Liability is an obligation towards another party to pay money, deliver goods or render service. In accounting the liability account will always (most of the time) have credit balance, meaning, when we credit the liability account the liability will be increased and when we debit the liability account it will reduce.
Expenses on the other hand have debit balances, meaning, when we debit the expense account the expense will be increased and when we credit the expense account it will be reduced.
Liabilities are usually classified in current and long term liabilities. There is one more way of liability classification : definitely determinable liability and estimated liability. Definitely determinable liabilities are those for which the amount and timings are known, eg. Accounts Payable, etc. Estimated liability, on the other hand, is something which has uncertainty about the timing and/or amount. Therefore it need to be estimated, eg. income tax payable, warranty payable, etc.
The definitely determinable liabilities get booked when the transactions are passed, eg. bill is entered. However, the estimated liability need to be booked explicitly.
Let's take an example of warranty liability which need to be estimated at the time of sale of product. At the time of the sale of product we should book the warranty expense and warranty liability so that in future if we have to honour the warranty we need not book expense that time.
In QuickBooks to book this expense & liability we will pass a journal entry
- Select + New.
- Select Journal Entry.
- Select the Warranty Expense in the "Account drop down" (Booking expense)
- Enter the amount in the debit column
- Select the Warranty Liability in the next line from "Account drop down" (Booking liability)
- Enter the amount in the credit column
- Enter a memo for this transaction and click "Save" button.
The above steps will create the following journal entry:
Let's say that the product was not returned for warranty claim during the warranty period then we will reverse the above entry by passing the following journal: