What best defines a liability?

A liability is best defined as a financial obligation owed by an entity. This encompasses any debt or obligation that the entity must settle in the future, typically through the transfer of economic benefits, which can include paying cash, transferring goods, or providing services. Liabilities can arise from various transactions, like borrowing money, purchasing goods or services on credit, or legal obligations.

Understanding liabilities is crucial for analyzing an organization’s financial health, as they indicate what the entity owes to outside parties. This definition distinguishes liabilities from assets, which represent resources owned by an entity, and from investments or loans, which are specific types of financial activities but do not encapsulate the broader concept of a liability.