When should losses from litigation settlements be recognized?

Losses from litigation settlements should be recognized when they are considered probable, which means it is more likely than not that a loss will occur. This is based on the accounting principle of recognizing expenses and losses when they are reasonably estimable and probable, which aligns with the guidelines set forth in accounting standards such as GAAP.

In the context of litigation, once it is determined that a settlement is probable, it signals that the likelihood of having to pay damages is significant. At this point, the organization can make a reasonable estimate of the expected loss, which allows for a proper reflection of the financial condition and performance of the entity in its financial statements. This proactive approach helps to ensure that the financial statements provide an accurate view of the entity's liabilities and potential future cash outflows.

Recognizing losses at this stage also adheres to the concept of conservatism in accounting, which favors recognizing losses sooner than potential gains. This ensures that stakeholders have a clear understanding of the risks that the entity is facing due to ongoing or potential litigation.