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Contingent Asset
Contingent Asset
Contingent Asset
Not knowing for certain whether these gains will materialize, or being able to determine
their precise economic value, means these assets cannot be recorded on the balance
sheet. However, they can be reported in the accompanying footnotes of financial
statements, provided that certain conditions are met.
KEY TAKEAWAYS
Let’s say Company ABC has filed a lawsuit against Company XYZ for infringing
a patent. If there is a decent chance that Company ABC will win the case, it has a
contingent asset. This potential asset will generally be disclosed in its financial
statement, but not recorded as an asset until the lawsuit is settled.
Based on this same example, Company XYZ would need to disclose a potential
contingent liability in its notes and then later record it in its accounts, should it lose the
lawsuit and be ordered to pay damages.
Contingent assets also crop up when companies expect to receive money through the
use of a warranty. Other examples include benefits to be received from an estate or
other court settlement. Anticipated mergers and acquisitions are to be disclosed in the
financial statements.
Reporting Requirements
Both generally accepted accounting principles (GAAP) and International Financial
Reporting Standards (IFRS) require companies to disclose contingent assets if there is
a decent possibility that these potential gains will eventually be realized. For U.S.
GAAP, there generally needs to be a 70% likelihood that the gain occurs. IFRS, on the
other hand, is slightly more lenient and generally permits companies to make reference
to potential gains if there is at least a 50% likelihood that they will occur. 1
Contingent asset accounting policies for GAAP, meanwhile, are mainly outlined in
the Financial Accounting Standards Board's (FASB) Accounting Standards Codification
(ASC) Topic 450.3
Special Considerations
Companies must reevaluate the potential asset continually. When a contingent asset
becomes likely, firms must report it in financial statements by estimating the income to
be collected. The estimate is generated using a range of possible outcomes, the
associated risks, and experience with similar potential contingent assets.
In addition, no gain may be recorded from a contingent asset until it actually occurs.
The conservatism principle supersedes the matching principle of accrual accounting,
meaning the asset may not be reported until a period after associated costs were
incurred.