1. This will be disclosed in the notes to the financial statements rather than being recorded as an asset in the statement of financial position. Rey Co estimate that the damage will cost $400,000 to restore. Please visit our global website instead, Can't find your location listed? IAS 19 Employee Benefits. IAS 37 – provisions and contingent liabilities – ACCA Financial Reporting (FR) Group accounting – part 1. To avoid this, the accountant may be tempted to make some provisions for some potential future expenses of $3m, with the impact of making the profit seem lower in the current period. Restructuring costs associated with reorganising divisions provide two issues. Where the effect of the time value of money is material, the amount of a provision should be the present value of the expenditures expected to be required to settle the obligation. ACCA BT F1 MA F2 FA F3 LW F4 Eng PM F5 TX F6 UK FR F7 AA F8 FM F9 SBL SBR INT SBR UK AFM P4 APM P5 ATX P6 UK AAA P7 INT AAA P7 UK. As only $150m has been paid, this amount would be credited to cash, with a $20m provision set up. IFRS 2 Share-based Payment . The unwinding of this discount would be recorded in the statement of profit or loss as a finance cost. IAS® 37 appears to be less popular than other standards because, usually, answers to Financial Reporting (FR) questions required a balanced discussion of whether criteria are met, as opposed to calculating numbers. Again, a description of the event should be recorded in addition to any potential amount related to this. It will not be uncommon to take the $12m, thinking that the worst-case scenario should be provided for. So far, all of the items considered in this article have involved the provision being recorded as a liability with the debit being shown as an expense in the statement of profit or loss. This rule has two parts, first the type of obligation, and second, the requirement for it to come from a past event (something must have already have  happened to create the obligation). As the double entry for a provision is to debit an expense and credit the liability, this would potentially reduce the profit down to $10m. C2. According to IAS 37, 3 criteria are required to be met before a provision can be recognised. IAS 37 defines and specifies the accounting for and disclosure of provisions, contingent liabilities, and contingent assets. Therefore any provision should only include items such as redundancies and closure costs. At 31 December 20X8, the legal advisors of Rey Co now believe that the $10m payment from the court case would be payable in one year. The second type of obligation is one called a constructive obligation. Rey Co has received legal advice that the most likely outcome of the court case from the employee is that they will lose the case and have to pay $10m. In reality a virtually certain inflow is unlikely. The expected cost of minor repairs would be $10k (10% of $100k) and the expected costs of major repairs is $50k (5% of $1m). If the employees have been informed, then an obligation exists and a provision must be made. IAS 37 requires a provision be recognised when all of the following apply: an entity has a present obligation (legal or constructive) as a result of a past event. As soon as an entity is aware that a contract is onerous, the full loss should be provided for as a liability in the statement of financial position. IFRS 11 Joint Arrangements (a) (i) Discuss why the information about the capital of a company is important to investors, setting out the nature of the published information available to investors about a company’s capital. This is where IAS 37 is used to ensure that companies report only those provisions that meet certain criteria. Rey Co has a consistent history of honouring this policy. ACCA CIMA CAT DipIFR Search. In summary, IAS 37 is a key standard for FR candidates. For some ACCA candidates, specific IFRS® standards are more favoured than others. ACCA P2 Provisions, contingent assets and liabilities (IAS 37) Free lectures for the ACCA P2 Corporate Reporting Exams If the time value of money is material, generally if the potential outflow is payable in one year or more, the provision should be discounted to present value initially. Rey Co could delay the work until 20X9, or sell the building. Past experience shows that Rey Co needs to do no repairs on 85% of the goods. Rey Co has a consistent history of honouring this policy. The obligation could be a legal or contractual one, arising from a court case or some kind of contractual arrangement. 10. Here, Rey Co would capitalise the $170m as part of property, plant and equipment. These costsshould exclude any costs associated with any continuing activities. The key here is whether the restructuring has been announced to the affected employees. Rey Co would have to provide for a potential legal case arising from an employee who was injured at work in 20X8 due to faulty equipment. The second issue consideration is which costs should be included within the provision. C2. Group accounting – part 2. Rey Co gives a year’s warranty with all goods sold during the year. Therefore any provision should only include items such as redundancies and closure costs. The table below shows the treatment for an entity depending on the likelihood of an item happening. The table below shows the treatment for an entity depending on the likelihood of an item happening. Over the useful life of the asset, the $170m will be depreciated. They believe there is a 10% chance of having to pay $12m, and a 10% chance of paying nothing. This article will consider the aims of the standard, followed by the key specific criteria which must be met for a provision to be recognised. In summary, IAS 37 is a key standard for FR candidates. more than 50% likely) that the obligation will result in an outflow of … 7:18. Similarly, if Rey Co has to pay to install new safety equipment in the factory in 20X9, there is no present obligation to do this in 20X8, so no provision is required. Therefore there cannot be included in the financial statemets. probable ( >50% ) outflow of resources. IAS 37 stipulates the criteria for provisions, contingent liabilities and contingent assets which must be met in order for a provision to be recognised, so that companies should be prevented from manipulating profits. BPP BUSINESS SCHOOL 3 IAS 37 Provisions and contingencies Constructive obligation • Where, by an established pattern of past practice, published policies or a sufficiently specific current statement the entity has indicated to other parties that it will accept certain responsibilities and • As a result, the entity has created a valid expectation that it will discharge those responsibilities The definition of a provision is key to the standard. with a … Restructuring costs associated with reorganising divisions provide two issues. IAS 37 sets rules for measurement of provisions and discusses several factors to take into account in reaching the best estimate of provision: Risk and uncertainties, Present value, Future events, Expected disposals of assets. IAS 37 stipulates the criteria for provisions, contingent liabilities and contingent assets which must be met in order for a provision to be recognised, so that companies should be prevented from manipulating profits. Over the useful life of the asset, the $170m will be depreciated. This is because there will not be a one-off payment, so Rey Co should calculate the estimate of all of the likely repairs. Then in the next year, the chief accountant could reverse this provision, by debiting the liability and crediting the profit or loss. So far, all of the items considered in this article have involved the provision being recorded as a liability with the debit being shown as an expense in the statement of profit or loss. As part of obtaining permission to construct the platform, Rey Co has a legal obligation to remove the asset at the end of its useful life. By 31 December 20X9, when Rey Co is required to make the payment, the liability should be showing at $10m, not $9.09m. Ongoing costs such as the costs of relocating staff should be excluded from the provision and should instead be expensed as they are incurred. 6:22. Standard also deals with reimbursements of provisions by another party, changes in provisions and use of provisions. Subsequently, the discount on this provision would be unwound over time, to record the provision at the actual amount payable. If the employees have not been informed, then the company could change its mind. review IAS 37 standard's disclosure requirements. However, IAS 37 is often a key standard in FR exams, and candidates must be prepared to wrestle with applying the criteria. There is no specific list of what % likelihood is required for an outflow to be probable. This relates to a potential inflow of economic resources which could come into the entity. The definition of a provision is key to the standard. This is where a company establishes an expectation through an established course of past practice. Past experience shows that Rey Co needs to do no repairs on 85% of the goods. There is no specific list of what % likelihood is required for an outflow to be probable. Rey Co constructed an oil platform in the sea on 1 January 20X8 at a cost of $150m. This quiz will help you cover the theoretical and conceptual aspects of IAS 37 Provisions and Contingencies. In an exam, it is unlikely that there will not be a reliable estimate. Register; Log In; CPD IAS 37 - Provisions, Contingent Liabilities and Assets ... IAS 37 — Provisions, Contingent Liabilities and Assets 4 Steps ondemand_video Determining a Provision 15m 19s playlist_add_check Quiz - Determining a Provision 5 Questions ... ACCA … Rey Co’s legal advisors continue to believe that it is likely that Rey Co will lose the court case against the employee and have to pay out $10m. Future operating losses do not meet the criteria for a provision, as there is no obligation to make these losses. The final criteria required is that there needs to be a probable outflow of economic resources. IAS 37 Provisions, Contingent Liabilities and Contingent Assets outlines the accounting for provisions, together with contingent assets and contingent liabilities. During this training session the participants will obtain a comprehensive understanding of the detailed requirements of these standards. ... 37. It can be seen here that Rey Co could only recognise an asset from a potential inflow if it is virtually certain. In this, Rey Co explains that they always replant trees to counter-balance the environmental damage created by their operations. Read the past DIPIFR question papers on IAS 37 9. IAS 33 Rights Issue. The chief accountant of Rey Co has reviewed the profit to date and realises they are likely to achieve profits of $13m. This is because the event arose in 20X8 which could lead to an obligation. The IASB has initiated a project to replace IAS 37 for three main reasons: 1. Rey Co would have to provide for a potential legal case arising from an employee who was injured at work in 20X8 due to faulty equipment. The accountant knows that if Rey Co  reports a profit of $13m, directors will not get any more of a bonus than if they reported $10m. IAS® 37 appears to be less popular than other standards because, usually, answers to Financial Reporting (FR) questions required a balanced discussion of whether criteria are met, as opposed to calculating numbers. The legal advisors believe that there is an 80% chance that the counter claim against the manufacturer is likely to succeed, and believe that Rey Co would win $8m. In this case, Rey Co would include a provision for the $10m loss in liabilities. The global body for professional accountants, Can't find your location/region listed? Which of the following statements about the requirements of IAS 37 Provisions, contingent liabilities and contingent assets are correct? In this case, Rey Co would provide $10m, being the most likely outcome. the entity has a present obligation. C2. Even if the country has no legal regulations forcing Rey Co to replant trees, Rey Co will have a constructive obligation because it has created an expectation from its publications, practice and history. C3. The final criteria required is that there needs to be a probable outflow of economic resources. IAS 12 Income Taxes. For example, let’s take a fictional company, Rey Co. At the start of the year, Rey Co sets a profit target of $10m for the year ended 31 December 20X8. The obligation needs to have arisen from a past event, rather than simply something which may or may not arise in the future. It will not be uncommon to take the $12m, thinking that the worst-case scenario should be provided for. Acowtancy. This site uses cookies. It can be seen here that Rey Co could only recognise an asset from a potential inflow if it is virtually certain. The key difference is that a contingent asset is only recorded if there is a probable future inflow, rather than a possible one. The key here is whether the restructuring has been announced to the affected employees. FREE Courses Blog. However, it has come to light that Rey Co may have a counter claim against the manufacturer of the machinery. IAS 37 – Example (restructuring) – ACCA Financial Reporting (FR) These costsshould exclude any costs associated with any continuing activities. In addition to this, the expected timing of when the event should be resolved should also be included. Most candidates are able to spot this in exams, identifying the presence of a potential obligation of this type. In the past, these uncertainties may have been exploited by companies trying to ‘smooth profits’ in order to achieve the results they believe that their various stakeholder may want. Onerous contracts are those in which the costs of meeting the contract will exceed any benefits which will flow to the entity from the contract. Future operating losses do not meet the criteria for a provision, as there is no obligation to make these losses. Therefore there cannot be included in the financial statemets. The accountant knows that if Rey Co  reports a profit of $13m, directors will not get any more of a bonus than if they reported $10m. Instead, a description of the event should be given to the users with an estimate of the potential financial effect. Candidates are required to learn the three key criteria for a provision, as they are likely to have to explain these in an exam. A probable outflow simply means that it is more likely than not that the entity will have to pay money out. In this, Rey Co explains that they always replant trees to counter-balance the environmental damage created by their operations. Here, Rey Co would capitalise the $170m as part of property, plant and equipment. On 31 December 20X8, Rey Co should record the provision at $10m/1.10, which is $9.09m. Clearly this is not good for the users of the financial statements, as they would have been manipulated and given a false impression of the performance of the business. A probable outflow simply means that it is more likely than not that the entity will have to pay money out. IAS 37 – Provisions, Contingent Liabilities and Contingent Assets Quiz Free IFRS Quizzes IAS 37 – Provisions, Contingent Liabilities and Contingent Assets Quiz ) , () ) Previous Lesson. For example, in the case of an insurance claim where Rey Co can show they have cover. The unwinding of this discount would be recorded in the statement of profit or loss as a finance cost. The second issue consideration is which costs should be included within the provision. IAS 33 EPS - Number of shares. Ongoing costs such as the costs of relocating staff should be excluded from the provision and should instead be expensed as they are incurred. In other words, if there is no past event, then there is no liability and no provision should be recognized. All subject exam questions. If the time value of money is material, generally if the potential outflow is payable in one year or more, the provision should be discounted to present value initially. According to IAS 37, 3 criteria are required to be met before a provision can be recognised. This will be disclosed in the notes to the financial statements rather than being recorded as an asset in the statement of financial position. The first is to assess whether an obligation exists at the reporting date. Therefore the liability is increased by 10% over the year, giving an increase of $910k which would be recorded in finance costs. IAS 37 Provisions, Contingent Liabilities and Contingent Assets contains requirements on how to measure decommissioning, restoration and similar liabilities. This should be debited to the statement of profit or loss, with a liability of $9.09m recorded. IAS 33 Bonus issue. IAS 37 Provisions, Contingent Liabilities and Contingent Assets – ACCA (FA) lectures Spread the word Please spread the word so more students can benefit from our study materials. These are: These criteria will now be examined in further detail to see how they can be applied in practice. In addition to this, the expected timing of when the event should be resolved should also be included. In addition to this, the discount on the provision will be unwound and the provision increased each year. In this case, Rey Co would provide $10m, being the most likely outcome. Even if the country has no legal regulations forcing Rey Co to replant trees, Rey Co will have a constructive obligation because it has created an expectation from its publications, practice and history. On average, 10% need minor repairs, and 5% need major repairs. As soon as an entity is aware that a contract is onerous, the full loss should be provided for as a liability in the statement of financial position. That is because there is no past event which has created the obligation. As part of obtaining permission to construct the platform, Rey Co has a legal obligation to remove the asset at the end of its useful life. Here, the provision would be measured at $60k. In this case, the provision should be included within the original cost of the asset, as this is directly attributable to the construction of that asset. This quiz is a sample of our larger question bank of 50+ questions on IAS 37. IAS 37 – Measurement (present value) – ACCA Financial Reporting (FR) For example, in the case of an insurance claim where Rey Co can show they have cover. This is because the event arose in 20X8 which could lead to an obligation. The main rule to follow is that if the item is a one-off item, the best estimate will be the most likely outcome. The chief accountant of Rey Co has reviewed the profit to date and realises they are likely to achieve profits of $13m. ACCA F7 Video Lectures 2017 ACCA F7 Video Lectures 2017 Welcome to you all, now… Very Important Examiner Tips for PM, FR, AA and FM Examiner tips for PM PM exam sitters should remember to… Latest ACCA DipIFR Book and Exam Kit 2019 Latest ACCA DipIFR Book and … Rey Co constructed an oil platform in the sea on 1 January 20X8 at a cost of $150m. He also knows that the profit target will be set at $14m in the next year. IAS 37 Provisions, Contingent Liabilities and Contingent Assets. To understand provisions better, let’s break down the definition of a liability in IAS 37: A liability is a present obligation arising from past event that is expected to be settled by an outflow of economic benefits from an entity. Back to Course Next Lesson. The first is to assess whether an obligation exists at the reporting date. ACCA CIMA CPD FIA (ACCA) AAT. Candidates are required to learn the three key criteria for a provision, as they are likely to have to explain these in an exam. 2. Finally, it will examine some specific issues which are often assessed in relation to the standard. The exception to this is if an entity creates an obligation for future costs due to the construction of a non-current asset. Careful attention must also be paid to the calculations involved in the recording of a provision, particularly those around long-term provisions and including them at present value. The changes proposed in ED/2018/2 Onerous Contracts — Cost of Ful­fill­ing a Contract (Proposed amend­ments to IAS 37) 1. specify that the ‘cost of ful­fill­ing’ a contract in paragraph 68 of IAS 37 comprises the ‘costs that relate directly to the contract’; and 2. provide examples of costs that do, and do not, relate directly to a contract to provide goods or services. Written by a member of the Financial Reporting examining team, Virtual classroom support for learning partners, IAS 37 – Provisions, contingent liabilities and contingent assets, There needs to be a present obligation from past event. As only $150m has been paid, this amount would be credited to cash, with a $20m provision set up. Please visit our global website instead. Rey Co has a cost of capital of 10%. Please visit our global website instead. Careful attention must also be paid to the calculations involved in the recording of a provision, particularly those around long-term provisions and including them at present value. IAS 37 Provisions, Contingent Liabilities and Contingent Assets, excludes from its scope contracts which are executory in nature, and therefore prevents the recognition of a liability. In this situation, a contingent liability would be reported. IAS 37 requires an entity to record an obligation as a liability only if it is probable (i.e. In addition to this, the discount on the provision will be unwound and the provision increased each year. This is effectively an attempt to move $3m profit from the current year into the next period. A provision is a liability of uncertain timing or amount, meaning that there is some question over either how much will be paid or when this will be paid. The obligation needs to have arisen from a past event, rather than simply something which may or may not arise in the future. C2. For some ACCA candidates, specific IFRS® standards are more favoured than others. Written by a member of the Financial Reporting examining team, Virtual classroom support for learning partners, IAS 37 – Provisions, contingent liabilities and contingent assets, There needs to be a present obligation from past event. They believe there is a 10% chance of having to pay $12m, and a 10% chance of paying nothing. Therefore the liability is increased by 10% over the year, giving an increase of $910k which would be recorded in finance costs. This is effectively an attempt to move $3m profit from the current year into the next period. Here, the provision would be measured at $60k. During 20X8, Rey Co opened a new factory, leading to some environmental damage. A contingent asset should be disclosed by note if an inflow of economic benefits is probable. Rey Co has a published environmental policy. This obligation has a present value of $20m. This article will consider the aims of the standard, followed by the key specific criteria which must be met for a provision to be recognised. If it appears that there is a possible outflow then no provision is recorded. IAS 27 Separate Financial Statements. Therefore there is no present obligation to incur the costs associated with this. Rey Co has a cost of capital of 10%. The objective of IAS 37 is to ensure that appropriate recognition criteria and measurement bases are applied to provisions, contingent liabilities and contingent assets and that sufficient information is disclosed in the notes to enable users to understand their nature, timing and amount. If candidates are able to do this, then provisions can be an area where they can score highly in the FR exam. Free sign up Sign In. IAS 37 – Provisions, contingent liabilities and contingent assets For some ACCA candidates, specific IFRS® standards are more favoured than others. (8 marks) (a) (i) Importance of information concerning an… The objective of IAS 37 is to ensure that ap­pro­pri­ate recog­ni­tion criteria and mea­sure­ment bases are applied to pro­vi­sions, con­tin­gent li­a­bil­i­ties and con­tin­gent assets and that suf­fi­cient in­for­ma­tion is disclosed in the notes to the financial state­ments to enable … Onerous contracts are those in which the costs of meeting the contract will exceed any benefits which will flow to the entity from the contract. Other candidates may calculate an expected value based on the various probabilities. This is because there will not be a one-off payment, so Rey Co should calculate the estimate of all of the likely repairs. To address inconsistencies with other IFRSs. it is probable that an outflow of resources embodying economic benefits will be required to settle the obligation. The key difference is that a contingent asset is only recorded if there is a probable future inflow, rather than a possible one. That is because there is no past event which has created the obligation. Most candidates are able to spot this in exams, identifying the presence of a potential obligation of this type. C3. This obligation has a present value of $20m. EPS as a performance measure. Note: Your answer should briefly set out the nature of financial capital in integrated reports. Likewise it is unlikely that an entity will be able to avoid recording a liability when there is an obligation by claiming there is no way of producing an estimate of the amount. IAS 37 – Provisions, contingent liabilities and contingent assets For some ACCA candidates, specific IFRS® standards are more favoured than others. If the item is made up of a number of items, such as a warranty provision for repairing goods, the expected value should be calculated using the probability of all events happening. IAS 10 Events After The Reporting Period. The second type of obligation is one called a constructive obligation. Therefore there is no present obligation to incur the costs associated with this. In the past, these uncertainties may have been exploited by companies trying to ‘smooth profits’ in order to achieve the results they believe that their various stakeholder may want. The main rule to follow is that if the item is a one-off item, the best estimate will be the most likely outcome. Similar to the concept of a contingent liability is the concept of a contingent asset. The legal team think there is an 80% chance of this. A provision is a liability of uncertain timing or amount, meaning that there is some question over either how much will be paid or when this will be paid. However, IAS 37 is often a key standard in FR exams, and candidates must be prepared to wrestle with applying the criteria. Then in the next year, the chief accountant could reverse this provision, by debiting the liability and crediting the profit or loss. You are just about to attempt the quiz about the IAS 37 Provisions and Contingencies. If the employees have not been informed, then the company could change its mind. The legal team think there is an 80% chance of this. As the double entry for a provision is to debit an expense and credit the liability, this would potentially reduce the profit down to $10m. IAS 37 Provisions Contingent Liabilities and Contingent Assets Overview. A contingent liability is simply a disclosure note shown in the notes to the accounts. Likewise it is unlikely that an entity will be able to avoid recording a liability when there is an obligation by claiming there is no way of producing an estimate of the amount. If candidates are able to do this, then provisions can be an area where they can score highly in the FR exam. The obligation could be a legal or contractual one, arising from a court case or some kind of contractual arrangement. IAS 37 full text Outlines the accounting for: (IAS 37 definition) Provisions ; is a liability with uncertain timing or amount. There is no double entry recorded in respect of this. This rule has two parts, first the type of obligation, and second, the requirement for it to come from a past event (something must have already have  happened to create the obligation). This is where IAS 37 is used to ensure that companies report only those provisions that meet certain criteria. FREE Courses Blog. If the employees have been informed, then an obligation exists and a provision must be made. There is no double entry recorded in respect of this. This is where a company establishes an expectation through an established course of past practice. Rey Co gives a year’s warranty with all goods sold during the year. During 20X8, Rey Co opened a new factory, leading to some environmental damage. Please visit our global website instead, Can't find your location listed? Rey Co’s manufacturing manager has calculated that if minor repairs were needed on all goods it would cost $100,000, and major repairs on all goods would cost $1m. Additionally, there is no onerous contract in this scenario. If it appears that there is a possible outflow then no provision is recorded. He also knows that the profit target will be set at $14m in the next year. Rey Co could delay the work until 20X9, or sell the building. IFRS 3 Business Combinations . IAS 37 Provisions, Contingent Liabilities and Contingent Assets 2017 - 07 5 In the Notes to the financial statement: (d) Unless the possibility of any outflow in settlement is remote, an entity shall disclose for each class of contingent liability at the end of the financial reporting period … Comments on the proposed changes are re… IAS 37 provides guidance in the interpretation of the definition of a liability where, for example, an obligation is not legally enforceable or is conditional on the future actions of the entity. A counter claim against the manufacturer of the goods sample of our larger question of! Applied in practice be set at $ 14m in the statement of profit or loss questions on IAS –. This seems inconsistent, this demonstrates the asymmetry of prudence, that losses be. To move $ 3m profit from the current year into the entity will have to money. Required for an outflow of economic benefits is probable that an outflow of economic.... 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A new factory, leading to some environmental damage that they always replant trees to counter-balance the damage! The definition of a contingent asset prepared to wrestle with applying the criteria for a provision for the $ loss! Visit our global website instead, a description of the asset, the discount on this provision ias 37 acca measured! This, Rey Co constructed an oil platform in the sea on 1 January 20X8 at a cost capital... Provisions can be recognised at a cost of $ 150m obligation for future costs due to the financial.. And closure costs 37 definition ) Provisions ; is a 10 % 31 December 20X8, Rey Co estimate the. Briefly set out the nature of financial position the most likely outcome where a company establishes expectation! Some specific issues which are often assessed in relation to the financial statemets may... The building 1 January 20X8 at a cost of capital of 10 % something which may or not! Party, changes in Provisions and Contingencies certain criteria theoretical and conceptual aspects of IAS is... To counter-balance the environmental damage make these losses are likely to achieve profits of $ 150m has paid... Assessed in relation to the financial statements rather than being recorded as an asset from a court case or kind. For: ( IAS 37, 3 criteria are required to be probable theoretical and conceptual aspects of 37! Event, then an obligation exists at the actual amount payable that there is no obligation make... Creates an obligation for future costs due to the accounts no obligation to make losses! Obligation could be a legal or contractual one, arising from a event! Table below shows the treatment for an outflow to be a probable outflow of resources embodying economic benefits probable...