Chapter 16: Employee Benefits
Perspective and Issues
The prescribed rules for the accounting for employee benefits under international standards have evolved markedly over two decades. The current standard, IAS 19, was last revised in 1998 and provides broad coverage (applicable to all benefits, not merely pensions) that is largely consistent with those of major national accounting standard setters. Compared to earlier iterations of IAS 19, the range of acceptable alternative accounting treatments has been narrowed substantially, as has also occurred with other IAS, and as will likely continue as "convergence" is actively sought.
Under current IAS 19, only the "projected unit credit" variation on the accrued benefit valuation method is permitted for the periodic determination of employee benefit cost. It also creates a "corridor" approach to recognition of actuarial gains and losses, requires annual valuations versus the earlier mandate for triennial valuations, and addresses past service cost recognition and other matters never given any attention in earlier standards. This latest standard is more precise in defining the extent to which components of pension cost are to be disclosed in the financial statements, and reduces the latitude given to preparers regarding the amortizing of certain cost elements, such as those associated with plan amendments.
IAS 19 identifies and provides accounting direction for five categories of employee benefits: short-term benefits such as wages, bonuses, and emoluments such as medical care; postemployment benefits such as pensions and other postretirement benefits; other long-term benefits such as sabbatical leave; termination benefits; and equity compensation arrangements. Meaningful guidance is now provided on all of these, whereas the earlier standards focused only on pensions. However, the most explicit and detailed instructions are provided for defined benefit pension and other postretirement benefits plans, with less on the other types of employee benefits, particularly as to stock compensation arrangements (although the last named is the subject of a current IASB project, as discussed later in the chapter).
There are two major classes of pension plans, defined contribution and defined benefit, with the accounting for the latter being the far more difficult. Given the central role that accounting estimates play in the accounting for defined benefit plans, some diversity in financial reporting will be unavoidable, and full disclosure of key assumptions and methods is the best means of preventing the misleading of financial statement users.
Because of the long-term nature of employee benefit plans, IAS 19 provides for delayed recognition of certain cost components, such as those resulting from changes in actuarial estimates (i.e., changes are not recognized immediately but are recognized subsequently in a gradual and systematic way). Estimates and averages may be used as long as material differences do not result. Explicit assumptions and estimates of future events should be used for each specified variable included in pension costs.
Consistent with the balance sheet orientation of IAS, the principal emphasis of IAS 19 is upon calculation of the present value of the pension obligation. Somewhat less attention is directed toward determining the fair value of plan assets and on structuring the disclosure of the elements of periodic pension costs. The most common accounting problems revolve around the computation of periodic pension expense and on the amount to be accrued on the balance sheet.
IAS 19 also establishes requirements for disclosures to be made by employers when defined contribution or defined benefit pension plans are settled, curtailed, or terminated. Some previously deferred amounts are required to be recognized immediately under such circumstances.
IAS 19 defines all postemployment benefits other than pensions as defined benefit plans and, thus, all the complications of defined benefit pension plans exist here as well. These may be compounded, in the case of postretirement health care plans, by the need to project the escalation in future health care costs over a lengthy time horizon.
The IASB is considering an amendment to IAS 19 that would prohibit the recognition of gains or losses that arise solely from past service cost and actuarial losses or gains, respectively, when a surplus in the plan exists. This proposed amendment to IAS 19 would address what some view as a counterintuitive result presently produced by the interaction of two aspects of the standard; namely, the option to defer the gains and losses in the pension fund and the limit on the amount that can be recognized as an asset (the "asset ceiling").
Equity compensation plans, such as those inherent in stock option programs, pose particular problems, and attempts to deal with the accounting issues pertaining to these plans have been subject to much controversy. IAS 19 establishes certain disclosure requirements but does not attempt to resolve recognition or measurement issues. A current and controversial IASB project, however, may result in vastly improved guidance on such matters, perhaps by late 2003.