What is Liability? A Simple Guide to Understanding Business Liabilities

A liability is a company’s legal or financial obligation, money or service owed to another party. It’s what a business must pay, deliver, or settle in the future due to past transactions. 

In accounting, liabilities are recorded on the statement of financial position (balance sheet) alongside assets and equity, forming part of the fundamental equation:

Assets = Liabilities + Owner’s Equity

This shows that every asset a company owns is financed either through debt (liabilities) or owner investment (equity).

Why Liabilities Matter

Liabilities are not just about debt, they’re about responsibility and financing. They tell you how your business funds operations, manages obligations, and plans for growth.

Here’s why they matter:

• Help measure financial leverage, how much of your business is funded by debt.
• Assist in cash flow planning, ensuring you meet payments on time.
• Provide a clear picture of creditworthiness to banks and investors.
• Affect your ability to expand or borrow in the future.

“Healthy businesses don’t avoid liabilities, they manage them with strategy.”
— Senior Accounting Consultant

Types of Liabilities in Business

Liabilities are grouped by when they’re due: current, non-current, and sometimes contingent.

Note: Current and non-current liabilities will be recognised when criteria are met, while contingent liabilities will be disclosed in notes.

Difference Between Assets and Liabilities

Assets are what your business owns. Liabilities are what your business owes. 

A healthy business keeps assets higher than liabilities, maintaining a positive net worth (equity).

Fact: In statements on financial position(Balance sheet), most entities present a vertical format with assets first, then equity and liabilities.

Common Examples of Liabilities

No matter the size of your business, liabilities exist in everyday operations.

1. Accounts Payable (AP)

Money owed to suppliers or vendors for goods and services received.

2. Loans Payable

Short- or long-term borrowing from financial institutions, often used to fund expansion or working capital.

3. Taxes Payable

Unpaid income tax (owed to LHDN/IRBM) or Sales Tax/Service Tax (SST) (administered by the Royal Malaysian Customs Department).

4. Accrued Expenses

Expenses incurred but not yet paid, such as salaries, rent, or utilities.

5. Unearned Revenue

Customer deposits or advance payments are contract liabilities under IFRS 15. They’re usually current, but can be current or non-current based on when you expect to deliver the goods/services.

How Liabilities Appear on a Balance Sheet

Liabilities are usually presented in order of maturity, meaning the ones due soonest appear first.

Example layout:

1. Current Liabilities: Accounts payable, short-term loans, accrued expenses.
2. Non-Current Liabilities: Long-term loans, lease obligations, deferred tax liabilities.

Here’s a simplified sample for a Malaysian SME:

Total Liabilities: RM 285,000
(Illustration only, actual figures vary by industry and company size.)

How to Manage Liabilities Effectively

Having liabilities isn’t the issue, how you manage them is what matters.

1. Track Due Dates and Payment Terms

Keep a clear schedule of all payment obligations to avoid penalties or missed deadlines.

2. Refinance Wisely

If interest rates drop or cash flow improves, refinance high-interest loans to reduce costs.

3. Use Financial Ratios

Monitor leverage (for example., debt-to-equity, debt-to-assets) relative to your industry and peers. What counts as “healthy” varies widely; avoid universal cutoffs like “< 1.0 is always good.”

4. Automate Accounting

Use software like Financio, Xero, or QuickBooks to automatically record payables, generate reports, and set reminders.

5. Separate Short- and Long-Term Plans

Use short-term liabilities for day-to-day operations and long-term ones for investments or expansion.

“The goal isn’t to have zero debt, it’s to have the right kind of debt.”

Liabilities vs Expenses

A common misconception is treating all expenses as liabilities.

Here’s how they differ:

Expenses reduce your profit, while liabilities affect your financial position.

Why Understanding Liabilities Builds Better Businesses

Liabilities give insights into how your business is structured and financed. When managed strategically, they can be powerful tools for growth.

• Enable business expansion through financing.
• Improve reputation with banks and investors.
• Help forecast cash flow and liquidity.
  
• Allow better negotiation with suppliers through credit terms.

Smart accounting teams use liability data to plan budgets, control spending, and maintain a sustainable debt ratio.

Conclusion: Understanding Liabilities Helps Build Stronger Businesses

Liabilities aren’t just debts, they’re part of your business’s growth story. The key is knowing what you owe, managing it efficiently, and planning ahead.

By understanding your liabilities, you gain control over your financial health and make decisions that strengthen your long-term stability.

Disclaimer: This article is intended for informational and educational purposes only. It does not constitute financial or legal advice. Readers should consult a qualified professional before making financial decisions.