Understanding Liabilities in Accounting & How They Affect Your Business Health
All businesses, regardless of size, have some sort of financial obligations. Financial obligations – which are called liabilities – are obligations of a company to others. Liabilities can be anything from unpaid bills to multi-million dollar loans. Liabilities are a key part of your company’s financial picture. Understanding them is necessary to achieve a healthy cash flow, financial stability, and long-term growth.
Liabilities are simply the opposite side of assets. If assets show what a business owns, then liabilities show what a business owes. Liabilities can be both short-term amounts due within a year and long-term debts due over several years. Accurately identifying and recording the liabilities of a business allows it to stay compliant in business, be respected as trustworthy, and be prepared to handle opportunities or challenges.
For business owners in the United States and Canada, effectively managing the liability side of accounting, tax planning, and business decisions is important. It does not matter whether you are starting a new business or managing an established one, understanding how liabilities effect your business’s financial position will help you make better short-term and long-term decisions for sustainable success.
Table of Contents
- What Are Liabilities (Current vs Long-Term)
- Common Liability Accounts in the US & Canada
- How Liabilities Show Up on Financial Statements
- Impact on Solvency, Liquidity & Credit Management
- Accounting & Bookkeeping Practices for Liabilities
- Tax & Compliance Implications (Interest, Deductions)
- Using Liabilities Strategically (Loans, Lines of Credit)
- Orbit’s Role in Liability Management, Bookkeeping & CFO Insight
What Are Liabilities (Current vs Long-Term)
In accounting, liabilities are everything your business owes to someone else—other businesses, banks, employees, and even the government. Liabilities are reported on the balance sheet and boiled down to two categories—current liabilities and long-term liabilities.
Current liabilities are short-term obligations owed to creditors that a company must pay off within one year, such as accounts payable, short-term loans, accrued expenses, or taxes owed. Effectively managing current liabilities helps ensure that the company can operate smoothly on a day-to-day basis, and that the business can protect its cash flow.
Long-term liabilities are debts or obligations owed to creditors that are due for payment in one year or more, such as mortgage loans, bonds payable, and long-term leases. Long-term liabilities are obligations that will finance larger projects or investments and/or expansions and need to be sufficiently planned to manage repayments without affecting its working capital.
Common Liability Accounts in the US & Canada
During the accounting process, liabilities can take numerous forms. Some are common and small, while others may be significant amounts and long terms. Below, you will find a simple summary of the most common forms of liability accounts used in US and Canadian companies.
| Liability Type | Description |
| Accounts Payable | Money owed to suppliers for goods or services received. |
| Accrued Expenses | Money owed for expenses incurred but not yet paid (for example, wage expenses and utility expenses). |
| Short-Term Loans | Debt to be paid back in one year or less. |
| Taxes Payable | Income tax, sales tax or payroll tax owed to the government. |
| Unearned Revenue | Money received from customers for goods or services the company has not yet delivered to the customers. |
| Long-Term Loans | Debt to be paid back after one year, such as business loans or mortgages. |
| Bonds Payable | Money owed to bond holders after a company has issued bonds to raise money. |
| Lease Liabilities | Liabilities associated with long-term leases or rental |
| Pension Obligations | Future payments owed to employees in exchange for providing retirement benefits. |
How Liabilities Show Up on Financial Statements
Liabilities represent a fundamental component of a company’s balance sheet, which is one of the primary forms of financial statements used by accountants and investors. On this statement, liabilities are separated from assets and equity, allowing for a visual representation of how much the company owes versus how much it owns. They typically represent the obligations for finance, which require a firm to give up assets in the short- or near-term to settle debts. Current liabilities are those that will be settled soon, while long-term liabilities will be satisfied at a point in the future.
Current liabilities appear first on the balance sheet, with long-term liabilities listed second. This ordering allows for readers to see amounts that the business must pay or settle soon versus later. For example, unpaid supplier invoices or taxes due will appear under current liabilities, while long-term loans will appear under long-term liabilities.
Liabilities also impact other financial statements in a roundabout way. Consider a loan that incurs interest. The interest expense will appear on the income statement. Likewise, if the liabilities are then paid, that will impact the cash flow and the cash flow statement.
Impact on Solvency, Liquidity & Credit Management
Your company’s financial health is greatly affected by liabilities. The three core elements of solvency, liquidity and credit management can show how capable your company is of maintaining its obligations.
Solvency is a measure of your ability to pay long-term debts. A company is solvent if it has enough assets to handle all its liabilities over time. When liabilities are growing at a quicker rate than assets, solvency decreases, and the future of your company is in jeopardy.
Liquidity, on the other hand, is about short-term readiness. It reflects your company’s ability to settle its current liabilities with cash or assets continually convertible to cash. High liquidity indicates cash flow and stability.
Credit management also has a close relationship with liabilities. Lenders and investors will often look at your debt-to-equity ratio, current ratio, and payment history to determine your financial reliability. The better the management of your liabilities is, the better your credit rating, which allows for the most favorable financing opportunities.
Tax & Compliance Implications (Interest, Deductions)
Liabilities can also impact your tax position directly. For instance, interest charges on loans to fund your business are typically tax deductible in both the US and Canada. This implies you could use the amount of interest charged to reduce your taxable income, and consequently your tax burden.
However, companies must ensure they are documenting all debts and interest charges correctly, and in full. Mistakes or missing documentation can cause compliance issues, or even an audit if there is a recognized issue – even worse, you could miss out on a legitimate deduction.
With certain liabilities, you could be facing penalties when not properly managed. For instance, unpaid payroll taxes or unpaid sales taxes are treated as serious obligations by the government. Carefully timed payments are required to avoid problems.
There are also deferred tax effects with particular long-term liabilities, depending on how and when they are recorded. Engaging a qualified accountant will ensure that all of the liabilities are properly captured, compliant, and tax efficient.
Using Liabilities Strategically (Loans, Lines of Credit)
Not all debts are harmful; when applied wisely, they can stimulate expansion for the business. For example, borrowing to grow your business or obtaining equipment with a line of credit can drive productivity and revenues.
Thoughtful use of debt can provide an opportunity to act on favorable investment, rather than depleting your working capital. The important thing about debt, all along, is ensuring you can repay it with future income. If your future income will more than support repayment terms, liabilities become more of a vehicle for opportunity than a burden.
Lines of credit can be useful for short-term cash flow needs. Their capacity to adapt to manage seasonal expenditures or the surprise expenses consumers return when they arrive at the register, for example, can protect the business flow at any time.
In contemplating how to use liabilities in a positive manner, having an awareness of debt ratios and making debt payments consistently is a good demonstration of managing to your lenders.
Orbit’s Role in Liability Management, Bookkeeping & CFO Insight
Although managing liabilities might seem complex, it can be easy and strategic with the right financial partner. Orbit Accountants Bookkeeping Services in Canada and Orbit Accountants Bookkeeping Services in the US are dedicated to helping small and mid-sized businesses confidently navigate their accounting, bookkeeping, and financial planning needs.
We make sure every liability is properly recorded, updated, and analyzed, so you can read your business’s financial health. We provide customized solutions to facilitate cash management, whether due to compliance, your borrowing position, or interest in your borrowing capacity. We summarize numbers into valuable insights to help owners make sure and smart business decisions with strong confidence for a strong, stable, and growth-capable business.
With Orbit as a financial partner, it won’t be a matter of being able to manage liabilities: you will have mastered them in a sense to truly maximize your business’s achievements.
