In the following exercise, you are required to review the Basis for Conclusions (BCs) for the standard(s) that provide the accounting guidance for this topic. Because the BCs is generally not included in the codification and thus is not authoritative, it will most likely be necessary for you to research it through review of the pre- codified standards. Appropriate references have been provided to allow you to do so. Pre- codified standards are accessible on the FAS B website or through the American Accounting Association’s Academic Accounting Access program, if your school participates in this program.
Scene 1:
Read IAS 37, paragraphs 10 and 11.
• What makes a provision different from the other types of current liabilities reported on a company’s balance sheet?
Scene 2:
Read ASC 450- 20- 05- 01 and ASC 450- 20- 05- 03.
• How do the definitions of a provision under IFRS and a contingency under U. S. GAAP differ? How do the definitions of provisions and contingencies differ from other liabilities?
• Why is it important that provisions be separately identified in an entity’s financial statements rather than being included with other accrued liabilities?
Scene 3: To determine the proper accounting treatment for contingent liabilities (loss contingencies), both U. S. GAAP and IFRS require management to assess the likelihood that a contingency will be ultimately paid. Both standards provide guidance to assist management when making these decisions. The interpretation of the guidance and the judgment management uses are very important because they determine how a contingent liability will be presented in the financial statements.
ASC 450- 20- 20 provides the following definitions:
Probable: The future event or events are likely to occur.
Reasonably possible: The chance of the future event or events occurring is more than remote but less than likely.
Remote: The chance of the future event or events occurring is slight.
IAS 37, paragraph 23, provides two distinctions:
Probable: The event is more likely than not to occur.
Remote (no definition provided.)
• What probabilities (percentages) would you assign to each category under U. S. GAAP and IFRS?
• Why are probabilities not used in the standards rather than the expressions that are subject to interpretation?
• Do you consider the guidance provided for loss contingencies under U. S. GAAP to be rules based or principles based? Why? Is the guidance under IFRS more principles based than the U. S. GAAP guidance?
Scene 4: Read IAS 37, paragraph 25, and paragraph 59 in the BCs of SFAS No. 5.
• Both of these paragraphs reflect the views of the different boards with respect to estimating loss contingencies. Do you consider one view to be more liberal than another? Why or why not?
Scene 5: • Under which standard would you expect to see more disclosure in the financial statements?
Scene 6: Read SFAS No. 5 BCs, paragraphs 82 through 84 and paragraph IN4 of IAS 37. • Should the concept of “conservatism” be considered when determining whether to recognize a contingency?
• Are the standards at odds with the concept of conservatism because they do not require contingent losses to be recognized unless they are probable and can be reasonably estimated?
• Should the concept of conservatism be a guiding principle as the boards continue to develop accounting standards?