What are Liabilities?

What are Liabilities?

Liabilities refer to the amount that remains unpaid by the business on the given date or in other words we can say liability is the amount that is owed by the business to an outsider where an outsider can be the creditor, lenders, employees etc.  Liabilities arise from any past transactions such as transaction of goods purchased on credit, borrowing of money etc.

Explanation with Example

Basically, Liability the financial obligations of the business entity.  The amount that reflects as payable on the given date in the financial statements of the business enterprise are all liabilities of the business except the ones that are claims towards the owner as the claim towards the owner is known as the capital or owner’s fund. Some of the examples of liability present in the books of accounts are Accounts Payable, loans taken, Salary & wages outstanding etc.

For example: A business named XYZ incorporation has purchased goods worth $500 from the ABC Incorporation on 20th May, 2020. On the given date, the XYZ Incorporation has to book a liability of $ 500 towards ABC Incorporation which will show that XYZ Incorporation has to pay ABC Incorporation a sum of $500. In the accounting terminology ABC incorporation is a creditor (Liability) of XYZ incorporation.

Another example of liability is the amount taken from any financial institutions or other person, known as loan, which is repayable after a certain period of time. Loan taken is reflected as liability in the books of the borrower (person who borrows money).

Features of Liabilities

  1. Liabilities are the existing obligations of the business that arrives from any past transactions and are expected to get discharged in future by paying an amount of money to the outsider.
  2. They are always expressed in terms of money in the financial statement of the business.
  3. They are shown as current liability & non – current liabilities in the financial statements of the company where the liabilities that are likely to be payable within 12 months is current liability and all the others are non-current liabilities. Even the portion of amount payable from long term debts within a period of 12 months is shown under current liability.

Types of Liabilities

The Liabilities are further bifurcated mainly into Current Liabilities & Non-Current Liabilities.

Current Liabilities:

Current Liability is the claim that are expected to be discharged within a period of one year from the reporting date. Below are the other features of current liability

  1. It is likely to be settled within a business normal operating cycle. (Usually a period of one year/12 months).
  2. Moreover, it is primarily held by the business for the trading purposes
  3. It is short term in nature.

For example Creditors, outstanding expenses, Bank overdraft, Short term Loans, Bills Payable etc. (as they all are expected to be settled within a year)

Non-Current Liabilities: 

Non – current Liability the liability that is held by the business for a longer duration and are not likely to be payable within short duration (usually one year time). Below are the other features of non- current Liability:

  1. Non- current liability arises normally due to the raising of long term funds in the business.
  2. They are not intended to be discharged within a period of one year.
  3. Non-current assets usually are long term in nature.

For example long term Loans, term loan, Debentures etc.  that are expected to be paid after one year from the reporting date.

Contingent liabilities:

Contingent Liabilities are the possible obligations that arise from any past event and their existence will depend upon the occurrence or non-occurrence of one or more uncertain event in the future period. For example a pending law suit in the case against ABC Incorporation where the financial obligation may arise if the company loses the case in the court otherwise not.

Contingent liabilities are not considered to be the part of books of accounts of the company rather they are reported in the footnotes accompanying the financial statements of the company.

Final thought:

Liabilities are the obligations of the business that are expressed in terms of money and are payable to the outsiders. These are reported in the balance sheet of the company as current or current liability but the contingent liability is disclosed only in the notes accompanying financial statements of the company.

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Related Articles

  1. Basic Accounting Terms
  2. What are Assets?
  3. What are Expenses?
  4. What is Income?
  5. What is Owner’s Capital?

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