Provisions and contingent liabilities

The staff asked the Board to consider if there is a present obligation in the two following examples:

Example 1

An entity contaminates a river adjacent to its land in a country where there is no legislation requiring it to clean up (and the entity has not created a constructive obligation to clean up). There is, however, a possibility that a new law will enacted in due course that will require the entity to clean up its past contamination. The likelihood of the new law being passed is assessed to be approximately 75%.

Example 2

An entity is defending itself in a lawsuit. The entity is alleged to have sold a faulty item of equipment, which is subject to warranty, but the entity believes the case to be spurious. To the surprise of the entity and its legal advisors, the entity loses the case.

After a long debate, the Board tentatively agreed that in example 1 there is no present obligation until the law has been passed. In the second example there is a present obligation.

As a result of the ensuing discussion and the staff's proposal the Board decided to amend the definition of a contingent liability in IAS 37 and Phase II to: 'a contingent liability is a conditional obligation that arises from events and whose existence will be confirmed only by the occurrence of one or more uncertain future events not wholly within the control of the entity' They agreed that the wording in Phase I would need to be clarified to be consistent with this principle.