Elements of Accountancy · Ch 1 — Introduction to Accounting
Liabilities
Liabilities
Liabilities are the financial obligations a business owes to outsiders. They represent the claims that creditors have on the assets of the firm. In simple terms, if the business were to close down, these are the amounts it would have to pay to others before the owners get anything.
Almost every business, at some point, needs to borrow money or buy goods on credit. For example, Super Bazaar purchases goods worth ₹10,000 on credit from Fast Food Products on March 25, 2005, with payment due in one month. If Super Bazaar prepares its balance sheet on March 31, 2005, Fast Food Products will appear as a creditor on the liabilities side. Similarly, if Super Bazaar takes a three-year loan from Delhi State Co-operative Bank, that loan is also shown as a liability.
Liabilities are classified into two main categories: Current Liabilities and Non-Current Liabilities.
The distinction between current and non-current items is based on four criteria:
- Current items are involved in the operating cycle of the business.
- Current items are realised or settled within 12 months.
- Current items are primarily held for trading purposes.
- Current items are cash or cash equivalents.
Classification of Liabilities
| Non-Current Liabilities | Current Liabilities |
|---|---|
| Long Term Borrowings | Short Term Borrowings |
| Deferred Tax Liabilities (Net) | Trade Payables |
| Other Long Term Liabilities | Other Current Liabilities |
| Long Term Provisions | Short Term Provisions |
Non-Current Liabilities are obligations that are due for settlement beyond one year from the balance sheet date. These include:
- Long Term Borrowings: Loans taken for a period longer than one year (e.g., a three-year bank loan).
- Deferred Tax Liabilities (Net): Taxes that are due in future periods due to timing differences between accounting profit and taxable profit.
- Other Long Term Liabilities: Any other debts not falling under the above categories, such as long-term deposits.
- Long Term Provisions: Amounts set aside for known future obligations, like provision for employee gratuity, that will be settled after one year.
Current Liabilities are obligations that are expected to be settled within one year or within the operating cycle of the business, whichever is longer. These include:
- Short Term Borrowings: Loans repayable within 12 months (e.g., bank overdraft, cash credit).
- Trade Payables: Amounts owed to suppliers for goods purchased on credit (also called creditors or accounts payable). …