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Hi Mike,
In the past exam Dec 2013, I had a confused problem in notes (iii) when interpreting administrative expense and insurance provision.
We had trial balance show:
Administrative expense : Dr. 16500
Insurance provision: Cr 150Note (iii): On 1 Oct 2012, Moby received a renewal quote of $400k from the company’s property insurer. The directors were surprised at how much it had increased and believed it would be less expensive for the company to “self-insure”. Accordingly, they charged $400k to Admin.expense and Credited the same amount to to the insurance provision. During the year, the company incurred $250k of expenses relating to previously insured property damage which it has Debited to provision.
I don’t know why the answer shows a reduction in Administrative expense $150k as called “Disallowed provision” as well as the Insurance provision (Cr $150) did not appear in Current Lia in that year’s FS?
Thank Mike,
We are no longer able to make a provision that has no mathematical calculation behind it – ie general provisions are no longer allowed
It’s an illustration of the “big bath” approach. We can provide for specific issues (warranty claims, estimated liability arising from the probable outcome of a court case) but we cannot simply put aside a variable amount each year on the of chance that we may have to pay out some of it.
$250 of the $400 was used up in settling debts that would otherwise have been covered by insurance. That means that the excess $150 needs to be taken back into statement of profit or loss as a provision no longer required.
If we are going to self insure, then the cost of settling claims each year will be expensed each year against statement of profit or loss
Ok?
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Thank a lot, Mike
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