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In
financial accounting Financial accounting is the field of accounting Accounting or Accountancy is the measurement, processing, and communication of financial and non financial information about economic entity, economic entities such as businesses and corporat ...
, a liability is defined as the future sacrifices of economic benefits that the entity is ''obliged'' to make to other entities as a result of past transactions or other ''past'' events, the settlement of which may result in the transfer or use of
assets In financial accounting Financial accounting is the field of accounting Accounting or Accountancy is the measurement, processing, and communication of financial and non financial information about economic entity, economic entities such as ...
, provision of services or other yielding of economic benefits in the future. A liability is defined by the following characteristics: * Any type of borrowing from persons or banks for improving a business or personal income that is payable during short or long time; * A duty or responsibility to others that entails settlement by future transfer or use of assets, provision of services, or other transaction yielding an economic benefit, at a specified or determinable date, on occurrence of a specified event, or on demand; * A duty or responsibility that obligates the entity to another, leaving it little or no discretion to avoid settlement; and, * A transaction or event obligating the entity that has already occurred Liabilities in financial accounting need not be legally enforceable; but can be based on equitable obligations or constructive obligations. An equitable obligation is a duty based on ethical or moral considerations. A constructive obligation is an obligation that is implied by a set of circumstances in a particular situation, as opposed to a contractually based obligation. The
accounting equation The fundamental accounting equation, also called the balance sheet equation, represents the relationship between the assets, liability (accounting), liabilities, and Equity (finance), owner's equity of a person or business. It is the foundation for ...
relates
asset In financial accounting Financial accounting is the field of accounting Accounting or Accountancy is the measurement, processing, and communication of financial and non financial information about economic entity, economic entities such a ...
s, liabilities, and owner's equity: :Assets = Liabilities + Owner's Equity The accounting equation is the mathematical structure of the
balance sheet In financial accounting Financial accounting is the field of accounting Accounting or Accountancy is the measurement, processing, and communication of financial and non financial information about economic entity, economic entities such a ...

balance sheet
. Probably the most accepted accounting definition of liability is the one used by the
International Accounting Standards Board The International Accounting Standards Board (IASB) is the independent, accounting standard Publicly traded companies typically are subject to the most rigorous standards. Small and midsized businesses often follow more simplified standards, plus ...
(IASB). The following is a quotation from IFRS Framework: Regulations as to the recognition of liabilities are different all over the world, but are roughly similar to those of the IASB. Examples of types of liabilities include: money owing on a loan, money owing on a mortgage, or an
IOU An IOU (abbreviated An abbreviation (from Latin ''brevis'', meaning ''short'') is a shortened form of a word or phrase, by any method. It may consist of a group of letters, or words taken from the full version of the word or phrase; for exa ...

IOU
. Liabilities are debts and obligations of the business they represent as creditor's claim on business assets.


Classification

Liabilities are reported on a
balance sheet In financial accounting Financial accounting is the field of accounting Accounting or Accountancy is the measurement, processing, and communication of financial and non financial information about economic entity, economic entities such a ...

balance sheet
and are usually divided into two categories: *
Current liabilities In accounting Accounting or Accountancy is the measurement, processing, and communication of financial and non financial information about economic entity, economic entities such as businesses and corporations. Accounting, which has been calle ...
– these liabilities are reasonably expected to be liquidated within a year. They usually include payables such as
wage A wage is the distribution from an employer of a ''security'' (expected return or profits derived solely from others) paid to an employee. Like interest is paid out to an investor on his investments, a wage is paid (from company earnings) to t ...

wage
s, accounts,
tax A tax is a compulsory financial charge or some other type of levy imposed on a taxpayer (an individual or legal entity In law Law is a system A system is a group of Interaction, interacting or interrelated elements that act accord ...
es, and
accounts payable Accounts payable (AP) is money owed by a business to its suppliers shown as a liability on a company's balance sheet. It is distinct from notes payable liabilities, which are debts created by formal legal instrument documents. Overview An accounts ...
, unearned revenue when
adjusting entries In accounting/accountancy, adjusting entries are general journal, journal entries usually made at the end of an accounting period to allocate income and expense, expenditure to the period in which they actually occurred. The revenue recognition pri ...
, portions of long-term bonds to be paid this year, and short-term obligations (''e.g.'' from purchase of equipment). Current liabilities are obligations whose liquidation is reasonably expected to require the use of current assets, the creation of other current liabilities, or the provision of services within the next year or operating cycle, whichever is longer. *
Long-term liabilities Long-term liabilities, or non-current liabilities, are liabilities Liability may refer to: Law * Legal liability, in both civil and criminal law ** Public liability, part of the law of tort which focuses on civil wrongs ** Product liability, ...
– these liabilities are reasonably expected ''not'' to be liquidated within a year. They usually include issued long-term bonds, notes payables, long-term
lease A lease is a contractual arrangement calling for the user (referred to as the ''lessee'') to pay the owner (the Lessor (leasing), ''lessor'') for use of an asset. Property, buildings and vehicles are common assets that are leased. Industrial o ...

lease
s,
pension A pension (, from Latin Latin (, or , ) is a classical language A classical language is a language A language is a structured system of communication Communication (from Latin ''communicare'', meaning "to share" or "to be ...

pension
obligations, and long-term product
warranties In contract law, a warranty is a promise which is not a condition of the contract or an innominate term: (1) it is a term "not going to the root of the contract", and (2) which only entitles the innocent party to damages if it is breached: i.e. the ...
. Liabilities of uncertain value or timing are called provisions.


Example

When a company
deposits A deposit account is a bank account maintained by a financial institution in which a customer can deposit and withdraw money. Deposit accounts can be savings accounts, Transaction account#Current accounts, current accounts or any of several other ...
cash with a
bank A bank is a financial institution Financial institutions, otherwise known as banking institutions, are corporation A corporation is an organization—usually a group of people or a company—authorized by the State (polity), stat ...

bank
, the bank records a liability on its balance sheet, representing the obligation to repay the depositor, usually
on demand On-demand or On demand may refer to: Manufacturing * Build-on-demand * Just-in-time manufacturing, a methodology for production * Print on demand, printing technology and business process in which new copies of a document are not printed until an ...
. Simultaneously, in accordance with the double-entry principle, the bank records the cash, itself, as an asset. The company, on the other hand, upon depositing the cash with the bank, records a decrease in its cash and a corresponding increase in its bank deposits (an asset).


Debits and Credits

A
debit Debits and credits in double entry bookkeeping are entries made in account ledger A ledger is a book or collection of accounts in which account transactions are recorded. Each account has an opening or carry-forward balance Balance may refe ...

debit
either increases an asset or decreases a liability; a
credit px, Domestic credit to private sector in 2005 Credit (from Latin Latin (, or , ) is a classical language belonging to the Italic languages, Italic branch of the Indo-European languages. Latin was originally spoken in the area around Rome, k ...
either decreases an asset or increases a liability. According to the principle of double-entry, every financial transaction corresponds to both a debit and a credit.


Example

When cash is deposited in a bank, the bank is said to "debit" its cash account, on the asset side, and "credit" its deposits account, on the liabilities side. In this case, the bank is debiting an asset and crediting a liability, which means that both increase. When cash is withdrawn from a bank, the opposite happens: the bank "credits" its cash account and "debits" its deposits account. In this case, the bank is crediting an asset and debiting a liability, which means that both decrease.


See also

*
Assets In financial accounting Financial accounting is the field of accounting Accounting or Accountancy is the measurement, processing, and communication of financial and non financial information about economic entity, economic entities such as ...
*
Cost In production Production may be: Economics and business * Production (economics) * Production, the act of manufacturing goods * Production, in the outline of industrial organization, the act of making products (goods and services) * Production ...

Cost
*
Contingent liability Contingent liabilities are liabilities Liability may refer to: Law * Legal liability, in both civil and criminal law ** Public liability, part of the law of tort which focuses on civil wrongs ** Product liability, the area of law in which ma ...
*
Depreciation In accountancy, depreciation refers to two aspects of the same concept: first, the actual decrease of fair value of an asset, such as the decrease in value of factory equipment each year as it is used and wear, and second, the allocation in a ...

Depreciation
*
Financial Accounting Financial accounting is the field of accounting Accounting or Accountancy is the measurement, processing, and communication of financial and non financial information about economic entity, economic entities such as businesses and corporat ...
*
Overhead (business) In business, overhead or overhead expense refers to an ongoing expenseExpenditure is an outflow of money, or any form of Wealth, fortune in general, to another person or group as payment for an item, service, or other category of costs. For a lease ...


References

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