Provision vs Contingent Liability in Litigation under Ind AS

1. Introduction

In the normal course of business, entities may become involved in litigation with customers, suppliers, regulators, or other parties. The accounting treatment of such litigation requires careful evaluation of whether a provision should be recognised or merely disclosed as a contingent liability. In practice, a common issue arises when the legal opinion regarding the likely outcome of litigation is obtained after the reporting period but before the financial statements are approved for issue. In such cases, entities must determine whether such information represents an adjusting event under Ind AS 10 and whether the recognition criteria prescribed under Ind AS 37 are satisfied.

2. Relevant Provision under Ind AS

Ind AS 37 – Provisions, Contingent Liabilities and Contingent Assets

Ind AS 37 prescribes the conditions for recognition of a provision. As per paragraph 14 of Ind AS 37, a provision shall be recognised when:

(a) An entity has a present obligation (legal or constructive) as a result of a past event;

(b) It is probable that an outflow of resources embodying economic benefits will be required to settle the obligation; and

(c) A reliable estimate can be made of the amount of the obligation.

If these conditions are not satisfied, a provision should not be recognised.

Further, in respect of contingent liabilities, Ind AS 37 states that, where an entity has a possible obligation arising from past events whose existence will be confirmed only by uncertain future events, or where a present obligation exists but the outflow of resources is not probable or cannot be reliably estimated, the obligation should be disclosed as a contingent liability unless the possibility of outflow is remote.

Moreover, Ind AS 37 specifies that the amount recognised as a provision should represent the best estimate of the expenditure required to settle the present obligation at the reporting date.

Ind AS 10 – Events after the Reporting Period

Ind AS 10 addresses the accounting treatment of events that occur between the reporting date and the date on which the financial statements are approved for issue. The standard classifies such events into adjusting and non-adjusting events.

As per paragraph 3(a) of Ind AS 10, adjusting events are those that provide additional evidence of conditions that existed at the end of the reporting period, and in accordance with paragraph 8, entities are required to adjust the amounts recognised in the financial statements to reflect the impact of such events.

Conversely, paragraph 3(b) defines non-adjusting events as those that are indicative of conditions that arose after the reporting period. In terms of paragraph 10, these events do not require any adjustment to the recognised amounts in the financial statements; however, disclosure may be required where such events are material to the users of the financial statements.