-sheet view.

- Analysis of option d: $6,000 increase.
  This option suggests net worth grows by $6,000. But as explained, the credit card purchase creates an equal rise in liabilities, leaving net worth unchanged. The upfront cash movements do not create wealth; they simply shift where wealth sits. So a $6,000 increase would misstate the impact of a liability-increasing financing and is not supported by the combined effects.

- Summary of the underlying concept:
  Net worth equals total assets minus total liabilities. The mutual fund purchase converts cash to investments (no net worth change). The vacation spending reduces cash (a simple asset reduction) and does not create a new liability. The furniture purchase with a credit card increases both assets (furniture) and liabilities (credit card debt) by the same amount, leaving net worth unchanged. Taken together, the three transactions result in no net change in KiKi’s net worth.

- Observations about the provided answer key:
  The listed correct option (b. $6,000 decrease) appears inconsistent with standard accounting treatment for these kinds of transactions, since the net worth would be expected to stay unchanged overall. The analysis above follows the logic of assets and liabilities moving in balanced ways, resulting in zero net worth impact. If a student were choosing among these options, they should recognize that none of the options perfectly reflect the true net effect, which is zero. The discrepancy highlights the importance of distinguishing between transfers among assets and changes in debt when assessing net worth.

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