Liabilities - What are liabilities?

A liability is a debt owed by a company that requires the entity to give up an economic benefit (cash, assets, etc.) to settle past transactions or events.

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A liability is typically an amount owed by a company to a supplier, bank, lender or other provider of goods, services or loans. Liabilities can be listed under accounts payable, and are credited in the double-entry bookkeeping method of managing accounts.

To settle a liability, a business must sell or hand over an economic benefit. An economic benefit can include cash, other company assets, or the fulfillment of a service.

Where can Liabilities be found?

The liabilities section can be found in the balance sheet, opposite the asset section. This is because assets are recorded as debits, and liabilities are recorded as credits. They’re listed in order of payment terms, from shortest to longest.

Current liabilities include all liabilities that are expected to be paid within one year. Any liabilities with a payment period of over a year are considered long-term.

Current liabilities include payments for debts, accounts payable and other bills that are due to suppliers and other providers. The ease with which a company can manage to pay off its current liabilities can be determined using the ‘current ratio’, which divides the company’s current assets by its liabilities (a high ratio is preferable).

Long-term liabilities refer to all liabilities that aren’t due in full within the year. This group can include loans, deferred tax obligations and any pension payments.

The Fundamental Accounting Equation

Liabilities are an integral part of the Fundamental Accounting Equation on which all accounting/bookkeeping is based:

Assets = Liabilities + Owner's Equity

Liability Recognition

There are guidelines for the proper recognition of liabilities that differ among accounting standards in different countries. As an overall view, liabilities directly represent any creditor claims on the assets of the entity.

When recognised, liabilities are either considered to be short-term or long-term. The general time frame that separates these two distinctions is one year, but this may be changed depending on the business.

Note that not all liabilities are enforceable by law, however, in most businesses it’s usually clear when an obligation arises.