Question

Scenario 4: Definition of a Liability

CON 6 includes the following guidance defining liabilities.

Liabilities

35. Liabilities are probable future sacrifices of economic benefits arising from present

obligations of a particular entity to transfer assets or provide services to other entities

in the future as a result of past transactions or events.

Characteristics of Liabilities

36. A liability has three essential characteristics: (a) it embodies a present duty or

responsibility to one or more other entities that entails settlement by probable

future transfer or use of assets at a specified or determinable date, on occurrence

of a specified event, or on demand, (b) the duty or responsibility obligates a particular

entity, leaving it little or no discretion to avoid the future sacrifice, and (c)

the transaction or other event obligating the entity has already happened. Liabilities

commonly have other features that help identify them—for example, most liabilities

require the obligated entity to pay cash to one or more identified other entities and

are legally enforceable. However, those features are not essential characteristics of

liabilities. Their absence, by itself, is not sufficient to preclude an item’s qualifying

as a liability. That is, liabilities may not require an entity to pay cash but to convey

other assets, to provide or stand ready to provide services, or to use assets. And the

identity of the recipient need not be known to the obligated entity before the time

of settlement. Similarly, although most liabilities rest generally on a foundation of

legal rights and duties, existence of a legally enforceable claim is not a prerequisite

for an obligation to qualify as a liability if for other reasons the entity has the

duty or responsibility to pay cash, to transfer other assets, or to provide services to

another entity. [Footnotes omitted]

Scenario 4: Consider the following case excerpt from the FASB’s discussion materials related to

the existing CON 6 liability definition:

Suppose a hospital has carried out a routine operation during which the patient died. If the

patient’s death was the result of hospital negligence, it is highly probable the hospital will

have to pay compensation to the patient’s dependents. The cause of death has not been

established.

. . . Is a present obligation created when:

a. the hospital determines it has been negligent?

b. the executors of the patient’s estate assert negligence occurred?

c. a court concludes that negligence has occurred?

4. Analyze this issue (please record the transaction)

Answer 1

As per the definition of the liability the present obligation should occur as a result of past activity which should result in outflow of resources.

in the given case when the hospital determines that there is a negligence occured there is no obligation as there is a chance that executors may not assert that there is a negligence, but when the executors assert that there is a negligece there is no present obligation since the court has not yet passed any judgement but the outflow of resources is probable, so it is a contingent liability

But when the court concludes that there is a negligence there is a present obligation as it will result in outflow of resources and liability can be recognised when the court passes order