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1.5 Provisions Basics

Provisions are liabilities with uncertain timing or amounts for future outflows such as warranties or refunds. Provisions must be estimated and meet criteria to be recognized as liabilities on the balance sheet, while contingencies that do not meet criteria are disclosed in footnotes. An example shows a company guaranteeing a loan - initially it is a contingent liability disclosed in footnotes, but becomes a provision if payment becomes probable and can be reliably estimated.

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63 views5 pages

1.5 Provisions Basics

Provisions are liabilities with uncertain timing or amounts for future outflows such as warranties or refunds. Provisions must be estimated and meet criteria to be recognized as liabilities on the balance sheet, while contingencies that do not meet criteria are disclosed in footnotes. An example shows a company guaranteeing a loan - initially it is a contingent liability disclosed in footnotes, but becomes a provision if payment becomes probable and can be reliably estimated.

Uploaded by

kik lee
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© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
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Provisions

Class 1
What are provisions
• A liability with “uncertain timing or amount” with respect to future
outflows
• Examples are warranties and refunds
• Warranties and refunds can be explicit or implicit
• Provisions need to be estimated which is challenging
Difference between provisions and
contingencies

Provisions Contingencies
Triggered by past event Triggered by past event
Can only be a present obligation Can be a present obligation
Cannot be a possible obligation Can be a possible obligation
Should meet the definition criterion of a liability Should meet the definition criterion of a liability
Recognition criterion – is probable and reliably Disclosure criterion – is not probable or is not reliably
measurable measurable
If definition and recognition criteria met then Definition criterion met and disclosure criteria met: so
recognize the provision on the balance sheet disclose in a foot note
Example
• A Inc. stands guarantor for Z Inc.’s loan of $100,000 with Bank One on 15/12/2018.
The loan is a 6 month loan due on 15/6/2019.
• The fiscal year end for A Inc. is 31/12/2018.
• On 31/12/2018 A Inc. has a possible obligation absent any new information.
Disclose the details of guarantee in foot notes in A Inc. annual report
• On 15/6/2019 Z Inc. communicates to Bank One that it cannot pay the loan
• On this event happening, A Inc. has a present obligation.
• If the future outflow is not probable, or the future outflow cannot be reliably
measured then it’s a contingent liability, show details in foot note
• If the future outflow is probable, and the future outflow can be reliably measured
then it’s a provision, recognize on the balance sheet as liability
Example of provision vs. contingent liability

No more obligation

Loan Guarantee Possible Obligation Borrower pays? Yes

Future outflow probable / Present Obligation No


Can be reliably measured?

No
Yes

Provision Contingent liability

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