Accounting for Retirement Benefits

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Accounting for Retirement Benefits An overview of IAS 19, rev.

2 Today s Discussion Background Changes and clarification IAS 19, rev Implications for companies towerswatson.com 2011 Towers Watson. All rights reserved. Propri.e.,tary and Confidential. For Towers Watson and Towers Watson cli.e.,nt use only. 1

4 Globalisation of Accounting/Financial Reporting Source: IASB.org Countries requiring or permitting IFRS Countries seeking convergence with IASB or pursuing adoption of IFRS towerswatson.com 2011 Towers Watson. All rights reserved. Proprietary and Confidential. For Towers Watson and Towers Watson client use only. 3

5 For accounting purposes, employee benefits are classified into 4 types Short Term Benefits Examples are wages, salaries, paid annual leave, nonmonetary benefits like medical care, housing etc. Long Term benefits Examples include long-service leave, long-service awards, sabbatical leave etc. Post Employment Benefits Examples are gratuity, pension, post-employment medical care Termination benefits Due to termination before normal retirement date, or Voluntary redundancy (e.g. VRS) towerswatson.com 2011 Towers Watson. All rights reserved. Propri.e.,tary and Confidential. For Towers Watson and Towers Watson cli.e.,nt use only. 4

6 IAS 19 Accounting Method and Approach Consistent Valuation method Projected Unit Method recognised as the most appropriate method for an ongoing scheme Requires a best estimate of likely future benefit payments Balance sheet approach Liabilities at beginning compared with end of the period Cost of benefits accrued flows from this Discounting Discounting based on high quality corporate bond yields with matching duration In India due to the absence of a deep Corporate bond market, the govt bond yields are generally used Treatment of gains / losses Deviations of actual experience from that assumed, can be SET recognised FOR immediately CHANGE (through P&L or OCI) or can be amortised through the P&L towerswatson.com 2011 Towers Watson. All rights reserved. Propri.e.,tary and Confidential. For Towers Watson and Towers Watson cli.e.,nt use only. 5

7 IAS19: Time for change - Project Objective and Scope Principal concerns with IAS 19 Delayed recognition Presentation alternatives Part 1: Limited scope project Enhance understanding of changes in net defined benefit asset/liability Eliminate presentation alternatives Clarify requirements that have resulted in diverse practices Improve information about the risks arising from a entity s involvement in defined benefit (DB) plans towerswatson.com 2011 Towers Watson. All rights reserved. Propri.e.,tary and Confidential. For Towers Watson and Towers Watson cli.e.,nt use only. 6

8 Process and Timeline History 120 comment letters, input from interested parties Board deliberations at 13 meetings 227 comment letters on exposure draft Ongoing consultation with interested parties Board re-deliberations Discussion paper Preliminary Views on Amendments to IAS19 - March 2008 Exposure draft Defined Benefit Plans April 2010 Amendment to IAS19 June day comment period Effective towerswatson.com 2011 Towers Watson. All rights reserved. Proprietary and Confidential. For Towers Watson and Towers Watson client use only. 7

9 Adopting IAS 19, rev 2011 Calendar year-end company adopting IAS 19, rev 2011 effective Show prior period financial statements on revised rules for comparative purposes As of FY 2012 At Measure DB asset/liability based on IAS19, rev Change in DB asset/liability reported as adjustment to retained earnings at 1 January Measure DB cost and DB asset/liability based on IAS19, rev Restate asset or liability reported at 31 December to reflect new measure Restate pension cost reported for 2012 (and 2011 if SEC registrant) to reflect new measure Change in pension cost affects retained earnings; remaining effect of change in balance sheet affects OCI* Measure 2013 cost based on IAS19, rev Interim financial statements based on DB asset/liability rolled forward to interim date, adjusted for significant changes and current discount rate Prior year interim financial information restated to reflect adoption of IAS 19 rev 2011 * OCI from remeasurement effects may be charged or credited to retained earnings or accumulated in a separate equity account towerswatson.com 2011 Towers Watson. All rights reserved. Proprietary and Confidential. For Towers Watson and Towers Watson client use only. 8

11 Overview of Changes to IAS 19 Accounting for Post employment Benefits Comprehensive Income (P&L + OCI) Immediate recognition of all changes in funded position Financing Cost Interest cost and expected return on plan assets replaced with net interest on net DB liability/asset Clarification of Measurement Issues Explicit assumptions regarding taxes payable by plan on contributions and benefit payments; plans with risksharing features Financial Reporting and Disclosure Disaggregate cost into employment, financing, and remeasurement effects Disclosures to provide more insight on plan risks towerswatson.com 2011 Towers Watson. All rights reserved. Proprietary and Confidential. For Towers Watson and Towers Watson client use only. 10

12 Immediate Recognition of Changes in Funded Position Comprehensive Income (P&L + OCI) Recognise changes in period they occur Eliminate delayed recognition of gains and losses and unvested past service cost Result: Recognise funded position of DBO on Balance Sheet Observation: Immediate recognition of estimated gain/loss Gain/loss recognised in OCI towerswatson.com 2011 Towers Watson. All rights reserved. Proprietary and Confidential. For Towers Watson and Towers Watson client use only. 11

13 Balance Sheet Recognition Comprehensive Income (P&L + OCI) Balance Sheet BEFORE IAS 19 rev Assets Liabilities and equity Postretirement benefit asset 0 Postretirement benefit liability 84 Deferred tax asset * 6 Other 720 Other 961 Total liabilities 804 Total assets 967 Total equity 163 *Assumes 30% effective tax rate Total liabilities and equity 967 Funded status reconciliation DBO Plan assets (fair value) Funded status Unrecognised PSC 16 Total deferred costs 16 Accrued DB liability (900) 800 (100) 16 (84) towerswatson.com 2011 Towers Watson. All rights reserved. Proprietary and Confidential. For Towers Watson and Towers Watson client use only. 12

14 Balance Sheet Recognition Comprehensive Income (P&L + OCI) Balance Sheet AFTER IAS 19 rev Assets Liabilities and equity Postretirement benefit asset 0 Postretirement benefit liability = 100 Deferred tax asset * = 11 Other 720 Other 961 Total liabilities 820 Total assets 972 Total equity = 152 *Assumes 30% effective tax rate Total liabilities and equity 972 Funded status reconciliation DBO Plan assets (fair value) Funded status Unrecognised PSC 16 Total deferred costs 16 Accrued DB liability (900) 800 (100) 16 (84) towerswatson.com 2011 Towers Watson. All rights reserved. Proprietary and Confidential. For Towers Watson and Towers Watson client use only. 13

15 Financing Cost Overview: Net Interest on DB Liability/Asset Net interest on DB liability/asset replaces interest cost and EROA Assume 5% discount rate, 7.5% EROA and the following funded position: Today Future DBO = 10,000 FVA = 8,000 IC: 5% * 10,000 = EROA: 7.5% * 8,000 = Net expense (income) 500 (600) (100) DBO = 10,000 FVA = 8,000 Deficit = 2,000 Net interest expense 2,000 x 5% = 100 Where EROA > Discount rate there will be an increase in the expense towerswatson.com 2011 Towers Watson. All rights reserved. Proprietary and Confidential. For Towers Watson and Towers Watson client use only. 14

16 Assumption Source: Towers Watson 2010 BSE 100 Accounting for Benefits study Financing Cost BSE March 2010 snapshot Assumptions: Expected Return on Plan Assets - Gratuity Expected return of assets only for gratuity schemes since most of them are funded 10.50% 10.00% 9.50% 9.45% 9.40% 9.30% 9.25% 9.15% 9.00% 8.59% 8.50% 8.33% 8.25% 8.00% 7.50% 7.07% 7.00% 6.68% 5.56% 1.3% 1.3% 1.3% 1.3% 3.9% 1.3% 2.6% 2.6% 6.6% 1.3% 5.3% 1.3% 6.6% 1.3% 1.3% 1.3% 1.3% 15.8% In 2010 majority of the gratuity schemes had an expected rate of return between 7.5 and 8.0 percent which is the same as 2008 as well as 2009 In 2010 the discount rate of most companies were between 7.5 to 8.5 percent while in 2009 majority of the plans had a discount rate between 7 and 8 percent On average each company to company will have different impact based on their assumptions 43.4% 0.0% 5.0% 10.0% 15.0% 20.0% 25.0% 30.0% 35.0% 40.0% 45.0% 50.0% Percentage of Plans towerswatson.com 2011 Towers Watson. All rights reserved. Proprietary and Confidential. For Towers Watson and Towers Watson client use only. 15

17 Clarification of Measurement Issues Clarification of Measurement Issues Taxes payable by the plan are to be taken into account in the DBO, service cost and return on plan assets Investment management costs implicitly included in remeasurement component charged to OCI Costs of administering the plan (if costs met from plan) net in assumptions Mortality assumption should consider expected changes in mortality towerswatson.com 2011 Towers Watson. All rights reserved. Proprietary and Confidential. For Towers Watson and Towers Watson client use only. 16

18 Clarification of Measurement Issues Events Clarification of Measurement Issues Definitions Past service costs Change in DBO due to amendment to adopt plan, improve or reduce benefits Withdrawal of a plan has been redefined as past service cost Definition extended to include curtailments Settlement excludes benefits paid in accordance with plan terms and payment options Timing of recognition Past service costs recognised at the earlier of Date of plan amendment or when curtailment occurs Date when related restructuring costs or termination benefits are recognised Settlement recognised when the entity enters into the transaction (no change) towerswatson.com 2011 Towers Watson. All rights reserved. Proprietary and Confidential. For Towers Watson and Towers Watson client use only. 17

19 Financial Reporting and Disclosure Disaggregation of Components of Cost Statement of Income Business: Operating income and expenses Employment costs* Financing: Service cost, past service cost, gain/loss from [nonroutine] settlements Financial Reporting and Disclosure XYZ plc (from earlier example) (275) Financing liability expenses Pension financing cost* Net interest income/cost 85 Net income (190) *IASB will not specify where employment costs and pension financing cost are to be reported. The approach illustrated above is expected to be the predominant approach. towerswatson.com 2011 Towers Watson. All rights reserved. Proprietary and Confidential. For Towers Watson and Towers Watson client use only. 18

20 Financial Reporting and Disclosure Disaggregation of Components of Cost Financial Reporting and Disclosure Statement of Comprehensive Income Net Income (190) Other Comprehensive Income: Pension remeasurements Other comprehensive Income Total comprehensive Income DBO-related gain/loss from assumption changes and experience different than assumed, including gain/loss from routine settlements and asset return different than return implied by discount rate (1,200) (1,200) (1,390) Remeasurement previously in expense Towers Watson 2010 BSE 100 study revealed an average liability actuarial loss of 4% However, wide range from +50% to -50% of liabilities *illustration is gross of tax impact towerswatson.com 2011 Towers Watson. All rights reserved. Proprietary and Confidential. For Towers Watson and Towers Watson client use only. 19

21 Financial Reporting and Disclosure Disclosure New disclosure objectives and requirements focus on risk Objectives more principles-based rather than specific requirements Additional disclosures as needed to meet the disclosure objectives e.g. nature, characteristics and risks associated with the DBO e.g. split between categories of membership Disaggregate plans with materially different risk features Characteristics of plans and risks Amounts in financial statements Amount timing and uncertainty of future cash flows Asset-liability matching strategies, including annuity purchases and other techniques to mitigate risk Future cash flows towerswatson.com 2011 Towers Watson. All rights reserved. Proprietary and Confidential. For Towers Watson and Towers Watson client use only. 20

22 Disclosure Financial Reporting and Disclosure Disclosures that have been eliminated Accounting policy for recognising gains and losses DBO for unfunded plans and DBO for wholly or partly funded plans Reconciliation of funded status to amount recognised on balance sheet Components of cost In addition, Cumulative amount recognised through OCI for gains and losses and changes in the asset ceiling and 5-year history of the DBO, fair value of plan assets, surplus or deficit, and experience gains/losses are no longer required. towerswatson.com 2011 Towers Watson. All rights reserved. Proprietary and Confidential. For Towers Watson and Towers Watson client use only. 21

24 Proposed key changes IAS19 Recognition Immediate recognition of actuarial gains/losses Presentation Separate components Service cost Finance cost Re measurement component IAS 19 Disclosures More suggested bringing closer to USA standards towerswatson.com 2011 Towers Watson. All rights reserved. Proprietary and Confidential. For Towers Watson and Towers Watson client use only. 23

Questions towerswatson.com 2011 Towers Watson. All rights reserved.

Employee Benefits, AS 15

Seminar on Accounting Standards (March 9, 2014) Western India Regional Council of The Institute of Chartered Accountants of India Employee Benefits, AS 15 and Consultants Version: March 2014 Page 1 Presentation