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Definition of Liabilities in Accounting
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Definition of Liabilities in Accounting |
In accounting, a liability is defined as a company's legal debt or obligations that arise during the course of business operations. Liabilities are settled over time through the transfer of economic benefits including money, goods, or services.
This definition is taken from the Conceptual Framework for Financial Reporting (IASB and FASB).
what are the types of liabilities in accounting
There are two main types of liabilities:
Short-term liabilities, also known as current liabilities or circulating liabilities, which must be settled within a period not exceeding one year.
Long-term liabilities, also known as non-current liabilities, fixed liabilities, or non-circulating liabilities, which can be paid or settled after one year or more.
But today, based on IFRS and US GAAP, liabilities are more specifically grouped as:
1. Current Liabilities
Also referred to as: Short-term liabilities or revolving liabilities
Definition:
Liabilities to be paid or settled either in one year or within the entity’s operating cycle, whichever is longer.
Common examples:
• Accounts payable (trade payables)
• Short-term notes payable
• Short-term bank loans
• Accrued salaries and wages
• Taxes payable
• Accrued expenses (electricity, rent, interest, etc.)
• Current portion of long-term debt
• Unearned (deferred) revenue
2. Long-Term Liabilities
Also referred to as: Long-term debt, Non-current debt, Long-term borrowings, Borrowings, Bonds
Definition:
Obligations that are required to be settled after one year or operating cycle, whichever is longer.
Common examples:
• Long-term bank loans
• Bonds payable
• Long-term lease liabilities (under IFRS 16)
• Deferred tax liabilities
• Pension and post-employment benefit obligations
• Long-term restructuring or decommissioning provisions
Are liabilities the same as obligations?
Yes, when it comes to accounting, "liability" and "obligation" are the same thing. Both are used to signify money owed and payments due to a person or entity.
Conclusion:
Yes, liabilities = obligations
There is no difference in accounting meaning; the difference is only in style and context:
liabilities is more common in traditional education and accounting.
obligations is the officially recognized international term today.
What are the elements of obligations?
The Three Essential Elements of a Liability
According to the IFRS Conceptual Framework, something is considered a "liability" and recognized in the statement of financial position only when the following three elements exist together:
- Present Obligation:
The entity has no realistic alternative to settling the obligation. It can be a legal obligation or a constructive obligation (arising from customary practice or published policies).
- Past Event:
The obligation results from an event that has already occurred. Examples include receiving goods from a supplier, borrowing money, issuing bonds, causing environmental damage, or announcing employee bonuses.
- Probable Future Outflow of Economic Benefits:
It is more likely than not that the entity will have to transfer resources (cash, goods, or services) to settle the obligation, and the amount can be measured reliably.
Very Simple Summary:
For something to be recorded as an accounting liability, the answer to all three questions must be "Yes":
1. Is the company currently obliged?
2. Did the obligation arise from something it did in the past?
3. Is it probable that the company will have to pay cash or give something else to settle it?
If all three conditions are met → it is recognized as a liability in the balance sheet.
If any one of the three is missing → it is not recognized as a liability (it may only be a contingent liability disclosed in the notes).
These three elements form the foundation for recognizing all types of liabilities: current, non-current, provisions, loans, leases, etc.
what are liabilities in accounting?
In accounting, the term liabilities does not refer to adversaries or hostile parties (as in everyday language), but rather to the parties or entities to whom the business owes amounts or obligations — essentially, those who have a claim on us in the balance sheet.
Liabilities are:
External (and sometimes internal) persons or entities that the company must repay or settle something with in the future. Some key examples include:
- Suppliers (Accounts Payable) → because we purchased goods on credit.
- Banks and financial institutions → due to loans or overdrafts.
- Bondholders → those who purchased the company’s bonds.
- Employees → salaries, bonuses, and compensation owed.
- Government and tax authorities → taxes due (income tax, VAT, fees, etc).
- Tenants or lessors → in the case of long-term leases.
- Various creditors → such as insurance companies, lawyers, contractors not yet paid.
- Pension and retirement funds → future pension obligations for employees.
In very simple terms:
Liabilities are everyone who "has a financial claim on the company," either currently or in the future — whether they are individuals, companies, banks, or the government.
Their complete opposite are debtors (those who owe us = assets).
In the balance sheet:
Right side: Liabilities + Owner’s Equity → Where we got the funds from (from others or from the owner).
Left side: Assets → How we used these funds.
What is the definition of liabilities?
They are the payments or legal obligations imposed on a company or an individual in return for obtaining a benefit, such as a loan, products, or others. They must be fulfilled in the future according to their specified term.
What are the items of liabilities?
Liabilities or obligations can include salaries due to employees, taxes, or supplier invoices.
Are debtors assets or liabilities?
The debtor side represents assets because it shows the financial amounts owed to the company or the creditor entity by other parties.
Are notes payable assets or liabilities?
It depends on the nature of the accounting transaction for notes payable. If they represent an amount owed to the company by others, then they are assets. If they are amounts owed by the person or entity to another entity, then they are liabilities.
How do I determine liabilities?
Calculating liabilities relies on a set of steps that can be explained as follows:
- Determine the type of liabilities, whether they are non-current (like long-term loans and pension obligations) or current liabilities (like debts, salaries, and taxes).
- Analyze the financial data from all documents and invoices related to the company's obligations.
- Record liabilities accurately in the accounting books. Modern accounting software can be used to process and track liabilities automatically, ensuring correct results. One of the most prominent examples is the Deftera accounting software.
- Calculate total liabilities by adding current liabilities and long-term liabilities.
- Analyze the results of the total liabilities and compare them with total assets to determine the institution's performance and financial position.
- Use some important accounting ratios, like the debt-to-assets ratio, to analyze how the company uses debt to finance its assets.
- Prepare financial reports for investors, managers, and concerned parties.
What is the difference between liabilities and equity?
Liabilities are the debts and financial obligations on the company, while equity is the financial value owned by the company's owners and shareholders. It can be obtained by subtracting total liabilities from total assets.
What do liabilities equal?
In the accounting equation, we find that: Equity = Assets - Liabilities.
Is capital an asset or a liability (debit)?
Capital is an asset because it is part of equity in the trial balance.
Are liabilities the same as accounts receivable?
No, liabilities differ from accounts receivable. Liabilities are the obligations due for payment by the entity or individual, while accounts receivable are the funds owed to the person or entity by others and are considered part of assets. From this, we conclude that liabilities and accounts receivable are opposite terms.
Is an expense a liability?
No, expenses are not liabilities because they represent current costs or expenditures incurred by the company to generate revenue and may not be a financial obligation. A liability, on the other hand, is a financial amount committed to be paid in the future.
Is a house an asset or a liability?
A house is an asset if it is owned by the person, and a liability if it is purchased or obtained through a loan or debt.
Are customers assets or liabilities?
Customers are considered assets because they represent the financial amounts owed to the company by others, which will increase their asset balance once received.
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