Provisions and Contingencies – IAS 37 - Accounts

CA. Amit Daga

Finance Controller CA. CS. CFA. CIFRS.

9017 Points Joined October 2007

Measurement of Onerous Contract

There are number of ways of setting up a provision for an onerous contract. i.e

§ Discounted Gross Cost under a contract

§ Discounted gross costs less the discounted expected benefits

§ Gross costs as a liability

§ A discounted asset for the expected benefits.

A provision for the discounted gross cost without taking account of the expected benefits would overstate the provision and would be overly prudent. On the other hand, grossing up for an asset and liability would be premature when no services or goods has been received under the contract.

IAS 37 says that the unavoidable costs under a contract is the lower of the cost of fulfilling it and any compensation or penalties arising from failure to fulfill it. Net cost is arise after adjusting the benefit amount of contract. Therefore the discounted gross costs less the discounted expected benefit should be provided as a net liability.

CA. Amit Daga

Finance Controller CA. CS. CFA. CIFRS.

9017 Points Joined October 2007

Provisions

The rules in IAS 37 that specify when a provision can be made are summarized in the 5 bullet points. In order for an entity to make provisions :-

§ It must have a present obligation that is more likely than not to arise

§ The obligation must arise from an obligation event that either can be legally enforced or is an undertaking given to third parties from which the entity cannot realistically withdraw.

§ The obligation must not relate to costs that will be incurred in the future as part of the entity’s future operations.

§ It must be more likely than not that the obligation will result in an outflow of economic benefits.

§ It must be possible to make a reliable estimate of obligation

CA. Amit Daga

Finance Controller CA. CS. CFA. CIFRS.

9017 Points Joined October 2007

Warranties

A warranty is often provided in conjunction with the sale of goods. Warranty costs represent additional costs that the seller may have to incur to rectify the defects in, or to replace, the product it has sold. The warranty obligation can arise either through the operation of the law or through a company stated policies. Although warranty contract meets the definition of an insurance contract, they are scoped out of IFRS 4, and are covered within the scope of IAS 37.

When an entity sells a product subject to warranty, it must first determine whether the warranty represents a separable component of the transaction. If an item sold proves to have been defective at the time of sale, the purchase may have the right to require the seller to rectify the defect or replace the faulty item. Such a warranty is considered to be a “standard warranty” that relates to the condition of the item sold at the date of sale. Its is not usually considered separable from the sale of goods.

When the warranty is not a separate element and represent and insignificant part of the sale transaction, generally the full consideration received is recognised as revenue on the sale and the provision is recognised for the expected future cost to be incurred relation to the warranty.

CA. Amit Daga

Finance Controller CA. CS. CFA. CIFRS.

9017 Points Joined October 2007

Environmental Liabilities

IAS 37 requirements mean that provision for environmental liabilities can be recognised only at the time that the entity becomes obliged, legally or constructively, to rectify the environmental damage. Environmental costs can typically be split into the following four categories :

§ Cost incurred at the company’s option

§ Cost required to be incurred because of existing or new legislation

§ Cost that have to be incurred because of environmental damage caused by the company

§ Fines relating to environmental damage

CA. Amit Daga

Finance Controller CA. CS. CFA. CIFRS.

9017 Points Joined October 2007

Waste Electrical and Electronic Equipment IFRIC 6

The European Union’s Directive on Waste Electrical and Electronic Equipment (WE & EE) has given rise to questions about when the liability for the decommissioning of “WE & EE” shall be recognized. IFRIC 6 – “Liabilities arising from participating in a specific market – Waste electrical and electronic equipment”

This Interpretation provides guidance on the recognition of liabilities for waste management under this EU Directive.

IFRIC was asked to determine in the context of the decommissioning of “WE & EE” as to what constitutes the “obligating event” in accordance with IAS 37. Whether

(a) it is “manufacture or sale of the historical household equipment” or

(b) it is “the participation in the market during the measurement period,” or

(c) it is the “incurrence of costs in the performance of waste management activities” and as per the “consensus”

(b) above triggers the “obligating event” under IAS 37 at which point a liability has to be recognized.

CA. Amit Daga

Finance Controller CA. CS. CFA. CIFRS.

9017 Points Joined October 2007

Abandonment and decommissioning costs

This interpretation applies to accounting in the financial statements of a contributor for interests arising from decommissioning funds. As per the “consensus,” the contributor shall recognize its obligation to pay decommissioning costs as a liability and recognize its interest in the fund separately unless the contributor is not liable to pay decommissioning costs even if the fund fails to pay.

Further, if the contributor does not have control, joint control, or significant influence over the fund, the contributor shall recognize the right to receive reimbursement from the fund as a reimbursement in accordance with IAS 37. This reimbursement should be measured at the lower of

§ The amount of decommissioning obligation recognized; and

§ Contributor’s share of FV of the net costs of the fund attributable contributors.

In case a contributor has an obligation to make additional contributions (e.g., in the event of the bankruptcy of another contributor), this obligation is a contingent liability that is within the scope of IAS 37, which shall be disclosed as per disclosure requirements of IAS 37.

CA. Amit Daga

Finance Controller CA. CS. CFA. CIFRS.

9017 Points Joined October 2007

Please discuss on IAS 37

Thanks

Amit Daga

C.A Rohit Gambhir

C.A

275 Points Joined May 2008

One thing regarding IAS 37 I woud like to share with you, In the past, entities used to rationalize a shortfall in a provision based on the premise that for the same time period, there were more than required amounts provided as provisions in other cases. In other words, a shortfall in one provision was justified (and not adjusted) because it was balanced by excess in another provision. This practice would not be possible now since IAS 37 categorically states that a provision should be used for the purpose for which it was initially created or recognized.

Furthermore, IAS 37 also mandates that changes in provisions shall be reviewed at each balance sheet date and the amount of provision should be adjusted accordingly to reflect the current best estimate.

CA. Amit Daga

Finance Controller CA. CS. CFA. CIFRS.

9017 Points Joined October 2007

Thanks rohit for ur valuable comment

C.A Rohit Gambhir

C.A

275 Points Joined May 2008

its okay Amit, we should do something for more discussion on IFRS by other colleagues.

CA. Amit Daga

Finance Controller CA. CS. CFA. CIFRS.

9017 Points Joined October 2007

Yes i am agreed with u

soundharya lakshmi

CA Student

25 Points Joined July 2017

Thank you for such a Comprehensive information sir.

As per IAS 37, Gains from future sale of assets shall not be adjusted against the measurement of Provision even if such assets are related to the provision.

But why the gains shouldn't be adjusted and what it means by adjustment against provision?

yasaswi gomes

My grammar is 💯 good I

7296 Points Joined March 2019

Hello,

The future events- measurement of a provision must only be recognised when there is objective evidence that the sale will occur. Here, possibility of sale not occurring=possibility of sale occurrence. Hence, the revenue standard kicks in reminding us that revenue must be recognised only when a performance obligation is fulfilled and no need for provisioning,

Then, a contingent asset can be recognised if the sales of asset is probable but virtually not certain.

However, you can recognise provisions for sale of asset only after getting into a binding sale agreement.

Now, coming to disposal of non current assets standard IFRS 5, a ‘held for sale ‘ classification is given to assets which are going to be disposed. Once Asset is classified for sale, this asset will be presented separately from other asset and liabilities associated with it will be presented separately from other liabilities. See? No provisioning is required for this standard and no chance of revaluation gains as the asset will be measured at FVLCD and not at revaluation model.