Question

1. What are the requirements to be met when Accounting for contingencies?

2. Explain the difference in Accounting treatment for loss and gain contingencies?

3. Why is there a difference - refer to relevant Accounting principles.

Answer 1

Solution A:

As per the statement issued by Finance Accounting Standard board, “a contingency is defined as an existing condition, situation, or set of circumstances involving uncertainty as to possible gain or loss to an enterprise that will ultimately be resolved when one or more future events occur or fail to occur”

In simple words, Contingency arises when a situation arises and as on the date we can conclude the outcome is uncertain and which will be resolved in future and may create a possible loss.

As on Balance Sheet date, these are the requirements which should exist while presenting it:

- There should be a situation for recording of contingency. Situation example can be taken as non- collectability of receivables, pending litigations, guarantee given for products

- The risk should be able to be quantified.

If the outcome is certain to enough extent and it can reasonable be quantified, it will be charged to Income statement as provision.

If the outcome is not certain yet to significant extent, it will not be charged due to less certainty and Proper disclosure would be made in Notes/Schedules to Balance Sheet.

Solution B:

• Contingency Gain cannot be recognized in accounts since revenue cannot be realized till the time of realization. Same is not with Contingency losses as explained above.
• While Disclosure will be made in balance sheet for all the contingencies that may result in gain in future. Likelihood of realization should carefully be observed while disclosing.

Solution C:

Conservative approach is the basis of accounting for the purpose of reporting to Investors.

Stakeholders cannot be presented the income statements with contingent gains included since this can be inflated with higher estimation of amount/likelihood. This leaves a room with management to distort the real image.

For all the stakeholders’ safety, conservative approach asks accountant to be conservative while recognizing any probable expense which is contingency based and to be less conservative for recording gain.