How to prepare balance sheet
2.3. Current liabilities on classified balance sheet
Current liabilities are obligations due to be paid or settled within one year or the company's operating cycle, whichever is longer.
Usually current liabilities are settled by using current assets. Therefore, sometimes it is useful to compare current assets and current liabilities to understand if your business will be able to pay your current obligations using your current assets (the difference between the two is called working capital). Current liabilities may include accounts payable, accrued expenses, short-term loans, current portion of long-term debt, and income taxes payable. Let's review current liabilities in greater detail.
Accounts payable are liabilities (obligations) created by buying goods or services on account. In other words, it is your company's promise (and obligation) to pay for purchased goods or service later.
For example, if you purchased merchandise inventory today, and the credit terms state that you need to pay for the inventory next month, then you need to record this obligation as an account payable in your books.
Accrued expenses represent costs incurred but unpaid as of the period end.
Accrued expenses are required under the accrual basis of accounting, which is used for financial reporting purposes. An example of accrued expenses may be a cell phone bill with the billing period running from the 16th of the current month to the 15th of the following month. You will not receive the bill until the middle of the next month; however, you have used the cell phone for 15 days in the current month and, therefore, should recognize cell phone expense for 15 days of the current month by posting an accrued expense.
Short-term loans are notes payable expected to be settled within one year after the balance sheet date.
For example, if your company purchased equipment and issued a note payable to be settled in six months after the balance sheet date, then the amount of the note will be recorded under short-term loans.
Current portion of long-term debt represents the amount of long-term debt that will be paid within one year after the balance sheet date.
For example, some long-term debts (i.e. bank loans) are required to be paid in installments quarterly or semiannually, and then, a balloon payment is made at the maturity date for the remaining balance. The installment payments to be paid within one year after the balance sheet date represent short-term obligations and thus are recorded in the current liabilities under the caption "Current Portion of Long-term Debt" (may be shortened to Current Portion of LT Debt).
Income taxes payable are the amounts of income taxes that your company is obligated to pay to local, state, or federal authorities. These obligations are presented in the current liabilities section because it is usually expected that these balances will be paid within a year after the balance sheet date.
2.4. Non-current liabilities on classified balance sheet
Non-current (long-term) liabilities are other liabilities that are not included into the current liabilities section. Therefore, non-current liabilities are obligations that are not expected to be due (paid) within one year after the balance sheet date. Examples of non-current liabilities are long-term lines of credit and term loans.
A line of credit is an agreement, under which a bank provides your business with loans of money (i.e. up to an approved limit) during a predefined period.
You can take out the amount you need (e.g. via check, ATM, etc.), repay it, and then borrow again. At a point in time you can only have an outstanding balance up to a certain limit. This kind of loans is sometimes called revolving loans. If an outstanding amount is to be repaid within more than a year after the balance sheet date, then the amount is shown under the non-current liabilities on the balance sheet date.
Term loans are loans that are to be paid on a certain date (i.e. maturity date). Again, if the payment date is not within one year after the balance sheet date, then the loan is presented under the non-current liabilities.
As mentioned above, when we talked about current liabilities, any portion of long-term debts (whether it's a line of credit or term loan), which is to be paid within one year after the balance sheet date, must be presented under the current liabilities.
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