Updated July 19, 2023
Definition of Liability
Liability of the business reflects that there will be a transfer of entity’s economic benefit (mostly sum of money) in the future to other entities (suppliers, lenders, etc.) due to any past transaction or in other words, we can say liability on the financial records show the sum of money that is owed by the business to other persons/entity due to any purchase of goods or receipt of services or maybe due to any borrowing of money.
Explanation
The liabilities of the company are the amount that they owe to another party where such party can be the supplier of goods & services, the lender of money, or any other party to whom the company is liable to pay in the future. The liability is mostly settled by paying cash or sometimes by transferring any other economic benefit to the concerned party.
The liabilities of the business are divided majorly into two categories:
1. Current Liabilities: Current Liabilities are the short term obligations of the business that are expected to be settled by the business within a period of one year from the reporting date. The examples of the current liabilities are accounts payable, short-term debts, notes payable, advances received from customers, etc.
2. Non-Current Liabilities: Non-current liabilities are the long-term obligations of the business that are expected to be settled over longer periods (more than a year) from the reporting date. For example long-term loans repayable after a year, debentures issued by the company, etc.
Examples of Liability
Examples of liability are as follows:
1. Current Liabilities
Following are some of the examples of current liabilities:
- Accounts Payable: Accounts payable are the short-term obligation that is unpaid on the given date and are to be paid within a year. Basically accounts payable includes creditors of the company from whom the company has purchased goods & services on credit and the amount is yet to be paid.
- Bank Overdrafts: Bank overdrafts are the facility that the bank gives to its customers where the customers are allowed to overdraw amount more than the amount that is available in their bank account balance.
- Short Term Debts: Short term debts are the amount of debt that has to be repaid by the company within one year period. For example, a company has taken loans from banks and other institutions that are repayable within a year.
- Accrued Expenses: Accrued expenses are the expenses that are unpaid but have already been incurred. As these liabilities are also payable within a year so they are also current liabilities. For example rent payable, salaries payable, etc.
- Unearned Revenues: Unearned revenues are the advances received from the customers to whom the goods & services are yet to be supplied. An example of unearned revenue is one company pays $50 as advance while giving the order for goods to the supplier but the goods are to be delivered after 1 month. Therefore, till the day of actual delivery of goods, $50 will be reported as unearned revenue.
- Current Portion of Long Term Debt: Current portion of long term debt is that portion of long term debts that are payable within one year period. An example of the current portion of long term debt is the term loan taken by the company amounting to $6,000 but from that $6000, $1,000 is repayable within one year of the reporting period. Therefore, $1,000 is reported as a current liability.
2. Non-Current Liabilities
Following are some of the examples of non-current liabilities:
- Long Term Borrowings: Long term borrowings can be referred to as the funds that are raised by the company for meeting its capital expenditure. Along with this, these funds are also used in order to implement some strategic decisions in the company for improving its operational functions. These funds are borrowed for a period greater than 1 year so, these are shown as non-current liabilities in the balance sheet of the company.
- Notes Payable: Sometimes goods are purchased by the company or services are received by the company but the payment is to be made after the period of one year then for this, a company record the liability as notes payable under the head non-current liabilities as the payment is to be made after the period of one year.
- Bonds Payable: These are the long term debts of the organizations that are generally issued by the hospital corporation and the government organizations for the period of more than one year where the issuer of the bond makes a formal agreement regarding the payment of the interest along with its tenure and the payment of the maturity amount in future.
- Deferred Tax Liability: It is the liability that arises due to the timing difference between tax as per the Income Tax rules and tax on the book profits of the company. Whenever there is a deferred tax liability in the company, then it shows that the company has disclosed less income amount in the current year when compared with the books of account. Since these liabilities are to be set off in the future period so these are categorized as non-current liabilities of the company.
- Other Non-Current Liabilities: Any other liabilities, the obligation of which arises after the period of one year in the company will be categorized as non-current liabilities. For example deferred compensation product against warranty, pension liabilities, etc.
Conclusion – Liabilities Example
Therefore, liabilities are the amount that is unpaid by the company and is payable to another party mostly payable to the outsiders in the future. The liabilities of the company is divided into two categories where the first one is a current liability or short term liability and the other one is a non-current liability or long term liability where such bifurcation is based on the period of time in which such debt is to be paid i.e. if the liability is payable within one year then it is current liabilities and if the liability is payable after one year then the same is referred to as non-current liability.
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