A potential liability dependent upon some future event occurring or not occurring. For example, a company is named as a defendant in a $1 million lawsuit. Does that mean the company automatically has a liability of $1 million? What if the lawsuit has no merit and can easily be defended? If it is probable that the company will lose and the amount can be estimated, a journal entry is prepared to debit Loss from Lawsuit and to credit Lawsuit Payable. If it is possible but not probable that the company will lose, the journal entry is not made but instead there will be a footnote disclosure. If the lawsuit is remote (a nuisance suit without any merit), there is no need for a journal entry and no need to disclose the lawsuit. Accountants usually consider product warranties to be a contingent liability that is both probable and can be estimated and is therefore recorded with a journal entry.
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For the past 52 years, Harold Averkamp (CPA, MBA) has
worked as an accounting supervisor, manager, consultant, university instructor, and innovator in teaching accounting online. He is the sole author of all the materials on AccountingCoach.com.
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