Liabilities are obligations of the business that have accrued as a result of past transactions. Simply put, liabilities are the monetary value of what the business owes to outside entities. Merely owning high value assets is not enough if the business also has high liabilities. Both assets and liabilities have to be viewed simultaneously to gauge the true financial condition of the business.
This article looks at meaning of and differences between two different types of liabilities based on the timing of their settlement – current liabilities and non-current liabilities.
Definitions and meanings
Current liabilities are those short term obligations which are due for payment or settlement by the business within a short period of time i.e.: within the next one financial year.
Current liabilities generally arise as a result of day to day operations of the business. Every business avails several goods and services during the course of its business operations. The business may have availed a credit period for payment for these goods and services, this is when current liabilities accrue. Payments for which outstanding credit period as on the date of the balance sheet is less than 12 months are classified as current liabilities.
Current liabilities reduce the working capital funds available to a business.
Examples of current liabilities include:
- Creditors for goods purchases with credit period less than one year
- Utility payment accruals such as rent, water, electricity etc
- Short term loans maturing within less than a year
- Any other payables due for settlement within one year of the balance sheet date
Non-current liabilities are long term liabilities which are not due for payment or settlement within the next one financial year.
Non-current liabilities generally arise due to availing of long term funding for the business. Apart from funding of day to day operations, businesses also need to raise funds for various capital expenses from time to time. These include acquisition of fixed assets and property. These capital expenses are generally funded through non-current liabilities such as bank loans, public deposits etc.
Examples of non-current liabilities include:
- Bank loans which have term exceeding one year
- Bonds, debentures, public deposits which mature or convert after more than one year
- Long term employee benefit payables such as gratuity, pension etc
Key differences between current and non-current liabilities:
The differences between current liabilities and non-current liabilities have been detailed below:
- Current liabilities are those liabilities which are to be settled within one financial year.
- Non-current liabilities are those liabilities which are not likely to be settled within one financial year.
- Current liabilities have credit period less than 12 months.
- Non-current liabilities have longer repayment terms in excess of 12 months.
Presentation in the balance sheet
- Current liabilities generally appear in only one balance sheet as they become due for payment and settlement within one financial cycle.
- Non-current liabilities appear across several consecutive balance sheets as they are payable over multiple years.
Impact on working capital
- Repayment of current liabilities reduces working capital of a business.
- Repayment of non-current liabilities does not impact working capital of a business. Interest payments on such liabilities however do impact working capital of the business.
Accrued due to
- Current liabilities generally accrue as a result of obligations arisen during day to day operations of the company.
- Non-current liabilities generally accrue as a result of more long term funding needs of the business.
- Current liabilities have short credit period and generally do not have any interest obligation attached to them.
- Non-current liabilities are due over several years and generally have an interest obligation attached to them.
- As current liabilities arise due to day to day operations and have short credit periods, they generally do not have any security attached to them to cover repayment default.
- Non-current liabilities have longer terms and mostly have securities attached to them as guarantee for repayment. E.g.: a loan taken to purchase heavy machinery could have the machinery itself offered as a security to cover against repayment default.
- Current liabilities include short term creditors, short term loans, and utility payables.
- Non-current liabilities include long term bank loans, bonds debentures etc.
Current liabilities versus non-current liabilities – tabular comparison
A tabular comparison of current and non-current liabilities is given below:
|Liabilities which are due for payment within one financial year||Liabilities which are not due for payment within one financial year|
|Up to a year||More than a year|
|Presentation in the balance sheet|
|Generally in only one balance sheet||Across several consecutive balance sheets|
|Impact of repayment on working capital|
|Yes||No, (interest payment impacts working capital).|
|Accrued due to|
|Goods and services availed during day to day operations of a business||Generally due to funding of long term capital expenses|
|Interest obligation attached|
|Short term accounts and utility payables, short term borrowings||Long term borrowings including bonds and debentures|
Understanding the nature of liabilities and appropriate recording of them in financial statements is important for a business. It is especially important to management as they have to take decisions to manage working capital based on what the company owes and when are they owed. For investors as well, analysis of liabilities helps them gauge the financial strength of the company.