Liability

Definition of "Liability"

Written by

Dan Stutzman

K Company Realty

A financial obligation comes in several ways. In general terms, the meaning of liability refers to the amount of money an individual or company owes to a lender. We define the party holding the liability as the debtor. Thus, liability can be a loan, mortgage, accounts, bonds, amassed expenses, warranties, etc. 

One must always clean up a balance sheet! A financial liability covers the amount payable in dollars (for instance, notes payable) or future services to be rendered (such as contractor services payable.) A debtor can meet the liability through various channels, such as money, services, merchandise, or property sale.

What does liability refer to in real estate?

In terms of real estate, liability defines the financial and insurance risks which owning real estate implies. Real estate liability occurs when the given property is in use, the owner intends to sell or trade it. No wonder real estate liability assessments are essential and valuable for property owners, lenders, and house-hunters too. These evaluations help define environmental liabilities that may emerge at real estate transactions.

Now, let’s look at what sense owning a home is a liability. 

Property means financial liability.

Firstly, it brings financial liability. A house can be pretty costly maintenance-wise. Often, over-improvement occurs. A property owner can spend a fortune on house refurbishment and still end up with less revenue than expected at a house sale. In other words, it can lose more money than it generates.

You can’t access your money invested in real estate conveniently.

Secondly, illiquidity means you can’t turn your property into cash quickly. Instead of keeping your money in a bank account or investing in stocks, accessing your invested capital in real estate isn’t easy. An obvious solution for this predicament is getting an equity line of credit. Still, this doesn’t cover your home’s entire value or your investments. Another option would be applying for a second mortgage. Nevertheless, this procedure is time-consuming and implies costs. Finally, you can sell your property, which can last months depending on local market trends.

You’re legally accountable for accidents on your property.

Thirdly, it generates legal liability. As a landlord, you must have legal coverage or insurance if something terrible happens on your leased property. Your tenant can fall on a slippery floor and sustain injuries, for example. The same formula applies to accidents on your driveway and people falling accidentally in your unsecured swimming pool. You can avert these situations with regular maintenance, proper safety cautions, and, most of all, a comprehensive insurance policy. You can certainly opt for and sign a limited liability company’s policy. 

Liability in accounting

Liability also defines a legal or administrative obligation or risk. You’ll find the term liability in bookkeeping too managed in the balance sheet. Typically, an enterprise can book or register liabilities in opposition to company resources. 

Current vs. non-current liabilities

We call a company’s current liability a financial responsibility or debt that an indebted party must settle within a year. Or, they must account for liability within a normal operating cycle in the case of accounts payable. In contrast with short-term responsibility, we have the long-term (non-current) financial debt that the company must meet in more than a year.

Actual vs. estimated liabilities

Another way to categorize liabilities is actual vs. estimated financial obligations. An actual liability exists and has a stated amount (accounts payable). In the case of an estimated liability, the loaned amount has to be predicted (e.g., estimated tax liability.) 

We speak about contingent liability in the case of a pending lawsuit. Depending on a court’s order, a debtor will have or not have to settle its contingent liability.