The primary difference between Liability and Debt is that Liability is a wide term which includes all the money or financial obligations which the company owes to the other party, whereas, the debt is the narrow term and is part of the liability which arises when the funds are raised by the company by borrowing money from the other party.
Difference Between Liability vs Debt
Every business carries out various activities and transactions which are recorded in different financial statements of the company. Business activities that result in transactions are classified under broad headings in financial statementsFinancial StatementsFinancial statements are written reports prepared by a company's management to present the company's financial affairs over a given period (quarter, six monthly or yearly). These statements, which include the Balance Sheet, Income Statement, Cash Flows, and Shareholders Equity Statement, must be prepared in accordance with prescribed and standardized accounting standards to ensure uniformity in reporting at all levels. like – assets, liabilities, owners’ equity, revenue, expenses, etc.
In this article, we will look at two elements in a balance sheet of a company, namely – ‘liabilities’ and ‘debt.’
Liability vs. Debt Infographics
Here we provide you with the top 6 difference between Liability vs. Debt.
Liability vs. Debt – Key Differences
The key differences between Liability vs. Debt are as follows –
- The terms ‘liabilities’ and ‘debt’ have similar definitions, but there is a fundamental difference between the two. Liabilities are a broader term, and debt constitutes as a part of liabilities.
- Debt refers to money that is borrowed and is to be paid back at some future date. Bank loans are a form of debt. Hence, it only arises out of borrowing activities. Whereas, liabilities arising out of other business activities as well. For example, accrued wages are payments to employees that have not been paid yet. These wages are obligations on the part of the company and are categorized as a liability.
- Liability includes all kinds of short-term and long term obligationsLong Term ObligationsLong Term Liabilities, also known as Non-Current Liabilities, refer to a Company’s financial obligations that are due for over a year (from its operating cycle or the Balance Sheet Date). , as mentioned above, like accrued wages, income tax, etc. However, debt does not include all short term and long term obligations like wages and income tax. Only obligations that arise out of borrowing like bank loans, bonds payable constitute as a debt. Therefore, it can be said that all debts come under liabilities, but all liabilities do not come under debts.
- The debt of a company exists in the form of money. When a company borrows money from a bank or its investors, this money borrowed is considered to be debt for the company. On the other hand, liability does not necessarily have to be in the form of money. Liability can be anything that imposes a cost on the company. Future expenses like salaries to employees or payment to suppliers are liabilities for the companyLiabilities For The CompanyLiability is a financial obligation as a result of any past event which is a legal binding. Settling of a liability requires an outflow of an economic resource mostly money, and these are shown in the balance of the company. and not debt.
Liability vs. Debt Head to Head Difference
Let’s now look at the head to head the difference between Liability vs. Debt.
|Points of Comparison – Liability vs. Debt||Liability||Debt|
|Definition||Any money or service that the company owes to another individual or party.||Similar to liabilities, the term debt also refers to an amount of money that a company owes to another party.|
|How does it arise?||1. Liabilities of a company arise due to its financial obligations that occur while conducting business.|
2. Businesses have to raise funds to buy assets, and liabilities are a result of a business’ fundraising activities.
|1. The debt arises when a company raises funds by borrowing from another party. This debt is to be paid back at a future date, along with an interest amount.|
2. Hence, debt can also be defined as a type of liability. Many companies raise debt for financing large purchases.
|Where are they recorded on a balance sheetRecorded On A Balance SheetA balance sheet is one of the financial statements of a company that presents the shareholders' equity, liabilities, and assets of the company at a specific point in time. It is based on the accounting equation that states that the sum of the total liabilities and the owner's capital equals the total assets of the company.?||Liabilities are recorded on the right-hand side of the balance sheet and include various elements under it. They are future obligations on the part of the company that will be settled through transfer money, goods, and/or services.||Debt is a type of liability. Hence, it is also recorded on the right-hand side of the balance sheet.|
|Sub-categories||In the balance sheet of a company, liability appears under two sub-categories, namely, current liabilitiesCurrent LiabilitiesCurrent Liabilities are the payables which are likely to settled within twelve months of reporting. They're usually salaries payable, expense payable, short term loans etc. or short term liabilities and non-current or long term liabilities.||Similarly, there is short term debtTerm DebtLong-term debt is the debt taken by the company that gets due or is payable after one year on the date of the balance sheet. It is recorded on the liabilities side of the company's balance sheet as the non-current liability. (which shows under short term liabilities) and long term debt (shows under long term liabilities).|
|Ratios||Liquidity ratios help us measure the ability of the company to pay its short term as well as long term obligations.||Leverage ratiosLeverage RatiosDebt-to-equity, debt-to-capital, debt-to-assets, and debt-to-EBITDA are examples of leverage ratios that are used to determine how much debt a company has taken out against its assets or equity. or debt ratiosDebt RatiosThe debt ratio is the division of total debt liabilities to the company's total assets. It represents a company's ability to hold and be in a position to repay the debt if necessary on an urgent basis. Formula = total liabilities/total assets measure the debt levels of the firm. These ratios help assess how much the firm is dependent on debt. It also helps us understand the firm’s ability to meet its financial obligations.|
|Examples||Typical elements under Liabilities in a Balance Sheet Liabilities |
Bank notes payable
Deferred income tax liability
Other non-current liabilities
Current income tax liabilities
Accounts payableAccounts PayableAccounts payable is the amount due by a business to its suppliers or vendors for the purchase of products or services. It is categorized as current liabilities on the balance sheet and must be satisfied within an accounting period.
Accrued and other current liabilities
Unearned revenueUnearned RevenueUnearned revenue is the advance payment received by the firm for goods or services that have yet to be delivered. In other words, it comprises the amount received for the goods delivery that will take place at a future date.
|As an example, let us say Company ABC wants a massive loan of $10 million. Instead of investing shareholder’s equity or selling its stock, it decides to raise funds or capital by issuing a 5-year bond to investors. Here, Company ABC is borrowing money, and hence, these funds constitute as debt, which will have to be paid back to creditors with interest at a due date in the future.|
As explained above, a company can take a loan to raise funds by issuing debt instrumentsIssuing Debt InstrumentsDebt instruments provide finance for the company's growth, investments, and future planning and agree to repay the same within the stipulated time. Long-term instruments include debentures, bonds, GDRs from foreign investors. Short-term instruments include working capital loans, short-term loans.. Similar to any other loan, while issuing debt, the company must keep its assets as collateral. It means that debt issued by the company is a liability for it since the lender has to be paid back at a future date, and the lender also holds a claim over the collateralized assets.
Hence, liability and debt and closely related concepts and may even be used interchangeably. But as discussed above, there are some critical differences between the two. Liabilities are a broader term, and debt is a type of liability. Liabilities arising out of the daily operations of the company, which results in an expense or obligation to be fulfilled in the future. Whereas debt only arises when a company borrows money from another party. These are two essential concepts as investors closely monitor how much debt the company owes and what are the future obligations in the form of liabilities that the company has.
This article has been a guide to Liability vs. Debt. Here we discuss the top differences between Liability vs. Debt along with infographics and comparison table. You may also have a look at the following articles –