VALUATION OF LIABILITIES- ALL YOU NEED TO KNOW
Liabilities are generally valued on the balance sheet at either
1) the amount of money needed to pay debt
2) the FMV of goods or services to be delivered
Valuation of liabilities in auditing
Valuation means estimation of various assets and liabilities .It is the duty of auditor to confirm that assets and liabilities are appearing in the balance sheet exhibiting their proper and correct value
Measurement of liabilities
Like assets, liabilities are originally measured and recorded according to the cost principle .That is, when incurred, the liability is measured and recorded at the current market value of the asset or service received .
Objectives of verification of assets and liabilities
1) to ensure that the assets and liabilities have been shown at their correct value
2) Verification certifies the ownership and the title of the assets shown in balance sheet
3) verification helps in detecting the frauds and errors in the account books of the undertaking
4) certification of the arithmetical accuracy in account books
5) verification certifies the arithmetical accuracy of the account books
6) whether balance sheet exhibits a true and fair financial position of the concern
7) verification helps the auditor to certify the fact whether the balance sheet exhibits a true and fair financial position
Verification and Valuation of Liabilities
1) Capital
The auditor should verify the memorandum of association, articles of association, cash books, pass book and directors minutes book to find out the amount received from shareholders
2) Outstanding Expenses
The auditor should get a certificate from a responsible official to see that all expenses for the current year are included and that the payment for each expenses such as interest, discounts, salaries, wages, legal expenses, which have not been paid are included
3) Creditors
a) the auditor should obtain a schedule of creditors from the client, and check the purchase ledger, credit notes etc
b) certificate should obtained from the responsible official that all the liabilities accrued at the end of the year
4) Bills Payable
The auditor should vouch the bills with the entries in the cash book .
Auditor should reconcile the total of the schedule of bills payable outstanding with the balance in the Bills Payable Account
5) Contingent Liabilities
A contingent liability is possible liability of a presently determinable or indeterminable .
Liabilities which have arisen from past dealings that may not become a legal obligation in the future
Types of Liabilities
1) Current Liabilities
These are short term debts that you have to pay within a year .
It includes employee wages, utilities, supplies and envoices
2) Noncurrent Liabilities
These are long term liabilities, are debts that are not due within a year .
List of your long-term liabilities seperatly on your balance sheet .
These are accured expenses, long-term loans, mortgages and deferred taxes
Contingent Liabilities
1) obligations which arises from future events
2) it is not to record contingent liabilities in the books of account
3) a reference is made to them by way of a footnote to the balance sheet
Examples
Guarantees
Pending labour disputes
Key takeaways of Liabilities
1) it is the obligation that a business owes
2) it is financial obligations
3) liabilities does not depreciate
4) Liabilities = Assets – shareholders equity
Advantages of Liabilities
Liability gives important information helpful in analyzing the liquidity and solvency of the organization
It also includes the ability of the organization to repay loans, long-term debt and interests
Disadvantages of Liabilities
High debt can lead to a lower credit rating of companies which in turn can deter investment
Unlike equity, debt holders need to be paid even in bankruptcy
Debt holders can also claim assets on non-payment
Liability
Liabilities are legally binding obligations that are payable to any another person or entity .
Settlement of liability can be accomplished through the transfer of money, goods or services .
A liability is increased in the accounting records with a credit and decreased with debt .
Examples of liabilities
Bank debt
Mortgage debt
Money owed to suppliers
accounts payable
Wages owed
Taxes owed
Liabilities represents a net loss in value
Vehicle is asset but Car loan is liability
Total Liabilities
Total liabilities are the combined debts that an individual or company owes .
Utility bills are also a liability until they are paid .
Cash is asset and not liability
Negative Liability
1) we overpaid the loan, or we paid much more than loan amount
2) there is no opening balance, all loan payments were recorded as debit, and make the balance negative
Low Liabilities
Debt to assets ratios of 0.4 or lower are considered as better
If debt to assets ration is 0.6 or higher, it makes more difficult to borrow money
Business affect due to liability
If liabilities get too large, assets may have to be sold to pay off debts
This can decrease the value of the company
Environmental Liabilities
Environmental liability refers to the potential environmental costs that a buyer incurs when purchasing or leasing an asset .
The liabilities arise when a buyer is conducting due diligence .
The process of due diligence is something which the buyer conducts to confirm the accuracy of sellers claim
Environmental Criminal Liability
Section 268 classifies environmental crimes as a public nuisance .
Section 290 penalizes the offence causing a public nuisance with a fine extending up to Rs 200.
Thus those who act or omit causing injury to others by environmental pollution, then they can be subjected to prosecution
Compiled by
Avinash Kulkarni
Chartered Engineer, Govt Regd Valuer, IBBI Regd Valuer
