What is a contingent asset?
Harold Averkamp (CPA, MBA) has worked as a university accounting instructor, accountant, and consultant for more than 25 years. Read our latest news, features and press releases and see our calendar of events, meetings, conferences, webinars and workshops. Our Standards are developed by our two standard-setting boards, the International Accounting Standards Board (IASB) and International Sustainability Standards Board (ISSB).
Even if it is probable that the plaintiff will win the case and receive a monetary award, it cannot recognize the contingent asset until such time as the lawsuit has been settled. Conversely, the other party that is probably going to lose the lawsuit must record a provision for the contingent liability as soon as the loss becomes probable, and should not wait until the lawsuit has been settled to do so. Thus, recognition of the contingent liability comes before recognition of the contingent asset.
Recognition of a provision
Contingent assets are not recorded in the financial statements because there is uncertainty surrounding their existence. For example, if a company is involved in a lawsuit and it is uncertain whether it will win the case, any potential proceeds from the lawsuit would be considered a contingent asset. Contingent assets should not be recognized but should be disclosed in those cases where an inflow of economic benefits is probable. When the realization of income is virtually certain, the related asset is not a contingent asset, and its recognition is appropriate. Usually, all GAAPs does not allow recording of contingent assets in books of accounts due to the principle of prudence or conservatism.
On 26 June 2023 the ISSB issued its inaugural standards—IFRS S1 and S2—ushering in a new era of sustainability-related disclosures in capital markets worldwide. Contingent asset accounting policies for GAAP, meanwhile, are mainly outlined in the Financial Accounting Standards Board’s (FASB) Accounting Standards Codification (ASC) Topic 450. This amended IAS 37 to clarify that for the purpose of assessing whether a contract is onerous, the cost of fulfilling the contract includes both the incremental costs of fulfilling that contract and an allocation of other costs that relate directly to fulfilling contracts. In April 2001 the International Accounting Standards Board adopted IAS 37 Provisions, Contingent Liabilities and Contingent Assets, which had originally been issued by the International Accounting Standards Committee in September 1998. That standard replaced parts of IAS 10 Contingencies and Events Occurring after the Balance Sheet Date that was issued in 1978 and that dealt with contingencies.
The key principle established by the Standard is that a provision should be recognised only when there is a liability i.e. a present obligation resulting from past events. The Standard thus aims to ensure that only genuine obligations are dealt with in the financial statements – planned future expenditure, even where authorised by the board of directors or equivalent governing body, is excluded from recognition. Contingent assets are those possible assets whose existence are confirmed only upon the occurrence or non-occurrence of future events that are uncertain and not completely within the control of the enterprise. These assets are disclosed and not recognised when the inflow of benefit is likely to occur.
We undertake various activities to support the consistent application of IFRS Standards, which includes implementation support for recently issued Standards. We do this because the quality of implementation and application of the Standards affects the benefits that investors receive from having a single set of global standards. The IFRS Foundation is a not-for-profit, public interest organisation established to develop high-quality, understandable, enforceable and globally accepted accounting and sustainability disclosure standards. That fact should be disclosed where any of the above information is not disclosed because it is not practical to do so. A legal claim is a right or advantage one party has over another due to past events. Legal claims can take many forms, such as breach of contract, personal injury, defamation, etc.
- A legal claim is a right or advantage one party has over another due to past events.
- Contingent liabilities are possible obligations whose existence will be confirmed by uncertain future events that are not wholly within the control of the entity.
- A contingent asset is a potential asset that may become an actual asset depending on future events.
- Contingent assets also crop up when companies expect to receive money through the use of a warranty.
- Thus, recognition of the contingent liability comes before recognition of the contingent asset.
As accounting follows conservatism concept which provides for all possible liabilities but defers accounting of possible asset i.e. any benefit that may arise in future, it does not allow recording of a contingent asset or gains arising out until they get accrued. For example, if a company is facing a legal dispute where there are huge chances of favourable outcome whereby it will claim the amount for damages or anticipate a merger and be paid on account of warranty. These will be considered as the contingent asset of a company and will not be recorded in books of accounts buy will be disclosed under the Notes to Accounts followed by financial statements.
Where Contingent Assets are Recorded
Contingent assets also crop up when companies expect to receive money through the use of a warranty. Other examples include benefits to be received from an estate or other court settlement. Anticipated mergers and acquisitions are to be disclosed in the financial statements. A contingent asset is a potential economic benefit that is dependent on some future event(s) largely out of a company’s control. IAS 37 defines and specifies the accounting for and disclosure of provisions, contingent liabilities, and contingent assets. Alternatively, they might occur due to uncertainty relating to the outcome of an event in which an asset may be created.
Contingent liabilities are possible obligations whose existence will be confirmed by uncertain future events that are not wholly within the control of the entity. An example is litigation against the entity when it is uncertain whether the entity has committed an act of wrongdoing and when it is not probable that settlement will be needed. A contingent asset is a potential asset that may become an actual asset depending on future events. In other words, it’s an asset that is not currently recognized because it’s not confident that the asset will be realized.
Accounting for Contingent Assets
According to this principle, one should not mis-state its balance sheet by overstating of income/ expenses or asset/ liabilities and provide for all possible expenses and liabilities but defer accounting of all possible income and assets until they get accrued. A contingent asset is a potential economic benefit for an organization which does not accrue in reporting date but will accrue in future. The event of a contingent asset depends totally on occurrence or non-occurrence of a particular set of things which are even beyond the control of the company and are unpredictable or uncertain.
Auditors keep a keen watch over a contingent asset that is reported in financial statement records and make suitable suggestions to eliminate these records before issuing an opinion on its financial statement. As per generally accepted accounting principle(GAAP), every contingent asset needs to be disclosed under the Notes to Accounts under the financial statement. Whereas another reporting standard International Financial Reporting Standards IFRS does not make it necessary for the company to report a contingent asset. International accounting standard IAS 37 that applies to IFRS states that contingent assets should not be recognised but shall be disclosed when it is most likely that benefits will occur however when the benefit inflow is certain an asset is not considered contingent. Provisions are measured at the best estimate (including risks and uncertainties) of the expenditure required to settle the present obligation, and reflects the present value of expenditures required to settle the obligation where the time value of money is material.
Let’s say Company ABC has filed a lawsuit against Company XYZ for infringing a patent. If there is a decent chance that Company ABC will win the case, it has a contingent asset. This potential asset will generally be disclosed in its financial statement, but not recorded as an asset until the lawsuit is settled.
IAS 12 — Accounting for uncertainties in income taxes
Because of the concept of conservatism, a contingent asset and gain will not be recorded in a general ledger account or reported on the financial statements until they are certain. [This is different from contingent liabilities and contingent losses, which are recorded in accounts and reported on the financial statements when they are probable and the amount can be estimated. A business may disclose the existence of a contingent asset in the notes accompanying the financial statements when the inflow of economic benefits is probable.
Contingent assets are possible assets whose existence will be confirmed by the occurrence or non-occurrence of uncertain future events that are not wholly within the control of the entity. Contingent assets are not recognised, but they are disclosed when it is more likely than not that an inflow of benefits will occur. However, when the inflow of benefits is virtually certain an asset is recognised in the statement of financial position, because that asset is no longer considered to be contingent.
Educational material on applying IFRSs to climate-related matters
A contingent asset appears because of previous events, but the entirety of all asset information will not be collected until future events happen. An entity recognises a provision if it is probable that an outflow of cash or other economic resources will be required to settle the provision. The best example of both sides of a contingent asset and contingent liability is a lawsuit.
Contingent assets are ruled under the conservatism principle, which is an accounting practice that states that uncertain events and outcomes should be reported in a manner that results in the lowest potential profit. In other words, companies are discouraged from inflating expectations and are generally advised to utilize the lowest estimated asset valuation. Unlike contingent assets, they refer to a potential loss that may be incurred, depending on how a certain future event unfolds.
Doing so at least reveals the presence of a possible asset to the readers of the financial statements. Both generally accepted accounting principles (GAAP) and International Financial Reporting Standards (IFRS) require companies to disclose contingent assets if there is a decent possibility that these potential gains will eventually be realized. IFRS, on the other hand, is slightly more lenient and generally permits companies to make reference to potential gains if there is at least a 50% likelihood that they will occur.
An uncollectible receivable is an amount a company expects to receive but may not collect because the customer cannot pay. Uncollectible receivables are commonly written off as bad debt expenses when they become due and payable but remain unpaid. However, there is always a chance that an uncollectible receivable may be collected at some point in the future, which is why they are classified as contingent assets. A provision is measured at the amount that the entity would rationally pay to settle the obligation at the end of the reporting period or to transfer it to a third party at that time. Based on this same example, Company XYZ would need to disclose a potential contingent liability in its notes and then later record it in its accounts, should it lose the lawsuit and be ordered to pay damages. A company involved in a lawsuit that expects to receive compensation has a contingent asset because the outcome of the case is not yet known and the dollar amount is yet to be determined.
A contingent asset is a possible asset that may arise because of a gain that is contingent on future events that are not under an entity’s control. Auditors are particularly watchful for contingent assets that have been recorded in a company’s accounting records, and will insist that they be eliminated from the records before issuing an auditor’s opinion on its financial statements. Contingent assets are economic resources or benefits which gets are not readily realisable or accrued but gets accrued on a future date on the occurrence of an uncertain event. When the occurrence of the contingent asset becomes certain and it gets accrued, then only it is treated as a realized asset of economic value and can be recorded in books of accounts and reported in Balance Sheet with its cash flow. Contingent asset occurs when the economic value of an asset is unknown also it may occur when the outcome of an event becomes certain and where an asset is created.