Question

a) List the three categories of contingent liabilities and what the company must disclose or record for each category.

Answer 1

A contingent liability can come in three categories, such are:

1) PROBABLE: This category means that the future event will likely occur. For examlpe the IRS examination is winding down, and because of the volume of tax code and court cases the government has provided to date supporting its position,your client is fairly certain that additional tax will be assessed.

2) REASONABLY POSSIBLE: The chance of the future event is happening is more than remote but less than probable. For example, your audit client is involved in a law suit,but at this point in the proceedings, not enough vidence has been presented in court to rule out judgment for or against the company.

3) REMOTE: The chance of the future event taking place is remote.consider the example of your client selling a faulty product and have a significant warranty claims as a result. If your cclient has isolated the ba product , recalled it, and settled the related warranty claims, chances are slim that it will need to deal with similar warranty issues on that product in the future.

> If a contingent liability is probable and the amount of loss that could be sustained is reasonably estimated, the loss is shown on the financiaal statments by reducing net income and incresing liabilities.

> If the future event is reasonably posssible, or if it's probable but the client can't reasonably estimate the amount of losses, anote is made disclossing the fact in the financial statments.

> If the contingent liability is deemed to be remote, it's neither disclosed in notes to the financial statments nor used to adjust the financial statments.