E13-13B (Contingencies) Presented below are three independent situations. Answer the question at the end of each situation.
1. During 2014, Santiago Inc. became involved in a tax dispute with the IRS. Santiago’s attorneys have indicated that they believe it is probable that Santiago will lose this dispute. They also believe that Santiago will have to pay the IRS between $225,000 and $350,000. After the 2014 financial statements were issued, the case was settled with the IRS for $300,000. What amount, if any, should be reported as a liability for this contingency as of December 31, 2014?
2. On October 1, 2014, Washington Chemical was identified as a potentially responsible party by the Environmental Protection Agency. Washington Chemical’s management and its counsel have concluded that it is probable that Washington will be responsible for damages, and a reasonable estimate of these damages is $1,250,000. Washington Chemical’s insurance policy of $2,250,000 has a deductible clause of $125,000. How should Washington Chemical report this information in its financial statements at December 31, 2014?
3. Sandberg Inc. had a manufacturing plant in Bosnia, which was destroyed in the civil war there. It is not certain who will compensate Sandberg for this destruction, but Sandberg has been assured by governmental officials that it will receive a definite amount for this plant. The amount of the compensation will be less than the fair value of the plant, but more than its book value. How should the contingency be reported in the financial statements of Sandberg Inc.?
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