Current Liabilities and Payroll Accounting

Gallardo Co. is involved in a lawsuit as a result of an accident that took place September 5, 2020. The lawsuit was filed on November 1, 2020, and claims damages of $1,000,000.

Instructions

  1. At December 31, 2020, Gallardo's attorneys feel it is remote that Gallardo will lose the lawsuit. How should the company account for the effects of the lawsuit?
  2. Assume instead that at December 31, 2020, Gallardo's attorneys feel it is proable that Gallardo will lose the lawsuit and be required to pay $1,000,000. How should the company account for this lawsuit?
  3. Assume instead that at December 31, 2020, Gallardo's attorneys feel it is reasonable possible that Gallardo could lost the lawsuit and be required to pay $1,000,000. How should the company account for this lawsuit?

Solution

a.
The contingency is remote (It is unlikely to occur), so that no need to be recorded or disclosed
 
b.

The contingency is probable. So that the Gallardo Co. makes the following adjusting entry

 
c.

The contingency is reasonable possible. So that this needs to disclosed in the notes to the financial statements

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