Question

The two basic requirements for the accrual of a loss contingency are supported by several basic concepts of accounting. Three of these concepts are the period of time assumption, the recognition principle, and the qualitative characteristic of verifiability.

Required: Discuss how the two basic requirements for the accrual of a loss contingency relate to the three concepts mentioned above.

Answer 1

contingency relate to the three concepts mentioned above.The two basic requirements for the accrual of a loss contingency are thechances of suFering a loss and making a reasonable estimate.Time:As it relates to time the two requirements, the company would needto account for/disclose the accrual in the period it relates to.If the companycan reasonably estimate the amount of the loss, adjusting entries wouldneed to be made at year end in order for it to be re±ected in the balancesheet and income statement.Measurement:The Measurement concept works to accurately record anitem with the most relevant valuation tool, which for current liabilities is thepresent value of the required future payments: The second requirement For the accrual oF a loss contingency states that the amountoF the loss must be reasonably estimable.The concept oF measurement requires thatthe event must be quantifable in terms oF a standard unit oF measure (dollars).In thecase oF a loss contingency related to the period covered in the current fnancialstatements, the exact timing and magnitude oF the loss may not be known in advance,but based on past experience or other methods oF analysis, a reasonable estimate oFthe loss contingency can be made.In making the estimate, the probability that areasonable amount will be determined statistically is enhanced by a large populationoF accounts From which the probable loss will occur (law oF large numbers).Also related to the reasonable estimation oF the probable Future loss, the concept oFobjectivity requires that the estimate be supported by quantitative data.The basis Forthe estimate must yield essentially the same estimate when computed by di±erentindividuals using the available supporting data.The concept oF objectivity issupportive oF the contention that Future events will confrm the occurrence oF a loss atthe date oF the fnancial statements.OF course the loss must be probable as well asestimable and justifed in light oF Future events.