a customer has filed a suit against a trader who has supplied poor quality goods to him. it is known that the court judgement will be in favour of the customer and the trader will be required to pay the damages. however, the amount of legal damages is not known with certainty. The accounting year has already been ended and the books are now financed to ascertain true profits or loss. The accountant of the trader has advised him not to consider the expected loss on account of payment of legal damages because the amount is not certain and the final judgement of the court is not yet out. Do you think the accountant is right in hin approach?
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The accountant is right in his approach. Any liability which is not certain should not be treated as expected loss and therefore should not be debited in the Profit and Loss A/C. Here, the legal damages to be paid is not certain. Such Uncertain Liablities are called as 'CONTINGENT LIABILITIES' and they should be shown under the BALANCE SHEET in notes to accounts.
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