INDIAN ACCOUNTING STANDARD 37 9.

89

residents of the nearby locality launched a massive agitation against the pollution. X
Ltd. agreed to their demands to reduce the water pollution by installing the necessary
Effluent Treatment Plant. However, during the year no steps are taken to install the
plant. No legislation requiring the company to reduce its pollution is in existence. In this
case, though there is no law but by promising to take steps to reduce pollution, X Ltd.
has created a valid expectation on the part of public that it will discharge its
responsibilities. So the obligation in this case is a constructive obligation.
4. An entity has prepared a formal plan for a re-organisation involving site closures and
redundancies. The plan has been approved by the board at the year end, but the entity
will not implement or announce the re-organisation until after the year end. There is no
constructive obligation, even if there is an announcement after the entity’s year end but
before its financial statements are approved. The announcement is a non-adjusting post
balance sheet event and there was no commitment to restructure at the year end. The
entity could change its plans completely after the year end. A constructive obligation
would exist if the entity has raised a valid expectation in those affected by beginning to
implement the re-organisation by the end of the year (for example, by scrapping the
plant or informing employees and suppliers of the re-organisation), despite the absence
of a formal announcement.
6. A contingent liability is:
(a) a possible obligation that arises from past events and whose existence will be confirmed
only by the occurrence or non-occurrence of one or more uncertain future events not
wholly within the control of the entity; or
(b) a present obligation that arises from past events but is not recognised because:
(i) it is not probable that an outflow of resources embodying economic benefits will be
required to settle the obligation; or
(ii) the amount of the obligation cannot be measured with sufficient reliability.
Example 5
A tax case pending before the court, the liability for payment arising or not in respect of which
depends on the outcome of court decision is a possible obligation that arises from past events
and whose existence will be confirmed only by the occurrence or non-occurrence of one or
more uncertain future events not wholly within the control of the entity.
7. A contingent asset is a possible asset that arises from past events and whose existence
will be confirmed only by the occurrence or non-occurrence of one or more uncertain future
events not wholly within the control of the entity.
Example 6
X Ltd. filed a legal suit against a supplier of goods for compensation against damages on

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Examples on provisions and other liabilities:

Nature of obligation Recognition as Reasons
provision as per
Ind AS 37
(Yes/No)
Amount payable for utilities No Amount payable for utilities represents an
like electricity, gas, etc. accrual of liability to pay for services that
have been received. The amount and
timing of payment can be determined with
a reasonable certainty.
The timing for payment is known since the
utility companies have fixed dates every
month/period for the purpose of settlement
of dues. A reliable estimate of the amount
of payment can be made based on the
quantum of consumption, prevailing rates
or on the basis of earlier bills.
Goods or services received, No Amount payable for supply of goods and
but not invoiced services received under a formally agreed
contract represents trade payables even if
invoice has not been received. In such a
case, amount and timing of payment would
be driven by the terms agreed with the
supplier.
Financial guarantee given No Financial guarantees are within the scope
by the parent to lenders for of Ind AS 109 Financial Instruments
loan taken by its subsidiary
Warranty obligations Yes Warranty obligation represents the
additional cost that the seller may have to
incur to rectify product defects. This is in
the nature of provision as there is an
uncertainty associated with the amount
and timing of the liability.

2.5 RELATIONSHIP BETWEEN PROVISIONS AND

CONTINGENT LIABILITIES
In a general sense, all provisions are contingent because they are uncertain in timing or amount.
However, Ind AS 37 distinguishes between the term ‘contingent’ and ‘provisions’.

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(a) Provisions – which are recognised as liabilities (assuming that a reliable estimate can be
made) because they are present obligations and it is probable that an outflow of resources
embodying economic benefits will be required to settle the obligations; and
Present
Provision obligation from Outflow is Ability to
= + probable + measure
past event

(b) Contingent Liabilities – which are not recognised as liabilities because they are either:
(i) possible obligations, as it has yet to be confirmed whether the entity has a present
obligation that could lead to an outflow of resources embodying economic benefits; or
(ii) present obligations that do not meet the recognition criteria in Ind AS 37 (because
either it is not probable that an outflow of resources embodying economic benefits will
be required to settle the obligation, or a sufficiently reliable estimate of the amount of
the obligation cannot be made).

Possible Outflow is
Contingent = obligation from and
not and/
Unable to
Liability /or measure
past event or
probable

2.6 RECOGNITION
2.6.1 Provisions

Probable that
Present As a Reliable
outflow of Recognise
Obligation result of estimate
resources will a
(legal or past can be
be required to Provision
constructive) event made
settle obligation

A provision should 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 met, no provision should be recognised.

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Obligation

Legal Constructive

Contract (through Other Based on

explicit or implicit Legislation operation past Commitment
terms) of Law practice

2.6.1.1 Present Obligation

 In general, it is clear that there is a present obligation. Only, in rare cases it is not clear
whether there is a present obligation.
 In almost all cases it will be clear whether a past event has given rise to a present obligation.
Illustration 1
ABC Limited is an automobile component manufacturer. The automobile manufacturer has
specified a delivery schedule, non-adherence to which will entail a penalty. As on
31st March, 20X1, the reporting date, the manufacturer has a delivery scheduled for June
20X2. However, the manufacturer is aware that he will not be able to meet the delivery
schedule in June 20X2.
Determine whether the entity has a present obligation as at 31 st March, 20X1, requiring
recognition of provision.
Solution
In this case, there is no present obligation arising out of a past event as the goods are scheduled
for delivery in June 20X2 and there is no delay as at 31st March, 20X1. Hence, there is no present
obligation to pay the penalty in the current year. Therefore, there is no present obligation to
recognise the provision.
*****
 Where it is not clear whether there is a present obligation, past event shall be evaluated.
 In such a case, an entity should take into account all available evidence, including the opinion
of experts. The evidence considered includes any additional evidence provided by events
after the reporting period.
 On the basis of such evidence:
(a) where it is probable (i.e. more likely than not) that a present obligation exists at
the end of the reporting period,
 the entity recognises a provision (if the recognition criteria are met); and

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Illustration 6
An entity sells goods with a warranty under which customers are covered for the cost of repairs
of any manufacturing defects that become apparent within the first six months after purchase.
If minor defects were detected in all products sold, repair costs of ` 1 million would result. If
major defects were detected in all products sold, repair costs of ` 4 million would result. The
entity’s past experience and future expectations indicate that, for the coming year, 75% of the
goods sold will have no defects, 20% of the goods sold will have minor defects and 5% of the
goods sold will have major defects. In accordance with the standard, an entity assesses the
probability of an outflow for the warranty obligations as a whole.
Solution
The expected value of the cost of repairs is:
(75% of nil) + (20% of 1m) + (5% of 4m) = ` 4,00,000
*****
 Where a single obligation is being measured, the individual most likely outcome may be the
best estimate of the liability. However, even in such a case, the entity considers other
possible outcomes.
Example 23
An entity faces a single legal claim, with a 40 per cent likelihood of success with no cost and
a 60 percent likelihood of failure with a cost of `1 million. Expected value is not valid in this
case because the outcome will never be a cost of `600,000 (60 percent × `1 million); the
outcome will either be nil or `1 million. Ind AS 37 indicates that the provision may be
estimated at the individual most likely outcome. In this example, it is more likely that a cost
of `1 million will result and, therefore, a provision for `1 million should be recognised.
 Where other possible outcomes are either mostly higher or mostly lower than the most likely
outcome, the best estimate will be a higher or lower amount.

Examples 24 & 25
24. If an entity has an environmental obligation to clean up the drinking water that got
contaminated, there might be a number of different ways to carry out this work. Each
of these methods would have different probabilities of success and would cost different
amounts. In such case, the entity might choose the method which has the most likely
possibility of success.
25. If an entity has to rectify a serious fault in a major plant that it has constructed for a
customer, the individual most likely outcome may be for the repair to succeed at the
first attempt at a cost of ` 1,000, but a provision for a larger amount is made if there is
a significant chance that further attempts will be necessary.
 Generally, when the most likely outcome is close to the expected value, it will be appropriate

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to provide for the most likely outcome because expected value provides evidence of the
probable outflow of benefits.
Example 26
An entity is required to replace a major component of an asset under warranty. Each time
replacement costs ` 1 million. From experience, there is a 30 per cent chance of a single
failure, a 50 per cent chance of two failures, and a 20 per cent chance of three failures.
The most likely outcome is two failures, costing ` 2 million. The expected value is
` 1.9 million [(30 per cent x ` 1 million) + (50 per cent x ` 2 million) + (20 per cent x
` 3 million)]. The expected value supports the provision for the most likely outcome of
` 2 million.

 The provision should be measured before tax, as the tax consequences of the provision, and
changes in it, are dealt with under Ind AS 12.
2.7.2 Risks and Uncertainties
 The risks and uncertainties that inevitably surround many events and circumstances should
be taken into account in reaching the best estimate of a provision.
 Risk describes variability of outcome.
 A risk adjustment should be made for the amount that the entity would pay in excess of the
expected present value of outflows due to uncertainty attached with the actual outcome.
 A risk adjustment may increase the amount at which a liability is measured. Caution is
needed in making judgements under conditions of uncertainty, so that income or assets are
not overstated and expenses or liabilities are not understated. However, uncertainty does
not justify the creation of excessive provisions or a deliberate overstatement of liabilities.
For example, if the projected costs of a particularly adverse outcome are estimated on a
prudent basis, that outcome is not then deliberately treated as more probable than is
realistically the case.
 Care is needed to avoid duplicating adjustments for risk and uncertainty with consequent
overstatement of a provision.
 Risk adjustment can be accounted for in number of ways such as:
• Adding it to the expected present value of future outflows.
• Adjusting the estimates of future outflows.
• Adjusting the discount rate.
 Disclosure of the uncertainties surrounding the amount of the expenditure should be made.
2.7.3 Present Value
 Where the effect of the time value of money is material, the amount of a provision should be
the present value of the expenditures expected to be required to settle the obligation.

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 Because of the time value of money, provisions relating to cash outflows that arise soon after
the reporting period are more onerous than those where cash outflows of the same amount
arise later. Provisions should therefore be discounted, where the effect is material.
 Ind AS 37 does not require cash flows to be discounted unless this has a material effect.
 The expected present value of outflows are calculated as follows:
• Each outcome is discounted to its present value.
• The present value of outcomes are weighted by their associated probabilities.
 The discount rate (or rates) should be a pre-tax rate (or rates) that reflect(s) current
market assessments of the time value of money and the risks specific to the liability.
 The discount rate(s) should not reflect risks for which future cash flow estimates have been
adjusted.
Illustration 7
X Solar Power Ltd., a power company, has a present obligation to dismantle its plant after
35 years of useful life. X Solar Power Ltd. cannot cancel this obligation or transfer to third
party. X Solar Power Ltd. has estimated the total cost of dismantling at ` 50,00,000, the
present value of which is ` 30,00,000. Based on the facts and circumstances, X Solar Power
Ltd. considers the risk factor of 5% i.e., the risk that the actual outflows would be more from
the expected present value. How should X Solar Power Ltd. account for the obligation?
Solution
The obligation should be measured at the present value of outflows i.e., ` 30,00,000. Further
a risk adjustment of 5% i.e., ` 1,50,000 (` 30,00,000 x 5%) would be made.
So, the liability will be recognised at = ` 30,00,000 + `1,50,000 = ` 31,50,000.
Illustration 8
ABC Ltd. has an obligation to restore the seabed for the damage it has caused in the past.
It has to pay ` 10,00,000 cash on 31 st March 20X3 relating to this liability. ABC Ltd.’s
management considers that 5% is an appropriate discount rate. The time value of money is
considered to be material.
Calculate the amount to be provided for at 31 st March 20X1 for the costs of restoring the
seabed.
Solution
Discounting factor of 5% for 2 nd year as on 31st March 20X1 = (1/1.05) 2 = 0.907
The present value of the provision as on 31 st March 20X1 is
= ` 10,00,000 x 0.907 = ` 9,07,000

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The amount of increase in the provision resulting from unwinding of discounting to reflect the
passage of time should be included as an element of borrowing cost in determining the profit
or loss for the year.
The provision should be initially recognised at ` 9,07,000 which is the present value of
` 10,00,000 discounted at 5% for two years. At the end of year 1 i.e. 31 st March 20X2, the
provision increases to ` 9,52,350, and the difference of ` 45,350 is recognised as borrowing
cost. Similarly, for the year ending 31st March 20X3, the provision will increase to 10,00,000
and the increase being recognised as borrowing cost. Consequently, at the end of year 2
the amount of provision will be equal to the amount due, i.e., ` 10,00,000.
Note: There may be some difference in amount due to approximation (limiting discounting
factor to 3 place decimal), which can be overcome either by full scale calculation or
adjustment at the end.
*****
2.7.4 Future Events
 Future events that may affect the amount required to settle an obligation should be reflected
in the amount of a provision where there is sufficient objective evidence that they will occur.
 Expected future events may be particularly important in measuring provisions.
For example, an entity may believe that the cost of cleaning up a site at the end of its life will
be reduced by future changes in technology.
The amount recognised reflects a reasonable expectation of technically qualified, objective
observers, taking account of all available evidence as to the technology that will be available
at the time of the clean-up. Thus, it is appropriate to include, for example, expected cost
reductions associated with increased experience in applying existing technology or the
expected cost of applying existing technology to a larger or more complex clean-up operation
than has previously been carried out. However, an entity does not anticipate the
development of a completely new technology for cleaning up unless it is supported by
sufficient objective evidence. It is fine to anticipate the use of existing method with the some
refinement, adaptation and cost reduction, if there is sufficient evidence that such factors are
likely to arise in future. However, it would not be acceptable to assume that there would be
a completely new idea or a new method, which would be significantly cost effective.
 The effect of possible new legislation should be taken into consideration in measuring an
existing obligation when sufficient objective evidence exists that the legislation is virtually
certain to be enacted. The variety of circumstances that arise in practice makes it impossible
to specify a single event that will provide sufficient, objective evidence in every case.
Evidence is required both of what legislation will demand and of whether it is virtually certain
to be enacted and implemented in due course. In many cases sufficient objective evidence
will not exist until the new legislation is enacted.

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 Ind AS 37 defines an onerous contract as a contract in which the unavoidable costs of

meeting the obligations under the contract exceed the economic benefits expected to be
received under it. The unavoidable costs under a contract reflect the least net cost of exiting
from the contract, which is the lower of the cost of fulfilling it and any compensation or
penalties arising from failure to fulfill it.
 Before a separate provision for an onerous contract is established, an entity should recognise
any impairment loss that has occurred on assets dedicated to that contract (in accordance
with Ind AS 36).
Examples 29- 32
29. Contract not onerous: An entity has a contract to purchase one million units of gas at
23p per unit, giving a contract price of ` 2,30,000. The current market price for a similar
contract is 16p per unit, giving a price of ` 1,60,000. The gas will be used to generate
electricity, which will be sold at a profit. The economic benefits from the contract include
the benefits to the entity of using the gas in its business and, because the electricity will
be sold at a profit, the contract is not onerous.
30. Impairment of assets: The contract’s terms and market prices are the same as in
example 29. However, the electricity is sold at a loss, and the entity makes an overall
operating loss. All of the gas purchased by the entity is used to generate electricity
using dedicated assets. The electricity is sold to a wide range of customers. The entity
first considers whether the assets used to generate electricity are impaired. To the
extent that there is still a loss after the assets have been written down, a provision for
an onerous contract should be recorded.
31. Sale to third party at below purchase price: The contract terms and market price are
the same as in example 29. However, in this example, the entity sells the gas under
contract, which it no longer needs, to a third party for 18p per unit (5p below cost). The
entity determines that it would have to pay ` 55,000 to exit the purchase contract. The
only economic benefit from the purchase contract costing ` 2,30,000 are the proceeds
from the sales contract, which are ` 1,80,000. Therefore, a provision should be made
for the onerous element of ` 50,000, being the lower of the cost of fulfilling the contract
and the penalty cost of cancellation (` 55,000).
32. Contract termination costs: In the year ended 31 December 20X1, an entity has a
contract with a third party supplier. The entity wishes to terminate this contract in 20X2
because it can enter into a cheaper contract with a new supplier, even though it will still
have two years to run. It will incur a charge for terminating the contract. Does the entity
have to provide in 20X1-20X2 for the contract that it will be exiting in 20X2-20X3? A
provision should be recognised only if the contract is onerous. If the goods received
under the supply contract are sold at a profit, the contract is not onerous and provision
should not be made in 20X1-20X2. The termination cost should be recognised as
incurred in 20X2-20X3.

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TEST YOUR KNOWLEDGE

Questions
1. X Ltd. is operating in the telecom industry. During the Financial Year 20X1-20X2, the Income
Tax authorities sent a scrutiny assessment notice under Section 143(2) of the Income-tax
Act, 1961, in respect to return filed under Section 139 of this Act for Previous Year
20X0-20X1 (Assessment Year 20X1-20X2) and initiated assessment proceedings on account
of a deduction claimed by the company which in the view of the authorities was inadmissible.
During the financial year 20X1-20X2 itself, the assessment proceedings were completed and
the assessing officer did not allow the deduction and raised a demand of ` 1,00,00,000
against the company. The company contested such levy and filed an appeal with the
Appellate authority. At the end of the financial year 20X1-20X2, the appeal had not been
heard. The company is not confident whether that the company would win the appeal.
However, the company was advised by its legal counsel that on a similar matter, two
appellate authorities of different jurisdictions had given conflicting judgements, one in favour
of the assessee and one against the assessee. The legal counsel further stated it had more
than 50% chance of winning the appeal. Please advise how the company should account for
these transactions in the financial year 20X1-20X2.
2. An entity is a telecom operator. Laying of cables across the world is a requirement to enable
the entity to run its business. Cables are also laid under the sea and contracts are entered
into for the same. By virtue of laws of the countries through which the cable passes, the
entity is required to restore the sea bed at the end of the contract period. What is the nature
of obligation that the entity has in such a case?
3. Entity A is a dealer in washing machines. Entity A offers to its customers a scheme whereby
it states that after a period of 3 years, the entity offers to buy back the washing machine at
a fixed price which is expected to be less than the fair value of the machine at the end of
three years. The credit emanating therefrom will be required to be used by the customer for
buying a new washing machine, i.e., new washing machine will be sold at a discounted price.
Past experience indicates that customers generally opt for this scheme. At the time of sale
of the first washing machine should entity A recognise any provision in this regard?
4. U Ltd. is a large conglomerate with a number of subsidiaries. It is preparing consolidated
financial statements as on 31st March 20X2 as per the notified Ind AS. The financial
statements are due to be approved for issue on 15 th May 20X2. Following are a few
transactions that have taken place in some of its subsidiaries during the year:
G Ltd. is a wholly owned subsidiary of U Ltd. engaged in management consultancy services.
On 31st January 20X2, the board of directors of U Ltd. decided to discontinue the business

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of G Ltd. from 30 th April 20X2. They made a public announcement of their decision on
15th February 20X2.
G Ltd. does not have many assets or liabilities and it is estimated that the outstanding trade
receivables and payables would be settled by 31 st May 20X2. U Ltd. would collect any
amounts still owed by G Ltd.’s customers after 31 st May 20X2. They have offered the
employees of G Ltd. termination payments or alternative employment opportunities.
Following are some of the details relating to G Ltd.:
- On the date of public announcement, it is estimated by G Ltd. that it would have to pay
` 540 lakhs as termination payments to employees and the costs for relocation of
employees who would remain with the Group would be ` 60 lakhs. The actual termination
payments totalling to ` 520 lakhs were made in full on 15th May 20X2. As per latest
estimates made on 15 th May 20X2, the total relocation cost is ` 63 lakhs.
- G Ltd. had taken a property on operating lease, which was expiring on 31st March 20X6.
The present value of the future lease rentals (using an appropriate discount rate) is
` 430 lakhs. On 15th May 20X2, G Ltd. made a payment to the lessor of ` 410 lakhs in
return for early termination of the lease.
The loss after tax of G Ltd. for the year ended 31st March 20X2 was ` 400 lakhs. G Ltd.
made further operating losses totalling ` 60 lakhs till 30 th April 20X2.
What are the provisions that the Company is required to make as per lnd AS 37?
5. A company manufacturing and supplying process control equipment is entitled to duty draw
back if it exceeds its turnover above a specified limit. To claim duty drawback, the company
needs to file application within 15 days of meeting the specified turnover. If application is
not filed within stipulated time, the Department has discretionary power of giving duty draw
back credit. For the year 20X1-20X2 the company has exceeded the specified limit of
turnover by the end of the reporting period. However, duty drawback can be claimed on filing
of application within the stipulated time or on discretion of the Department if filing of
application is late. The application for duty drawback is filed on April 20, 20X2, which is after
the stipulated time of 15 days of meeting the turnover condition. Duty drawback has been
credited by the Department on June 28, 20X2 and financial statements have been approved
by the Board of Directors of the company on July 26, 20X2. What would be the treatment of
duty drawback credit as per the given information?
6. Entity XYZ entered into a contract to supply 1000 television sets for ` 2 million. An increase
in the cost of inputs has resulted into an increase in the cost of sales to ` 2.5 million. The
penalty for non- performance of the contract is expected to be ` 0.25 million. Is the contract
onerous and how much provision in this regard is required?
7. Marico has an obligation to restore environmental damage in the area surrounding its factory.
Expert advice indicates that the restoration will be carried out in two distinct phases; the first
phase requiring expenditure of ` 2 million to remove the contaminated soil from the area and
the second phase, commencing three years later from the end of first phase, to replant the

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area with suitable trees and vegetation. The estimated cost of replanting is ` 3.5 million.
Marico uses a cost of capital (before taxation) of 10% and the expenditure, when incurred,
will attract tax relief at the company’s marginal tax rate of 30%. Marico has not recognised
any provision for such costs in the past and today’s date is 31 March 20X2. The first phase
of the clean up will commence in a few months time and will be completed on 31 March 20X3
when the first payment of ` 2 million will be made. Phase 2 costs will be paid three years
later from the end of first phase. Calculate the amount to be provided at 31 March 20X2 for
the restoration costs.
Answers
1. Ind AS 37 provides that in rare cases it not clear whether there is a present obligation, for
example, in a lawsuit, it may be disputed either whether certain events have occurred or
whether those events result in a present obligation. In such a case, an entity should
determine whether a present obligation exits at the end of the reporting period by taking
account of all available evidence, for example, the opinion of experts.
In the present case, the company is not confident that whether it would win the appeal. By
taking into account the opinion of the legal counsel, it is not sure that whether the company
would win the appeal. On the basis of such evidence, it is more likely than not that a present
obligation exists at the end of the reporting period. Therefore, the entity should recognise a
provision. The company should provide for a liability of ` 1,00,00,000.
2. Paragraph 14 of Ind AS 37 states that 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 met, no provision shall be recognised.
Further, with regard to past event paragraph 17 of Ind AS 37 states that a past event that
leads to a present obligation is called an obligating event. For an event to be an obligating
event, it is necessary that the entity has no realistic alternative to settling the obligation
created by the event. This is the case only:
(a) where the settlement of the obligation can be enforced by law; or
(b) in the case of a constructive obligation, where the event (which may be an action of the
entity) creates valid expectations in other parties that the entity will discharge the
obligation.”
On the basis of the above, provision should be recognised as soon as the obligating event
takes place because the entity is under legal obligation to restore the sea bed, provided the
other recognition criteria stated in paragraph 14 reproduced above are met. Moreover, the

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The termination payments fulfil the above condition. As per Ind AS 10 ‘Events after Reporting
Date’, events that provide additional evidence of conditions existing at the reporting date
should be reflected in the financial statements. Therefore, the company should make a
provision for ` 520 lakhs in this respect.
The relocation costs relate to the future conduct of the business and are not liabilities for
restructuring at the end of the reporting period. Hence, these would be recognised on the
same basis as if they arose independently of a restructuring.
The operating lease would be regarded as an onerous contract. A provision would be made
at the lower of the cost of fulfilling it and any compensation or penalties arising from failure
to fulfil it. Hence, a provision shall be made for ` 410 lakhs.
Further operating losses relate to future events and do not form a part of the closure
provision.
Therefore, the total provision required = ` 520 lakhs + ` 410 lakhs = ` 930 lakhs
5. In the instant case, the condition of exceeding the specified turnover was met at the end of
the reporting period and the company was entitled for the duty drawback. However, the
application for the same has been filed after the stipulated time. Therefore, credit of duty
drawback was discretionary in the hands of the Department. Since the claim was to be
accrued only after filing of application, its accrual will be considered in the year 20X2-20X3
only.
Accordingly, the duty drawback credit is a contingent asset as at the end of the reporting
period 20X1-20X2, which will be realised when the Department credits the same.
As per para 35 of Ind AS 37, Provisions, Contingent Liabilities and Contingent Assets,
contingent assets are assessed continually to ensure that developments are appropriately
reflected in the financial statements. If it has become virtually certain that an inflow of
economic benefits will arise, the asset and the related income are recognised in the financial
statements of the period in which the change occurs. If an inflow of economic benefits has
become probable, an entity discloses the contingent asset.
In accordance with the above, the duty drawback credit which was contingent asset for the
F.Y. 20X1-20X2 should be recognised as asset and related income should be recognized in
the reporting period in which the change occurs. i.e., in the period in which realisation
becomes virtually certain, i.e., F.Y. 20X2-20X3.
6. Ind AS 37 “Provisions, Contingent Liabilities and Contingent Assets” defines an onerous
contract as a contract in which the unavoidable costs of meeting the obligations under the
contract exceed the economic benefits expected to be received under it.
Paragraph 68 of Ind AS 37 states that the unavoidable costs under a contract reflect the least
net cost of exiting from the contract, which is the lower of the cost of fulfilling it and any
compensation or penalties arising from failure to fulfill it.

© The Institute of Chartered Accountants of India

 INDIAN ACCOUNTING STANDARD 37 9.131

In the instant case, cost of fulfilling the contract is ` 0.5 million (` 2.5 million – ` 2 million)
and cost of exiting from the contract by paying penalty is ` 0.25 million.
In accordance with the above reproduced paragraph, it is an onerous contract as cost of
meeting the contract exceeds the economic benefits.
Therefore, the provision should be recognised at the best estimate of the unavoidable cost,
which is lower of the cost of fulfilling it and any compensation or penalties arising from failure
to fulfill it, i.e., at ` 0.25 million (lower of ` 0.25 million and ` 0.5 million).
7.
Year Cash Flow 10% Discount factor Present Value
20X2-20X3 20,00,000 0.909 18,18,000
20X5-20X6 35,00,000 0.683 23,90,500
Provision required at 31 March 20X2 42,08,500

The provision is calculated using the pre-tax costs and a pre-tax cost of capital. The fact
that the eventual payment will attract tax relief will be reflected in the recognition of a deferred
tax asset for the deductible temporary difference (assuming that the recognition criteria for
deferred tax assets are met.)

© The Institute of Chartered Accountants of India