Debt obligations that are due to be paid either within the next 12-month period or the current fiscal year of a business
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What is Short-Term Debt?
Short-term debt is defined as debt obligations that are due to be paid either within the next 12-month period or the current fiscal year of a business. Short-term debts are also referred to as current liabilities. They can be seen in the liabilities portion of a company’s balance sheet.
Short-term debt is contrasted with long-term debt, which refers to debt obligations that are due more than 12 months in the future.
Short-term debt is most commonly discussed in reference to business debt obligations but can also be applied in the context of personal financial obligations.
Summary
- Short-term debt is defined as the portion of a company’s total debts that are due to be paid within either the next 12 months or within the company’s current fiscal year.
- Short-term debt is separated from long-term debt, which consists of debt obligations a company has whose repayment period extends more than 12 months into the future.
- Common examples of short-term debt include accounts payable, current taxes due for payment, short-term loans, salaries, and wages due to employees, and lease payments.
Types of Debt
The debt obligations of a company are commonly divided into two categories – financing debt and operating debt.
Financing debt refers to debt obligations that arise from a company borrowing money to fund the expansion of its business. An example of financing debt may be taking out a large bank loan or issuing bonds to fund a major capital expenditure, such as the construction of a new plant.
Financing debt is typically long-term debt since the amount of debt incurred is usually too large for a company to be able to reasonably repay in full within one year.
Short-term debt more commonly consists of operating debt, incurred during a company’s ordinary business operations.
The most common example of short-term debt is a company’s accounts payable, which is the money it owes to suppliers or providers of services the company uses, and that is usually expected to be paid off within the very near term.
Examples of Short-Term Debt
Short-term debt may exist in several different forms. Some of the most common examples of short-term debt include:
- Accounts Payable – Accounts payable includes all the money a company owes through ordinary credit purchases from suppliers, such as purchases from wholesalers to stock its products. It also includes monthly bills, such as utility bills and office rent.
- Short-Term Loans – A company often needs to take out a short-term loan from a bank or other lending institution to help it bridge a cash flow problem. If a company is having trouble collecting its accounts receivable, that can make it difficult to cover its accounts payable. The company may take out a short-term loan, such as a 90-day note, which is due to be repaid within three months.
- Commercial Paper – Instead of taking out a bank loan, some companies choose to issue commercial paper – unsecured promissory notes that typically come due in nine months or less.
- Lease Payments – It’s common for many companies to lease, rather than purchase, The payments on such leases that are due within the next 12 months are a component of the company’s short-term debt.
- Taxes Due – The tax component of short-term debt includes any local, state, federal, or other types of taxes that a company may owe that are due to be paid within the current year.
- Salaries and Wages – All salaries due to be paid to employees within the current year are also considered part of short-term debt.
- Stock Dividends – If a company has declared, but not yet paid, stock dividends to its shareholders, the dividends are part of the company’s short-term debt.
Assessing a Company’s Debt
Financial analysts typically use several financial metrics to examine a company’s debt liability to determine how financially sound the company is. Two commonly used ratios that focus on a company’s short-term debt obligations are the current ratio and the working capital ratio.
Current ratio is calculated as the company’s current assets divided by its current liabilities. It indicates the company’s ability to meet its short-term debt obligations with relatively liquid assets.
A current ratio of 1.0 indicates that the company’s liquid assets roughly match its current liabilities. A ratio higher than 1.0 indicates that its current assets are more than sufficient to meet its current debt obligations.
Working capital ratio is the sum of current assets minus current liabilities. Any positive number indicates that a company holds excess capital beyond that which is required to pay off its short-term debt.
More Resources
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FAQs
Common examples of short-term debt include accounts payable, current taxes due for payment, short-term loans, salaries, and wages due to employees, and lease payments.
How do I get out of short term debt? ›
How to pay off short-term debt
- Rework your budget. Start by finding extra money in your budget. ...
- Earn extra income. ...
- Categorize your debts. ...
- Choose your payoff strategy. ...
- Reduce other debt. ...
- Keep a record.
short-term debt. a debt financing arrangement for a period of less than one year.
Is short-term debt good or bad? ›
The biggest drawback to short-term loans is that they often do not adequately solve the underlying problems that cause you to need a short-term loan. In fact, with their high interest rates and fees, they often worsen the problem and become a debt trap.
What is short-term debt? ›
Short-term debt is any total debt that must get paid by a company, either within the next 12 months or within the current fiscal year. Some of the most common types of short-term debt include accounts payable, lease payments, wages, income taxes payable, and short-term bank loans.
Which option is a good example of a short-term debt? ›
Some common examples of short-term debt include: Short-term bank loans. These loans often arise when a company sees an immediate need for operating cash. Short-term bank loans are due within a year.
Why is short-term debt good? ›
Short-term debt assists a business in dealing with an emergency situation, according to "How to Get the Financing for Your New Small Business" by Sharon L. Fullen. For example, if a piece of equipment at a manufacturing business fails, short-term debt allows for the replacement of the hardware.
What if I can't pay my debt? ›
If you don't pay the amount due on your debt for several months your creditor will likely write your debt off as a loss, your credit score may take a hit, and you still will owe the debt. In fact, the creditor could sell your debt to a debt collector who can try to get you to pay.
How long do you have to pay back a short-term debt? ›
Short-Term Debt is any financing that will be paid back within the current 12 months. If you've entered a loan in your forecast that will last for 12 months or less, the entire loan is considered short-term debt.
What is an example of short-term debt and long-term debt? ›
Long-term liabilities or debt are those obligations on a company's books that are not due without the next 12 months. Loans for machinery, equipment, or land are examples of long-term liabilities, whereas rent, for example, is a short-term liability that must be paid within the year.
Net debt is in part, calculated by determining the company's total debt. Total debt includes long-term liabilities, such as mortgages and other loans that do not mature for several years, as well as short-term obligations, including loan payments, credit cards, and accounts payable balances.
What is short-term debt interest? ›
Short-term interest rates are the rates at which short-term borrowings are effected between financial institutions or the rate at which short-term government paper is issued or traded in the market. Short-term interest rates are generally averages of daily rates, measured as a percentage.
Why is short-term debt risky? ›
What makes these risky is the amount of the loan plus interest is due in full when you receive your next paycheck. If this amount can't be paid at that time, there are usually late fees that increase with each day of non-payment.
What are the problems with short-term debt? ›
Con: Higher interest rates
A short-term loan is almost always at a higher interest rate than a long-term loan—and often multiple times higher. Be sure to watch out for high interest rates.
Why is short-term debt more risky? ›
Short-Term Financing
Both the increased risks and the lower rates are due to the potential for future interest rate fluctuations. Monthly payment amounts are higher because the loan must be paid back over a short period of time.
What are examples of long and short-term debt? ›
Long-term liabilities or debt are those obligations on a company's books that are not due without the next 12 months. Loans for machinery, equipment, or land are examples of long-term liabilities, whereas rent, for example, is a short-term liability that must be paid within the year.
Is a utility bill a short-term debt? ›
Short-term liabilities are any debts that will be paid within a year. Your utility bill would be considered a short-term liability. Long-term liabilities are debts that will not be paid within a year's time.
Is 12 months short term or long-term? ›
Short-term debt will always be 12 months' worth of a loan until the loan has less than a year left. So, although your payments are being applied to the short-term debt, another month of short-term debt is added back each month. So, the short-term amount appears constant while your long-term amount decreases.
What is considered short term and long-term debt? ›
Short term debt is any debt that is payable within one year. Short-term debt shows up in the current liability section of the balance sheet. Long-term debt is debt that are notes payable in a period of time greater than one year. Long-term debt shows up in the long-term liabilities section of the balance sheet.
