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Corporate Practice bd |
What is Funded-and-Non-funded-liability? with Examples
"Funded liability" and "non-funded liability" are terms used in finance to describe different types of obligations that an entity may have.
Funded Liability:
A funded liability refers to a financial obligation for which the necessary funds or assets are already set aside or earmarked to meet the future payment obligations.
In simpler terms, it means that the entity has already accumulated or invested the required amount of money or assets to fulfill the liability when it becomes due.
Funded liabilities are typically associated with pension funds, insurance companies, and other long-term financial commitments where reserves or investments are set aside to cover future payments.
Example of Funded Liability:
A pension fund has an obligation to pay retirement benefits to its employees. To meet these future pension payments, the pension fund invests contributions from both employees and employers into various assets such as stocks, bonds, and real estate. These investments generate returns over time, and the fund accumulates assets to cover future pension obligations. Therefore, the pension fund's pension liabilities are considered funded liabilities because there are assets set aside to meet these future payment obligations.
Non-Funded Liability:
A non-funded liability, on the other hand, refers to a financial obligation for which the necessary funds or assets have not yet been set aside or accumulated to meet the future payment obligations.
Unlike funded liabilities, non-funded liabilities do not have specific assets or reserves earmarked to cover the future payments.
Non-funded liabilities often require the entity to make future payments out of its current or future income streams, rather than relying on existing reserves or investments.
Example of Non-Funded Liability:
A line of credit provided by a bank to a company is an example of a non-funded liability. When a company obtains a line of credit, it has the ability to borrow funds up to a certain limit, but it does not receive the entire amount upfront. Instead, the company can draw funds from the line of credit as needed. Until the company draws down the funds, the bank does not set aside any specific assets to cover the potential future borrowings. Therefore, the company's unused portion of the line of credit represents a non-funded liability for the bank because it may need to provide the funds in the future if the company decides to draw them down.