CFA Level I Exam · Analyzing Balance Sheets

Liabilities, Deferred Items and Provisions on the Balance Sheet

Updated 7 October 2026 · Fact-checked

Liabilities are present obligations from past events that will require an outflow of resources. On the balance sheet you split them into current and non-current, then identify unearned revenue, bonds payable at amortized cost, deferred tax liabilities and provisions. Solve questions by classifying the item, then applying its measurement rule.

Understand Liabilities, Deferred Items and Provisions

A liability is a present obligation arising from a past event, expected to be settled by giving up economic resources. If the obligation is not yet real, it is not a liability. A plan to buy equipment next year is not one.

Under IFRS, a classified balance sheet separates current liabilities (due within the operating cycle or 12 months, or held for trading) from non-current liabilities. Current items include trade payables, accrued liabilities, short-term debt and the current portion of long-term debt. Accrued liabilities are expenses incurred but not yet paid, such as wages or interest.

Unearned revenue arises when you receive cash before delivering the goods or service. It is a liability because you owe delivery. As you perform, you reduce the liability and recognize revenue. Cash up, revenue not yet earned.

Bonds payable are usually reported at amortized cost using the effective interest method. Under IFRS, issue costs reduce the initial carrying amount, and the effective interest rate is recomputed to include them. With issue costs, that effective rate differs from the stated market yield. Without issue costs, the two are the same. After issue, the carrying amount is adjusted for discount or premium amortization. A bond issued at a discount starts below face value and its carrying amount rises toward face value over time. A premium bond falls toward face value. Interest expense equals the beginning carrying amount times the effective interest rate set at issue, not the coupon rate.

Deferred tax liabilities arise when the carrying amount of an asset exceeds its tax base (or a liability's carrying amount is below its tax base), creating taxable temporary differences. Tax paid today is lower, but more tax will be paid later. A provision is a liability of uncertain timing or amount. Under IFRS you recognize it if there is a present obligation, an outflow is probable (more likely than not), and you can estimate it reliably. A contingent liability that fails these tests is disclosed unless the possibility of an outflow is remote, in which case nothing is disclosed.

Key formulas to remember

Bond carrying amount (amortized cost): Ending carrying amount = Beginning carrying amount + Interest expense − Cash coupon paid; Interest expense = beginning carrying amount × effective interest rate at issue per period. Under IFRS, issue costs reduce the initial carrying amount and the effective rate is recomputed to include them. With no issue costs, it equals the market yield at issue.
Deferred tax liability: DTL = (Carrying amount − Tax base) × Tax rate; For an asset with carrying amount above tax base. Use the enacted tax rate expected to apply when the difference reverses.
Unearned revenue roll-forward: Ending unearned revenue = Beginning + Cash received in advance − Revenue recognized; Useful to back out revenue or cash collected.
IFRS provision recognition test: Present obligation + outflow probable + reliable estimate = recognize provision; If any test fails, disclose a contingent liability or nothing if remote.
Current portion of long-term debt: Principal due within 12 months = current liability; The rest stays non-current.

How to solve Liabilities, Deferred Items and Provisions questions

Use this sequence for any liabilities question.

1Identify the item: payable, accrual, unearned revenue, debt, deferred tax or provision.
2Decide if there is a present obligation from a past event. If not, it is not a liability.
3Classify as current or non-current using the 12-month or operating cycle test.
4Pick the measurement rule: amortized cost for bonds, tax base comparison for deferred tax, best estimate for provisions.
5Run the arithmetic: carrying amount times market rate for interest, or difference times tax rate for DTL.
6Check direction: discount bonds rise toward face value, premium bonds fall, unearned revenue falls as revenue is recognized.
7Match your result to the three options and eliminate those with the wrong direction or wrong rate used.

Quickest way: Rate-and-direction shortcut

When to use it: Use when the question asks for interest expense, carrying amount or deferred tax and options are numbers.

For bonds, multiply the opening carrying amount by the market yield, not the coupon.
Compare that expense with the cash coupon. Expense above coupon means the carrying amount rises.
For DTL, multiply only the difference between carrying amount and tax base by the tax rate.
For provisions, ask the three-test question first. If a test fails, the liability amount is zero.
Eliminate options that use the wrong rate or ignore the sign.

Common mistakes in Liabilities, Deferred Items and Provisions

Using the coupon rate to compute interest expense on a bond.
The coupon is the number printed on the bond, so it feels like the rate to use.
Fix: Interest expense is opening carrying amount × market yield at issue. The coupon only sets the cash paid.
Treating unearned revenue as revenue when cash arrives.
Cash received looks like income.
Fix: Record a liability until you deliver. Recognize revenue only as performance happens.
Multiplying the full carrying amount by the tax rate for deferred tax.
Students forget deferred tax relates only to the temporary difference.
Fix: Compute carrying amount minus tax base first, then apply the tax rate.
Recognizing a provision for a possible loss that is not probable.
Confusing any uncertainty with a liability.
Fix: Apply all three IFRS tests. If an outflow is merely possible, disclose a contingent liability only.
Leaving the whole long-term loan in non-current liabilities.
The loan is labelled long-term.
Fix: Move the principal due within 12 months to current liabilities.
Thinking a discount bond's carrying amount falls over time.
Mixing up discount and premium amortization.
Fix: Discount bonds accrete up to face value. Premium bonds decline to face value.

Worked examples

Example 1

A company issues a €1,000,000 face value, 5-year bond with a 4% annual coupon when the market yield is 5%. Proceeds are €956,705. Using the effective interest method, what is the carrying amount after the first year?

Show the solution

Interest expense = 956,705 × 5% = €47,835 (rounded).
Cash coupon = 1,000,000 × 4% = €40,000.
Amortization of discount = 47,835 − 40,000 = €7,835.
Ending carrying amount = 956,705 + 7,835 = €964,540.

Answer: About €964,540. The carrying amount rises toward face value because the bond was issued at a discount.

Example 2

An asset has a carrying amount of $800,000 and a tax base of $500,000. The enacted tax rate is 30%. There are no other differences. What deferred tax balance arises and what is its nature?

Show the solution

Temporary difference = 800,000 − 500,000 = $300,000.
Carrying amount exceeds tax base, so it is a taxable temporary difference.
DTL = 300,000 × 30% = $90,000.

Answer: A deferred tax liability of $90,000, because future taxable income will be higher when the asset's carrying amount is recovered.

Exam tips

Questions are three-option MCQs, so check direction first: discount bonds rise, premium bonds fall. This often removes two options.
Always read whether the stem gives a coupon rate and a market rate. Use the market rate for interest expense.
For provisions, look for the words probable, reliable estimate and present obligation. They signal which test fails.
Stems are IFRS unless they say US GAAP. Note that classification and some provision wording can differ under US GAAP.
On a TI BA II Plus, you can find a bond's issue price with N, I/Y, PMT, FV, then CPT PV. Use the market yield for I/Y.

Practice questions from Analyzing Balance Sheets

Liabilities, Deferred Items and Provisions in other exams

The same ground in other exams, if you are preparing for more than one or want another angle on it.

Liabilities, Deferred Items and Provisions: frequently asked questions

What is the difference between accrued liabilities and unearned revenue?

Accrued liabilities are expenses you have incurred but not yet paid, such as wages. Unearned revenue is cash you received before delivering goods or services. In both cases you owe something, but in one you owe payment and in the other you owe delivery.

How are bonds payable reported on the balance sheet?

Under IFRS they are usually reported at amortized cost using the effective interest method. The initial carrying amount is the issue proceeds net of issue costs, and the effective interest rate is recomputed to include those costs. After that, the carrying amount is adjusted for amortization of any discount or premium and moves toward face value by maturity.

When does a deferred tax liability arise?

It arises when an asset's carrying amount exceeds its tax base, or a liability's carrying amount is below its tax base. This creates a taxable temporary difference. You pay less tax now and more tax later.

What is the difference between a provision and a contingent liability?

A provision is recognized on the balance sheet when there is a present obligation, an outflow is probable and the amount can be estimated reliably. A contingent liability fails one of those tests, so it is not recognized. It is disclosed in the notes unless the possibility of an outflow is remote, in which case nothing is disclosed.