An undertaking in writing for performance of another person or obligation in case of default by person primerly responsible for act.
Guarantee is a non fund based limit sanctioned by bank or financial institution.
AS 29- Para 10.4 “Provision, Contingent Liabilities and Contingent Assets”- A contingent liability is:
(a) a possible obligation that arises from past events and the existence of which will be confirmed only by the occurrence or nonoccurrence of one or more uncertain future events not wholly within the control of the enterprise; or
(b) a present obligation that arises from past events but is not recognised because:
(i) it is not probable that an outflow of resources embodying economic benefits will be required to settle the obligation;or
(ii) a reliable estimate of the amount of the obligation cannot be made.
Disclosure of Contingent Liability:
Para 26 – An enterprises should not recognise contingent liability.
Para 68 – Unless the possibility of any outflow in settlement is remote, an enterprise should disclose for each class of contingent liability at the balance sheet date a brief description of the nature of the contingent liability and, where practicable:
(a) an estimate of its financial effect, measured under paragraphs 35-45;
(b) an indication of the uncertainties relating to any outflow; and
(c) the possibility of any reimbursement.
Journal Entries:
Guarantee is a contingent liability and shown in notes of account only. Some people do not want to take risk of forget at the time of finalisation of financial statements of an enterprises. Therefor i workout following solution with the help of undermentioned entries in books of account:
Step -1 Create a Contingent Liability Sub-group under the heading of Long Term Provisions:
Step -2 Create 2 Leger under said sub group;
BG CDE Bank (Guarantee Issuing Bank)
BG ABC International Pvt Ltd (To whom BG is given)
Step -3 Journal Entry:
Entry for opening of bank guarantee:
BG Margin A/c Dr
To Bank a/C
(Being ..% margin paid to bank for issue of BG of Rs. … in favour of ABC International Pvt Ltd)
Entry for payment of BG Charges
BG Charges/ Bank Charges A/c
To Bank A/C
(Being Rs. .. /-paid to bank against issue of BG, valaidity period 21.07.2016 to 20.07.2019 in favour of ABC international)
Entry for handover of BG to party
BG ABC International Pvt Ltd Dr Eg 20,000.00
To BG CDE Bank A/C eg 20,000.00
(Being bank guarantee handed over to party)
Trail position at the year end :
1. Both the ledger is grouped in same sub group, therefore, closing balance will be NIL no effect in financial statement;
2. You can observed following ledger in trail balance and you can mitigate risk to forget at the time of preparation of financial statement. Contingent Liability Credit 0 BG ABC International Pvt Ltd 20,000.00 BG CDE Bank A/C – 20,000.00
Entry for provision against Bank Guarantee
Open new ledger in the group of contingent liability as “BG Provision A/c)
Profit & Loss A/c Dr
To BG Provision
(Being provision made against given guarantee)
Entry when guarantee invoked
BG CDE Bank Dr
To BG Margin A/c
To Bank A/c
(being BG no .. invoked by party)
BG Provision Dr.
To BG ABC International Pvt Ltd.
(being BG no .. invoked by part and amount paid by bank)