Question

Define (a) a contingency and (b) a contingent liability.

Short answer

Contingency is a situation uncertain, whereas contingent liabilityis an uncertain liability on the occurrence of a contingent event. Contingency is general, and part of contingent liability since the occurrence of liability depends upon its uncertain situation in the future.

Step-by-step solution

(a) A Contingency

It is a future situation that is possible, but not sure about the happening of an event. It may or may not be certain. Its profit or loss is determined based on the happening or nonhappening of a certain event.

• Accounted loss: In the case of contingency loss, it is accounted for by determining the expected outcome of contingency. As a matter of prudence, it is provided for such loss in financial statements
• Provisions for contingency loss are not made since they do not relate to conditions existing on the balance sheet date.
• Accounted Gain: In case of contingency gain, it is not recognized in the financial statement since its recognition may mean recognition of revenue that may never be realized
• Example: sometimes buying a new house has to be contingent upon someone else buying your old house first.

(b) A Contingent Liability

It is a liability that may occur depending on the outcome of a future uncertain event. Its liability is estimated based on its happening or the amount involved.

• Accounted: These are never accounted for in financial statements. These have not occurred yet, but there is the possibility of them occurring in the future, so they have no accounting treatment

• Examples: Potential Lawsuits, product warranties, pending investigation, etc.