In the shorthand language of business, the terms "debt" and "liabilities" get thrown around as if they're the same thing. In reality, they're not. The former refers to borrowed money; the latter to an obligation of any kind. All debts are liabilities, but not all liabilities are debts.
Debt Comes From Borrowing
Debt represents money that has been borrowed and must be paid back. The balance owed on a person's mortgage or car loan is debt, as are the balances on student loans and credit cards. Businesses borrow money all the time -- so often and regularly that entire financial markets exist just to provide them with money to borrow. When a company or a government sells bonds to investors, it's simply borrowing money from them. When those bonds mature, the bond issuer has to pay back the money.
Liabilities Are Obligations
The definition of a liability is much broader than that of a debt. A liability is any economic obligation. Debt is a liability, of course: Borrowers are obligated to repay their loans. But liabilities regularly arise from things besides borrowing. For a business, wages earned but not yet paid are also a liability. When employees put in a week's work, the company is obligated to pay those employees for their time. Until it does, those wages are a liability. Outstanding bills to suppliers, known as accounts payable, are a major liability for many businesses. Money itself can represent a liability. Say a customer prepays for a year's worth of some kind of service. When the company accepts the money, it assumes an obligation to perform a year of service. Until it performs that service, the money is "unearned revenue," which is a liability.
On the Balance Sheet
A company's balance sheet has three primary categories: assets, liabilities and equity. The liabilities section includes all obligations of the company, including debts. These are typically divided into "current" liabilities, or those that must be satisfied within a year; and "long-term" liabilities, which are due more than a year in the future. Current liabilities include any debt about to come due, as well as non-debt liabilities such as accounts payable, workers' unpaid wages, unearned revenue and interest on borrowed money that has accrued but has not been paid. Long-term liabilities will usually be debts such as bonds, mortgages and loans.
Neither Is Necessarily "Bad"
The words "debt" and "liability" carry heavy negative connotations, but neither is necessarily bad in itself. Debt allows people to pay for homes, cars and college educations when they need them, rather than having to spend years saving up for them. Similarly, debt helps companies finance growth without having to sell a portion of the company, as well as ride out fluctuations in cash flow. Liabilities are only a problem if a company doesn't have the revenue to pay them. As a company grows and becomes successful, it can and should expect its liabilities to grow:
- Financial Accounting for MBAs, Fourth Edition; Peter Easton, et al
- AccountingCoach: What Is the Difference Between Liability and Debt?
- AccountingTools: Current Liability
- Photodisc/Photodisc/Getty Images