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CHAPTER 19PENSIONS AND OTHERPOST-EMPLOYMENT BENEFITSCHAPTER STUDY OBJECTIVES Understand the importance of pensions from a business perspective. A pension plan, together with post-retirement health care, is often part of an employee’s overall compensation package. The size of these plans, in terms of...

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CHAPTER 19 PENSIONS AND OTHER POST-EMPLOYMENT BENEFITS CHAPTER STUDY OBJECTIVES 1. Understand the importance of pensions from a business perspective. A pension plan, together with post-retirement health care, is often part of an employee’s overall compensation package. The size of these plans, in terms of both the number of employees and cost of benefits, has made their costs very large (on average) relative to companies’ financial position, operating income, and cash flows. With the vast majority of defined benefit plans being underfunded, more and more companies are moving toward defined contribution plans. 2. Identify and account for a defined contribution plan. Defined contribution plans are plans that specify how contributions are determined rather than what benefits the individual will receive. They are accounted for similar to a cash basis. 3. Identify and explain what a defined benefit plan is and the related accounting issues. Defined benefit plans specify the benefits that the employee is entitled to. Defined benefit plans whose benefits vest or accumulate typically provide for the benefits to be a function of the employee’s years of service and, for pensions, compensation level. In general, the employer’s obligation for such a plan and the associated cost is accrued as an expense as the employee provides the service. An actuary usually determines the required amounts. 4. Explain what the employer’s benefit obligation is, identify alternative measures for this obligation, and prepare a continuity schedule of transactions and events that change its balance. The employer’s benefit obligation is the actuarial present value of the benefits that have been earned by employees for services they have provided up to the date of the statement of financial position. The vested benefit method, accumulated benefit method, and projected benefit method are three methods that could be used to measure companies’ obligations. The third method is the one used to determine the defined benefit obligation, basing the calculation of the deferred compensation amount on both vested and non-vested service using future salaries. This last method is used under both IFRS and ASPE. The defined benefit obligation (DBO) is increased by current service cost, net interest/finance cost, and plan amendments that usually increase employee entitlements for prior services, and by actuarial losses. It is reduced by payment of pension benefits and by actuarial gains. 5. Identify transactions and events that change benefit plan assets, and calculate the balance of the plan assets. Plan assets are increased by company and employee contributions and the actual return that is earned on fund assets (including realized and unrealized gains and losses), and are reduced by pension benefits paid to retirees.

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6. Explain what a benefit plan’s surplus or deficit is, calculate it, and identify what transactions and events change its amount. A plan’s surplus or deficit is the difference between the defined benefit obligation and the plan assets at a point in time. It tells you the extent to which a company has a net obligation (underfunded) or a surplus (overfunded) relative to the benefits that are promised. All items that change the plan assets and DBO, with the exception of the payments to retirees, change the surplus or deficit. 7. Identify the components of pension expense, and account for a defined benefit pension plan under IFRS and ASPE. Pension expense is a function of: (1) current service cost, (2) finance cost including the net interest/finance cost on the net defined benefit liability/asset and the remeasurement gain or loss on plan assets, (3) past service costs, and (4) net actuarial gains or losses. Under ASPE, all are immediately included in current expense in their entirety. Under IFRS, pension costs relating to current service, past service, and net interest on the net defined benefit obligation are included in pension expense. Actuarial gains and losses, and any return on plan assets excluding amounts included in the net interest on the net defined benefit obligation (asset), are recognized in other comprehensive income. 8. Account for defined benefit plans with benefits that vest or accumulate other than pension plans. Under ASPE, any non-pension defined benefit plans with benefits that vest or accumulate are accounted for in the same way as defined benefit pension plans. Under IFRS, short-term employee benefits are generally recognized (without discounting) at the amount expected to be paid in exchange for the services provided. Other long-term benefits include items such as paid absences for long service, unrestricted sabbaticals, and long-term disability plans. IFRS requires the same recognition and measurement for these long-term benefits as for pension plans. Specifically, changes in the liabilities related to these benefits should be reflected in income. For termination benefits, IFRS requires the cost of the benefits to be recognized at the earlier of when the company can no longer withdraw an offer of employment and when it recognizes the related restructuring costs. 9. Identify the types of information required to be presented and disclosed for defined benefit plans, prepare basic schedules, and be able to read and understand such disclosures. ASPE requires a description of the plans, major changes made in the plans, dates of the actuarial valuations, the fair value of the plan assets, the DBO, and the surplus or deficit and how this relates to the balance sheet account. IFRS requires substantial information, such as reconciliations of changes in the DBO and plan assets, details of amounts included in net income, underlying assumptions and sensitivity analysis, and other information related to help determine cash flows. 10. Identify differences between the IFRS and ASPE accounting for pensions and other post-employment benefits and what changes are expected in the near future. IAS 19 is broader and covers more employee benefits than does CPA Canada Handbook, Part II, Section 3462. With recognition of the net defined benefit liability (or asset) on the statement of financial position with items such as current service cost, past service cost and interest on the DBO and plan assets recognized in net income, and remeasurement changes and actuarial gains and losses reported in other comprehensive income. ASPE is similar, except remeasurement changes and actuarial gains and losses are reported in net income.

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11 Explain and apply basic calculations to determine current service cost, the defined benefit obligation, and past service cost for a one-person defined benefit pension plan. The current service cost is a calculation of the present value of the benefits earned by employees that is attributable to the current period. The defined benefit obligation is the present value of the accumulated benefits earned to a point in time, according to the pension formula and using projected salaries. Past service cost is the present value of the additional benefits granted to employees in the case of a plan amendment.

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MULTIPLE CHOICE—Conceptual Answer c b c d c d a b b c a d b a d b c d c a b d a b d b b c a c c b a c a a c a c b c b c d c a d

No. 1. 2. 3. 4. 5. 6. 7. 8. 9. 10. 11. 12. 13. 14. 15. 16. 17. 18. 19. 20. 21. 22. 23. 24. 25. 26. 27. 28. 29. 30. 31. 32. 33. 34. 35. 36. 37. 38. 39. 40. 41. 42. 43. 44. 45. 46. 47.

Description Employee future benefits Types of post-employment benefits Categories of employee future benefits plans Pension funding and pension expense recognition Nature of a defined contribution plan Nature of a defined contribution plan Recognition of past service costs Nature of a defined benefit plan Objective of accounting for defined benefit plans Meaning of funding a pension plan Accounting problems in pension plans Main purpose of an actuary Types of pension plans in Canada Definition of defined benefit obligation Characteristics of vested benefits Increase in defined benefit obligation Definition of attribution period Definition of experience gain or loss Methods of measuring pension obligations Decrease in defined benefit obligation Nature of interest cost included in pension cost Economic risk of defined benefit plans Nature of plan assets Nature of return on plan assets Nature of plan assets Plan surplus/deficit Underfunded pension plan Pension plan surplus Adjustment for actuarial valuations Application of pension expense Recognition of past service costs Recognition of net defined benefit asset G/L accounts used Rationale for expensing past service costs Advantage of immediate recognition approach Recognition differences between IFRS and ASPE Components of pension expense Reporting net defined benefit liability/asset Identify correct statement. Post-employment benefits Post-employment benefits Recording/disclosure of post-employment benefit obligations Recognizing employee benefits Recognition of remeasurement of other employee future benefits Disclosure of post-employment benefits Disclosure analysis Disclosure requirements

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MULTIPLE CHOICE—Conceptual (cont’d) d c

48. 49.

Items reported to OCI Differences between IFRS and ASPE

MULTIPLE CHOICE—Computational Answer d b a a c b b c c d a b b d b b c b d a a c c c

No. 50. 51. 52. 53 54. 55. 56. 57. 58. 59. 60. 61. 62. 63. 64. 65. 66. 67. 68. 69. 70. 71. *72. *73.

Description Calculate defined benefit obligation. Calculate fair value of plan assets. Calculate fair value of plan assets. Calculate fair value of plan assets. Calculate fair value of plan assets. Calculate fair value of plan assets. Calculate pension expense. Calculate pension expense. Calculate pension expense. Calculate pension expense. Calculate pension expense. Calculate net defined benefit liability/asset. Calculate net defined benefit liability/asset. Calculate pension expense. Calculate pension expense. Calculate pension expense. Calculate defined benefit obligation. Calculate pension expense. Calculate defined benefit obligation. Calculate net defined benefit liability/asset. Calculate pension expense. Calculate pension expense. Calculate current service cost. Calculate defined benefit obligation.

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EXERCISES Item E19-74 E19-75 E19-76 E19-77 E19-78 E19-79 E19-80 E19-81 E19-82 E19-83 E19-84 E19-85 E19-86 E19-87 E19-88 E19-89 E19-90 E19-91 E19-92 E19-93 E19-94 E19-95 E19-96 E19-97 E19-98 E19-99 E19-100 *E19-101 *E19-102

Description Pension terminology Types of post-employment benefits Define defined contribution plan. Recognition of assets and liabilities under defined benefit plan What actuaries do and what assumptions they make. What is vesting? Pension accounting terminology Pension asset terminology Pension plan calculations Pension plan calculations and journal entries Different methods of measuring pension obligation Defined benefit obligation continuity schedule Plan asset continuity schedule. How the return on plan assets is calculated. Calculate plan surplus or deficit. Calculate plan surplus or deficit. Components of pension expense Measuring and recording pension expense. Measuring the recording pension expense. Measuring and recording pension expense. Measuring and recording pension expense. Differences between pensions and other post-employment benefits Accounting for defined benefit plans other than pension plans under ASPE and IFRS Disclosure requirements Analyzing disclosure requirements Differences between ASPE and IFRS Differences between ASPE and IFRS How to calculate current service cost, defined benefit obligation and past service costs Calculate current service cost.

PROBLEMS Item P19-103 P19-104 P19-105

Description Measuring and recording pension expense. Calculating pension expense and surplus/deficit. Preparation of a pension work sheet and pension entries

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MULTIPLE CHOICE—Conceptual 1. Employee future benefits do NOT include a) post-employment pension plans. b) long-term severance benefits. c) regular vacation pay. d) unrestricted sabbatical leaves. Answer: c Difficulty: Medium Learning Objective: Understand the importance of pensions from a business perspective. Section Reference: Overview of Pensions and Their Importance from a Business Perspective CPA: Financial Reporting Bloomcode: Knowledge 2. Examples of post-employment benefits that are provided after employment but before retirement include all EXCEPT a) long-term disability income benefits. b) pension plan. c) long-term severance benefits. d) continuation of benefits such as health care. Answer: c Difficulty: Easy Learning Objective: Understand the importance of pensions from a business perspective. Section Reference: Overview of Pensions and Their Importance from a Business Perspective CPA: Financial Reporting Bloomcode: Knowledge 3. Categories of employee future benefit plans include a) future earnings plan. b) defined pension plan. c) defined contribution plan. d) health and benefits plan. Answer: c Difficulty: Easy Learning Objective: Understand the importance of pensions from a business perspective. Section Reference: Overview of Pensions and Their Importance from a Business Perspective CPA: Financial Reporting Bloomcode: Knowledge 4. The relationship between the amount funded and the amount reported for pension expense is

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that a) pension expense must always equal the amount funded. b) pension expense will be less than the amount funded. c) pension expense will be more than the amount funded. d) pension expense may be greater than, equal to, or less than the amount funded. Answer: d Difficulty: Easy Learning Objective: Understand the importance of pensions from a business perspective. Section Reference: Overview of Pensions and Their Importance from a Business Perspective Learning Objective: Explain what the employer’s benefit obligation is, identify alternative measures for this obligation, and prepare a continuity schedule of transactions and events that change its balance. Section Reference: The Employer’s Obligation CPA: Financial Reporting Bloomcode: Knowledge 5. In a defined contribution plan, a formula is used that a) defines the benefits that the employee will receive at retirement. b) ensures that pension expense and the cash funding amount will be different. c) requires an employer to contribute a certain sum each period based on the formula. d) ensures that employers are not at risk to make sure funds are available at retirement. Answer: d Difficulty: Medium Learning Objective: Identify and account for a defined contribution plan. Section Reference: Defined Contribution Plans CPA: Financial Reporting Bloomcode: Knowledge 6. The obligation for a defined contribution plan is calculated by a) discounting the benefit the employee will receive at retirement. b) add up contributions made plus interest earned less any benefits paid out. c) the cumulative contributions made to the pension plan. d) the amount the employer is obligated to contribute for the period. Answer: d Difficulty: Easy Learning Objective: Identify and account for a defined contribution plan. Section Reference: Defined Contribution Plans CPA: Financial Reporting Bloomcode: Comprehension 7. For ASPE and IFRS, the past service costs are a) recognized immediately in expense.

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b) deferred and amortized over the life of the pension. c) not included in expenses. d) restated in the year they are applicable to. Answer: a Difficulty: Easy Learning Objective: Identify and account for a defined contribution plan. Section Reference: Defined Contribution Plans CPA: Financial Reporting Bloomcode: Comprehension 8. In a defined benefit plan, a formula is used that a) requires that the benefit of gain or the risk of loss from the assets contributed to the pension plan be borne by the employee. b) defines the benefits that the employee will receive at retirement. c) requires that pension expense and the cash funding amount to be the same. d) defines the contribution the employer is to make; no promise is made concerning the ultimate benefits to be paid out to the employees. Answer: b Difficulty: Easy Learning Objective: Identify and explain what a defined benefit plan is and the related accounting issues. Section Reference: Defined Benefit Plans CPA: Financial Reporting Bloomcode: Knowledge 9. The objective of accounting for defined benefit plans is to a) calculate the actual amounts employees will receive at retirement. b) recognize the appropriate expense and liability over the accounting periods in which the related services are provided by the employees. c) calculate the current service cost. d) determine which employees’ rights have vested. Answer: b Difficulty: Medium Learning Objective: Explain what the employer’s benefit obligation is, identify alternative measures for this obligation, and prepare a continuity schedule of transactions and events that change its balance. Section Reference: The Employer’s Obligation CPA: Financial Reporting Bloomcode: Comprehension 10. In a defined benefit plan, for the employer, the term “funding” refers to a) being responsible for the assets of the pension plan.

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b) determining the defined benefit obligation. c) making periodic contributions to a funding agency to ensure that funds are available to meet retirees' claims. d) calculating the amount to report for pension expense. Answer: c Difficulty: Hard Learning Objective: Explain what the employer’s benefit obligation is, identify alternative measures for this obligation, and prepare a continuity schedule of transactions and events that change its balance. Section Reference: The Employer’s Obligation CPA: Financial Reporting Bloomcode: Comprehension 11. Accounting problems for all pension plans may include all the following EXCEPT a) determining the level of individual premiums. b) reporting the status and effects of the plan in the financial statements. c) allocating the cost of the plan to the proper periods. d) measuring the amount of pension obligation. Answer: a Difficulty: Medium Learning Objective: Explain what the employer’s benefit obligation is, identify alternative measures for this obligation, and prepare a continuity schedule of transactions and events that change its balance. Section Reference: The Employer’s Obligation CPA...