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Wiley IFRS: Practical Implementation Guide and Workbook
4.2.4 Where the effect of time value is material, the amount of provision is to be discounted to its
present value using a pretax discount rate that reflects current market assessments of time value of
money and the risks specific to the liability.
4.2.5 Future events that are expected to affect the measurement of the provision should be taken
into account in arriving at the amount of the provision if there is sufficient objec tive evidence that
the future events will occur. Gains from expected future disposals should not be considered in ar–
riving at the amount of the provision to be recognized. However, if amounts are expected to be
reimbursed by another party, these should be taken into consideration in arriving at the amount of
the provision (only when it is virtually certain that the reimbursement will be received).
4.3 Changes in Provisions and Use of Provisions
Changes in provisions shall be reviewed at each balance sheet date, and the amount of the provi–
sion should be adjusted accordingly to reflect the current best estimate. When it is no longer prob–
able that outflow of resources would be required to settle the obligation, the provision should be
reversed. A provision should be used only for the purpose for which it was originally recognized or
set up.
Practical Insight
In the past, entities used to rationali ze a shortfall in a provision based on the premise that for
the same time period, there were more than required amounts provided as provisions in other
cases . In other words, a shortfall in one provision was j ustified (and not adjusted) because it
was balanced by excess in another provision. This practice would not be possible now since
lAS 37 categorically states that a provision should be used for the purpose for which it was
initially created or recognized. Furthermore, lAS 37 also mandates that changes in provisions
shall be reviewed at each balance sheet date and the amount of provision should be adjusted
accordingly to reflect the current best estimate.
Based on these rules promul gated under lAS 37, if, after recognizing a provision, say, for bo–
nus, it is believed that it is excessive, an entit y cannot justify the excess under the plea that
there is a shortfall in another provision, say, provision for warranty, and considering them to–
gether, on an overall basis, the total provisions at a given point in time are adequate. Instead,
under lAS 37, the excess provision for the bonus should be written back or released to the in–
come statement and the shortfall in the provision for warranty should be supplemented
through an additional provision.
4.4
Future Operating Losses
It is
not
permissible to recognize a provision for future operating losses, because they do not meet
the criteria for recognition of a provision. As future losses are not present obligations arising from
past obligating events and could be avoided by a future action of the entity (say, by disposing of the
business), they do not clearly meet the recognition criteria for provisioning. Hence lAS 37 does not
allow for them to be provided for at year-end. An expectation of future losses may, however, lead
one to believe that certain assets of the operations may be impaired; in this case, an entity should
test assets for impairment under lAS 36.
4.5
Onerous Contracts
Although executory contracts are outside the general purview of lAS 37, it is required to recognize
a provision under an executory contract that is "onerous." An onerous contract that is covered
under lAS 37 is an executory contract where the unavoidable costs exceed the benefits expected.
Example
An onerous contract
is
an agreement that an entity cannot get out of legally even though it has
signed another parallel agreement under which it
is
able to undertake the same activities at a better
price. As it
is
locked into the existing agreement, it would need to incur costs under both contracts
but de rive economic benefits fro m only one ofthem. The next example explains this better.