LIABILITIES

Definition
Liability is a present obligation of the entity to transfer an economic resource as a result
of past events.

The definition of liability has the following three aspects:

1. Obligation
2. Transfer of an economic resource
3. Present obligation as a result of past events

Obligation
An obligation is a duty or responsibility that an entity has no practical ability to avoid.
An obligation is either
1. Legal obligation
2. Constructive obligation

Obligations may be legally enforceable because of a binding contract or statutory

requirement. This is normally the case for goods and services received.

Constructive obligations also give rise to liabilities because of normal business practices,
customs, and a desire to maintain good business relations or act equitably.
Transfer of an economic resource
An obligation to transfer an economic resource may be an obligation to:
1. Pay cash, deliver goods, or render services
2. Exchange assets with another party on unfavorable terms
3. Transfer assets if a specified uncertain future event occurs, or
4. Issue a financial instrument that obliges the entity to transfer an economic resource

 A financial instrument is “any contract that gives rise to a financial asset of one entity and a
financial liability or equity instrument of another entity.” (PAS 32)
 A financial asset is any asset that is:
o Cash;
o Equity instrument of another entity; or
o Contractual right to receive cash or another financial asset or to exchange financial instruments
with another entity under conditions that are potentially favorable
 Equity instrument – evidences a residual interest in the net assets of the entity. E.g., shares of
stocks

Present obligation as a result of past events

A present obligation exists as a result of past events if:
1. The entity has already obtained economic benefits or taken an action; and
2. As a consequence, the entity will or may have to transfer an economic resource that it
would not otherwise have had to transfer.

Recognition criteria
An item is recognized if:
1. It meets the definition of a liability;
2. It is probable that an outflow of resources embodying economic benefits will result
from its settlement; and
3. The settlement amount can be measured reliably.

Financial and Nonfinancial liabilities

Financial liability is any liability that is
1. A contractual obligation to deliver cash or another financial asset to another entity.
 2. A contractual obligation to exchange financial assets or financial liabilities with
another entity under the conditions that are potentially unfavorable to the entity.
Examples of financial liabilities
1. Payables (accounts, notes, loans, bonds, and accrued liabilities)
2. Lease liabilities
3. Held for trading liabilities and derivative liabilities
4. Redeemable preference shares issued
5. Security deposits

The following are NOT financial liabilities

1. Unearned revenues and warranty obligations
2. Taxes, SSS, Philhealth and Pag-IBIG payables
3. Constructive obligations

Nonfinancial liability – is a liability other than a financial liability

Financial statement presentation

Liabilities are presented as either (a) current or (b) noncurrent on the face of a
classified statement of financial position

Current liabilities
Current liabilities are liabilities that are:
1. Expected to be settled in the entity’s normal operating cycle;
2. Held primarily for trading;
3. Due to be settled within 12 months after the reporting period; or
4. The entity does not have an unconditional right to defer settlement of the liability
for at least 12 months after the reporting period

All other liabilities are classified as noncurrent.

Long-term debt falling due within one year
Refinancing refers to the replacement of existing debt with a new one but with different
terms, e.g., an extended maturity or a revised payment schedule.

A long-term obligation that is maturing 12 months after the reporting period is classified
as current, even if a refinancing agreement to reschedule payments on a long-term basis is
completed after the reporting period but before the financial statements are authorized for
issue.

However, the obligation is classified as noncurrent if the entity expects and has the
discretion, to refinance it on a long-term basis but under an existing loan facility. Loan
facility refers to a credit line.

If the refinancing is not at the discretion of the entity, the financial liability is
current.

Illustration:
Kim Jennie Company’s liabilities on December 31, 20x2 were:

Accounts payable P1,000,000

12% note payable issued November 1, 20x0
maturing July 1, 20x3 2,000,000
10% debentures payable, next annual principal
installment of P500,000 due February 1, 20x3 7,000,000

On December 31, 20x2, Kim Jennie Company consummated a noncancelable agreement with the
lender to refinance the 12% note payable on a long-term basis. On December 31, 20x2, what
total amount should be reported as current liabilities?
Illustration:
Pranpriya Manoban Company had the following liabilities on December 31, 20x2.

Accounts payable, after deducting debit balances in

suppliers’ accounts of P100,000 P500,000
Accrued liabilities 50,000
Notes payable – due March 31, 20x3 1,000,000
Notes payable – due May 31, 20x3 800,000
Bonds payable – due December 31, 20x4 2,000,000

On March 1, 20x3 before the 20x2 financial statements were issued, the note payable of
P1,000,000 was replaced by an 18-month note of the same amount. The entity is considering
similar action on the P800,000 due on May 1, 20x3. The financial statements were issued on
March 31, 20x3.

Compute the following:

1. Total current liabilities
2. Total noncurrent liabilities
Illustration
The following information about Roseanne Park Company is available on December 31, 20x2:
Income taxes withheld from employees 900,000
Cash balance at First State Bank 2,500,000
Cash overdraft at Harbor Bank 1,300,000
Accounts receivable with credit balance 750,000
Estimated expenses of meeting warranties on
merchandise previously sold 500,000
Estimated damages because of unsatisfactory
performance on a contract 1,500,000
Accounts payable 3,000,000
Deferred serial bonds, issued at par and bearing
interest at 12% payable in semiannual installment
of P500,000 due April 1 and October 1 of each year,
the last bond to be paid on October 1, 20x7.
Interest is also paid semiannually. 5,000,000
Stock dividend payable 2,000,000

Compute the total current liabilities on December 31, 20x2.