Indirect liability definition
/What is an Indirect Liability?
An indirect liability is a potential obligation that may arise under certain circumstances. It exists when the entity is a secondary obligor on a liability, where another party is the primary obligor. The entity will only be liable if the primary obligor fails in its payment obligation. A secondary liability can also exist when an event may occur in the future that will trigger an obligation, such as an unfavorable outcome to a lawsuit.
Characteristics of an Indirect Liability
The key characteristics of an indirect liability are as follows:
Contingent in nature. Indirect liabilities depend on the occurrence of a specific event or condition, such as a default or failure by the primary obligor.
No primary responsibility. The liability arises as a secondary or backup obligation, where the individual or entity is not primarily responsible for repayment.
Potential but not certain. The liability may not materialize and is often recorded as a contingent liability in financial statements until it becomes probable and measurable.
Subject to disclosure. Indirect liabilities are often disclosed in the notes section of financial statements if the probability of occurrence is low but still material enough to inform stakeholders.
Subject to risk management. Businesses and individuals must assess the risks associated with indirect liabilities and may take measures like insurance or collateral arrangements.
Related AccountingTools Courses
Example of an Indirect Liability
A field service technician for a major clothes dryer manufacturer is called out to a customer location, where he repairs the indicated clothes dryer, but also causes an electrical fire that burns down the customer’s home. The customer elects to sue for damages. In this situation, the field service technician is directly liable, because he caused the fire. In addition, the clothes dryer manufacturer can also be held indirectly liable, because it employs the technician, and the technician was performing his job duties when the accident occurred.