IAS 37 Provisions, Contingent Liabilities and Contingent Assets

These disclosures should be considered advance warning of amounts that may later appear as formal liabilities in the financial statements. The information is still of importance to decision makers because future cash payments will be required. However, events have not reached the point where all the characteristics of a liability are present. Thus, extensive information about commitments is included in the notes to financial statements but no amounts are reported on either the income statement or the balance sheet.

Record a contingent liability when it is probable that the loss will occur, and you can reasonably estimate the amount of the loss. If you can only estimate a range of possible amounts, then record that amount in the range that appears to be a better estimate than any other amount; if no amount is better, then record the lowest amount in the range. You should also describe the liability in the footnotes that accompany the financial statements. Contingent liability is a potential obligation that may or may not become an actual liability in the future.

IFRS Accounting

Offices/Missions fill out an excel spreadsheet and submit to

Accounts Division as part of their year-end financial statements packages. Submissions

are centrally reviewed to ensure that information provided is accurate and

cases are appropriately accounted for in the financial statements (e.g. see template

described in section 5.1 below). Provisions should be discounted to the

present value of the outflows required to settle the obligation where the

effect of the time value of money is material. The discount rate will be

based on the opportunity cost which is the rate of return that could have been

earned from investments held in Cash Pools.

When you record a liability in the accounting records, this does not mean that you are also setting aside funds to pay for the liability when it must eventually be paid – recording a contingent liability has no impact on cash flow. For example, assume that a business places an order with a truck company for the purchase of a large truck. The business has made a commitment to pay for this new vehicle but only after it has been delivered. Although cash may be needed in the future, no event (delivery of the truck) has yet created a present obligation. At 31 December 20X1, both cases are deemed to have met the

provisions recognition criteria. As no provision exists in the financial

statements for these two cases, two new provisions should be recognized in the

statement of financial position, for USD 3 million and USD 10 million

respectively.

IAS 27 — Non-cash distributions

In this example, we will examine the

process by which accounting entries for a legal case are derived and entered

into Umoja. The cases that are analyzed here are originally booked through FBS1

T-code and thus are automatically reversed by Umoja in the next reporting

period. Discounting and the unwinding of discounts

are accounting concepts that do not impact the actual cash payments to be made

in the settlement of provisions, but instead reflect the time value of money.

In our case, we make

assumptions about Sierra Sports and build our discussion on the

estimated experiences. Another way to establish the warranty liability could be an

estimation of honored warranties as a percentage of sales. In this

instance, Sierra could estimate warranty claims at 10% of its

soccer goal sales. Pending litigation involves legal claims against the business

that may be resolved at a future point in time. The outcome of the

lawsuit has yet to be determined but could have negative future

impact on the business.

IAS 37 — Provisions, Contingent Liabilities and Contingent Assets

However, if fraud, either purposely or through gross negligence, has occurred, amounts reported in prior years are restated. Contingent gains are only reported to decision makers through disclosure within the notes to the financial statements. There are also cases where there is a possibility that a business may have a liability. You should record a contingent liability if it is probable that a loss will occur, and you can reasonably estimate the amount of the loss.

Adjusting provisions follows the same

process as the recognition of provisions detailed in section 3.1.1 above, with key focus on measurement

of the provisions reported (N), and the entry of changes in measurement into

Umoja (P). Reversing provisions follows the same

process as the recognition of provisions detailed in section 3.1.1 above, with key focus on measurement

of the provisions reported (J) and the entry of changes in measurement into

Umoja (L). Provisions marketplace may be ‘utilized’ in the financial year, meaning that part of the obligation may be

settled in the financial year. This will reduce the value of the provision at

the end of the financial year, although the remaining portion of the obligation

may change in value depending on events. Only relevant expenditure

should be offset against a provision (i.e. only those costs for which

the provision was originally intended can result in the ‘utilization’ of the provision).

What is the debit entry?

It relates to an action taken in Year One but the actual amount is not finalized until Year Two. Amount noted above would be reported by OLA

via provisions reporting template which then would serve as a basis for

provisions note disclosure compilation. And since remaining balance of USD 500,000

is already reflected in the OLA y/e submission (USD 6 million), there is no

need to book an entry of USD 500,000 as noted above. In 20X1 an interim payment of USD 1.5

million was paid and an estimated USD 500,000 remains at the end of the

reporting period (this is still a provision rather than an accrual due to the

uncertainty of amount and timing).

Similarly to contingent

liabilities, there is no Umoja accounting entry for contingent assets –

instead, they are disclosed in the notes to the financial statements. The term contingent liability is used for

liabilities where there is a possible obligation or a present obligation that

may, but probably will not, require an outflow of resources. Such a distinction

is very important as contingent liabilities are not recognized

as liabilities in the statement of

financial position, but disclosed in the notes to the financial statements. If the contingent liability is considered

remote, it is unlikely to occur and may or may not

be estimable. This does not meet the likelihood requirement, and

the possibility of actualization is minimal. In this situation, no

journal entry or note disclosure in financial statements is

necessary.

What Is the Journal Entry for Contingent Liabilities?

Since the

company’s inventory of supply parts (an asset) went down by $2,800,

the reduction is reflected with a credit entry to repair parts

inventory. First, following is the necessary journal entry to

record the expense in 2019. Contingent liabilities are those that are likely to be realized if specific events occur. These liabilities are categorized as being likely to occur and estimable, likely to occur but not estimable, or not likely to occur. Generally accepted accounting principles (GAAP) require contingent liabilities that can be estimated and are more likely to occur to be recorded in a company’s financial statements. IAS 37, Provisions, Contingent Liabilities and Contingent Assets, states that the amount recorded should be the best estimate of the expenditure that would be required to settle the present obligation at the balance sheet date.

Practical application of official accounting standards is not always theoretically pure, especially when the guidelines are nebulous. Unfortunately, this official standard provides little specific detail about what constitutes a probable, reasonably possible, or remote loss. “Probable” is described in Statement Number Five as likely to occur and “remote” is a situation where the chance of occurrence is slight. “Reasonably possible” is defined in vague terms as existing when “the chance of the future event or events occurring is more than remote but less than likely” (paragraph 3). The professional judgment of the accountants and auditors is left to determine the exact placement of the likelihood of losses within these categories. Further details regarding accounting for

contingent liabilities can be found in Corporate Guidance on Events

After the Reporting Date, including required disclosures.