I Owe How Much?! Liabilities, Accounts Payable, and Travel Agents

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Along the boardwalk in Beaufort, NC

We’ve talked a little about accounting in general.

Remember the definition of accounting?

Accounting is simple a system for tracking and reporting the results and activities of an organization…no more, no less.

We’ve also talked a little about assets.

Remember what an asset is?

An asset is just a thing, a resource. It is something you control – tangible or intangible – that brings value now and in the future.

Cash is an asset.

We talked about something called Accounts Receivable or AR.

AR an asset that represents amounts owed to an organization by others.

In our past example, we used commissions owed to a travel agent by a cruise line.

Often time we accountants talk about something called liabilities when we talk about assets (both assets and liabilities appear on something called a balance sheet, but we’ll get to that later).

What is a liability?

Before defining a liability, let’s think about AR in a slightly different way.

AR is an asset that will bring future benefit. In the case of the commission owed, that benefit will be future positive cash flow. In other words, we will receive money at some point in the future that is represented by the AR amount (in our past example, $1000).

If an asset represents future positive cash flow, then a liability represents future negative cash flow, or an amount that an organization owes.

A liability is an obligation of an organization that will likely result in the transfer of assets to another party. A liability is at its most basic a debt.

A mortgage on a piece of real property is a liability.

A credit card balance is a liability.

For a better example, let’s go back to our cruise line commissions. Here it is directly from my previous post:

You are a travel agent and you book a cruise for a client in April of 2014. That cruise might not sail until February of 2015. Let’s say you did just that, and you earned $1000 commission. That commission may not be payable by the supplier until after the cruise. So, you won’t get paid until sometime after February of 2015.

Between now and then, you will be the proud owner of an asset called AR in the amount of $1,000.

So, this transaction results in an AR of $1,000.

What if you are a hosted travel agent?

You’re brand new to the business and you have a 70/30 commission split with your host agency. Of that $1,000 commission earned, you will need to pay your host agency $300.

That $300 is a liability.

Why?

Because it is an obligation of your organization that will result in a transfer of an asset – cash – to another party: your host agency.

Pretty simply, isn’t it.

What then is an Accounts Payable – or AP for short (just like accounts receivable goes by AR)?

AP is simply a liability that results from relatively common, relatively low-cost, relatively informal transactions. AP is in contrast to other liabilities like Notes Payable, Loans Payable, or Mortgages Payable that represent debt that occurs much less frequently and as a result of more formal arrangements.

As a quick review:

What is a liability?

A liability is an obligation of an organization that will likely result in the transfer of assets to another party. A liability is at its most basic a debt.

What is AP?

A liability that represents an amount owed by an organization that is generally incurred from routine transactions.

And a little deeper review:

What is an asset?

A thing that you control that brings value now and in the future.

What is AR?

An asset that represents an amount owed to you.

And deeper still:

What is accounting?

Accounting is a system for tracking and reporting the results and activities of an organization…no more, no less.

Ok, now just relax and go out and satisfy those liabilities!

The Travelers Guide to Tax Deductions, get it just for signing up!

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