This Accounting Standard applies to Level I, Level II and Level III Entities.
This revised standard comes into effect in respect of accounting periods commencing on or after 1.4.1995 and is mandatory in nature.
The subjects, which are excluded from the scope of this Standard:-
} Liabilities of life assurance and general insurance enterprises arising from policies issued
} Obligations under retirement benefit plans and
} Commitments arising from long-term lease contracts
Relation between AS – 29 and AS – 4:
Pursuant to AS 29, relating to ‘Provisions, Contingent Liabilities and Contingent Assets’, becoming mandatory in respect of accounting periods commencing on or after 1st April, 2004, all paragraphs of AS 4 dealing with contingencies stand withdrawn except to the extent they deal with impairment of assets not covered by any other Indian Accounting Standards.
What does AS – 4 deal with?
Thus, the present standard (AS 4) deals with the treatment and disclosure requirements in the financial statements of:
2. Events occurring after the balance sheet.
Definition of Contingency [Para 3.1] - A contingency is a condition or situation, the ultimate outcome of which, gain or loss, will be known or determined only on the occurrence, or non-occurrence, of one or more uncertain future events.
The term “contingencies” used in this Standard is restricted to conditions or situations at the balance sheet date, the financial effect of which is to be determined by future events which may or may not occur. [Para 4.1]
Determining whether the events are certain or uncertain: [Para 4.2]
Ø Estimates are required for determining the amounts to be stated in the financial statements for many on-going and recurring activities of an enterprise.
Ø It is however essential, to distinguish between an event which is certain and one which is uncertain.
Ø The fact that an estimate is involved does not, of itself, create the type of uncertainty which characterizes a contingency.
Ø For example, the fact that estimates of useful life are used to determine depreciation does not make depreciation a contingency ;the eventual expiry of the useful life of the asset is not uncertain.
Ø Also, amounts owed for services received are not contingencies as defined in paragraph 3.1, even though the amounts may have been estimated, as there is nothing uncertain about the fact that these obligations have been incurred.
Uncertainty: [Para 4.3 & 4.4]
The “uncertainty” relating to future events can be expressed by a range of outcomes or quantified probabilities, which suggests a level of precision that is not supported by the available information.
Determining the nature and amount of uncertainty:
The estimates of these outcomes as well as the estimates of the financial effect of contingencies are determined by the judgment of the management of the enterprise.
This judgment is based on consideration of information available up to the date on which the financial statements are approved and will include a review of events occurring after the balance sheet date, supplemented by experience of similar transactions and, in some cases, reports from independent experts.
1. Factors involved in determining the amount of contingency:
The amount at which a contingency is stated in the financial statements is based on the information which is available at the date on which the financial statements are approved.
Events occurring after the balance sheet date that indicate that an asset may have been impaired, or that a liability may have existed, at the balance sheet date are, therefore, taken into account in identifying contingencies and in determining the amounts at which such contingencies are included in financial statements. [Para 7.1]
2. Cases where each contingency is identified separately:
In some cases, each contingency can be separately identified, and the special circumstances of each situation considered in the determination of the amount of the contingency. A substantial legal claim against the enterprise may represent such a contingency.
Among the factors taken into account by management in evaluating such a contingency are; the progress of the claim at the date on which the financial statements are approved, the opinions, wherever necessary, of legal experts or other advisers, the experience of the enterprise in similar cases and the experience of other enterprises in similar situations. [Para 7.2]
3. Cases where contingency need not be individually determined:
If the uncertainties which created a contingency in respect of an individual transaction are common to a large number of similar transactions, then the amount of the contingency need not be individually determined, but may be based on the group of similar transactions.
An example of such contingencies may be the estimated uncollectable portion of accounts receivable. Another example of such contingencies may be the warranties for products sold. These costs are usually incurred frequently and experience provides a means by which the amount of the liability or loss can be estimated with reasonable precision although the particular transactions that may result in a liability or a loss are not identified. Provision for these costs, result in their recognition in the same accounting period in which the related transactions took place. [Para 7.3]
The accounting treatment of a contingent loss is determined by the expected outcome of the contingency. If it is likely that a contingency will result in a loss to the enterprise, then it is prudent to provide for that loss in the financial statements. [Para 5.1]
The estimation of the amount of a contingent loss to be provided for in the financial statements may be based on information referred to in paragraph 4.4& 7. [Para 5.2]
If there is conflicting or insufficient evidence for estimating the amount of a contingent loss, then disclosure is made of the existence and nature of the contingency. [Para 5.3]
A potential loss to an enterprise may be reduced or avoided because a contingent liability is matched by a related counter-claim or claim against a third party. In such cases, the amount of the provision is determined after taking into account the probable recovery under the claim if no significant uncertainty as to its measurability or collectability exists. Suitable disclosure regarding the nature and gross amount of the contingent liability is also made. [Para 5.4]
The existence and amount of guarantees, obligations arising from discounted bills of exchange and similar obligations undertaken by an enterprise are generally disclosed in financial statements byway of note, even though the possibility that a loss to the enterprise will occur, is remote. [Para 5.5]
Provisions for contingencies are not made in respect of general or unspecified business risks since they do not relate to conditions or situations existing at the balance sheet date. [Para 5.6]
Contingent gains are not recognised in financial statements since their recognition may result in the recognition of revenue which may never be realized. However, when the realization of a gain is virtually certain, then such gain is not a contingency and accounting for the gain is appropriate.
Events Occurring After Balance Sheet Date
Definition of Events Occurring after the Balance Sheet Date [Para 3.2]
Events occurring after the balance sheet date are those significant events, both favorable and unfavorable, that occur between the balance sheet date and the date on which the financial statements are approved by the Board of Directors in the case of a company, and, by the corresponding approving authority in the case of any other entity.
Events which occur between the balance sheet date and the date on which the financial statements are approved, may indicate the need for adjustments to assets and liabilities as at the balance sheet date or may require disclosure. [Para 8.1]
Events occurring after the balance sheet date which do not affect the figures stated in the financial statements would not normally require disclosure in the financial statements although they may be of such significance that they may require a disclosure in the report of the approving authority to enable users of financial statements to make proper evaluations and decisions. [Para 8.4]
There are events which, although they take place after the balance sheet date, are sometimes reflected in the financial statements because of statutory requirements or because of their special nature. Such items include the amount of dividend proposed or declared by the enterprise after the balance sheet date in respect of the period covered by the financial statements. [Para 8.5]
Events occurring after the balance sheet date may indicate that the enterprise ceases to be a going concern. Deterioration in operating results and financial position, or unusual changes affecting the existence or substratum of the enterprise after the balance sheet date (e.g., destruction of a major production plant by a fire after the balance sheet date) may indicate a need to consider whether it is proper to use the fundamental accounting assumption of going concern in the preparation of the financial statements. [Para 8.6]
The disclosure requirements herein referred to apply only in respect of those contingencies or events which affect the financial position to a material extent.
If a contingent loss is not provided for, its nature and an estimate of its financial effect are generally disclosed by way of note unless the possibility of a loss is remote (other than the circumstances mentioned in paragraph 5.5). If a reliable estimate of the financial effect cannot be made, this fact is disclosed.
When the events occurring after the balance sheet date are disclosed in the report of the approving authority, the information given comprises the nature of the events and an estimate of their financial effects or a statement that such an estimate cannot be made.