Current Liabilities – Definition & Examples

What Are Current Liabilities?

Current liabilities are any liabilities that need to be paid off within a year. This could include some of the shorter-term borrowings or even the latest interest that you paid on a longer loan.

An operating cycle is the time it takes a company to buy inventory and convert it to cash through sales. Accounts payables are an example of a current liability.

Understanding Current Liabilities

No matter what kind of industry they’re in, virtually all businesses owe something to someone. The same holds true for most people. Whether you take out a bank loan to start a company, use a company credit card to pay for expenses, or buy your inventory from vendors on account, your company will show liabilities— debts—on the balance sheet. Even if you borrow your startup money from a family member or friend, it still counts as a liability on the company’s books. 

Every dime your business owes, no matter to whom or for what reason, is a liability. Owing someone a product (such as a magazine subscription) or a service (such as insurance coverage) counts as a liability as well. The same holds true for your personal finances, where liabilities range from your electric bill to your credit card balances to your mortgage. All the money you owe to creditors counts as a liability. 

For product-based companies, the biggest chunks of liabilities are standard fare: the business loan and the accounts payable. Service businesses such as law firms and housecleaning companies tend to have the least debt since they usually cost less to start up and don’t have to maintain stocks of inventory. 

Service company debts often tend to be in the form of work for which a customer has paid in advance; a good example of this would be a lawyer who works on retainer. These liabilities often have names such as “unearned revenue,” and virtually always belong in the current liabilities category.

Examples of Current Liabilities 

Below is a list of the most common current liabilities that are found on the balance sheet:

  • Accounts payable
  • Dividends payable
  • Short-term debt such as bank loans
  • Notes payable—the principal portion of outstanding debt
  • Current portion of deferred revenue, e.g. prepayments by customers for work not completed
  • Current maturities of long-term debt
  • Income taxes owed within the next year
  • Interest payable on outstanding debts, including long-term obligations

Companies sometimes include all other liabilities due within a year in an account called “other current liabilities” on their balance sheets. Depending on the industry or government regulations, current liability accounts can vary.

The current ratio is often used by analysts and creditors. This ratio measures a company’s ability to repay its short-term debts and payables by dividing current assets by current liabilities. An investor or analyst can see whether a company’s current assets are sufficient to satisfy its current debt and other liabilities.

Quick ratios use the same formula as current ratios, except that total inventories are subtracted beforehand. This ratio measures liquidity more conservatively since they only take into account assets that can be converted quickly into cash.

In general, a current ratio greater than one indicates that there are more current assets than current short-term debts. If the number is too high, the company might not be leveraging its assets efficiently.

Current Liabilities vs. Long Term Liabilities

Though there aren’t as many kinds of liabilities as there are assets, liabilities also get broken out into groups, for both business and personal purposes. In your accounts, you will have current liabilities and long-term liabilities. 

What differentiates these two types of liabilities is when you have to pay them: Anything due within one year counts as current, and any debts that stretch further out than one year go into the long-term group. 

In most cases, current liabilities tend to be created through daily living business activities (like purchasing inventory on account or groceries with your credit card), and long-term liabilities and tend to be loans (including car loans and mortgages). 

Most of the current liabilities your company owes will be those that come up during the normal course of business. Buying inventory on account leads to accounts payable debt, for example. Paying employees prompts payroll tax liabilities. 

On the other hand, most long-term liabilities (other than any startup loans) come about as the result of fixed-asset purchases or business expansions, and those are not typically everyday occurrences once your business is up and running.

Current Tax Liabilities

Take a look at almost any company’s current liabilities roster, and you’ll find at least one—probably more—tax debts. That’s because everyday transactions give rise to taxes, most of which won’t be paid at the time. The most common tax liabilities a typical company would have to account for include:  

  • Sales tax payable, which comes into play when you sell taxable products 
  • Withholding tax payable, the amount of federal and state taxes you’ve deducted from employee paychecks 
  • FICA (Federal Insurance Contributions Act) payable, the “employer side” of Social Security and Medicare payroll taxes 
  • FUT/SUT payable, both federal and state unemployment insurance 
  • Property tax, any assessments on land or buildings the business owns 
  • Franchise tax, which some states charge based on the net worth of a company 
  • Gross receipts tax, another tax charged by some states, this one on a company’s gross revenues  

Small business owners whose companies are not set up as corporations will also have to plan for self-employment tax, which are Social Security and Medicare (a.k.a. FICA), both the amount that would have been withheld if you were an employee, plus the amount the employer would pay. This would not appear on the company’s balance sheet, but would appear on a personal balance sheet (which could be required if you’re applying for a business or personal loan).

Nonmonetary Liabilities

In addition to owing money, your business can owe products or services to its customers. This liability comes about when you get paid in advance for something, and you have a legal obligation to either fulfill your part of the bargain or give the money back. Until you complete your part of the deal, whether performing services or delivering products, there will be a liability on the company books. Most of the time, unearned revenue matches up with current liabilities. 

Any kind of company can have unearned revenues. Common examples include a lawyer who receives a retainer and has not yet earned the amount, a retail shop that lets customers use a layaway plan, and a contractor who gets a down payment before starting work. 

In each of these cases, the business gets the money up-front, before the full transaction is finalized, meaning the company still owes something to the customer and is contractually obligated to provide it. 

Once you fulfill your end of the deal, the unearned revenue will transform into regular revenue. If you perform only part of the service or deliver just some of the product, only a portion of the unearned revenue will be changed into regular revenue.

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