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Concept of provision for expense wrt conservatism principle

Mohit (CA) (755 Points)

30 August 2012

Hi all,

Could anyone explain in simple words the concept of Provision for expense with a simple example witha Journal entry. Also could anyone tell me how conservatism principle is related to this?

Mohit

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Nishant chauhan (student(FINAL)) (106 Points)
Replied 31 August 2012

A provision for expense is setting aside a sum of money for a future expense that is certain to happen, although the extent of which might not be certain at the time. And when i say setting aside a sum of money, it does not mean that you actually take sum cash and put it in a locker, what we do is merely recognise an expense by passing a journal entry. For example it is certain that an entity would have to pay income tax at the end of an year, so a provision is made for the same at an expected amount by passing the following journal entry:-

Profit & Loss A/C Dr. XXXX

To Provision For Income Tax XXXX

Now, the coservatism principle states that we should provide for expenses and losses as soon as possible even if there actual accurence is uncertain. On the other hand we should record incomes and profits only on there occurence. So, according to this view we make provisions for expenses well in advance.