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Current Liability

Current Liability Overview

A current liability is an item on an entity's balance sheet that is payable within one year. In those rare cases where the operating cycle of a business is longer than one year, a current liability is defined as being payable within the term of the operating cycle. The operating cycle is the time period required for a business to acquire inventory, sell it, and convert the sale into cash.

The cluster of liabilities comprising current liabilities is closely watched, for a business must have sufficient liquidity to ensure that these liabilities can be paid off when due. Since current liabilities are typically paid by liquidating current assets, the presence of a large amount of current liabilities calls attention to the size and prospective liquidity of the offsetting amount of current assets listed on a company's balance sheet. Current liabilities may also be settled through their replacement with other liabilities.

The aggregate amount of current liabilities is a key component of several measures of the short-term liquidity of a business, including:

• Current ratio. This is current assets divided by current liabilities.
• Quick ratio.  This is current assets minus inventory, divided by current liabilities.
• Cash ratio. This is cash and cash equivalents, divided by current liabilities.

For all three ratios, a higher ratio denotes a larger amount of liquidity, and therefore an enhanced ability for a business to meet its short-term obligations.

Examples of Current Liabilities

The following are examples of current liabilities:

• Accounts payable. These are the trade payables due to suppliers, usually as evidenced by supplier invoices.
• Sales taxes payable. This is the obligation of a business to remit sales taxes to the government that it charged to customers on behalf of the government.
• Payroll taxes payable. This is taxes withheld from employee pay, or matching taxes, or additional taxes related to employee compensation.
• Income taxes payable. This is income taxes owed to the government but not yet paid.
• Interest payable. This is interest owned to lenders but not yet paid.
• Bank account overdrafts. These are short-term advances made by the bank to offset any account overdrafts caused by issuing checks in excess of available funding.
• Accrued expenses. These are expenses not yet payable to a third party, but already incurred.
• Customer deposits. These are payments made by customers in advance of the completion of their orders for goods or services.
• Dividends declared. These are dividends declared by the board of directors, but not yet paid to shareholders.
• Short-term loans. This is loans that are due on demand or within the next 12 months.
• Current maturities of long-term debt. This is that portion of long-term debt that is due within the next 12 months.