Question

Oscar Ltd has guaranteed the $50,000 bank debt of its major supplier of merchandise. Oscar Ltd's attorneys have concluded that it's possible (less than probable but greater than remote) that the supplier will default on its obligations. You have been retained to advise Oscar Ltd if the $50,000 should be:

1) shown as a liability on its balance sheet,

2) not shown on the balance sheet but disclosed in the notes to the financial statements, or

3) neither shown on the balance sheet nor disclosed in the notes.

Explain your answer, which should not exceed 100 words.

Format your answer by copying and pasting the following bold face into the answer box provided; however, please do not use bold face in your answer itself.

Where should the guarantee be disclosed, if at all?

Explanation of your answer:

Answer 1

Under GAAP, a contingent liability is defined as any potential future loss that depends on a "triggering event" to turn into an actual expense.

There are 3 categories of contingent liabilities: probable, possible, and remote.

Possible contingencies do not have a more-likely-than-not chance of being realized but are not necessarily considered unlikely either. Remote contingencies aren't likely to occur and aren't reasonably possible.

Any probable contingency needs to be reflected in the financial statements—no exceptions. Remote contingencies should never be included. Contingencies that are neither probable nor remote should be disclosed in the footnotes of the financial statements.

So, as in our question the liablitiy is more than remote but less than probable, same should be disclosed in footnotes to the financial statemennts

Correct option: 2) not shown on the balance sheet but disclosed in the notes to the financial statements.

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