Contingent Liability

What are Contingent Liabilities?

Contingent liability refers to those liabilities that can incur as an entity and depends on the outcomes of the pending lawsuit. Such liabilities are not recorded in the company’s account and are shown in the company’s balance sheet when they are reasonably and probably estimated as a “worst-case” or “contingency” in the outcome. The extent and nature of the contingent liability can be explained by a footnote. The loss is described as remote or probable. And the ability to recognize is reasonably estimated. 


Define Contingent Liabilities

Contingent liabilities are those liabilities that tend to occur in the future depending on an outcome. Such liabilities are recorded when their amount can be estimated. It may or may not be disclosed in a footnote unless it meets both conditions. Some of the common contingent liabilities examples are product warranties, pending investigations, and potential lawsuits. 


Contingent liabilities meaning also signifies the fact that they change according to the amount of money estimated and their likelihood of occurring in the future. The accounting rules make sure that the readers of the financial statement receive enough information. 


Contingent Liability Accounting 

Contingent liabilities are those liabilities that are not included in the financial statement of the company. They fall under obligations that have not occurred yet but can occur shortly. As it is not a liable component, it is not included in the accounting system of the company. Contingent liabilities are not reviewed annually.


Examples of Contingent Liabilities in Accounting are

  1. Lawsuit

  2. Fluctuations in the foreign exchange process

  3. Changes in government policies

  4. Bank guarantee

  5. Pending cases


Contingent Liabilities Meaning in Tamil

Contingent liability in Tamil means தொடர்ச்சியான பொறுப்பு


What is Contingent Liabilities Example? 

Contingent liabilities example is as follows:

1. Counter guarantees and guarantees that are given by the company.

2. The company gives a certain guarantee to another stakeholder on behalf of their third party. or it can also be said as the guarantee performed by certain companies as a result of the contract.

3. Product warranty is also given by the company.

4. The company also gives a guarantee on behalf of the stakeholders.

5. The company also issues a letter of credit.

6. The examples also include the adverse judgment of the potential disputes.


Liquidated Damages

The damages that need to be compensated by the party if and when there is a breach in the contract. This amount is decided during the negotiation of a contract. The breach is usually a failure in the contract or not up to the mark performance by the party.


The liquidated damages are written as legal contracts and are bound by the law.


In a situation where the real damages are difficult to ascertain, a liquidated damage amount seems appropriate and accepted by both parties.


Lets us understand the concept of liquidated damages with the help of an example.


Supposing the company is coming up with a new product to launch in the market and the product is still in the development stage. The company may need to consult with suppliers and other designers outside the company and this may require a legal contract before the business is done. One of the clauses that are added to the contract is liquidated damages. The company needs to come up with an amount that reflects an approximate value of damage if done. 


The new product the company is launching may still be kept discreet as the breach in secrecy may result in huge losses for the company. So if there is a breach of indiscretion, the other party, i.e., a supplier or designer hired may have to pay the liquidated damages.


A liquidated damages compensation can help in safeguarding the party against future discrepancies.


Legal Liability

Legal liability simply means answerable to the law. One is legally obligated or responsible for any damages done under the law. If the person or company in question does not take the responsibility, they may be legally sued.


To understand the concept of legal liability, let us take an example of a business owner.

Supposing a business is selling a certain kind of product, any damage that it can be caused to the buyer before and after it leaves the manufacturing unit is the full responsibility of the owner. If the owner is reluctant to take responsibility for their product, the customer can sue the company. 


Copyright Infringement

Copyright infringement is referred to as the use of copyright-protected material without prior permission from the copyright holder. Any use, duplication, or publication of the copyrighted material without the permission of the owner can lead to serious legal charges.


The companies or even individuals who develop new work or products can register for copyright so that they can take benefit from the profits and retain the original ownership. They can also sell the ownership if they have the copyright to do so.


Others interested in their work can take a license to produce or publish their work. Sometimes the breach in copyright infringement can lead to contingent liabilities.


Let us understand copyright infringement with an example.


Supposing the new technology developed by a certain tech company is used or launched by another company without prior permission, it is counted as stealing one property. This may lead to serious legal problems and the company that developed the technology can press charges against the other party. 


Pirating a movie or a music album is also another example of copyright infringement.


Trespassing

When an individual negligently or intentionally enters the land of another without permission, when clearly instructed not via signboards is referred to as trespassing.


The party to whom the land belongs can sue the one trespassed even if there is no evident damage done.


Let us understand trespassing with an example.


Supposing a hotel has clearly restricted its boundaries around the property and also has put up a no trespassing sign. If any individual intentionally trespasses into the property, then the hotel can press charges against that individual for the same.


Lawsuit

A lawsuit is a legal proceeding taken by the party claiming to have incurred any damage or loss by the other party. Then another party is required to respond to the complaint done. The party that made the damages either suffer legal action or have to go through with the compensation demanded by the other party.


Let us understand this with an example.


Supposing a new publication publishes a piece of private information or anything that tarnishes the image of a celebrity, then the celebrity can file a lawsuit against the media publication for doing so.


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FAQs on Contingent Liability

1. What do you mean by contingent liabilities?

A contingent liability is a form of liability that may or may not take place in the future. It also refers to the future expense of a company that can occur due to a triggering event and can convert the company into a loss situation. It is also called a lawsuit. Its concept borders on considerations and vagueness with recognizable events. One can follow two methods while dealing with contingent liability. They are:

  • To assume if an event can likely occur in the future

  • And if the monetary figures can be expressed

If the contingency satisfies the above-presented methods then they can be presented in books. At first, the contingency liability is expressed in form of an expense in the loss and profit account and then it is mentioned in the balance sheet.

2. Name the different types of contingency liabilities?

Contingent liabilities are classified based on their probability. Some of the types of contingent liabilities are:

  • Probable contingency: probable contingency refers to any such loss that has been assumed to occur in the future. It has a 50% chance of happening soon. A probable contingency is recorded in the company’s book because the law of conservatism is followed in accountancy. 

  • Possible contingency: possible contingency refers to the situation that may or may happen. This differentiates it from probable contingency. Hence such contingency is generally not recorded in any book. 

  • Remote contingency: it has fewer chances of occurring in the future and hence is not recorded in any book.

3. Differentiate between provision and contingent liabilities.

The factors that distinguish a provision from contingent liabilities are:

  • The provision refers to the accounting system in the present and its relation with the past event. Whereas contingent liability is those that are recorded in the present to prepare for a future outbreak.

  • The possibility of provision to occur is very certain. Whereas the possibility of contingent liabilities is very much conditional.

  • The estimation of a provision is not certain. While the estimation regarding contingent liability can be made.

  • The decrease or increase of the provision is recorded in the Income statement. Whereas, the latter is not recorded in an Income statement. 

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