Question

Describe the conditions when contract assets and liabilities are recognized and presented in financial statements.

Short answer

Assets and liabilities are recognized by companies in the model of asset-liability for recognizing the revenue according to assets and liabilities in a revenue arrangement.

Step-by-step solution

Meaning of Contract Assets and Contract Liabilities

In simple terms, a contract asset is created when no invoice or payment has been given, but a customer for whom revenue has been recognized, a company does services for them. A contract obligation happens when work has not finished, but a business bills a customer or receives money from them and exceeds the revenue recognized by the invoices and payments to date.

Conditions when contract assets and liabilities are recognized 

When a corporation has a right to consideration for satisfying a performance commitment, it has a contract asset because it has a claim to consideration from the client.

A contract responsibility is a company's duty to provide products or services to a client in exchange for payment. As a result, the seller is liable under the contract if the consumer acts first by prepaying for the product. These contract assets and liabilities must be reported on a company's balance sheet.

There are two categories of contract assets:

(a) Unconditional rights to receive consideration because the company has fulfilled its performance obligation to the customer.

(b) Conditional rights to receive consideration because the company has fulfilled one performance obligation but must still fulfill another performance obligation in the contract before billing the customer. On the balance sheet, companies should present unconditional rights to receive consideration as a receivable. Unbilled receivables, for example, should be shown separately as contract assets on the balance sheet.