What are Liabilities in Accounting?

Liabilities in accounting are everything that your business owes. You may owe it to banks, individuals or investors. The debt falls under liabilities as long as it occurs as a result of business operations. Let’s say you had taken a loan to start your business. So, that loan becomes your liability. According to accountants in Saskatchewan, business owners often confuse between expenses and liabilities. While expenses are a part of your company’s revenue, liabilities are debts and obligations the business owes. 

What are Liabilities in Accounting?

Everything that your business owes during its course of operations is a liability. It is usually found on the right side of the balance sheet. 

It can be a legal debt or obligation such as bills, contracts, mortgages or loans. Liabilities can also be a potential cost like a possible legal dispute in the future. Reducing liabilities helps you improve your net worth and assess the financial situation of your business in the current market. 

Also Read: Best Bookkeeping Tips for Businesses in Saskatchewan, Alberta & Manitoba

What are the Different Types of Liabilities?

There are three types of liabilities business owners should know about: 

  • Current liabilities- Liabilities that you need to pay within 12 months.  
  • Long-term liabilities- Liabilities that can be repaid for more than 12 months. 
  • Contingent liabilities- Potential liabilities that rely on the result of a possible event. 

Current liabilities are also known as short-term liabilities. Accountants usually gauge the short-term ones to assess the financial status of a company in the current market. They use the following ratios to measure the financial growth of your business. 

  • Current ratio– Current assets/current liabilities 
  • Quick ratio- (Current assets-inventory)/current liabilities 
  • Cash ratio– (Cash & equivalents of cash)/current liabilities 

Long-term liabilities are the ones your business can repay for more than a year. Let’s say you have to get hold of some urgent capital for an office building or software for your business. So, that falls under liabilities. The sooner you repay the debt, the better it will be for your overall net growth. 

In the case of contingent liabilities, you may or may not have to repay the debt. A lawsuit for instance may cause you to face a liability if it is successful. 

What are the Examples of Liabilities?

Check out the most common examples of liabilities. 

Current liabilities 

  • Interest payables 
  • Wages payable 
  • Dividends payable 

Long-term liabilities 

  • Warranty liability 
  • Deferred credits 
  • Unamortized investment tax credits 
  • Post-employment benefits 

You can consult with your accountants or bookkeepers to guide you through the liabilities in your business. You can increase or decrease your office expenses depending on your monthly liabilities. 

Why Should You Focus on Business Liabilities?

As business owners, you should know all the debts that your company is supposed to pay and when. Business liabilities remind you of your dues so you can run your business operations hassle-free. Liability isn’t a bad thing. It is because of liabilities in accounting that you can grow and expand your business. And, when it’s time, you must know how to repay the debts and maintain efficient cash flow. 

Liabilities also form an integral part of your financial reports such as balance sheet, net assets calculations or profit and loss statements. You can make important business decisions related to running the business and managing the cash flow based on how much debt you have. 

Also Read: An Essential Guide to Accounting Basics for Beginners

How to Reduce Liability Exposure?

As mentioned earlier, the net worth of your business increases when you have fewer liabilities. Certain factors help you avoid potential liabilities you are most likely to face while starting a business such as:

  • The right business structure 
  • An appropriate business insurance 
  • The right use of contracts 
  • Compliance with laws and regulations 
  • No risky activities 

It can be quite overwhelming for business owners to keep track of everything mentioned above. But, things can be a tad easier with qualified accountants by your side. Border Bookkeeping is a reputed accounting and bookkeeping firm based in Manitoba. We offer a wide range of accounting services to business owners in Saskatchewan, Alberta, Manitoba and Ontario.

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