Pensions & Other Post Employment Benefits – after SFAS No. 158

1. Pensions & Other Post Employment Benefits – after SFAS No. 158 Includes certain slides provided by authors of Skousen, Stice & Stice and Kieso, Weygandt & Warfield Intermediate Accounting textbooks, as modified and adapted by Teresa Gordon

2. The good news • Pension expense is computed exactly the same way: • Service cost • Interest cost • Expected return on plan assets • Amortization (if any) of • Transition gain or loss • Prior service cost • Unrecognized gain or loss

3. Big Change = Valuation on BS • We are now reporting the net of PBO and Plan Assets on the balance sheet. • If Plan Assets > PBO, reported net as a long-term asset • If PBO > Plan Assets (and plan assets exist), probably reported as noncurrent liability • If there are no Plan Assets, liability is divided between current and noncurrent liabilities

4. Impacts the Statement of Comprehensive Income • SCI used to have a deferred pension cost in certain cases (related to the minimum liability requirement which is gone) • Now there are potentially 3 items of other comprehensive income: • Transition amount • Prior service cost • Actuarial gains and losses

5. A Bit of Review The new rules primarily apply to defined benefit plans

6. Defined contribution plans • A plan that provides benefits based solely on what has been contributed and the earnings thereon < 401(k) > • Amounts to be funded are determined by the plan • No promise for specific future benefits. • Independent third party holds assets • Risk borne by employee • Accounting relatively straightforward

7. Defined benefit plans • A pension plan that determines the amount of benefit to be provided • Contributions based on estimated amounts needed to meet expected payments • Form versus substance of trust • Risk borne by employer • Accounting by employer is complicated

8. Chart from UK but trend is probably same in US

9. Services Wages and Salaries Contributions Pension Fund Retired Employees Defined Benefits Defined Benefit Pension Plan Employer Current Employees

10. Pension Approaches • Before FASB 87 & 88: • “pay as you go” or “noncapitalization” • FASB 87 & 88 • Capitalization approach • Full obligation reported only in notes • FASB 158 • Pension & post-retirement benefit cost is same as FASB 87 • Full obligation is now reported on balance sheet • Additional items now on statement of comprehensive income

11. PV of Expected Cash Flows Measures of Pension Liability ABO is still reported in note Benefits for vested and nonvested employees at future salaries Benefits for vested and non- vested employees at current salaries Accumulated Benefit Obligation Projected Benefit Obligation Benefits for vested employees at current salaries Vested Benefit Obligation (GAAP)

12. Interest/return rates • Discount rate • Rates on high-quality fixed-income investments with maturities consistent with expected payments to retirees • Generally equivalent to a portfolio of zero-coupon bonds with appropriate maturities • Expected rate of return • Based on long-term rate of return anticipated given investment of plan assets

13. Net Periodic Pension Cost • Net periodic pension cost (the expense) consists of six basic elements: • Service cost • Interest cost • Expected return on plan assets • Amortization (if any) of • Transition gain or loss • Prior service cost • Unrecognized gain or loss

14. Pension Definitions • Prior Service Cost (PSC) • Cost of benefits granted for service rendered prior to the inception of the plan • Increases PBO at date of amendment but cost is amortized to expense over future years • Reduces funded status since PBO is higher • Recognized as charge to OCI at date of plan amendment • Amortization method recommended: • Years of service method • Straight-line or other methods that amortize PSC faster are also acceptable

15. Actuarial Gains and Losses • Actuarial assumptions are subject to inaccuracies as time goes by and circumstances change • There is a materiality provision for determining when gains and losses are sufficiently large to require amortization (charge to expense) • 10% Corridor Rule

16. 10% Corridor Amortization • Amortization is required only on the portion of unrecognized net gain or loss that exceeds 10% of the greater of: • PBO at beginning ofyear, or • market-related value of plan assets at the beginning of the year.

17. Kieso, Weygandt & Warfield 11th ed. Illustration 20-14, page 1034

18. Modifying the Workpaper This is similar to workpaper approach I used to use and that used in Kieso Intermediate

19. A working paper for pensions

20. Working Paper – Pension Expense

21. Interest cost = discount rate * beginning balance in PBO Expected return = expected return rate * beginning balance in Plan Assets A working paper for pensions

22. A working paper for pensions

23. A working paper for pensions

24. Funded status must equal PBO + Plan Assets Plug to balance JE {row=0} Self-checking features Each blue row must add across to ZERO Balance forwards Balance forwards

25. Settlements & Curtailments • Additional FASB standards govern major changes in pension plans: • Settlements • No further obligations to some or all employees • Curtailments • Results in significant reduction in expected years, or • No further accrual of benefits • Handling will require further research (primarily FASB 88)

26. Pension Disclosures [FAS 132(R)] • Amount and types of assets held • Assumptions related to discount rate, rate of increase in compensation, expected return on plan assets • Alternative amortization policies • Past practice or history of regular benefit increases

27. Pension Disclosures [FAS 132(R)] • The details for net periodic pension cost • the service cost component. • the interest cost component. • the expected return on plan assets [FAS 132] • the amortization of PSC, transition amount and unrecognized gain/loss (separately) • Gain or loss from settlement or curtailment of plan

28. Pension Disclosures:Reconciliations • The fair value of plan assets (changes between BOY and EOY) • PBO Obligation (changes between BOY and EOY) Easily obtained from our work paper! EoY = end of yearBoY = beginning of year

29. Pension Disclosures • Employers with multiple plans • Information can be combined but the computations are made for each individual plan • Net position for over-funded plans would be reported in noncurrent assets • Net position for under-funded plans would be reported in liabilities • Part may be reported as a current liability • See next slide

30. Current portion of liability • The current portion (determined on a plan-by-plan basis) is the amount by which the actuarial present value of benefits in PBO that are payable in the next 12 months* exceeds the fair value of plan assets * As always, the operating cycle might be longer than 12 months in which case we’d use the operating cycle

31. FSP FAS132R-1 Issued Dec 08 • A lot more disclosures are now required • Detailed discussion of investment objectives & strategies • Disclosures about significant concentrations of risk • Follows the FASB No. 157 fair value measurement • Disclosures about categories of plan assets • Disclosures by hierarchy levels

32. Example from FSP

33. Example from FSP

34. Example from FSP

35. FSP FAS132R-1 Issued Dec 08 • Effective date – fiscal years ending after Dec. 15, 2009 • Early adoption is permitted • Comparative information for prior years is not required the first time through • Extra credit on WFF if you attempt the additional disclosures in the FSP!

36. Other Postretirement Benefits FASB 106 Appendix Material in KWW text Also changed by FASB No. 158

37. Other Post-retirement Benefits • The accounting is similar to pension accounting EXCEPT that • the terminology is slightly different • EPBO • APBO

38. Kieso, Weygandt & Warfield 11th ed. Illustration 20A-3, page 1056

39. APBO vs EPBO • Prior to the date on which an employee attains full eligibility for the benefits that employee is expected to earn • APBO < EPBO • On and after the full eligibility date, • APBO = EPBO • In other words • EPBO > APBO until the employee has earned the right to full benefits • EPBO = APBO after the employee has worked long enough to earn full eligibility

40. Kieso, Weygandt & Warfield 11th ed. Illustration 20A-2, page 1056 • Cost attributed to period from hire to eligibility (vesting)

41. Postretirement Benefit Worksheet • Would be the same as a pension worksheet with modified labels at the top • Pension Expense becomes Postretirement Benefit Expense. • PBO becomes APBO.

42. Working paper for FAS106

43. Net periodic postretirement benefit cost. • The expense basically includes the same elements as pension cost: • Service cost -- the actuarial present value of benefits attributed to services rendered by employees during the period. • Interest cost -- the interest on the beginning balance of the accumulated postretirement benefit obligation • Less expected return on plan assets. • Amortizations (transition, prior service cost and unrecognized gain or loss)

44. Comparing FASB 87 & 106