Title: Pensions
1Chapter 21
2Pensions
- An arrangement whereby an employer provides
benefits to employees after they retire for
services they provided when employed
3Employer vs. Plan Accounting
- Employer sponsors the plan incurs the cost, and
makes the contributions - Plan receives the contributions, administers the
plan assets, and makes benefit payments to
recipients
4Pension Funding
- Employer payments to funding agency
- Contributory employees bear part of the cost of
the stated benefits - Noncontributory employer bears entire cost
5Qualified Pension Plans
- Plans that meet federal income tax requirements
that permit deductibility of employers
contributions - Earnings from fund assets are tax free
6Types of Pension Plans
- Defined contribution plans employers
contribution is defined there is no promise
regarding amount of benefits to be paid out - Defined benefit plans employer is responsible
for payment of defined benefits regardless of
what happens in the trust fund
7Pension Obligation
- Vested benefits benefits employee is entitled
to even if no further services rendered - Vested benefit obligation benefits for vested
employees only at current salaries
8Pension Obligation
- Accumulated benefit obligation benefits for
vested and nonvested employees at current
salaries - Projected benefit obligation present value of
benefits for vested and nonvested employees at
future salaries
9Capitalization vs. Noncapitalization
- Noncapitalization existed prior to SFAS 87.
Report an asset or liability only if amount
funded during year differred from pension expense - Capitalization SFAS 87 is a compromise. Some
elements of a pension are recognized in accounts
and statements and some are not
10Components of Pension Expense
- Service Cost actuarial present value of
benefits attributed by the pension benefit
formula to employee service during the period.
Increases pension expense
11Components of Pension Expense
- Interest on the Liability interest for the
period on the projected benefit obligation.
Discount rate is settlement rate. Increases
pension expense. - Actual return on plan assets increase in
pension funds from interest, dividends, and
realized and unrealized changes in the fair
market value of the plan assets. Generally
decreases pension expense.
12Components of Pension Expense
- Amortization of unrecognized prior service cost.
The cost of providing retroactive benefits.
Allocated to pension expense according to the
remaining service years of the affected
employees. Generally increases pension expense.
13Components of Pension Expense
- Amortization of unrecognized net gain or loss.
Comprised of the difference between the actual
and expected returns on plan assets and
amortization of unrecognized net gain or loss
from previous periods. May decrease or increase
pension expense.
14Gains or Losses
- Liability gains or losses are from unexpected
changes in the market value of plan assets or
changes in actuarial assumptions that affect the
projected benefit obligation - Corridor approach used to control volatility of
pension expense which may occur because of
unexpected gains or losses on plan assets
15Corridor Approach
- If the balance of the Unrecognized Gain or Loss
account exceeds 10 of the larger of the
beginning balances of the PBO or the market
related value of the plan assets (the corridor),
amortization is required
16Minimum Amortization
- Minimum amortization is the difference between
the Unrecognized Gain or Loss account balance and
the upper or lower limits of the corridor,
divided by the average remaining service period
of active employees expected to receive benefits
17Pension Work Sheet and Entries
- Worksheet is used to record both formal entries
and memo entries of all pension plan items and
components - Entry to record pension expense
- Debit to Pension Expense
- Credit to Cash
- Debit or Credit Prepaid/Accrued Pension Cost
18Minimum Liability
- Recognized when the accumulated benefit
obligation exceeds the fair value of plan assets - Liability is equal to
- Excess less accrued pension cost or
- Excess plus prepaid pension cost
19Minimum Liability
- Journal entry is
- Debit Intangible AssetDeferred Pension Cost
- Credit Additional Pension Liability
-
20Minimum Liability
- When additional liability exceeds the
unrecognized prior service cost, the excess
should be reported as a contra account in
stockholders equity called Excess of Additional
Pension Liability Over Unrecognized Prior Service
Cost - Reported as reduction to other comprehensive
income - Referred to as a contra-equity account
21Pension Disclosures
- Description of plan
- Components of pension expense for the period
- Schedule reporting changes in benefit obligation
and plan assets during year and reconciling
funded status of plan with amounts reported on
balance sheet - Discount rate, rate of compensation increase, and
rate of return
22Other Aspects of Pensions
- Pension Reform Act of 1974 mandated many pension
plan requirements including minimum funding,
participation, and vesting. - Multiemployer plans are plans sponsored by two or
more employers - Pension terminations