What defines a contingent liability?

A contingent liability is fundamentally characterized as a potential obligation that may arise depending on the outcome of a future event. In accounting, this concept is important because it relates to uncertainties that can affect a company's financial health. For instance, if a company is facing a lawsuit, it may have a contingent liability that would only become an actual liability if the court's decision is unfavorable. This definition aligns with the nature of contingent liabilities as they are not definitive until the specific event occurs, which is why option B is the correct choice.

The other options do not fit the definition. An obligation guaranteed by an external party describes situations where a third party ensures the payment of a debt, which does not reflect the uncertain nature of a contingent liability. A fixed obligation due in the short term refers to liabilities that are definite and scheduled for payment, unlike contingent liabilities, which may or may not materialize. Finally, an obligation that is fully recognized indicates that it is recorded on the balance sheet, whereas contingent liabilities are typically disclosed in the notes of the financial statements until they are confirmed. This clarity emphasizes that the essence of a contingent liability is its dependency on potential future occurrences.