Unit 3
INSURANCE CLAIM ACCOUNTS
LOSS OF STOCK
Meaning: Whenever fire takes place in business premises, the goods and/or properties are burnt or destroyed or damaged by fire. This results in loss, which can be claimed from the Insurance co., for which the procedure is as under :-
POSSIBILITIES:
In this case, first of all prepare Memorandum Trading Account up to the date of fire. The balancing figure in this account is the Estimated Stock as on the date of fire. After the estimated stock is ascertained, we have to prepare a statement of loss of stock as under:
PARTICULARS | RS |
Estimated stock | XX |
Less: Stock Salvaged | (XX) |
Therefore, Loss of stock | XX |
CASE I. Figures of one previous year are given in the problem(Refer Q No. 2)
PROCEDURE:
i) Prepare Trading Account for the previous year and find the Gross Profit.
ii) Ascertain the rate of G.P as under:
Rate of G.P= G.P X 100/Net Sales
iii) Prepare Memorandum Trading Account for the Period upto the date of fire as usual by first calculating the Gross Profit by using the rate calculated in step (ii) and the balancing figure will be Estimated stock on the date of fire.
iv) Prepare the statement of loss of stock as usual.
CASE II. Relevant Figures are given for more than one previous year(Refer Q No. 3)
PROCEDURE:
1) Prepare Trading A/c for all previous years and find the Gross Profit of every year.
2) Ascertain the rate of G.P of each year and average the same or adjust the same.
3) Prepare Memorandum Trading A/C as usual.
4) Prepare the statement of Loss of stock.
This Average Clause is applicable when there is under insurance. Under Insurance means an Insurance in case of which policy amount is less than the estimated stock.
When the policy amount is more than the estimated stock, it is a case of Over Insurance.
Then average clause doesn't become applicable. Similarly when the policy amount is equal to the estimated stock the average clause doesn't become applicable. The average clause becomes applicable only when there is an under insurance.
Average Clause is a clause in the insurance policy which provides that in case there is under insurance, the insured will get that proportion of loss of stock which the value of policy bears to the total value of stock or any fixed assetas on the date of fire. In other words, average clause in the insurance policy states that if there is under insurance the insured will not get full loss of stock but this actual claim can be ascertained by applying the formula as under:
Insurance claim = Insurance policy X Loss of stock /Estimated stock
Sometimes the businessman values the stock at a price which is less than the cost. When the stock is value at a price which is less than the cost it is known as stock below cost or undervalued. if the stock is the price which is more than the cost it is known as stock about cost overvalued or stock overvalued
While preparing the Trading Account and/or Memorandum Trading A/C this stock which is undervalued or overvalued should be adjusted at cost. This is necessary so as to ascertain the correct amount of estimated stock, the actual rate of G.P& to know the correct loss of stock.
For this the procedure is as under:
a) If stock is undervalued
Stock at cost = stock as undervalued X 100 / 100 - rate
b) If stock is overvalued
Stock at cost = stock as overvalued X 100 / 100 + rate
Sometimes stock of a particular year may include some abnormal goods in case of which some amount is written off. While Preparing Trading A/C for that particular year, the amount written off the abnormal goods to be added back to the Closing stock as valued. This will bring the closing stock at par and it will give the actual G.P and the actual rate of G.P applicable to normal sales. While preparing Memorandum Trading A/C. two separate columns are maintained for normal goods and abnormal goods.
LOSS OF PROFIT
The effect of outbreak of fire on a firm not only causes the destruction of properties but also disorganizes the business to a stage of dislocation. During the dislocation period, there is a loss of profit which the business would have earned during the period, had there been no accident of fire.
When the business is dislocated, the profit-earning capacity is also reduced. This reduced capacity continues till the destroyed portion is restored as before. During the period, i.e. from the date of fire to the date of restoration, there may be no profit or very low profit. Profit reduces because of the reduced production capacity and in turn sales is affected.
As long as the abnormal state continues, a businessman experiences reduction in sales, non-recovery of fixed expenses, sharp decline of earnings etc. Consequence of fire accident is thus a loss of profit which the firm would have otherwise earned. This loss of profit is not covered by ordinary fire policy insuring existing items.
The loss of profit can be insured against by “Loss of Profit” or “Consequential Loss” policy. The insurer rarely admits a claim for consequential loss without admission of liability for loss of assets by fire. Therefore, Insurance Company generally insists on taking a policy for Loss of Profit on condition that the assets of the business concern are also insured.
The loss of profit policy normally covers the following items:
(1) Loss of Net Profits.
(2) Standing Charges.
(3) Any Increased Cost of Working.
The following are the important terms used in Loss of Profit insurance and a knowledge of the terms will be advantageous:
1. Indemnity Period:
Indemnity period means the period which commences on the date of damage by fire and ends on the date when normality is restored. The indemnity period is generally stipulated in the insurance policy. This period is selected by the insured himself.
The policy is taken generally for a period of one year and can be renewed annually, whereas the indemnity period commences on the day on which the accident takes place and runs up to a period of twelve or more months. It is necessary that the policy must be in force at the time of fire accident.
2. Standard Turnover:
It is the turnover during the period in the twelve months immediately preceding the date of the hazard which corresponds with the indemnity period.
3. Short Sales:
The term “Short Sales” refers to the loss of sales due to the dislocation of business. That is, short sale is the difference between standard turnover and actual turnover during the period of fire.
4. Standing Charges:
Standing charges refer to those fixed expenses which are incurred irrespective of the reduction in turnover. Examples of standing charges are salaries to permanent staff, rent, rates, taxes, insurance premium, interest on bank overdraft, debentures etc. Only those standing charges, which are insured, can be claimed.
5. Increased Cost of Working:
The insured may have to incur some additional or special expenses in order to keep the business, during the post-fire period and to avoid reduction in sales. Expenses in excess of what is essentially required may be unreasonable expenditure.
6. Rate of Gross Profit:
The term “Gross Profit” has got a different meaning when it is calculated for loss of profit policy and is different from the normal rate of Gross Profit as described under “Loss of Stock”. The rate of Gross Profit is calculated by taking previous year’s figures.
Loss due to reduction in turnover is calculated by applying the gross profit rate to reduction in turnover
The rate of gross profit is calculated with reference to last accounting period:
Rate of Gross profit will be calculated as:
= Net Profit + Insured Standing Charges x 100
Turnover
In case of Loss,
= Insured Standing Charges – Net Loss x 100
Turnover
If all standing charges are not Insured, the amount of net loss will have to be reduced as follows = Insured Standing Charges x Net Loss x 100
All Standing Charges
Further, increased working expenses will be allowed subject to lower of:
All Standing charges of business
B. Short sales avoided through increased cost of working x Rate of G.P
7. Average Clause:
Average clause is applicable in respect of loss of profit insurance. If there is an increase in the turnover of business, the sum insured should also be proportionately increased. If not, it amounts to under-insurance. Under-insurance may also occur if all the standing charges are not covered by the policy.
8. Annual Turnover:
It is the value of sales and services during the twelve months immediately preceding the hazard, subject to adjustment for any change in the volume of sales.
Step 1: Ascertain the short sale (i.e. excess of standard turnover over actual turnover) during the period of dislocation.
Step 2: Find out the rate of Gross Profit.
Step 3: Calculate the Loss of Profit by applying the rate of Gross Profit.
Step 4: Add thereto (Step 3) the net increased cost of working on account of short sales.
Step 5: Any savings in expenses are deducted (from Step 4).
Step 6: The result of Step 5 is the amount of gross claim.
Step 7: Finally, the amount calculated will be adjusted, by applying average clause, if necessary. The figure so calculated will be the amount of claim for loss of profit to be lodged with the insurance company.
Accounting treatment for lost or stolen tangible fixed assets such as motor vehicles is similar to the accounting for disposal of such assets without any sale proceeds.
The fixed asset must be de-recognized from the statement of financial position and a loss must be recognized for the carrying amount of the lost or stolen asset.
Insurance compensation received or receivable on the asset may either be offset against the loss or presented separately as other income.
The accounting entries may therefore be summarized as follows:
Debit | Loss on asset by fire |
Debit | Accumulated Depreciation |
Credit | Property, plant and equipment (cost) |
Debit | Bank / Insurance compensation receivable |
Credit | Other income - Insurance compensation* |
*This may instead be set off against the loss on asset theft
Q. 1
On 17th June, 2013 a fire occurred in the premises of Mr. NihalMatre, a bookseller. Most of the stock was destroyed, the cost of the salvaged stock being Rs. 22,400. In addition, some stock was salvaged in damaged condition and its value was estimated at Rs. 20,800. The following particulars were available from the books of accounts:
Stock at the close of accounts on 31st December 2012 was Rs. 1,67,000.
Purchases from 1-1-2013 to 17-6-2013 amounted to Rs. 2,24,000 and sales during that period amounted to Rs. 3,08,000.
On the basis of the past three years it appears that on average the gross profit of 50% is earned on sales.
Stock was insured for Rs. 1,50,000. Compute the amount of claim.
SOLUTION:
Dr. Memorandum Trading A/c for the period 1.1.13 to 17.6.13 Cr.
Particulars | Amount | Particulars | Amount |
To Opening stock | 1,67,000 | By Sales | 3,08,000 |
To Purchase | 2,24,000 |
|
|
To Gross Profit (50% of sales) | 1,54,000 | By Closing stock (Bal fig) | 2,37,000
|
Total | 5,45,000 | Total | 5,45,000 |
Statement of Loss of Stock
Particulars | Amount |
Estimated stock | 2,37,000 |
Less: Stock Salvaged | (43,200) |
Therefore, Loss of stock | 1,93,800 |
Therefore the claim amount is as under
CLAIM =Policy X Loss of stock / Estimated Stock
=1,50,000 X 1,93,800 / 2,37,000
= Rs. 1,22,658
Therefore the amount of claim is RS 1,22,658
Q. 2
Fire occurred in the premises of PQR and co. on 1st September, 2013 and stock of the value of Rs. 50,500 was salvaged and the business books and Records were salvaged. The following information was obtained.
Particulars | Rs. |
Purchases for the year ended 31-3-2013 Sales for the year ended 31-3-2013 Purchases from 1-3-2013 to 1-9-2013 (Evenly Spread during the period) Sales from 1-3-2013 to 1-9-2013 (Evenly Spread during the period) Stock on 31st March, 2012 Stock on 31st March, 2013 | 3,50,000 5,50,000
1,20,000
1,80,000 1,50,000 1,70,000 |
Further information is also given that the stock on 31-3-2013 was over valued Rs. 10,000/-.
Calculate the amount of the claim to be represented to the Insurance Company in respect of losses. Rate of Gross Profit based on the year ended 31-3-2013.
SOLUTION:
Dr. Trading A/c for the year ended 31-3-13 Cr.
Particulars | Amount | Particulars | Amount |
To Opening stock | 1,50,000 | By Sales | 5,50,000 |
To Purchase | 3,50,000 |
|
|
To Gross Profit (Bal Fig) | 2,10,000 | By Closing stock (1,70,000-10,000) | 1,60,000 |
Total | 7,10,000 | Total | 7,10,000 |
Ascertain the rate of G.P as under:
Rate of G.P = G.P / Net SalesX 100
= 2,10,000 / 5,50,000X 100
= 38.18%
Dr. Memorandum Trading A/c for the period 1.4.13 to 1.9.13 Cr.
Particulars | Amount | Particulars | Amount |
To Opening stock | 1,60,000 | By Sales | 1,80,000 |
To Purchases | 1,20,000 |
|
|
To Gross Profit (38.18% of Sales) | 68,724 | By Closing stock (Bal fig) | 1,68,724 |
Total | 2,48,724 | Total | 2,48,724 |
Statement of Loss of Stock
Particulars | Amount |
Estimated stock | 1,68,724 |
Less: Stock Salvaged | (50,500) |
Therefore, Loss of stock | 1,18,224 |
Since there is no policy amount given in the question, It is assumed that loss of stock is fully claimed by PQR Ltd.
Q. 3
The premises of M/S. Yukta were destroyed by fire on 30th June, 2013. Following figures were however available from various sources. Prepare a statement of claim in respect of loss of stock for submission to the fire Insurance Company. The firm closes its books on 31st December every year.
Details | 2010 Rs. | 2011 Rs. | 2012 Rs. | 2013 Rs. |
Opening Stock Purchases less Returns Sales less Returns Freight (Inward) Freight (Outward) Closing Stock | 10,000 90,000 1,00,000 4,000 5,000 22,000 | 22,000 1,45,000 1,98,800 3,000 7,000 11,800 | 11,800 2,63,200 3,05,500 5,000 6,000 34,000 | 34,000 43,000 46,000 1,000 600 ? |
The value of salvage was Rs. 4,000.
SOLUTION
Dr. Combined Trading A/c Cr.
Particulars | 2010 | 2011 | 2012 | Particulars | 2010 | 2011 | 2012 |
To Opening Stock | 10,000 | 22,000 | 11,800 | By Sales | 1,00,000 | 1,98,800 | 3,05,500 |
To Purchase | 90,000 | 1,45,000 | 2,63,200 |
|
|
|
|
To Freight | 4,000 | 3,000 | 5,000 | By Closing Stock | 22,000 | 11,800 | 34,000 |
To Gross profit (Bal Fig) | 18,000 | 40,600 | 59,500 |
|
|
|
|
Total | 1,22,000 | 2,10,600 | 3,39,500 | Total | 1,22,000 | 2,10,600 | 3,39,500 |
Gross profit rate = G.P / Net Sales X 100
2010 = 18,000 / 1,00,000X 100 = 18%
2011 = 40,600 / 1,98,800X 100 = 20.42%
2012 = 59,500 / 3,05,500X 100 = 19.47%
AVERAGE RATE OF G.P = 18+20.42+19.47 / 3
= 19.29%
Dr. Memorandum Trading A/c upto the date of fire(2013) Cr.
Particulars | Amount | Particulars | Amount |
To Opening Stock | 34,000 | By Sales | 46,000 |
To Purchase | 43,000 |
|
|
To Freight | 1,000 | By Closing stock (Bal fig) | 40,873 |
To Gross Profit (19.29% of Sales) | 8,873 |
|
|
Total | 86,873 | Total | 86,873 |
Statement of loss of stock
Particulars | Amount |
Estimated stock | 40,873 |
Less: Stock Salvaged | (4,000) |
Therefore, Loss of stock | 36,873 |
Since there is no policy amount given in the question, It is assumed that loss of stock is fully claimed by M/s Yukta.
Q.4
A fire on October, 14, 2013 destroyed the stock of a Birju Associates. The business records were saved and from them the following particulars were ascertained.
Details- Rs.
Stock at Cost on 1st April, 2012 1,77,200
Stock on 1st April, 2013 1,50,200
Purchases for the year upto 31st March, 2013 4,15,400
Sales for the year upto 31st March, 2013 6,10,000
Purchases from 1st April, 2013 to 14th October, 2013 1,49,400
Sales from 1st April, 2013 to 14th October, 2013 2,36,000
In Valuing stock on 31st March, 2013 Rs. 2,400 had been written off a particular line of goods which had Originally cost Rs. 7,200 and which were sold in June, 2013 for Rs. 7,000. Except as regards this Transaction, the ratio of gross profit had remained unchanged through out.
Salvage was Rs. 20,420
Calculate the amount of Insurance claim to lodged with the Insurance company.
SOLUTION
Dr. Trading A/c for the year ended 31.3.13 Cr.
Particulars | Amount | Amount | Particulars | Amount | Amount |
To Opening stock |
| 1,77,200 | By Sales |
| 6,10,000 |
To Purchase |
| 4,15,400 | By Closing stock | 1,50,200 |
|
|
|
| Add: Abnormal Stock Written Off | 2,400 | 1,52,600 |
To Gross Profit (Bal fig) |
| 1,70,000 |
|
|
|
Total | 7,62,600 | Total | 7,62,600 | ||
Gross profit rate = G.P / Net Sales X 100
=1,70,000/6,10,000 X 100
=27.87%
Dr. Memorandum Trading A/c for the period 1.4.13 to 14.10.13 Cr.
Particulars | Normal | Abnormal | Particulars | Normal | Abnormal |
To Opening stock | 1,45,400 | 7,200 | By Sales | 2,29,000 | 7,000 |
To Purchase | 1,49,400 |
| By Abnormal Loss |
| 200 |
To Gross Profit (27.86% of sales) | 63,800 |
| By Closing Stock (Bal fig) | 1,29,600 |
|
Total | 3,58,600 | 7,200 | Total | 3,58,600 | 7,200 |
Statement of Loss of Stock
Particulars | Amount |
Estimated stock | 1,29,600 |
Less: Stock Salvaged | (20,420) |
Therefore, Loss of stock | 1,09,180 |
Since there is no policy amount given in the question, It is assumed that loss of stock is fully claimed by Birju Associates.
Q.5
A fire occurred on 1st February, 2012, in the premises of Pioneer Ltd., a retail store and business was partially disorganized upto 30th June, 2012. The company was insured under a loss of profits for Rs. 1,25,000 with a six months period indemnity. From the following information, compute the amount of claim under the loss of profit policy assuming entire sales during interrupted period was due to additional expenses.
Actual turnover from 1st February to 30th June, 2012 | 80,000 |
Turnover from 1st February to 30th June, 2011 | 2,00,000 |
Turnover from 1st February, 2011 to 31st January, 2012 | 4,50,000 |
Net Profit for last financial year | 70,000 |
Insured standing charges for last financial year | 56,000 |
Total standing charges for last financial year | 64,000 |
Turnover for the last financial year | 4,20,000 |
The company incurred additional expenses amounting to Rs. 6,700 which reduced the loss in turnover. There was also a saving during the indemnity period of Rs. 2,450 in the insured standing charges as a result of the fire.
There had been a considerable increase in trade since the date of the last annual accounts and it has been agreed that an adjustment of 15% be made in respect of the upward trend in turnover.
Solution:
Computation of the amount of claim for the loss of profit
Particulars | Amount |
(i) Reduction in turnover |
|
Turnover from 1st February to 30th June, 2011 | 2,00,000 |
Add: 15% Increase | 30,000 |
| 2,30,000 |
Less: Actual turnover from 1st February to 30th June, 2012 | (80,000) |
Short Sales | 1,50,000 |
|
|
Gross Profit on reduction in turnover @ 30% on Rs 1,50,000(see WN 1) | 45,000 |
Add: Additional Expenses (Lower of A or B or C) |
|
|
|
B. Additional Exp x GP on Adjusted T/o / GP+Uninsured standing charges 6700 x 155250/163250 =6,372 See WN 2 for amounts |
|
C. GP on Sales on account of additional expenses 80000 x 30% = 24,000 | 6,372 |
| 51,372 |
Less: Savings in Insured standing charges | (2,450) |
Amount of claim before Application of Average Clause | 48,922 |
Application of Average Clause |
|
Amount of Policy × Amount of Claim G.P. on Annual Turnover |
|
= 125000 x 48922 155250 | 39,390 |
Amount of Claim under the Policy is Rs. 39,390 |
|
|
|
Working Notes |
|
|
|
Net Profit | 70,000 |
Add: Insured Standing Charges | 56,000 |
Gross Profit | 1,26,000 |
Turnover for the last financial year | 4,20,000 |
Rate of GP = 126000 x 100 420000 | 30% |
|
|
2. Adjusted Annual Turnover |
|
Turnover from 1st February, 2011 to 31st January, 2012 | 4,50,000 |
Add: 15% Increase | 67,500 |
| 5,17,500 |
Gross Profit on Rs. 517500 @ 30% | 1,55,250 |
Standing charges not insured(64000-56000) | 8,000 |
GP plus non insured standing charges | 1,63,250 |
Q.6
The premises of Shinchan Limited were partially destroyed by fire on 1st March, 2019 and as a result, the business was practically disorganised upto 31st August, 2019. The company is insured under a loss of profits policy for Rs 165 lakh having an indemnity period of 6 months.
From the following information, prepare a statement of claim under the policy:
Particulars | Amount In lakhs |
Actual turnover from 1st March, 2019 to 31st August, 2019 | 80 |
Turnover for corresponding period in the 12 months immediately preceding the date of fire ie 1st March, 2018 to 31st August, 2018 | 240 |
Turnover for the 12 months immediately preceding the date of fire ie 1st March, 2018 to 28th Feb, 2019 | 600 |
Net Profit for last Financial Year | 90 |
Insured Standing charges for last Financial Year | 60 |
Uninsured Standing charges | 5 |
Turnover for last Financial Year | 500 |
Due to substantial increase in trade, before and up to the time of the fire, it was agreed that an adjustment of 10% should be made in respect of the upward trend in turnover.
The company incurred additional expenses amounting to Rs 9.3 lakh immediately after the fire and but for this expenditure, the turnover during the period of dislocation would have been only Rs 55 lakh. There was also a saving during the indemnity period, of Rs 2.7 lakh in insured standing charge as a result of the fire.
Solution:
Computation of the amount of claim for the loss of profit
Particulars | Amount |
(i) Reduction in turnover |
|
Standard Turnover | 240 |
Add: 10% Increase | 24 |
| 264 |
Less: Turnover during dislocation period | (80) |
Short Sales | 184 |
|
|
Gross Profit on reduction in turnover @ 30% on 184 lakhs(see WN 1) | 55.2 |
Add: Additional Expenses (Lower of A or B or C) |
|
|
|
B. Additional Exp x GP on Adjusted T/o / GP+Uninsured standing charges 198 x 9.3/(198+5) =9.071 lakhs See WN 2 for amounts |
|
C. GP on Sales on account of additional expenses (80 lakhs – 55 lakhs) x 30% = 7.5 lakhs | 7.5 |
| 62.7 |
Less: Savings in Insured standing charges | 2.7 |
Amount of claim before Application of Average Clause | 60 |
Application of Average Clause |
|
Amount of Policy × Amount of Claim G.P. on Annual Turnover |
|
= 60 x 165 198 | 50 |
Amount of Claim under the Policy is Rs. 50 lakhs |
|
|
|
Working Notes |
|
|
|
Net Profit | 90 |
Add: Insured Standing Charges | 60 |
Gross Profit | 150 |
Turnover for the last financial year | 500 |
Rate of GP = 150 x 100 500 | 30% |
|
|
2. Adjusted Annual Turnover |
|
Turnover from 1st March, 2018 to 28th Feb, 2019 | 600 |
Add: 10% Increase | 60 |
| 660 |
Gross Profit on 660 lakhs @ 30% | 198 |
Q.7
On 1st August, 2019 a fire occurred in the premises of ABC Ltd. The Company has a loss of profit for Rs 12,00,000. Sales from 1st August, 2018 to 31st July, 2019 were Rs 1 crore, the sales from 1st August, 2018 to 30th November, 2018 being Rs 30,00,000. During the indemnity period, which lasted four months, sales amounted to Rs 4,00,000 only. The Company closes its books of account every year on 31st March.
Profit & Loss Account
Particulars | Amount | Particulars | Amount |
To Opening stock | 10,00,000 | By Sales | 95,00,000 |
To Purchases | 60,00,000 | By Closing stock | 5,00,000 |
To Manufacturing Expenses | 6,70,000 |
|
|
To Selling Expenses | 9,05,000 |
|
|
To Fixed Expenses | 7,25,000 |
|
|
To Net Profit | 7,00,000 |
|
|
Total | 1,00,00,000 | Total | 1,00,00,000 |
As compared with the sales for the first four months of the accounting year 2018-2019, the sales for the first four months of the accounting year 2019-2020 were found to be up by 20%.
Calculate the amount of claim for loss of profit assuming that the policy has ‘average clause’.
Solution:
Computation of the amount of claim for the loss of profit
Particulars | Amount In lakhs |
(i) Reduction in turnover |
|
Sales from 1st August, 2018 to 30th November, 2018 | 30 |
Add: 20% Increase | 6 |
| 36 |
Less: Turnover during dislocation period | 4 |
Short Sales | 32 |
|
|
Gross Profit on reduction in turnover @ 15% on 32 lakhs(see WN 1) | 4.8 |
Amount of claim before Application of Average Clause | 4.8 |
Application of Average Clause |
|
Amount of Policy × Amount of Claim G.P. on Annual Turnover |
|
= 4.8 x 12 18 | 3.2 |
Amount of Claim under the Policy is Rs. 3.2 lakhs |
|
|
|
Working Notes |
|
3. Rate of Gross Profit |
|
Net Profit | 7 |
Add: Insured Standing Charges | 7.25 |
Gross Profit | 14.25 |
Turnover for the last financial year | 95 |
Rate of GP = 14.25 x 100 95 | 15% |
|
|
4. Adjusted Annual Turnover |
|
Sales from 1st August, 2018 to 31st July, 2019 | 100 |
Add: 20% Increase | 20 |
| 120 |
Gross Profit on 120 lakhs @ 15% | 18 |
