Interpretation and Application of UK GAAP: For Accounting Periods Commencing On or After 1 January 2015

Chapter 21Provisions and Contingencies

1. Introduction
2. Meaning of a Provision
3. Recognition and Measurement of a Provision
4. Onerous Contracts
5. Meaning of a Contingent Liability and a Contingent Asset
6. Events after the Reporting Period Relating to Contingencies
7. Disclosure Issues

Introduction

FRS 102 deals with provisions and contingencies in Section 21 Provisions and Contingencies. Section 21 also deals with financial guarantee contracts, unless:

1. An entity has opted to apply the provisions in IAS 39 Financial Instruments: Recognition and Measurement and/or IFRS 9 Financial Instruments to its financial instruments or
2. An entity has elected under FRS 103 Insurance Contracts to continue the application of insurance contract accounting.

Before the introduction of accounting standards governing the accounting requirements for provisions, companies were able to ‘massage’ the profits (or losses) and report figures that were ‘desired’ as opposed to ‘true and fair’. This particular method of profit manipulation was coined ‘big bath accounting’ and was quite common before the introduction of SSAP 18 Accounting for Contingencies, which was superseded by FRS 12 (IAS 37) Provisions, Contingent Liabilities and Contingent Assets. A typical scenario using ‘big bath accounting’ entailed a company calculating ‘actual’ profits and then deciding these were too high (usually because if profit was too high in one year, shareholders would expect an even higher profit in the next year). Management would ...