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Thread Title: Accounting for Provision
Created On Wednesday October 10, 2007 4:47 AM
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  Accounting for Provision
  Accounting for Provision
  Accounting for Provision
  Accounting for Provision


Moose


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Wednesday October 10, 2007 4:47 AM

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What is the proper accounting for provisions? I know this is a general question, but I have a department that is taking portions of unused provisions into misc. income.

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Crash


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Wednesday October 10, 2007 10:19 AM

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They are wrong. To create - debit the provision and credit the expense. To undo - reverse the unused portion. Note - the effect of the reversal debit to the provision expense will have the same affect as the misc. income treatment. Your bottom line number should be identical.

Be careful - they may have some reason for wanting to show it as income. I'd find out why and who to determine if you have a much deeper issue with all of your income numbers. These are rarely honest mistakes.

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Griff


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Wednesday October 10, 2007 11:59 AM

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Crash is right, and it does look like you may have traditional 'bucket' accounting. It works like this: if you are making money and want to put some aside for a rainy day, you put it in a bucket, known in accounting circles as a provision. Some imagination is needed here, but if you are importing goods a suitable provision is a 'Goods which might be lost if a ship sinks' provision. Thus profit is decreased.

When times are not so good, you suddenly discover that not as many ships have been sinking as you first thought and you can take some money out of the bucket (known in boring circles as 'releasing the provision'), thus increasing profit.

Unfortunately spoil-sports in the accounting profession have realised that this is a way of manipulating profits and are trying to stop it. It takes all the flair out of accounting, doesn't it?

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David Griffiths
www.internalaudit.biz

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planoisdaudit


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Wednesday October 10, 2007 6:29 PM

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Aw, ya mean I can't stuff it in a mattress until I need it to make my $100 gazillion bonus?

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Dan
Integrity can be defined as your moral soundness. A test for integrity - Do your actions match your words?

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purdeen


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Thursday October 11, 2007 9:59 AM

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Is this 'technique' also applied for tax reasons?
My thoughts are ..perhaps when we examine provisions...we should 'determine' of they are justified..or just there to manipulate profits.
This appears a v difficult thing to assess...of course we compare to past proviions, % of portfolio etc...but if this is ongoing, what are some red flags for this practice?

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rita_purdeen

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Thedude


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Thursday October 11, 2007 3:15 PM

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Has the department given you any reason why they have taken the amounts out of the provisions? What are the provisions on? As writing them down likely should not go into miscellaneous income. That is if you have an allowance for doubtful accounts and decide to reduce it, the reduction goes against bad debts for the year.

Any time a provision is taken in the first place there should be reasonable justification in place, when these amounts are reduced there should be bonafide business reasons for the reduction. As well since management is taking "portions of unused provisions..." I would be worried as it sounds like they may be cherry picking areas to inflate the net income.

In the end if they can tie the original need for the provision to a particular event (i.e. a lawsuit against your company with a known $ amount and likely negative outcome) and the reduction to the resolution of that event (i.e. lawsuit was settled for less than expected) then the net accounting would appear to be correct. In that case you just want to make sure that the placement on the income statement is correct.

As noted in the previous posts these are fairly risky entries due to the likelihood of manipulation.

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gmerkl


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Thursday October 11, 2007 4:52 PM

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Moose,

I hate to contradict somebody as experienced and knowledgeable as Crash (usually he is right), but you
- create a provision by debiting an expense account and crediting a provision (i.e. a liability like balance sheet account);
- use a provision by debiting it and crediting cash or the actual supplier's liability account; and
- dissolve any part of the provision that is no longer needed by debiting the provision and crediting a miscellaneous (i.e. income from the dissolution of provisions) account.

A provision is liability whose amount and/or whose date of payment is uncertain. Examples are provisions for bad debt (i.e. accounts receivable that probably won't get paid), provisions for annual volume depedent discounts to customers, provisions for product guarantees to customers, provisions for lawsuits, restructuring provisions, etc.

If you think management uses provisions as cookie jars to manipulate profits or that they are just bad at estimating provisions, look at the methodology they use to calculate provisions. Do they analyze past uses of the provision and any forecasts of factors that go into the calculation of the provision. What are the variances between the historical calculations (creations) of provisions for a certain time period and the actual use of the provisions.

Best regards

Georg

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Crash


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Thursday October 11, 2007 5:21 PM

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Thanks Georg! I always screw it up unless I break out the T paper.

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gmerkl


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Monday October 15, 2007 4:54 PM

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Crash,

You're welcome. One of the advantages of changing from IA to controlling/accounting is that I now have to deal with accounting stuff all the time :-) The downside is that my tolerance for unmitigated risks and material mistakes in our internal control over financial reporting with my current boss as the root cause is rather limited due to my IA background. If somebody should know that a particular performance ratio for our investment funds is one of the main material pieces of information in the quarterly reports to investors and the security prospectus (i.e. the private placement memorandum = LIABILITY under securites law) and it is known from multiple historical mistakes that a new employee has a certain tendency to make mistakes and this employee's work needs to be reviewed by the boss and that this review previously did not take place or did not work. Since the boss's boss does not take any visible action despite me reporting the individual problems (with copies of the multiple basic and material mistakes in reports and calculations) and the lack of reviews and discussing them with the boss's boss, I think the control environment is screwed. By the way our accounting department consists of the boss and three employees (one joined 9 months ago, one this month, me being the experience rest). When the boss was hired it was just the two of us and I made it plain in his job interview with me that the boss in this department would need to roll up his sleeves and get his hands dirty since we are not a huge department where one can just focus on high level people management. Sorry to sound frustrated, but I really am ...

Best regards

Georg

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Crash


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Monday October 15, 2007 5:32 PM

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Georg - It sounds like they are leaning on you pretty heavy as QC for a lot of things. It keeps the axe sharp but can wear you down when you know people getting paid more are doing much less. I do very little in the financial audit arena where I am at now, but your contributions in this forum speak volumes about your skill sets. Ignorance in this forum is one thing (I show it a lot!!), but your bosses' behavior where it matters is scary. They need you - I hope the pay matches the need. Good luck with it!

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Do the right things for the right reasons.

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DISCUSSIONS > IIA GENERAL DISCUSSION AREA [ REFRESH ]
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