Question on Contingent Liability...

My friend Lakshman asks me on G Talk...

Lakshman 

hi Ram

When contingent liability is expected, how this liability is recorded in Books? I am talking in general about Business, not in ERP perspective.. (as I assume, contingent liability can not/ will not be recorded in Sub ledger, called AP)  

Ramaswamy V K 

Hi, There are three scenarios relating to contingent liability and these are handled in three different ways when it comes to reporting. 

If there is a high probability of the Contingent Liability occurring, you will need to pass an accounting entry (Debit Expense A/c and Credit Contingent Liability A/c.)

If the Contingent Liability is Possible, but not Probable, disclose the same as a foot note to the financial statements. 

If the Probability of Contingent Liability is Remote, no action is necessary from perspective of Recording.  

Lakshman 

k, fine... so, if such contingent liability is recorded (either thru AP Invoice or GL Journal), this will increase the Expense in that Acctg period..means, Profitability in that Acctg Period will be less to that extent..but later, this Cont Liability may be written off..may be in next FY..If so, a Profit Portion of Curr Year is moved to next FY..  

is it allowed in Intl Std??  

Ramaswamy V K  

In the next year, a Miscallaneous Income will be recorded in the books. This is a very conservative practice, and I think this is what is recommended in International Standards.  

Lakshman 

k, fine....since I am not a Chartered Account, I have no clue on this..so, asked u since you are an MBA (Fin)  Thanks Ram! I got some clarity on this..  

:-)  

Ramaswamy V K 

You can better discuss with a CA if this is for an exam. This is what I recommend normally and I have not see any objection to this approach.  

Lakshman 

ok..I asked to ensure my understanding is correct, not for exam!  

anyway, will ask my CA friend also...  

and if any addl info, I will update u  

Ramaswamy V K  

OK, tx