Current liabilities: what they are, their types, and how to calculate them



“The three most dreaded words in the English language are: negative cash flow.” — This sharp observation from renowned investor Charlie Munger captures the essence of why understanding current liabilities is vital. These short-term obligations, such as accounts payable, accrued expenses, and short-term loans, directly influence a company’s liquidity and ability to meet financial commitments.

In this article, we delve into the nature of current liabilities, their role in financial analysis, and how managing them wisely can safeguard a business from the dangers of negative cash flow.

What are Current Liabilities?

Current liabilities are the financial obligations your business must pay within the next 12 months (one year) or one operating cycle. Understanding these short-term debts is crucial for managing cash flow, maintaining healthy financial ratios, and making informed business decisions in Saudi Arabia's evolving regulatory environment.

• Common types include accounts payable, accrued expenses, short-term loans, unearned revenue, taxes payable, and the current portion of long-term debt

• A healthy current ratio (current assets divided by current liabilities) typically falls between 1.2 and 2.0, though this varies by industry.
• Recent amendments to IAS 1, effective January 2024, changed how companies classify liabilities with loan covenants in Saudi Arabia

Understanding Current Liabilities in Accounting

Current liabilities form one-half of the working capital equation. This equation determines whether your business has enough liquid resources to cover immediate obligations. When you incur a current liability, you're creating a claim against your company's assets that must be paid in the near term. This differs from equity, which represents ownership stakes rather than debts.

The meaning of liabilities in accounting goes beyond simple debts. A liability exists when your company has had a transaction that creates an expectation for a future payment of cash or economic resources. This might happen when:

• You receive goods before paying for them.
• Employees earn wages before payday.
• Customers prepay for services you haven't yet delivered.

What Makes a Liability "Current"?

The classification depends on timing. According to [International Accounting Standard 1], which governs financial reporting in Saudi Arabia through SOCPA standards, a liability qualifies as current when it meets any of these criteria:

• You expect to settle it during your normal operating cycle.
• You hold it primarily for trading.
• It's due within 12 months after the reporting period.
• You don't have the right to defer settlement for at least 12 months after the reporting period.

The operating cycle concept matters here. Your operating cycle is the time between purchasing inventory (or starting production) and collecting cash from customers. For most businesses, this cycle is shorter than 12 months. But construction companies, real estate developers, and manufacturers of complex machinery often have cycles longer than one year.

Current and Non-Current Liabilities: Key Differences

The line separating the current from non-current liabilities isn't always obvious, especially after recent accounting standard changes.

Non-current liabilities (also called long-term liabilities) extend beyond the 12-month threshold or your operating cycle. These might include:

• Multi-year loans.
• Bonds payable.
• Long-term lease obligations.

This difference matters for financial analysis. When investors and creditors evaluate your business, they immediately calculate your current ratio by dividing current assets by current liabilities. This ratio shows whether you have enough liquid resources to cover immediate obligations.

A current ratio above 1.0 means your current assets exceed current liabilities. Generally, ratios between 1.2 and 2.0 indicate healthy liquidity, though retailers often operate successfully with lower ratios while manufacturers typically maintain higher ones.

The 2024 IAS 1 Amendments: What Changed for Saudi Businesses

Starting January 1, 2024, new rules took effect that changed how companies classify certain liabilities. Previously, you could classify a liability as non-current if you had an "unconditional right" to defer settlement for at least 12 months. This created confusion around what "unconditional" actually meant, particularly for loans with covenants. The revised standard removed the "unconditional" requirement. Now, you simply need to have "the right" to defer settlement, and this right must have substance and exist at the reporting date. Here's where it gets practical: if your loan agreement requires you to maintain certain financial ratios (covenants) and you must comply with these covenants on or before the reporting date, your compliance status directly affects classification.

The Saudi Organization for Chartered and Professional Accountants approved these amendments, recognizing their importance for consistent financial reporting across companies operating in the Kingdom.

Types of Liabilities in Accounting: A Complete Breakdown

Understanding the specific categories of current liabilities helps you identify all obligations when preparing financial statements.

1. Accounts Payable Accounts payable represent amounts you owe suppliers for goods or services received on credit. When you purchase inventory with payment terms of "net 30," you create an accounts payable that appears on your balance sheet until you pay the invoice. For most businesses, accounts payable is the largest current liability. This makes sense because buying on credit is standard practice. Your suppliers basically provide short-term, interest-free financing by allowing you to take possession of goods before paying. Strategically managing accounts payable can improve cash flow. Some companies negotiate longer payment terms (60 or 90 days instead of 30) to preserve cash. However, this needs to be balanced against supplier relationships and potential early-payment discounts.

Also read: Mastering the Difference Between Accounts Payable and Receivable: A Complete Guide for Finance Professionals

2. Accrued Expenses Accrued expenses represent costs you've incurred but have not yet been invoiced or paid for. These differ from accounts payable because you haven't received a bill yet. Common examples include:

• Salaries earned by employees in the current month but paid the following month.
• Utilities used during the period but billed afterward.
• Interest accumulates on loans between payment dates.
• Taxes owed but not yet remitted

The matching principle requires you to record expenses in the period when incurred, regardless of payment timing. If employees work through December 31 but get paid on January 5, you must record a salary accrual on December 31 to properly reflect December's expenses.

3. Short-term Debt Short-term debt includes any borrowing due within 12 months. This category covers:

• Bank loans.
• Lines of credit.
• Commercial paper.
• Notes payable to vendors or other parties.

4. Current Portion of Long-term Debt When you take out a five-year loan with monthly or annual payments, each reporting period requires you to reclassify the portion due within the next 12 months.

5. Unearned Revenue Unearned revenue happens when customers pay before you deliver goods or services. Despite receiving cash, you can't recognize revenue until you fulfill your obligation.

This is particularly common for:

• Subscription services (annual software licenses, gym memberships)
• Advance ticket sales (airlines, events)
• Retainer fees for professional services.
• Gift cards.

Read also about: Accrual Accounting Essentials.

6. Taxes Payable Businesses accumulate various tax obligations that qualify as current liabilities.

• Income tax payable: represents corporate taxes calculated but not yet remitted to the General Authority of Zakat and Tax. In Saudi Arabia, companies must also account for Zakat obligations.
• Sales tax payable: includes VAT collected from customers. Although your business collects this tax, it belongs to the government. You hold it temporarily before remitting it quarterly.
• Payroll taxes: include amounts withheld from employee salaries for GOSI (General Organization for Social Insurance) contributions, plus your employer's portion of these contributions.

7. Dividends Payable When your board of directors declares a dividend, you immediately create a liability to shareholders. The liability remains until you actually distribute the cash.

How to Calculate Current Liabilities

Calculating total current liabilities follows a straightforward process once you identify all components.

Let's work through a practical example.

Common Calculation Mistakes to Avoid

Several errors commonly occur when calculating current liabilities:

• Forgetting to reclassify the current portion of long-term debt leads to understating current liabilities. This happens when accountants focus on the loan's original multi-year term without adjusting for the passage of time.
• Omitting accrued expenses creates another frequent problem. If your December financial statements ignore three weeks of unpaid December salaries because payday falls in January, you've materially understated both expenses and liabilities.
• Misclassifying liabilities with covenant violations has become especially problematic since the 2024 IAS 1 amendments. Some companies continued treating violated covenant debt as long-term, when the standards now clearly require current classification.
• Double-counting items can inflate current liabilities. If you record both an accounts payable and an accrued expense for the same vendor invoice, you've overstated liabilities.

Short-term Liabilities and Working Capital Management

The relationship between current liabilities and current assets defines your working capital position and directly impacts daily operations.

Understanding Working Capital

Working capital equals current assets minus current liabilities. Positive working capital means you have more liquid assets than short-term debts, providing a cushion for operations. The working capital ratio (current assets ÷ current liabilities) expresses this relationship as a single number. While 1.2 to 2.0 is often cited as healthy. The appropriate range varies by industry.

Read Also about: A Complete Overview Of Liabilities And Stockholder Equity.

Days Payable Outstanding: A Key Metric

Days Payable Outstanding (DPO) measures how long you take to pay supplier invoices:

A higher DPO means you're taking longer to pay suppliers, which preserves cash but might strain relationships. Some companies strategically extend DPO to improve cash flow, while others prioritize quick payment to secure early-payment discounts or maintain goodwill.

Many suppliers offer terms like "2/10, net 30," meaning you can take a 2% discount if you pay within 10 days, or pay the full amount within 30 days. The implicit annual interest rate of skipping that discount is approximately 37%, making early payment economically attractive if you have the cash.

The Cash Conversion Cycle

Your cash conversion cycle reveals how efficiently you manage working capital:

A shorter cycle means you convert inventory and receivables to cash quickly while extending payables, improving liquidity.

According to J.P. Morgan's 2024 Working Capital Index, Companies across the S&P 1500 held approximately $707 billion in trapped liquidity due to excess inventory and slow receivable collection. This represented a 40% increase from pre-pandemic levels, putting pressure on current liabilities as companies struggled to generate cash while obligations came due.

Are Liabilities Obligations? Understanding the Legal Nature

The question of whether liabilities are obligations might seem philosophical, but it has practical implications for financial reporting and legal disputes. In accounting terms, a liability represents a present obligation arising from past events, the settlement of which is expected to result in an outflow of economic resources. The obligation can be legal (contractually binding) or constructive (arising from established practices or public commitments).

• Legal obligations are straightforward. When you sign a purchase agreement, loan contract, or employment agreement, you create legal liabilities enforceable in court.
• Constructive obligations arise from past practices even without legal contracts. If your company has a long-standing practice of paying year-end bonuses and employees reasonably expect them, you may need to accrue a bonus liability even without written agreements.

Not all expected future payments qualify as liabilities. A commitment to purchase inventory next year doesn't create a current liability today unless you've received goods or signed a binding contract. Similarly, planned salary increases for next year don't create current liabilities until employees actually work under the new compensation structure.

SOCPA Standards and IFRS Alignment

The Saudi Organization for Chartered and Professional Accountants issues accounting standards closely aligned with International Financial Reporting Standards. Since 2017, listed companies in Saudi Arabia have reported under SOCPA standards converged with full IFRS.

This alignment means Saudi companies classify, measure, and present current liabilities essentially the same way as companies in Europe, Asia, and other IFRS jurisdictions. The 2024 IAS 1 amendments regarding liability classification apply directly to Saudi businesses.

SOCPA actively participated in the standard-setting process, providing feedback to the International Accounting Standards Board on practical application challenges. The final amendments incorporated several suggestions from SOCPA and other national standard-setters.

Zakat and Tax Considerations

Saudi businesses must account for both Zakat and income tax, depending on ownership structure.

• Zakat applies to Saudi and GCC nationals' ownership stakes at 2.5% of the Zakat base. This creates a liability that companies must calculate and record.
• Corporate income tax applies to foreign ownership stakes at 20%. Mixed-ownership companies must carefully allocate profits between Saudi and foreign shareholders to correctly calculate both Zakat and tax obligations.
• VAT was implemented in 2018 at 5% and increased to 15% in 2020, creating substantial current liabilities for businesses. Companies must collect VAT from customers, track input VAT paid on purchases, and remit the net amount quarterly to the Zakat, Tax, and Customs authority.

GOSI and Employment Obligations

The General Organization for Social Insurance requires employer and employee contributions that create current liabilities.

Saudi employees contribute 10% of their monthly salary, while employers contribute 12%. For expatriate employees, only employers contribute, at 2%. These amounts must be withheld from salaries and remitted monthly along with the employer portion.

Accruing for vacation time earned but not taken represents another employment-related liability. If employees have earned vacation days with corresponding pay, the cost of those days becomes a current liability even if no one has scheduled time off yet.

Contingent Liabilities and Uncertain Obligations

Some obligations are uncertain in either existence or amount, requiring special accounting treatment. Contingent liabilities are possible obligations depending on future events outside your control. Common examples include:

• Pending lawsuits.
• Product warranties.
• Environmental remediation costs

• If the liability is probable but you can't estimate the amount, you disclose it in the financial statement notes without recording it on the balance sheet.
• If the liability is only reasonably possible (less than probable), you disclose it in the notes with any available details about potential amounts.
• Remote contingencies generally require no disclosure unless the information would be meaningful to financial statement users.

Practical Industry Examples: How Different Businesses Manage Current Liabilities

Different industries face unique current liability profiles based on their business models.

Retail Operations

Retailers often maintain negative working capital because they collect cash immediately from customers while paying suppliers 30-60 days later. This creates current liabilities exceeding current assets, yet the business model remains sustainable.

Service Businesses

Professional service firms typically have minimal inventory but substantial accounts receivable and accrued compensation.

The large accrued compensation reflects end-of-year bonuses earned but not yet paid. The unearned revenue represents clients who've prepaid for consulting services to be delivered over the next six months.

Construction Companies

Construction businesses often have extended operating cycles and complex current liability structures.

Best Practices For Improving Current Liability Management

Effective current liability management protects your business from liquidity crises and optimizes working capital.

1. Implement Systematic Tracking Establish clear procedures for identifying and recording all current liabilities. This includes coordination between accounting and operations so that purchases, accruals, and obligations are captured immediately. Many Saudi companies have benefited from implementing ERP systems that automatically track payables, accruals, and other liabilities. Cloud-based accounting platforms like Wafeq provide real-time visibility into current obligations, helping businesses avoid surprises.
2. Optimize Payment Timing Strategic management of payment timing can improve cash flow without damaging supplier relationships through negotiating favorable payment terms with major suppliers. Extending payment from 30 to 60 days effectively doubles your use of supplier financing. Balance this against early-payment discounts. If a supplier offers 2/10 net 30 terms, the 2% discount for paying within 10 days often makes economic sense. Then prioritize payments strategically:

• Pay vendors offering discounts first.
• Then those with shorter terms.
• Then, larger suppliers where relationship matters most.

3. Monitor Key Ratios Track your current ratio, quick ratio, and working capital trends monthly rather than only at year-end. The quick ratio (current assets minus inventory, divided by current liabilities) provides a more conservative liquidity measure by excluding inventory, which might not convert to cash quickly.

If your current ratio trends downward from 1.8 to 1.3 to 0.9 over three quarters, investigate before liquidity becomes critical. Ask yourself:

• Are customers paying slower?
• Is inventory accumulating?
• Are unexpected liabilities emerging?

4. Prepare Rolling Cash Flow Forecasts Forecast cash inflows and outflows for the next 13 weeks on a rolling basis, updating weekly. This visibility shows exactly when major current liabilities come due and whether you'll have sufficient cash. If your forecast shows a cash shortage when a SAR 500,000 loan payment comes due, you can arrange a line of credit in advance rather than scrambling at the last minute.

Recent Developments and Emerging Issues

The accounting profession continues evolving in how it addresses current liability classification and reporting.

The Liability Management Exercise Debate

Some companies have used liability management exercises to restructure debt, improving financial ratios without addressing underlying operational problems. These transactions sometimes reclassify current liabilities as long-term through refinancing arrangements.

Recent legal cases, including the 2024 Serta case, have introduced greater scrutiny to these arrangements. Courts and creditors now examine whether restructurings have genuine economic substance or primarily serve to manipulate balance sheet presentation.

Environmental and Social Liabilities

Increasing focus on environmental, social, and governance (ESG) issues is creating new categories of potential liabilities. Companies may need to accrue for:

• Environmental remediation costs.
• Decommissioning obligations.
• Social commitments.

These often involve significant estimation uncertainty and judgment.

Saudi Arabia's Vision 2030 initiatives emphasize sustainability and social responsibility, potentially creating new obligations that must be reflected in financial statements as they become probable and estimable.

Read Also about: Debt-to-Equity Calculation Simply Explained.

Current liabilities play a defining role in shaping a company’s liquidity, solvency, and overall financial stability. From supplier payments to tax obligations, each liability reflects a promise that must be met within a short time frame—making accuracy and control essential. In an era of evolving accounting standards and digital transformation across Saudi Arabia, businesses that actively monitor, classify, and manage these liabilities are better equipped to maintain compliance and ensure sustainable growth.

FAQs about current liabilities

What is the difference between current liabilities and expenses?

Current liabilities represent obligations to make future payments, while expenses represent costs already consumed in operations. An expense becomes a current liability when incurred but not yet paid. For example, December salaries earned by employees are an expense recorded in December's income statement and a current liability (salaries payable) on December 31 if payment occurs in January.

How often should a business calculate its current liabilities?

Businesses should calculate current liabilities at least monthly for internal management purposes and quarterly or annually for external reporting, depending on regulatory requirements. More frequent calculations provide better cash flow visibility and help identify emerging liquidity issues before they become critical.

Can a liability be both current and non-current?

No, a specific liability is classified as either current or non-current based on when it's due. However, a single loan can have portions in both categories. The amount due within 12 months is classified as current (current portion of long-term debt), while the remainder stays non-current until it also comes due within the 12-month window.

What happens if current liabilities exceed current assets?

When current liabilities exceed current assets, the company has negative working capital and a current ratio below 1.0, potentially signaling liquidity problems. However, this isn't always concerning—retailers and some service businesses successfully operate with negative working capital by collecting customer payments before paying suppliers. The key is whether the business model supports this structure.

How do the 2024 IAS 1 amendments affect my Saudi business?

The 2024 amendments changed how you classify liabilities with covenants. If you have loans requiring compliance with financial ratios or other covenants on or before your reporting date, a violation makes the entire debt current even if the lender hasn't demanded payment. You should review all debt agreements with your accountant to ensure proper classification under the new rules.

Are all short-term debts classified as current liabilities?

Generally, yes, but there's an exception. If you have both the intent and demonstrated ability to refinance a short-term obligation on a long-term basis before issuing financial statements. You can document this refinancing; you may classify it as non-current. However, under the 2024 IAS 1 amendments, the criteria for this exception have become stricter.

How do I account for VAT as a current liability?

VAT collected from customers creates a current liability until remitted to the General Authority of Zakat and Tax—record VAT separately from sales revenue, accumulating it in a VAT payable account. When you file your quarterly VAT return and make a payment, reduce both your cash and VAT payable accounts by the amount paid.

What's the difference between accounts payable and accrued expenses?

Accounts payable arise when you receive a vendor invoice for goods or services already received but not yet paid. Accrued expenses represent costs incurred for which you haven't yet received an invoice. Accounts payable are documented by external invoices, while accrued expenses require internal estimates based on expected obligations like earned salaries or consumed utilities.