Liability/Debt

A Liability (Debt) is the legal obligation that a firm or individual has to issuers for borrowed funds. Liabilities reflected on a balance sheet are effectively debts. Considering the equation assets equal Liabilities plus owner’s equity, Liabilities are a source of capital to purchase assets or defer cash payment of expenses. Items included as Liabilities on a balance sheet may include accounts payable, notes payable, salaries or wages payable, and taxes payable. It is helpful to divide Liabilities into short-term and long-term Liabilities. Financially sound accounting includes contingent Liabilities for a debt that has not been established but management thinks an event which would create a liability has a significant probability of occurring. Lawsuites may fall into the contingent liability category. The accounts set up under these conditions are often referred to as reserve accounts. Reserve accounts are part of responsible and transparent accounting practices. These accounts prepare an enterprise for liabilities that have a high probability of occurring in the near future. Once the event occurs, the funds in the reserve account are transferred to a payable account. Proper accounting considers the true form of a liability and corresponding asset. For example, if a property lease is intended to be applied toward the purchase of the property, the property may be treated as a purchase depending upon the nature, form, and content of the agreement between the owner and the tenant (or buyer).