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What is a Liability?

Definition: Speaking in context of Financial Accounting, a liability is commonly defined as an obligation of an entity arising from past transactions or events.

To settle the obligation, the entity may give up an asset, provide a service or some other sort of economic benefit to whom it is liable.

Recognizing a Liability

There are regulations regarding the recognition of a liability in the books, and these vary throughout accounting standards. In short, liabilities represent creditor claims on the assets of the business.

There are two types; current and long-term liabilities. The general distinction between these is usually one year. It is important to note that not all liabilities are legally enforceable. In most businesses however, it is quite clear when an obligation arises.

Where it appears in the Financial Statements

Liabilities are included in the Balance Sheet. They are a fundamental part of financial accounting:

  • Assets = Liabilities + Owner's Equity. This is the equation on which the Balance Sheet is based upon.

 

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