What are Long-Term Liabilities?
Long-term liabilities are financial obligations of a company that are due more than one year in the future. The current portion of long-term debt is listed separately to provide a more accurate view of a company's current liquidity and the company’s ability to pay current liabilities as they become due. Long-term liabilities are also called long-term debt or noncurrent liabilities.
Understanding Long-Term Liabilities
Long-term liabilities are listed in the balance sheet after more current liabilities, in a section that may include debentures, loans, deferred tax liabilities, and pension obligations. Long-term liabilities are obligations not due within the next 12 months or within the company’s operating cycle if it is longer than one year. A company’s operating cycle is the time it takes to turn its inventory into cash.
An exception to the above two options relates to current liabilities being refinanced into long-term liabilities. If the intent to refinance is present and there is evidence that the refinancing has begun, a company may report current liabilities as long-term liabilities because after the refinancing, the obligations are no longer due within 12 months. In addition, a liability that is coming due but has a corresponding long-term investment intended to be used as payment for the debt is reported as a long-term liability. The long-term investment must have sufficient funds to cover the debt.
Examples of Long-Term Liabilities
The long-term portion of a bond payable is reported as a long-term liability. Because a bond typically covers many years, the majority of a bond payable is long term. The present value of a lease payment that extends past one year is a long-term liability. Deferred tax liabilities typically extend to future tax years, in which case they are considered a long-term liability. Mortgages, car payments, or other loans for machinery, equipment, or land are long term, except for the payments to be made in the coming 12 months. The portion due within one year is classified on the balance sheet as a current portion of long-term debt.
How Long-Term Liabilities are Used
Long-term liabilities are a useful tool for management analysis in the application of financial ratios. The current portion of long-term debt is separated out because it needs to be covered by more liquid assets, such as cash. Long-term debt can be covered by various activities such as a company's primary business net income, future investment income, or cash from new debt agreements.
Debt ratios (such as solvency ratios) compare liabilities to assets. The ratios may be modified to compare the total assets to long-term liabilities only. This ratio is called long-term debt to assets. Long-term debt compared to total equity provides insight relating to a company’s financing structure and financial leverage. Long-term debt compared to current liabilities also provides insight regarding the debt structure of an organization.