ACCA Advanced Audit and Assurance (AAA) Practice Exam

What is the definition of a liability?

1. A possible obligation with uncertain outcomes

2. An obligation resulting from past events

3. An obligation that is not recognized until settled

4. An obligation solely arising from future events

The correct answer is: An obligation resulting from past events

The correct definition of a liability is that it is an obligation resulting from past events. In accounting terms, a liability represents a present responsibility to pay cash, transfer assets, or provide services to another entity as a result of past transactions or events. This aligns with the fundamental accounting principles that define liabilities as obligations that the entity must settle in the future. This obligation typically arises from transactions such as borrowing funds, purchasing goods on credit, or other obligations that exist because of past events. For instance, if an organization takes out a loan, the obligation to pay back that loan is a liability stemming from the past action of borrowing. In contrast, other options describe concepts that do not accurately define what a liability is. A possible obligation with uncertain outcomes refers more to contingencies rather than established liabilities. An obligation not recognized until settled suggests a lack of recognition prior to settlement, which does not reflect proper accounting recognition principles. Lastly, stating that a liability arises solely from future events misrepresents the nature of liabilities, as they are always connected to prior actions or events that have already occurred.