how liabilities work
a liability is generally an obligation between one party and another that s not yet completed or paid a financial liability is also an obligation in the world of accounting but it s defined more by previous business transactions events sales exchange of assets or services or anything that would provide economic benefit at a later date liabilities are categorized as current or non current depending on their temporality they can include a future service owed to others such as short or long term borrowing from banks individuals or other entities or a previous transaction that s created an unsettled obligation current liabilities are usually considered short term they re expected to be concluded within 12 months or less non current liabilities are long term they re expected to last 12 months or longer the most common liabilities are usually the largest such as accounts payable and bonds payable most companies will have these two line items on their balance sheets because they re part of ongoing current and long term operations liabilities are a vital aspect of a company because they re used to finance operations and pay for large expansions they can also make transactions between businesses more efficient a wine supplier typically doesn t demand payment when it sells a case of wine to a restaurant and delivers the goods it invoices the restaurant for the purchase to streamline the drop off and make paying easier for the restaurant the outstanding money that the restaurant owes to its wine supplier is considered a liability the wine supplier considers the money it is owed to be an asset other definitions of liabilityliability generally refers to the state of being responsible for something the term can refer to any money or service owed to another party tax liability can refer to the property taxes that a homeowner owes to the municipal government or the income tax they owe to the federal government a retailer has a sales tax liability on their books when they collect sales tax from a customer until they remit those funds to the county city or state liability can also refer to one s potential damages in a civil lawsuit liability may also refer to the legal liability of a business or individual many businesses take out liability insurance in case a customer or employee sues them for negligence 1current vs non current liabilitiesit s a long term liability if a business takes out a mortgage that s payable over a 15 year period but the mortgage payments that are due during the current year are the current portion of long term debt they re recorded in the short term liabilities section of the balance sheet analysts ideally want to see that a company can pay current liabilities that are due within a year with cash some examples of short term liabilities include payroll expenses and accounts payable which can include money owed to vendors monthly utilities and similar expenses other examples include any liability that s not near term falls under non current liabilities that are expected to be paid in 12 months or more long term debt is also known as bonds payable and it s usually the largest liability and at the top of the list companies of all sizes finance part of their ongoing long term operations by issuing bonds that are essentially loans from each party that purchases the bonds this line item is in constant flux as bonds are issued mature or called back by the issuer analysts want to see that long term liabilities can be paid with assets derived from future earnings or financing transactions bonds and loans aren t the only long term liabilities that companies incur items like rent deferred taxes payroll and pension obligations can also be listed as long term liabilities other examples include liabilities vs assetsassets are what a company owns or something that s owed to the company they include tangible items such as buildings machinery and equipment as well as intangibles such as accounts receivable interest owed patents or intellectual property the difference is its owner s or stockholders equity if a business subtracts its liabilities from its assets the relationship can be expressed like this assets liabilities owner s equity text assets text liabilities text owner s equity assets liabilities owner s equitythis accounting equation is commonly presented this way however assets liabilities equity text assets text liabilities text equity assets liabilities equityliabilities vs expensesan expense is the cost of operations that a company incurs to generate revenue expenses are related to revenue unlike assets and liabilities both are listed on a company s income statement expenses are used to calculate net income the equation is revenues minus expenses it might signal weak financial stability if a company has had more expenses than revenues for the last three years because it s been losing money for those years liabilities are listed on a company s balance sheet and expenses are listed on a company s income statement expenses are the costs of a company s operation liabilities are the obligations and debts that a company owes expenses can be paid immediately with cash or the payment could be delayed which would create a liability example of liabilitieslet s look at a historical example using at t s t 2020 balance sheet 2 the current short term liabilities are separated from long term non current liabilities at t clearly defines its bank debt that s maturing in less than one year under current liabilities this is often used as operating capital for day to day operations by a company of this size rather than funding larger items which would be better suited using long term debt liabilities are carried at cost not market value like most assets they can be listed in order of preference under generally accepted accounting principle gaap rules as long as they re categorized the at t example has a relatively high debt level under current liabilities other line items like accounts payable ap and various future liabilities like payroll taxes will be higher current debt obligations for smaller companies ap typically carries the largest balances because they encompass day to day operations ap can include services raw materials office supplies or any other categories of products and services where no promissory note is issued most companies don t pay for goods and services as they re acquired ap is equivalent to a stack of bills waiting to be paid 