Accounting for Warranty expenses.

 

Provision of warranty and warranty expenses and same is being provision or contingent in nature.  The same is being classified as contingent as enterprise know about the occurrence of the expenses in future but cannot  estimate the exact amount of expenses which going to be incurred in future.    As per IND AS 37, there is no need to recognise contingent liabilities and just disclose the estimate liability in the notes of the financials. Further as per IND AS 37 provision of warranty is not a contingent liability and provision of expenses. For source of the information refer the link below.

https://kb.icai.org/pdfs/PDFFile5b27915fc731e9.56258556.pdf

Warranty obligation represents the additional cost that the seller may have to incur to rectify product defects. This is in the nature of provision as there is an uncertainty associated with the amount and timing of the liability.   The enterprise past experience indicates that it is more likely than not that there will be an outflow of economic benefits  and hence  reliable estimate of the obligation can be made based on past experience.

Hence from the guidance note issued by ICAI we have the following understanding towards provision of warranty

Ø  Provision of warranty is not contigent in nature and hence require to recorded in books.

Ø  There should be reliable estimate which enterprise can estimate from their past experience.  For different enterprise the estimate process can be different.

Ø  Provision of warranty is an allowable expenditure under section 145 of the Income tax act read with section 37(1) of the act.   Refer Delhi ITAT judgement in case of  Huawei Telecommunication (India) Company Pvt Ltd, Vs ACIT , ITA No. 1494/Del/2014.     

Thus enterprise  from their past experience require to make the quantify the amount of provision of expenses.    Given below  the set of journal entries which require to be pass in the books of accounts.     

·         Prepare the following estimate for each item you sold.

Order No.		Example -  101
Sale Value	Rs.	Rs. 50,000
Model Selected	1 / 2/ 3	1
Warranty cost estimate
A.      Defect cost		2000
B.      Operation cost		12000
C.      Maintenance cost		6000
D.      A+B+C		20000
E.       Period of warranty		20

 

·         Entry to be pass at the time of  sale

 

Debtors	Dr.	50000	BS
To  Sale	Cr.	50000	PL

 

Warranty Expenses	Dr.	20000	PL
To Prov for Warranty	Cr.	20000	BS

 

·         Entry to be pass at the time of incurring expenses every month.

 

Prov for Warranty	Dr.	1500	BS
To bank	Cr.	1500	BS

 

·         At the end of the warrant period for the captioned order, the provision may be excess of short.   Accordingly require to pass the following entry

Excess

Prov for Warranty	Dr.	500	BS
Warranty Expenses	Cr.	500	PL

Short

Warranty Expenses	Dr.	500	PL
Prov for Warranty	Cr.	500	BS

 

In the above example, we had included operation & maintenance cost as part of warranty .  If enterprise want, they can recognise the same as sale of service at the time of sale only. Please refer the following journal entry in this regard.

Debtors	Dr	50000	BS
To Sale of Goods	Cr	30000	PL
To Sale of service (O&M)	Cr	20000	PL

 

Warranty Expenses	Dr.	2000	PL
To Prov for Warranty	Cr.	2000	BS

 

Sale of Service	Dr.	10000	PL
To Deferred revenue	Cr.	10000	BS

( Sale of service -  Rs. 10,000/- pertains to current FY and balance pertains to next FY. ) so in next FY we just reverse the entry )