A liability is technically defined as a "present obligation of an enterprise arising from past transactions or events, the settlement of which is expected to result in an outflow from the entity of resources embodying economic benefits".
The following points can be drawn from the definition above:
- A liability is a present obligation of a particular entity.
- A liability arises from a past transaction or event. They arise from purchase of inventory to be sold, purchase of office supplies and other assets, use of electricity, labor from employees, etc.
- The settlement of a liability requires an outflow of resources from the entity. The entity loses resources in paying the obligation. The most common form of settlement is cash payment. There are however other forms of payment such as exchanging assets and rendering services.
Liabilities are classified into two: current liabilities and non-current liabilities. Current liabilities are those that entity expects to settle within the entity's normal operating cycle or 1 year, whichever is longer. They also include liabilities that are held for trading purposes. Current liabilities are short-term in nature. In contrast, non-current liabilities are long-term obligations, i.e. expected to be settled beyond one year.
Here is a list of current and non-current liabilities:
- 1. Accounts Payable - refers to indebtedness that arise from purchase of goods, materials, supplies or services and other transaction in the normal course of business operations
- 2. Notes Payable - obligations that are evidenced by promissory notes that are to be paid within 1 year
- 4. Income Tax Payable - current income tax obligation of the company payable to the government
- 5. Withholding Tax Payable - includes wage taxes withheld from employees that will be remitted to the appropriate government agency. Separate accounts for Social Security Payable and Medicare Payable are also often used
- 6. Accrued Expenses - expenses already incurred but not yet paid. Accrued expense accounts include: Salaries Payable, Rent Payable, Utilities Payable, Interest Payable, Telecommunications Payable, and other unpaid expenses
- 5. Unearned Revenues - represents advanced payments from customers which requires settlement through delivery of goods or services in the future
- 6. Any other short-term payable, i.e. any obligation that is to be paid within 1 year after the balance sheet date
- 1. Long-Term Notes Payable - obligations evidenced by promissory notes which are to be paid beyond 1 year; also commonly referred to as Loans Payable
- 2. Bonds Payable - liabilities supported by a formal promise to pay a specified sum of money at a future date and pay periodic interests. A bond has a stated face value which is usually the final amount to be paid. Bonds can be traded in bond markets.
- For serial bonds (bonds paid in installments), the portion which is to be paid within one year is considered as a current liability; the rest are non-current. The same rule applies to other long-term obligations paid in installments.
- 3. Mortgage Payable - long-term obligation to a bank or other financial institution, secured by real properties of the business
- 4. Any other long-term payable, i.e. any obligation that is to be paid beyond 1 year
There you have a list of liability accounts. Again, liabilities are present obligations of an entity. They are classified into current and non-current. If it is expected to be settled in the short-term (normally within 1 year), then it is a current liability. Otherwise, it is classified as a non-current liability.