Accounting Standard - 4 CONTINGENCIES AND EVENTS OCCURRING AFTER THE BALANCE SHEET DATE
Contingency: A contingency is a condition or situation, the ultimate outcome of which, gain or loss, will be known or determined only on the occurrence, or non-occurrence, of one or more uncertain future events.
Accounting Treatment:
If it is likely that a contingency will result in
LOSS: It is prudent to provide for that loss in the financial statements.
PROFIT: Not recognized as revenue (However, when the realization of a gain is virtually certain, then such gain is not a contingency and accounting for the gain is appropriate.)
The estimates of the outcome and of the financial effect of contingencies are determined
- by the judgement of the management
- by review of events occurring after the balance sheet date
- by experience of the enterprise in similar transaction
- by reviewing reports from independent experts.
If estimation cannot be made, disclosure is made of the existence and nature of the contingency.
Provision for contingencies are not made in respect of general or unspecified risks.
The existence and amount of guarantees and obligations arising from discounted bills of exchange are generally disclosed by way of note even though the possibility of loss is remote.
The amount of a contingent loss should be provided for by a charge in the statement of profit and loss if:
(a) it is probable that future events will confirm that, after taking into account any related probable recovery, an asset has been impaired or a liability has been incurred as at the balance sheet date, and
(b) a reasonable estimate of the amount of the resulting loss can be made.
If either of aforesaid two conditions are not met, e.g where a reasonable estimate of the loss is not practicable, the existence of the contingency should be disclosed by way of note unless the possibility of loss is remote.Such disclosure should provide following information:
(a) the nature of the contingency;
(b) the uncertainities which may affect the future outcome;
(c) an estimate of the financial effect, or a statement that such an estimate cannot be made.
Events Occurring after the Balance Sheet Date:
Events occurring after the balance sheet date are those significant events, both favourable and unfavourable, that occur between the balance sheet date and the date on which the financial statements are approved by the Board of Directors in case of a company, and, by the corresponding approving authority in the case of any other entity.
Two types of events can be identified:
Adjusting Event:
Those, which provide further evidence of conditions that, existed at the balance sheet date
Actual adjustments in financial statements are required for adjusting event.
Exceptions:
1] Although, not adjusting event, Proposed dividend are adjusted in books of account.
2] Adjustments are required for the events, which occur after balance sheet date that indicates that fundamental accounting assumption of going concern is no longer, appropriate.
Non-Adjusting Events:
Those, which are indicative of conditions that arose subsequent to the balance sheet date.
No adjustments are required to be made for such events. But, disclosures should be made in the report of the approving authority of those events occurring after the balance sheet date that represent material changes and commitments affecting the financial position of the enterprise. Such disclosure should provide following information.
(a) the nature of the events
(b) an estimate of the financial effect, or a statement that such an estimate cannot be made.