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ACCA Applied Knowledge · Financial Accounting · Provisions and contingencies

At the reporting date, Kestrel Co is defending a legal claim. Its lawyers advise that it is possible, but not probable, that the company will lose and have to pay damages of $200,000. Which treatment is correct under IAS 37?

Kestrel should disclose a contingent liability in the notes. Because an outflow is only possible and not probable, the recognition criteria for a provision are not met. IAS 37 requires disclosure unless the possibility of outflow is remote, so no liability is recognised in the statement of financial position.

  1. ARecognise a provision of $200,000
  2. BDisclose a contingent liability in the notesCorrect
  3. CRecognise a contingent asset
  4. DMake no disclosure because the outflow is not probable

Explanation

A possible obligation, where an outflow is possible but not probable, is a contingent liability. IAS 37 requires note disclosure unless the chance of outflow is remote. A provision needs a probable outflow, so recognising $200,000 would be wrong.

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