Question

What is a contingent liability? min 200 words

Answer 1

A contingent liability refers to a liability or a potential loss that may happen in the future depending on the consequence of a particular event. Potential lawsuits, product warranties, and pending investigation are some examples of contingent liability. It is a feasible obligation which may or may not arise depending on how a future event unfolds. A contingent liability is recorded when it can be approximated, or else it should be disclosed. A contingent liability means a potential liability that may take place depending on the result of an unsure later or future event. A contingent liability is recorded in the records if the eventuality is likely to happen and the quantity of the liability can be reasonably roughly calculated. If both the conditions are not met, the liability might be revealed in a footnote on the financial statements or might not be reported at all. If the amount can be calculated, the company sets aside that amount separately to be paid out when the liability arises. Contingent liability not only applies only to companies, but also to the individuals too.

Let us understand the concept of contingent liability with the help of some examples:

1) Individuals contingent liability- If you take an educational loan of Rs 80,00,00 to finance your higher studies from your bank. That particular amount which you have taken can become a contingent liability if you fail to make monthly payments or repay your amount after getting a job. You might have to pay the amount as you have taken the loan from your bank.

2) Companies contingent liability- Any company may be in the central of a legal action and the lawyer believes that, another party has a powerful case which could potentially lead to destruction worth Rs 20 crore.

In this case, the company will reserve that amount as contingent liability on its balance sheet. Conversely, if the lawyer or the legal department thinks that the other party does not have a very strong case in hand. They would instruct the company to not make any supplies of a contingent liability.