Current liabilities and payroll
Current liabilities are obligations due within a year. Payroll creates several of them, from wages owed to taxes withheld.
Current liabilities
Current liabilities are obligations expected to be settled within one year or the operating cycle: accounts payable, short-term notes payable, accrued expenses (wages, interest, utilities), unearned revenues, sales taxes payable, and the current portion of long-term debt. Managing them well is essential for liquidity.
Notes payable and interest
A note payable is a written promise to pay, usually with interest. Interest = principal x annual rate x time (in years). A 10,000-dollar, 6%, 3-month note accrues interest of \(10{,}000 \times 0.06 \times \frac{3}{12} = 150\) dollars. At period end, accrued interest is recorded as an expense and a liability.
Unearned revenue
Unearned revenue, such as gift cards, subscriptions, and advance ticket sales, is a liability until goods or services are delivered. Some gift cards are never redeemed ('breakage'); under current revenue standards, companies estimate breakage and recognise it as revenue in proportion to redemptions.
Payroll basics
Employers pay gross pay (wages or salaries earned) but withhold amounts from employees' pay: federal and state income taxes, Social Security and Medicare taxes (FICA), and voluntary deductions such as retirement contributions and health insurance premiums. Net pay is gross pay minus deductions, the amount employees actually receive.
FICA and employer taxes
In the US, Social Security tax is 6.2% on wages up to an annual wage base (184,500 dollars for 2026), and Medicare tax is 1.45% on all wages, with an additional 0.9% on high earners. Employers match employees' Social Security and Medicare contributions and also pay federal and state unemployment taxes (FUTA and SUTA). Withheld amounts are liabilities until paid to the government.
Recording payroll
A payroll entry debits Wages Expense for gross pay and credits liabilities for each withholding (Federal Income Tax Payable, FICA Taxes Payable, and so on) and Wages Payable (or Cash) for net pay. A second entry records the employer's payroll taxes: debit Payroll Tax Expense, credit the various tax payables.
Contingent liabilities
A contingent liability depends on a future event, such as a lawsuit or product warranty. Under US GAAP, it is recorded if a loss is probable and can be reasonably estimated; disclosed in notes if reasonably possible; and ignored if remote. Warranty liabilities are estimated and recorded when products are sold.
Worked example
An employee earns gross pay of 2,000 dollars. Withholdings: federal income tax 220, Social Security 124 (6.2%), Medicare 29 (1.45%), and retirement 100. Net pay = 2,000 - 473 = 1,527. The employer also records its matching FICA of 153 plus unemployment taxes as payroll tax expense.
Key takeaways
Current liabilities are due within a year, including payables, accrued expenses, unearned revenue, and current debt. Interest = principal x rate x time. Unearned revenue becomes revenue when earned; gift card breakage is estimated. Gross pay minus withholdings equals net pay. FICA includes Social Security (6.2% up to the wage base) and Medicare (1.45%), matched by employers. Withholdings are liabilities until remitted. Contingent liabilities are recorded if probable and estimable.
Flashcard
Due within one year
Check your understanding
An employee's gross pay is 3,000 dollars. What is the employee's Social Security tax at 6.2%?