The following is a guest post by Lyle Soloman at Oak View Law Group. Financial Fives assumes no responsibility for this content as it is for education purposes only. Please consult an attorney for legal advice:
Running your own company may be a tricky balancing act. There are other things to consider, like locating a suitable location, having the proper documentation, and developing an efficient strategy to reach your target market. The most crucial thing is to make sure your company is financially viable.
If you're new to a small business, you've created a budget to keep track of your income and expenses. Have you considered your liabilities? Liabilities are debts or other obligations your company owes, such as real estate and equipment.
The balance sheet includes assets and liabilities, which are used to assess a company's financial health. A liability results in debt or poses a risk and is utilized in important ratios to determine your company's financial health. Many small businesses take out loans to repay their obligations and fall into debt.
This article is intended for small business owners to learn about small business liabilities. Read on to understand obligations, assets, and expenses and how they differ. You'll learn about frequent small-business liabilities, which will help you avoid business debt and other financial risks.
What Are Business Liabilities?
The International Financial Reporting Standards (IFRS) stated that business liability is a present obligation of the enterprise deriving from past events and the settlement of which is projected to result in an outflow from the enterprise of resources containing economic benefits.
In other words, company liability is a financial or legal duty or responsibility, such as a payment you owe or a service you owe but have yet to fulfill.
Liabilities are a part of any business; you can't run a business without them!
Types of liabilities for Small Businesses
A company may be free of liabilities if it pays in cash. In today's digital business world, it's hard for a corporation to survive only on money. If the liabilities and cash flow are appropriately managed, these liabilities aren't bad.
There are three types of liabilities for small businesses:
1. Current liabilities
Accounts payable, credit lines, loans, and salaries are examples of current liabilities. A current responsibility needs to be paid within a few months (up to a year).
Because these liabilities must be paid soon, they are continuously monitored to ensure that your cash flow and current liquidity are managed. Your accounting team can help you maintain track of current liabilities, so you always have enough to cover both immediate and upcoming obligations.
Current Liabilities usually referred to as short-term liabilities, are debts or commitments due within one year. You need to keep a close eye on current liabilities to ensure that the company has enough liquidity in current assets to pay off any existing debts or obligations.
Current liabilities are accounts payable, interest payable, income taxes payable, bills payable, short-term loans, bank account overdrafts, and accumulated expenses.
2. Long-Term Liabilities
Certain liabilities necessitate regular payments over a long period, such as large equipment purchases, mortgages, and bonds. Long-term obligations have an impact on a company's future solvency. For example, urgent funding can be secured through equipment or real estate finance.
These financial obligations must eventually be fulfilled, which implies that a company could face significant financial problems if cash isn't available when these long-term liabilities are due. These are debts or responsibilities owed to your vendors that are due in more than a year.
Small businesses frequently take on long-term debt to obtain quick funding. Therefore, whether you're signing a new lease or purchasing a new computer, you should always watch the maturity or time your long-term liabilities will be due.
Long-term liabilities are also crucial in establishing the long-term viability of your company. No small business owner wants to find themselves unable to meet their long-term obligations.
3. Contingent Liabilities
Certain costs must only be paid if specific outcomes are met; these liabilities are contingent. The result of litigation or legal proceeding is when liability is contingent on a future event.
If the result is not in your favor at the end of the legal process, you may have a responsibility that must be paid. Contingent liabilities are only recorded in the books if the amount is a fair estimate and there is a significant possibility that the liability will be met in the future.
List of common small business liabilities
Any financial commitment that your company has is referred to as a liability.
The following are some of the most typical business obligations for which an owner may be held personally liable:
Employee injury due to lack of safety training or neglect of safety regulations
Injury caused by a defective product
Violation of wage laws
Loans, mortgages, any debt
Income taxes payable
Employee wages
Personal injuries happen on the business property
False advertising
Leaking customer or employee data
How can you calculate your business liabilities?
Examining how you pay for anything for your organization is a straightforward method of understanding corporate responsibilities. You can pay with cash from your bank account or take out a loan. Borrowing, including using a credit card, generates an obligation. Your balance sheet, a financial statement that shows how your business is doing after an accounting period, will show all of your liabilities.
Liabilities can be paid off over time by transferring money, products, or services. To calculate your total obligations, make a list of your debts and add them up.
You can also check if your books are balanced using a simple accounting technique. Calculate (liabilities + equity = assets) to do so. Your total liabilities plus total equity must match the number of total assets to be balanced.
Why should you consider Liability Insurance?
Aside from keeping you covered in the event of an emergency, having company insurance demonstrates to your consumers that you take your job and their safety very seriously.
You may be legally forced to get insurance in some circumstances, but having insurance gives you a massive advantage over your competitors even if you aren't. Your customers will understand that you've made every effort to secure their safety.
What is covered by business liability insurance?
Liability insurance comes in various forms. It often covers the first four legal obligations stated above: incidents that cause injury to a third party, including injuries, other types of harm (such as reputation or intellectual property), and property damage.
Professional liability insurance is another type of business liability insurance that provides additional coverage for professional errors or carelessness.
What exactly are assets?
Assets are everything a company has, and they're usually listed on the left side of the balance sheet.
Current and fixed assets are the two categories of assets. Accounts receivable and inventory are examples of current assets that can be turned into cash. Fixed assets are physical goods that your organization plans to own for more than a year and have monetary value, such as tools, automobiles, and computer equipment.
How do liabilities get resolved?
Liabilities can be settled over time by transferring economic benefits such as money, products, or services. Suing your company does not guarantee that you will be found guilty, and it's critical to choose a skilled lawyer who can safeguard your commercial and personal interests.
Try to separate your personal and commercial liabilities to establish a separate legal entity for your small business. You own a sole proprietorship or a general partnership by default if you run a business without establishing a legal form.
Even though these are the most fundamental corporate forms, they do not offer legal separation. If your company is sued, you will also be sued. If you are found guilty, a court ruling can be used to seize your personal property, money, and assets.
A limited liability corporation (LLC) is easy to form and run. It offers limited liability, which means you are only accountable for business debts and obligations up to the amount of your investment in the firm. Because an LLC is legally recognized as a separate entity, this is the case.
Your business being sued is the last thing you want to hear. Lawsuits can be costly in effort, reputation, and worry for everyone concerned.
They've also been known to close down several firms. It's critical to do everything you can to reduce your chances of being sued. If you do have a claim, make sure to notify your insurance company as soon as possible.
Early reporting may aid in the speedy resolution of your claim and avoid lengthy legal entanglements that can cost you time, money, and perhaps your reputation. Make sure to keep any records or evidence that could be useful in defending your case or potentially preventing further damage.
Author Bio: Lyle Solomon has extensive legal experience as well as in-depth knowledge and experience in consumer finance and writing. He has been a member of the California State Bar since 2003. He graduated from the University of the Pacific’s McGeorge School of Law in Sacramento, California, in 1998, and currently works for the Oak View Law Group in California as a Principal Attorney.