TMI BlogProvisions, Contingent Liabilities and Contingent Assets [w.e.f 30-3-2016]X X X X Extracts X X X X X X X X Extracts X X X X ..... is to ensure that appropriate recognition criteria and measurement bases are applied to provisions and contingent liabilities and that sufficient information is disclosed in the notes to the financial statements to enable users to understand their nature, timing and amount. The objective of this Standard is also to lay down appropriate accounting for contingent assets. Scope 1. This Standard should be applied in accounting for provisions and contingent liabilities and in dealing with contingent assets, except: (a) those resulting from financial instruments 9 that are carried at fair value; (b) those resulting from executory contracts, except where the contract is onerous; Explanation : (i) An onerous contract is a contract in which the unavoidable costs of meeting the obligations under the contract exceed the economic benefits expected to be received under it. Thus, for a contract to qualify as an onerous contract, the unavoidable costs of meeting the obligation under the contract should exceed the economic benefits expected to be received under it. The unavoidable costs under a contract reflect the least net cost of exiting from the contract, which is th ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ntext of items such as depreciation, impairment of assets and doubtful debts: these are adjustments to the carrying amounts of assets and are not addressed in this Standard. 8. Other Accounting Standards specify whether expenditures are treated as assets or as expenses. These issues are not addressed in this Standard. Accordingly, this Standard neither prohibits nor requires capitalisation of the costs recognised when a provision is made. 9. This Standard applies to provisions for restructuring (including discontinuing operations). Where a restructuring meets the definition of a discontinuing operation, additional disclosures are required by AS 24, Discontinuing Operations. Definitions 10. The following terms are used in this Standard with the meanings specified: 10.1 A provision is a liability which can be measured only by using a substantial degree of estimation. 10.2 A liability is a present obligation of the enterprise arising from past events, the settlement of which is expected to result in an outflow from the enterprise of resources embodying economic benefits. 10.3 An obligating event is an event that creates an obligation that results in ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... invoiced or formally agreed with the supplier, including amounts due to employees. Although it is sometimes necessary to estimate the amount of accruals, the degree of estimation is generally much less than that for provisions. 13. In this Standard, the term contingent is used for liabilities and assets that are not recognised because their existence will be confirmed only by the occurrence or non-occurrence of one or more uncertain future events not wholly within the control of the enterprise. In addition, the term contingent liability is used for liabilities that do not meet the recognition criteria. Recognition Provisions 14. A provision should be recognised when: (a) an enterprise has a present obligation as a result of a past event; (b) it is probable that an outflow of resources embodying economic benefits will be required to settle the obligation; and (c) a reliable estimate can be made of the amount of the obligation. If these conditions are not met, no provision should be recognised. Present Obligation 15. In almost all cases it will be clear whether a past event has given rise to a present obligation. In rare cases, for ex ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... terprise can avoid the future expenditure by its future actions, for example by changing its method of operation, it has no present obligation for that future expenditure and no provision is recognised. 19. An obligation always involves another party to whom the obligation is owed. It is not necessary, however, to know the identity of the party to whom the obligation is owed - indeed the obligation may be to the public at large. 20. An event that does not give rise to an obligation immediately may do so at a later date, because of changes in the law. For example, when environmental damage is caused there may be no obligation to remedy the consequences. However, the causing of the damage will become an obligating event when a new law requires the existing damage to be rectified. 21. Where details of a proposed new law have yet to be finalised, an obligation arises only when the legislation is virtually certain to be enacted. Differences in circumstances surrounding enactment usually make it impossible to specify a single event that would make the enactment of a law virtually certain. In many cases it will be impossible to be virtually certain of the enactment of a law until ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... The enterprise recognises a provision for the part of the obligation for which an outflow of resources embodying economic benefits is probable, except in the extremely rare circumstances where no reliable estimate can be made (see paragraph 14). 29. Contingent liabilities may develop in a way not initially expected. Therefore, they are assessed continually to determine whether an outflow of resources embodying economic benefits has become probable. If it becomes probable that an outflow of future economic benefits will be required for an item previously dealt with as a contingent liability, a provision is recognised in accordance with paragraph 14 in the financial statements of the period in which the change in probability occurs (except in the extremely rare circumstances where no reliable estimate can be made). Contingent Assets 30. An enterprise should not recognise a contingent asset. 31. Contingent assets usually arise from unplanned or other unexpected events that give rise to the possibility of an inflow of economic benefits to the enterprise. An example is a claim that an enterprise is pursuing through legal processes, where the outcome is uncertain. 32. ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... mount at which a liability is measured. Caution is needed in making judgments under conditions of uncertainty, so that income or assets are not overstated and expenses or liabilities are not understated. However, uncertainty does not justify the creation of excessive provisions or a deliberate overstatement of liabilities. For example, if the projected costs of a particularly adverse outcome are estimated on a prudent basis, that outcome is not then deliberately treated as more probable than is realistically the case. Care is needed to avoid duplicating adjustments for risk and uncertainty with consequent overstatement of a provision. 40. Disclosure of the uncertainties surrounding the amount of the expenditure is made under paragraph 67(b). Future Events 41. Future events that may affect the amount required to settle an obligation should be reflected in the amount of a provision where there is sufficient objective evidence that they will occur. 42. Expected future events may be particularly important in measuring provisions. For example, an enterprise may believe that the cost of cleaning up a site at the end of its life will be reduced by future changes in technol ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... terprise is able to look to another party to pay part or all of the expenditure required to settle a provision (for example, through insurance contracts, indemnity clauses or suppliers warranties). The other party may either reimburse amounts paid by the enterprise or pay the amounts directly. 49. In most cases, the enterprise will remain liable for the whole of the amount in question so that the enterprise would have to settle the full amount if the third party failed to pay for any reason. In this situation, a provision is recognised for the full amount of the liability, and a separate asset for the expected reimbursement is recognised when it is virtually certain that reimbursement will be received if the enterprise settles the liability. 50. In some cases, the enterprise will not be liable for the costs in question if the third party fails to pay. In such a case, the enterprise has no liability for those costs and they are not included in the provision. 51. As noted in paragraph 28, an obligation for which an enterprise is jointly and severally liable is a contingent liability to the extent that it is expected that the obligation will be settled by the other parties. ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... art of a restructuring, the assets of the operation are reviewed for impairment under Accounting Standard (AS) 28, Impairment of Assets. 62. A restructuring provision should include only the direct expenditures arising from the restructuring, which are those that are both: (a) necessarily entailed by the restructuring; and (b) not associated with the ongoing activities of the enterprise. 63. A restructuring provision does not include such costs as: (a) retraining or relocating continuing staff; (b) marketing; or (c) investment in new systems and distribution networks. These expenditures relate to the future conduct of the business and are not liabilities for restructuring at the balance sheet date. Such expenditures are recognised on the same basis as if they arose independently of a restructuring. 64. Identifiable future operating losses up to the date of a restructuring are not included in a provision. 65. As required by paragraph 44, gains on the expected disposal of assets are not taken into account in measuring a restructuring provision, even if the sale of assets is envisaged as part of the restructuring. Disclosure 66. For each cla ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... n the provision and the contingent liability. 71. Where any of the information required by paragraph 68 is not disclosed because it is not practicable to do so, that fact should be stated. 72. In extremely rare cases, disclosure of some or all of the information required by paragraphs 66-70 can be expected to prejudice seriously the position of the enterprise in a dispute with other parties on the subject matter of the provision or contingent liability. In such cases, an enterprise need not disclose the information, but should disclose the general nature of the dispute, together with the fact that, and reason why, the information has not been disclosed. Transitional Provisions 73. All the existing provisions for decommissioning, restoration and similar liabilities (see paragraph 35) should be discounted prospectively, with the corresponding effect to the related item of property, plant and equipment. Illustration A Tables - Provisions, Contingent Liabilities and Reimbursements The purpose of this illustration is to summarise the main requirements of the Accounting Standard. It does not form part of the Accounting Standard and should be read in the c ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... No disclosure is required. The reimbursement is disclosed together with the amount recognised for the reimbursement (paragraph 67(c)). The expected reimbursement is disclosed (paragraph 67(c)). Illustration B Decision Tree The purpose of the decision tree is to summarise the main recognition requirements of the Accounting Standard for provisions and contingent liabilities. The decision tree does not form part of the Accounting Standard and should be read in the context of the full text of the Accounting Standard. Note: in rare cases, it is not clear whether there is a present obligation. In these cases, a past event is deemed to give rise to a present obligation if, taking account of all available evidence, it is more likely than not that a present obligation exists at the balance sheet date (paragraph 15 of the Standard). Illustration C Illustration: Recognition This illustration illustrates the application of the Accounting Standard to assist in clarifying its meaning. It does not form part of the Accounting Standard. All the enterprises in the Illustrations have 31 March year ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... abed. Ninety per cent of the eventual costs relate to the removal of the oil rig and restoration of damage caused by building it, and ten per cent arise through the extraction of oil. At the balance sheet date, the rig has been constructed but no oil has been extracted. Present obligation as a result of a past obligating event - The construction of the oil rig creates an obligation under the terms of the licence to remove the rig and restore the seabed and is thus an obligating event. At the balance sheet date, however, there is no obligation to rectify the damage that will be caused by extraction of the oil. An outflow of resources embodying economic benefits in settlement Probable. Conclusion - A provision is recognised for the best estimate of ninety per cent of the eventual costs that relate to the removal of the oil rig and restoration of damage caused by building it (see paragraph 14). These costs are included as part of the cost of the oil rig. The ten per cent of costs that arise through the extraction of oil are recognised as a liability when the oil is extracted. Illustration 4: Refunds Policy A retail store has a policy of refunding purchases by di ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... enterprise in the financial services sector will need to retrain a large proportion of its administrative and sales work force in order to ensure continued compliance with financial services regulation. At the balance sheet date, no retraining of staff has taken place. Present obligation as a result of a past obligating event - There is no obligation because no obligating event (retraining) has taken place. Conclusion - No provision is recognised (see paragraphs 14 and 16-18). Illustration 7: A Single Guarantee During 2004-05, Enterprise A gives a guarantee of certain borrowings of Enterprise B, whose financial condition at that time is sound. During 2005-06, the financial condition of Enterprise B deteriorates and at 30 September 2005 Enterprise B goes into liquidation. (a) At 31 March 2005 Present obligation as a result of a past obligating event - The obligating event is the giving of the guarantee, which gives rise to an obligation. An outflow of resources embodying economic benefits in settlement No outflow of benefits is probable at 31 March 2005. Conclusion - No provision is recognised (see paragraphs 14 and 22). The guarantee is disclosed ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... to settle the obligation (paragraphs 14-15). Illustration 9A: Refurbishment Costs -No Legislative Requirement A furnace has a lining that needs to be replaced every five years for technical reasons. At the balance sheet date, the lining has been in use for three years. Present obligation as a result of a past obligating event - There is no present obligation. Conclusion - No provision is recognised (see paragraphs 14 and 16-18). The cost of replacing the lining is not recognised because, at the balance sheet date, no obligation to replace the lining exists independently of the company s future actions - even the intention to incur the expenditure depends on the company deciding to continue operating the furnace or to replace the lining. Illustration 9B: Refurbishment Costs -Legislative Requirement An airline is required by law to overhaul its aircraft once every three years. Present obligation as a result of a past obligating event - There is no present obligation. Conclusion - No provision is recognised (see paragraphs 14 and 16-18). The costs of overhauling aircraft are not recognised as a provision for the same reasons as the cost of repla ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... y paragraph 72 where some of the information required is not given because it can be expected to prejudice seriously the position of the enterprise. Illustration 2 Disclosure Exemption An enterprise is involved in a dispute with a competitor, who is alleging that the enterprise has infringed patents and is seeking damages of ₹ 1000 lakhs. The enterprise recognises a provision for its best estimate of the obligation, but discloses none of the information required by paragraphs 66 and 67 of the Standard. The following information is disclosed: Litigation is in process against the company relating to a dispute with a competitor who alleges that the company has infringed patents and is seeking damages of ₹ 1000 lakhs. The information usually required by AS 29, Provisions, Contingent Liabilities and Contingent Assets is not disclosed on the grounds that it can be expected to prejudice the interests of the company. The directors are of the opinion that the claim can be successfully resisted by the company. [Footnotes as per Notification no. 364E dated 30-3-2016] * All paragraphs of this Standard that d ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... financial statements in accordance with AS 21. 6 Accounting Standard (AS) 23, Accounting for Investments in Associates in Consolidated Financial Statements , specifies the requirements relating to accounting for investments in associates in Consolidated Financial Statements. 7 Accounting Standard (AS) 27, Financial Reporting of Interests in Joint Ventures , specifies the requirements relating to accounting for investments in joint ventures. 8 Accounting Standard (AS) 23, Accounting for Investments in Associates in Consolidated Financial Statements , defines the term associate and specifies the requirements relating to accounting for investments in associates in consolidated Financial Statements. 9 For the purpose of this Standard, the term financial instruments shall have the same meaning as in Accounting Standard (AS) 20, Ernings Per Share 10 The interpretation of probable in this Standard as more likely than not does not necessarily apply in other Accounting Standards - - statute, statutory provisions legislation, law, enactment, Acts, Rules, Regulations, Taxation Tax Management India - taxmanagementindia - taxmanagement - taxmanagementindi ..... 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