FAR · Select transactions · 8 practice questions
ASC 450: Accrue or Disclose a Loss Contingency?
Accrue a loss only when it is probable and reasonably estimable; disclose reasonably possible loss, including exposure beyond an accrual. Below: sort versions of one lawsuit and see the note each treatment requires.
Try one first
Hint
First classify each item as probable, reasonably possible, or remote; then apply the measurement rule only to the item(s) that must be accrued.
Answer C. Under ASC 450, probable losses that can be reasonably estimated must be accrued. When a range exists and no amount is a better estimate, the minimum of the range is accrued (so accrue $900,000) and the entity discloses the nature of the contingency and the range of possible loss. Reasonably possible losses are disclosed (nature and estimated amount, here ~$600,000) but not accrued. Remote losses generally are neither accrued nor disclosed under the general guidance.
Why not A: This choice appeals to conservative thinking (accruing the maximum), but it is incorrect because ASC 450 directs accrual of the minimum amount when no single amount in the range is a better estimate, not the maximum; accruing $1,400,000 overstates the liability.
Why not B: This option is tempting because some interpret 'best estimate' as the midpoint of a range and may believe all contingencies should be reported. It fails because ASC 450 does not require using the midpoint when no amount within the range is a better estimate; the minimum is accrued. Also, a remote contingency is generally not disclosed under the general ASC 450 model.
Why not D: This distractor correctly accrues the minimum for the probable lawsuit but is incorrect in requiring disclosure of the remote former employee claim. Under ASC 450, remote matters are generally neither accrued nor disclosed, so disclosing the remote claim is unnecessary and not required by the general guidance.
Sort it
Loss is probable and reasonably estimable, with reasonably possible exposure above the accrual.
Loss is reasonably possible, or probable but not reasonably estimable.
Loss is remote and only general ASC 450 loss-contingency guidance applies.
| Item | Goes to |
|---|---|
| Lark Co. is preparing year-end statements. Its customer lawsuit arose before year-end and is material. Loss is probable, estimated at $900,000 to $1,400,000, with no best estimate. Loss above the minimum is reasonably possible. No insurance recovery is available. Apply only general ASC 450 guidance. What accrual and note are required? | Accrue and discloseAccrue $900,000, the minimum. Note: Lark's customer lawsuit has an estimated $900,000 to $1,400,000 loss range, including up to $500,000 of reasonably possible additional loss. |
| Same facts, except no reasonable estimate of loss can be made. What accrual and note are required? | Disclose onlyNo accrual without a reasonable estimate. Note: Loss from Lark's customer lawsuit is probable, but an estimate cannot be made. |
| Same facts, except loss within the original range is reasonably possible, not probable. What accrual and note are required? | Disclose onlyNo accrual. Note: Loss from Lark's customer lawsuit is reasonably possible and estimated at $900,000 to $1,400,000. |
| Same facts, except the likelihood of loss is remote. What accrual and note are required? | NeitherA remote loss requires neither accrual nor disclosure under general ASC 450 guidance. No lawsuit note is required. |
| Same facts, except the loss concerns punitive damages only. What accrual and note are required? | Accrue and discloseAccrue $900,000; damages type does not change the test. Note: Lark's customer lawsuit involves punitive damages of $900,000 to $1,400,000, including up to $500,000 reasonably possible beyond the accrual. |
| Same facts, except an insurance recovery is reasonably possible. What accrual and note are required? | Accrue and discloseAccrue $900,000; possible insurance changes nothing. Record no recovery asset. Note: Lark's customer lawsuit ranges from $900,000 to $1,400,000, with up to $500,000 reasonably possible additional loss. |
| Same facts, except the upper end of the range is $1,500,000. What accrual and note are required? | Accrue and discloseAccrue $900,000; the higher ceiling changes only disclosure. Note: Lark's customer lawsuit ranges from $900,000 to $1,500,000, with up to $600,000 reasonably possible additional loss. |
| Same facts, except loss within the original range is reasonably possible, not probable. Does the estimable range permit an accrual? | Disclose onlyAn estimable range does not make loss probable. No accrual. Note: Lark's customer lawsuit may cause a $900,000 to $1,400,000 loss. |
| Same facts, except $1,100,000 is the best estimate within the original range; loss above that amount remains reasonably possible. What accrual and note are required? | Accrue and discloseAccrue the $1,100,000 best estimate. Note: Lark's customer lawsuit has an estimated $900,000 to $1,400,000 loss range, with up to $300,000 reasonably possible additional loss. |
| Same facts, except the lower end of the range is $700,000. What accrual and note are required? | Accrue and discloseAccrue $700,000, the new minimum. Note: Lark's customer lawsuit ranges from $700,000 to $1,400,000, with up to $700,000 reasonably possible additional loss. |
Key points
- Remember: An accrual does not replace the note when additional loss is reasonably possible.
- Classify each matter before adding accruals; one probable loss does not make another loss probable.
- An estimable range meets the measurement test; an exact settlement amount is not required.
- Evaluate recoveries separately; possible insurance proceeds do not reduce the loss liability.
How the exam traps you
- Accruing the midpoint or maximum when no amount in the range is a better estimate. Accrue the minimum. Disclose the nature, range, and reasonably possible loss beyond the accrual.
- Omitting the lawsuit note because a liability is already recorded. Check for reasonably possible additional loss. The accrual does not eliminate that disclosure.
- Accruing a reasonably possible loss because its amount is estimable. Likelihood comes first. Disclose the nature and amount or range, but do not accrue.
Question 2
Hint
Analyze three separate questions: (1) Is a compensatory loss probable and, if so, how should a range with no better estimate be accrued? (2) Which additional exposures are only reasonably possible and require disclosure only? (3) Is an insurance recovery sufficiently probable to be recognized?
Answer D. Under ASC 450, when a loss is probable and a range of loss is given but no amount in the range is a better estimate, the entity should accrue the minimum amount in the range (here $4.0 million) and disclose the range. Reasonably possible losses (the punitive exposure) should be disclosed but are not accrued. Insurance recoveries are recognized only when collection is probable; because insurer acceptance/collection is not probable, no insurance receivable is recorded.
Why not A: This is tempting for those who wait for final events, but ASC 450 requires accruing losses that are both probable and reasonably estimable before final adjudication. Aggregating exposures into a single combined range also obscures that punitive damages are only reasonably possible, not probable.
Why not B: Tempting because candidates often default to the midpoint, but ASC 450 requires accruing the minimum when no single amount in a probable range is a better estimate. Also, expected insurance proceeds cannot be recognized or netted unless recovery is probable.
Why not C: Selecting the high end overstates the required accrual: the standard directs accrual of the minimum when no amount in the range is a better estimate. Recording an insurance receivable is improper because the insurer's acceptance and collection are not considered probable.
Question 3
Hint
Analyze each matter separately: first decide whether accrual is required, then decide what disclosure is still needed.
Answer A. A loss contingency that is probable and reasonably estimable must be accrued. When no amount within a range is a better estimate than any other, the minimum amount in the range is accrued, so Brill records $700,000 for the patent lawsuit. The environmental matter is only reasonably possible and therefore is disclosed (with its estimated range) but not accrued.
Why not B: Students may assume a probable loss should be recorded at the worst-case amount; under U.S. GAAP, if no single amount within a range is a better estimate, accrue the minimum of the range. Also, it is incorrect to omit disclosure of the patent lawsuit when additional loss above the accrued amount remains possible.
Why not C: This applies the 'minimum of the range' rule to the environmental matter even though that contingency is only reasonably possible; reasonably possible matters are disclosed but not accrued.
Why not D: An exact amount is not required for accrual when a loss is probable and can be reasonably estimated. Because the patent lawsuit is probable and reasonably estimable (albeit as a range), accrual is required.
Question 4
Hint
Evaluate each matter separately: first decide whether accrual is required, then consider how a loss range affects both the amount recorded and whether note disclosure is still needed.
Answer B. Under U.S. GAAP, a loss contingency that is probable and reasonably estimable should be accrued. When a range exists and no amount is a better estimate than any other, the minimum amount in the range is accrued (here $900,000). Because the patent case has a range up to $1,400,000, the entity should disclose the contingency and the range; the class-action case is only reasonably possible and should be disclosed (no accrual).
Why not A: This choice reflects the common midpoint trap. GAAP requires accruing the minimum of the range when no single amount is a better estimate, not the midpoint; disclosure of both matters would be correct, but the accrued amount is incorrect.
Why not C: This is incorrect because the patent contingency is described as probable and reasonably estimable; that requires an accrual. Only the class-action (reasonably possible) is disclosure-only.
Why not D: Incorrect because although $900,000 is the required accrual, the patent case should also be disclosed (including the range up to $1,400,000) since the potential loss could exceed the amount accrued.
Question 5
Hint
Analyze each matter separately: first decide whether accrual is required, then decide whether disclosure is also needed.
Answer D. Under ASC 450, a loss contingency that is both probable and reasonably estimable should be accrued. When a range of loss exists and no amount within the range is a better estimate, the minimum amount in the range is accrued, so Lark should record $600,000 for the lawsuit. Material reasonably possible contingencies (the environmental inquiry) and the additional possible loss within the lawsuit's range must be disclosed.
Why not A: This ignores that the lawsuit is probable and reasonably estimable and therefore must be accrued. Only the environmental matter, being reasonably possible, is disclosure-only.
Why not B: This reflects the common but incorrect practice of using the midpoint when no single amount is a better estimate; GAAP requires accruing the minimum of the range. It is also incorrect to omit disclosure of additional possible loss on the lawsuit.
Why not C: While the accrual amount for the lawsuit is correct, this option wrongly omits disclosure of the environmental contingency. A material reasonably possible contingency should generally be disclosed.
Question 6
Hint
Evaluate the two matters separately: first decide whether each one meets the accrual threshold, then apply the rule for estimating a loss range only to the item that does.
Answer C. Under U.S. GAAP, a loss contingency that is probable and can be reasonably estimated must be accrued. When a range exists and no amount in the range is a better estimate than any other, accrue the minimum ($900,000). Because the regulatory fine is only reasonably possible, it should be disclosed (including the range) but not accrued.
Why not A: Incorrect because the regulatory fine is only reasonably possible, not probable; disclosure, not accrual, is required regardless of whether a range can be estimated.
Why not B: This is incorrect because GAAP requires accruing the minimum of a range when no amount is a better estimate (not the midpoint). Also, material additional exposure above the accrued amount should be disclosed.
Why not D: Wrong because a probable and reasonably estimable loss contingency (the patent lawsuit) must be accrued even if unresolved at year-end; only the regulatory matter is disclosed.
Question 7
Hint
Separate the two matters: first decide whether each one is accrued or only disclosed, then consider whether any additional exposure beyond an accrued amount must also be mentioned.
Answer D. For Matter 1, a loss contingency that is probable and reasonably estimable must be accrued at the best estimate, which here is $700,000. Because an additional loss of up to $300,000 is reasonably possible, that exposure should also be disclosed. For Matter 2, a reasonably possible loss is not accrued, but it is disclosed even when no estimate can be made, in which case the note should say that an estimate cannot be made.
Why not A: This is tempting because the stem says no estimate can be made for Matter 2, which may sound like no reporting is possible. But inability to estimate affects accrual, not the need for disclosure when a loss is reasonably possible. The proper note disclosure would describe the matter and state that an estimate cannot be made.
Why not B: This is tempting because candidates often default to the maximum exposure once they see a range. Under GAAP, however, Lark accrues the amount that is the best estimate, not the highest possible loss, and the additional reasonably possible exposure is handled through disclosure. Matter 2 is also wrong because reasonably possible losses are disclosed even if they are not probable.
Why not C: This distractor reflects the common mistake of waiting for certainty before recording a loss contingency. GAAP does not require a finalized settlement; it requires accrual once the loss is probable and reasonably estimable. Since counsel has provided that assessment for Matter 1, disclosure alone is insufficient.
Question 8
Hint
Treat each matter separately: first decide whether the likelihood threshold for accrual is met (probable versus reasonably possible), then for any item to be accrued consider how the amount should be measured when only a range can be estimated.
Answer D. ASC 450 indicates that a loss contingency should be accrued when an unfavorable outcome is probable and the amount can be reasonably estimated. If only a range can be estimated and no amount within the range is a better estimate, ASC 450 directs accruing the minimum of the range and disclosing the range; thus Rho should accrue $4.0 million for the patent litigation and disclose the $4.0-$5.0 million exposure (up to $1.0 million additional). The regulatory investigation is reasonably possible and should be disclosed (the $1.2 million estimate may be disclosed), and the contract claim is probable but not reasonably estimable, so it is disclosed without accrual.
Why not A: Although a $1.2 million estimate exists for the regulatory investigation, accrual requires that an unfavorable outcome be probable. Here the regulatory matter is only reasonably possible and therefore should be disclosed, not accrued.
Why not B: This is tempting because some practitioners use a midpoint when a range exists, but ASC 450 requires accruing the minimum of the range when no single amount is a better estimate. Also, when only the minimum is accrued, the existence of the upper end of the range and potential additional exposure should be disclosed.
Why not C: This distractor plays on the fact that no single best estimate exists, but ASC 450 permits recognition when loss is probable even if only a range can be estimated; in that circumstance the minimum of the range is accrued rather than omitting recognition.
Common questions
When do you accrue versus disclose under ASC 450?
Accrue when loss is probable and reasonably estimable. Disclose reasonably possible losses and additional exposure; under general ASC 450 guidance, remote losses require neither.
What amount do you accrue when no estimate in a loss range is best?
Accrue the minimum of the range, not the midpoint or maximum. Disclose the nature and range, including reasonably possible loss beyond the amount accrued.
Do you disclose a contingency if the loss cannot be estimated?
Yes, if the loss is probable or reasonably possible. Disclose its nature and state that an estimate cannot be made; do not accrue an unsupported amount.
Practice FAR like the real exam
The free ChatCPA simulator: real exam layout, timed testlets, every topic in the section. No account needed to start.
Open the free simulator →More on Contingencies and commitments
Questions from the ChatCPA bank of 17,658 CPA exam questions, each with a written reason for every wrong answer. ChatCPA is built by Nicholas Miller, CPA (Oregon #14907). How these pages are made. Spot an error? Tell us.