Liabilities in Accounting: Definition & Examples

Liabilities are a company’s financial obligations, like the money a business owes its suppliers, wages payable and loans owing, which can be found on a business’s balance sheet.

Here’s what we’ll cover:

• What Are Liabilities in Accounting?
• Examples of Liabilities
• Where Are Liabilities on a Balance Sheet?
• What Are the Categories of Liabilities?

NOTE:  FreshBooks Support team members are not certified income tax or accounting professionals and cannot provide advice in these areas, outside of supporting questions about FreshBooks. If you need income tax advice, please contact an accountant in your area.

What Are Liabilities in Accounting?

The liabilities definition in financial accounting is a business’s financial responsibilities. A common liability for small businesses is accounts payable, or money owed to suppliers.

Liabilities are found on a company’s balance sheet, a common financial statement generated through financial accounting software. The balance sheet is usually presented along with two other important financial statements: the profit and loss statement (also known as the income statement) and the cash flow statement.

All businesses have liabilities, except those that operate solely with cash. To operate on a cash-only basis, you’d need to both pay with and accept cash—either physical cash or through your business checking account.

Common Liabilities in Small Business

If you borrow instead of paying outright, you have liabilities. Paying with a credit card is considered borrowing, too. Business loans or mortgages for buying business real estate are also liabilities.

Money owed to employees and sales tax that you collect from clients and need to send to the government are also liabilities common to small businesses.

In the U.S., only businesses in certain states have to collect sales tax, and rates vary. The Small Business Administration has a guide to help you figure out if you need to collect sales tax, what to do if you’re an online business and how to get a sales tax permit.

Importance of Liabilities to Small Business

Liabilities aren’t necessarily bad. Some loans are acquired to purchase new assets, like tools or vehicles that help a small business operate and grow.

But too much debt can hurt a small business financially. Owners should track their debt-to-equity ratio and debt-to-asset ratio:

Simply put, a business should have enough assets (items of financial value) to pay off its debt.

Liabilities vs. Expenses

Liabilities in accounting are money owed to buy an asset, like a loan used to purchase new office equipment or pay expenses, which are ongoing payments for something that has no physical value or for a service.

• An example of an expense would be your monthly business cell phone bill. But if you’re locked into a contract, and you need to pay a cancellation fee to get out of it, this fee would be listed as a liability.
• Utilities for your store are an expense. The mortgage on your store is a liability.
• Liabilities are found on a balance sheet. Operating expenses are listed on an income statement (profit-and-loss statement).

Examples of Liabilities

Here are some examples of liabilities for small businesses:

• A carpenter picks up new kitchen cabinet doors from a cabinet supplier. The supplier has a good relationship with the carpenter and lets him buy on credit. The supplier gives the carpenter an invoice for the doors that he must pay within 30 days. The amount owed on these doors is a current liability for the carpenter.
• A freelance social media marketer is required by her state to collect sales tax on each invoice she sends to her clients. The money sits in her business bank account. It’s still a liability because that money needs to be sent to the state at the end of the month.
• A dog-walking business owner pays his 10 dog walkers biweekly. It’s Monday, and he has to pay $2000 in wages by Thursday. The wages he owes these employees count as a liability.
• A copywriter buys a new laptop using her business credit card. The cost is $1000. She plans on paying off the laptop in the near future, probably within the next 3 months. The $1000 she owes to her credit card company is a liability.
• An online rare bookseller decides to open a brick-and-mortar store. He takes out a $500,000 mortgage on a small commercial space to open the shop. The mortgage is a liability as it’s a debt to be repaid.

People also ask:

• Where Are Liabilities on a Balance Sheet?
• What Are the Categories of Liabilities?

Where Are Liabilities on a Balance Sheet?

Liabilities are one of 3 accounting categories recorded on a balance sheet, which is a financial statement giving a snapshot of a company’s financial health at the end of a reporting period.

Balance sheets record:

Assets

An asset is anything a company owns of financial value, such as revenue (which is recorded under accounts receivable).

Assets are broken out into current assets (those likely to be converted into cash within one year) and non-current assets (those that will provide economic benefits for one year or more).

Assets are listed on the left side or top half of a balance sheet.

Liabilities

Liabilities are divided into 2 categories on a balance sheet: short-term (current) liabilities and long-term liabilities.

Different types of liabilities are listed under each category, in order from shortest to longest term. Accounts payable would be a line item under current liabilities while a mortgage payable would be listed under long-term liabilities.

Equity

Owner’s equity (or shareholders’ equity, for a corporation) is the difference between the value of a company’s assets and its liabilities. This relationship is expressed in the accounting equation:

Liabilities and equity are listed on the right side or bottom half of a balance sheet.

Below is a simple example of a balance sheet. Since there’s only one liability, accounts payable, there’s only one category: Current liabilities.

What Are the Categories of Liabilities?

The 2 categories of liabilities on a balance sheet are:

1. Current Liabilities: Also called short-term liabilities. Current liabilities are due within a year. These include client deposits, interest payable, salaries and wages payable, any amount owing to suppliers, and short-term loans.
2. Long-Term Liabilities: Any financial obligation that takes more than a year to pay back, such as a business loan or mortgage. This category can also include short-term liabilities that have been deferred.

Some items can be classified in both categories, such as a loan that’s to be paid back over 2 years. The money owed for the first year is listed under current liabilities, and the rest of the balance owing becomes a long-term liability.

Current Liabilities

Current liabilities, also known as short-term liabilities, are financial responsibilities that the company expects to pay back within a year.

These short-term obligations may include:

• Accounts payable (money owed to suppliers for past transactions)
• Salaries and wages owed
• Interest owed to a lender
• Income tax liability
• Sales taxes payable
• Customer deposits or unearned revenue (pre-payments for goods or services not provided yet)
• Contracts, such as a cell phone contract you can’t cancel without a penalty
• Lease payments owed
• Insurance payable
• Benefits payable
• Accrued expenses (like utilities used that haven’t been billed for by the utility company)
• Dividends payable to shareholders
• Sales tax (usually payable every month or quarter)
• Payroll taxes payable (income and employment taxes withheld from employees and paid to the government)
• The current portion of notes payable—the payments due each month for the next year on long-term debt

Long-Term Liabilities

Long-term liabilities, also known as non-current liabilities, are financial obligations that will be paid back over more than a year, such as mortgages and business loans.

Examples of long-term liabilities include:

• Pension obligations (if the company doesn’t expect to fund them within one year)
• Deferred taxes due in one year or longer

• Contingent liabilities (obligations stemming from warranties or lawsuits that the company will likely have to pay and can be reasonably estimated)
• Mortgages payable and other long-term debt

FreshBooks’ accounting software makes it easy to find and decode your liabilities by generating your balance sheet with the click of a button.

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