Provisions, Contingent Liabilities and Contingent Assets (Ind AS 37): formula sheet

Key formulas

Provision

Provision = liability of uncertain timing or amount

Recognise only if all three recognition conditions are met.

Recognition conditions (paragraph 14)

Present obligation (legal or constructive) from a past event + outflow probable + reliable estimate possible

All three must hold. If any one fails, no provision.

Liability (paragraph 10)

Present obligation from past events + expected outflow of economic benefits

Settlement is expected to result in an outflow of resources.

Obligating event (paragraph 17)

Event leaving no realistic alternative to settlement: enforceable by law, or creates valid expectations (constructive)

The event must be in the past, not a future intention.

Contingent liability

(a) possible obligation, or (b) present obligation not recognised (outflow not probable, or amount not reliably measurable)

It is not recognised as a liability.

Contingent asset

Possible asset confirmed only by uncertain future events not wholly within entity's control

It is a possible asset, not a confirmed one: its existence depends on events outside the entity's control.

Onerous contract

Unavoidable costs of meeting obligations > economic benefits expected

Covered in detail under onerous contracts.

Three conditions for a provision (para 14)

Provision = Present obligation (legal or constructive) from a past event + Probable outflow + Reliable estimate

All three must be met. If not, no provision is recognised.

Meaning of probable (para 23)

Probable = probability of outflow > probability of no outflow

'More likely than not'. This meaning is specific to Ind AS 37.

Disputed present obligation (para 16)

More likely than not that obligation exists → provision (if other criteria met); more likely that no obligation exists → contingent liability (unless outflow remote)

Use all evidence at the reporting date, including expert opinion and events after the reporting period.

Obligating event (para 17)

No realistic alternative to settlement: enforceable by law, or valid expectation created (constructive)

Future expenditure that can be avoided by future action is not a present obligation (para 19).

Class of similar obligations (para 24)

Judge probability of outflow for the class as a whole

Typical for warranties. Provision is recognised if outflow for the class is probable.

Joint and several liability (para 29)

Part expected to be met by others = contingent liability; part with probable outflow for the entity = provision

Provision still needs a reliable estimate.

Review (para 59)

Review each reporting date; reverse if outflow no longer probable

Adjust to the current best estimate.

Expected value

Expected value = Σ (Probability × Outcome amount)

Used for a large population of items. Probabilities must add up to 100%.

Present value of a provision

PV = Expected future outflow ÷ (1 + r)ⁿ

r = pre-tax discount rate, n = number of years until settlement. Use only when the time value is material.

Unwinding of discount

Finance cost for the year = Opening provision × r

Added to the provision each year and charged to profit or loss as a borrowing cost.

Continuous range

Best estimate = (Lower limit + Upper limit) ÷ 2

Only when each point in the range is equally likely.

Single obligation

Best estimate = Most likely outcome

Adjust upward or downward if other possible outcomes are mostly higher or lower.

Asset disposal gains

Expected gains on disposal are ignored in measuring the provision

Recognise such gains only under the relevant Ind AS for that asset.

Provision recognition test

Present obligation from a past event + outflow probable + reliable estimate possible → recognise a provision

All three conditions must be met. If any one fails, you have a contingent liability (or nothing).

Contingent liability treatment

Not recognised; disclose unless the possibility of outflow is remote

Disclose a brief description, an estimate of financial effect, indications of uncertainties and the possibility of any reimbursement, where practicable.

Contingent asset treatment

Not recognised; disclose only if inflow of economic benefits is probable

If no inflow is probable, no disclosure is needed.

Recognition of an asset

Inflow virtually certain → not a contingent asset → recognise the asset

Virtually certain is a much higher bar than probable.

Probability ladder

Virtually certain > Probable (more likely than not) > Possible > Remote

A provision needs a probable outflow, plus a present obligation and a reliable estimate. A contingent liability is disclosed unless the outflow is remote. Contingent asset disclosure needs a probable inflow.

Reassessment

Review provisions, contingent liabilities and contingent assets at each reporting date

Status can change from one category to another between periods.

Reimbursement recognition

Recognise asset only if reimbursement is virtually certain

Show as a separate asset. Do not offset against the provision in the balance sheet.

Cap on reimbursement asset

Reimbursement asset ≤ Provision amount

The asset can never exceed the provision, even if the insurer covers more.

Net expense in profit and loss

Net expense = Provision expense − Reimbursement recognised

Netting is permitted only in the statement of profit and loss.

Review and reversal

Review at each reporting date; reverse if outflow is no longer probable

Reverse through the same statement of profit and loss line where the original charge was made.

Unwinding of discount

Finance cost for period = Opening discounted provision × discount rate

Applies when the provision is discounted. It is shown as borrowing cost.

Use of provision

Use only for the expenditure for which it was originally recognised

Spending on something else must not be charged against the provision.

Onerous contract provision

Provision = Lower of (Cost of fulfilling − Economic benefits expected, Penalty or compensation for exit)

Applies only when the result is a loss. Benefits are not deducted from the penalty, as they are not received on exit. Recognise impairment of assets dedicated to the contract first.

Cost of fulfilling a contract

Incremental costs + Allocation of other costs directly related to the contract

Excludes general overheads not directly related to the contract.

Restructuring obligation test

Detailed formal plan + Valid expectation in those affected (by starting implementation or announcing main features)

Both conditions are needed. Without them, no provision exists.

Restructuring provision amount

Direct expenditure = Necessarily entailed by restructuring AND not associated with ongoing activities

Typical items: employee termination payments, penalties on cancelling contracts. Exclude retraining, relocation, marketing, new systems and future operating losses.

Recognition test

Present obligation from past event + outflow probable + reliable estimate = Provision

If any one fails, do not recognise. Disclose a contingent liability unless outflow is remote.

Expected value (large population)

Provision = Σ (Probability × Cost of outcome)

Use for warranties and refunds where many similar items exist.

Single obligation

Provision = Most likely outcome

Use for one legal case. Adjust upward or downward if other outcomes are mostly higher or lower.

Present value of decommissioning cost

PV = Expected future cost ÷ (1 + r)^n

r is the pre-tax discount rate; n is the number of years to settlement.

Unwinding of discount

Finance cost = Opening provision × r

Charge to profit or loss each year. It increases the provision.

Provision movement note

Closing = Opening + Additions + Unwinding − Utilised − Unused reversed

Required for each class of provision.

Contingent items

Contingent liability: disclose unless remote. Contingent asset: disclose only if inflow probable.

Neither is recognised in the balance sheet.

Quick revision

• All provisions are uncertain in timing or amount, but a provision is recognised and a contingent liability is not.
• A provision needs a present obligation, a probable outflow of economic benefits and a reliable estimate.
• A contingent liability is either a possible obligation or a present obligation that fails the recognition criteria.
• A present obligation fails recognition if the outflow is not probable or the amount cannot be estimated reliably.
• The term contingent covers items whose existence is confirmed only by uncertain future events not wholly within the entity's control.
• Ind AS 37 does not apply to executory contracts unless the contract is onerous.
• If another Standard covers a specific provision, apply that Standard instead. Examples are income taxes, leases and employee benefits.
• Ind AS 37 still applies to onerous contracts with customers, because Ind AS 115 has no specific requirement for them.
• Before setting up a provision for an onerous contract, recognise any impairment loss on assets used in the contract.
• A restructuring provision is recognised only when the general recognition criteria are met.
• Contingent assets are not recognised in the financial statements.
• Disclosures should help users understand the nature, timing and amount of the item.

Common mistakes

• Treating a provision and a liability as unrelated terms. Fix: Remember a provision is a liability of uncertain timing or amount. The difference from a payable or accrual is uncertainty.
• Creating a provision for a future intention, such as a planned repair, without a past event. Fix: Ask what past event creates the obligation. No obligating event means no provision.
• Treating 'probable' as 'almost certain' or 75%+ likely. Fix: In Ind AS 37, probable means more likely than not. Anything above 50% passes the test.
• Creating a provision for future operating costs or planned expenditure, such as fitting new filters. Fix: Ask if the entity can avoid it by its future actions. If yes, there is no present obligation and no provision.
• Using the most likely outcome for a large population of items such as warranties. Fix: For a large population, always compute expected value across all outcomes.
• Adding expected profit on sale of an asset to reduce the provision. Fix: Ind AS 37 ignores expected disposal gains in measuring a provision. Recognise them separately when realised under the relevant standard.
• Recognising a contingent asset because a favourable court judgment looks likely. Fix: Recognise only when the inflow is virtually certain. Probable means disclosure in notes only.
• Disclosing every contingent liability, including remote ones. Fix: Check the remote test first. If outflow is remote, no disclosure is required.
• Netting the reimbursement against the provision on the balance sheet. Fix: Show the provision as a liability and the reimbursement as a separate asset. Netting is allowed only in profit and loss.
• Recognising reimbursement when it is only probable. Fix: A reimbursement needs to be virtually certain. Probable is not enough.

Exam tips

• In MCQs, first look for scope exclusions: Ind AS 19, 12, 115, 116 and depreciation or doubtful debts usually signal the trap.
• When asked to differentiate provision and contingent liability, write the three recognition conditions and say which one fails.
• For constructive obligation answers, quote both parts: past practice, policy or specific statement, and valid expectation of others.
• Always state the treatment at the end: recognise, disclose or no action, so you earn the conclusion mark.
• Keep definitions close to the Standard's wording; examiners award marks for the key phrases such as 'not wholly within the control of the entity'.
• In MCQs, watch for the words 'more likely than not' and 'probable'. Remember they mean over 50%.
• In written answers, name the three conditions and test each one in order. Step marks usually follow this structure.
• When a question mentions future plans, closures or equipment purchases, check whether the entity can avoid the cost. This often decides the answer.