Page 1 of 7| FAR Handouts No24 R EAL PROVISIONS EXCELLENCE rani BaS8 con PROVISIONS KARIM G. ABITAGO, CPA DEFINITION ‘Aprovision is present obligation of uncertain timing or uncertain amount. Characteristics of Provisions Uncertainty of the amount of the liability as well as the timing of its settlement differentiates provisions from other types of liabilities. Please be minded that the word uncertainty does not include uncertainty of the existence of obligations, + The past event that leads to a present obligation is called an cbligating event. % The present obligation may be legal or constructive. ‘Aleaal obligation is an obligation arising from a contract, legislation or other operation of law. ‘A construtive obligation is an obligation that is derived from an entity's actions where: (@) The entity has indicated to other parties that it will accept certain responsibilities by reason of an established pattern of past practice, published policy, or a sufficiently specific current statement. (b) And as a result the entity has created a valid expectation on the part of other parties that it will discharge those responsibilities. % — Aprovision may be the equivalent of an estimated liability or a loss contingency that is accrued because it is both probable and measurable ‘ _Insome instances, the exact payee of estimated liabilities cannot be identified or determined, RECOGNITION PAS 37, paragraph 14, states that a provision shall be recognized as liability under the following conditions: (1) The entity has a present obligation as a result of a past event, (2) tis probable that an outflow of economic benefits shall be required to settle the obligation. (3) The amount of the obligation can be measured reliably, PROVISIONS, CONTINGENT LIABILITIES & CONTINGENT ASSETS LweinessoHAPPe7 |” Ranges of Outcome | Treatment ABILITY Teaiment f ASSET More than 95% Virualy Certain Acerue as Asset 5 Provisions (Acerue) Contingent Asset (Disclosed in 51% - 95% Probable nate a Contingent Liabiity (Disclosed PRD, Posshie in Notes to FS Do Nothing Tess than 5% Remote Do Nothing MEASUREMENT ‘The amount recognized as a provision should be the best estimate of the expenditure required to settle the present obligation at the end of reporting period, ‘The best estimate is the amount that an entity would rationally pay to settle the obligation at the reporting date or to transfer it to a third party at that time. NOTE: Generally, the best estimate is the MOST LIKELY OUTCOME of the obligation, Scenario “Best Estimate Large Population (Distributed Probability) Expected Value ‘Continuous range of possible outcomes and each point in that range Is as likely as any other tera OTHER MEASUREMENT CONSIDERATIONS (1) RISK & UNCERTAINTIES - The risks and uncertainties that inevitably surround many events and circumstances shall be taken into account in reaching the best estimate of a provision. It shall be teken into account by multiplying the amount of provision to RISK ADJUSTMENT FACTOR. (2) PRESENT VALUE - Where the effect of the time value of money is MATERIAL, the amount of provision shall be the present value of the expenditures expected to be required to settle the obligation, (3) FUTURE EVENTS - Future events thet affect the amount required to settle an obligation shall be reflected in the ‘amount of a provision where there is SUFFICIENT OBJECTIVE EVIDENCE that they will occur. (4) EXPECTED DISPOSAL OF ASSETS - Gains from expected disposal of assets shall NOT BE TAKEN INTO ACCOUNT in measuring a provision fi soko a a aN ian elgg =} Lee ee ea Aa era Mdecescuet aay REAL EXCELLENCE ONLINE CPA REVIEW m= earner rman eRe aio)Page 2 of 7 | FAR Handouts No.24 REAL EXCELLENCE KARIM G. ABITAGO, CPA PROVISIONS: (5) REIMBURSEMENT - Where some or all of the expenditure required to settle a provision is expected to be reimbursed by another party, the reimbursement shall be recognized when it is virtually certain that reimbursement will be received if the entity settles the obligation. ‘The reimbursement shall be treated as a separate asset and not “netted” against the estimated liability for the provision. However. the related income can be offset to the expense generated by the estimated liability. (6) CHANGES IN PROVISION - Provisions shall be REVIEWED AT EACH REPORTING DATE and adjusted to reflect the current best estimate. (7) FUTURE OPERATING LOSSES - Provision shall NOT BE RECOGNIZED for future operating losses. (8) ONEROUS CONTRACT - An onerous contract is @ contract in which the unavoidable costs of meeting the obligation under the contract exceed the economic benefits expected to be received under the contract. If an entity has an onerous contract, the present obligation under the onerous contract shall be recognized and measured as a provision. ‘The amount to be’ recognized as provision is the lower amount between the cost of fulfling the contract and the ‘compensation or penalty arising fram failure to fulfil the contract. RECORDING OF PROVISIONS Generally, provisions are recorded by debiting the expense account and crediting the estimated liability account Expense or Loss x Estimated Liability xx EXCEPTION: Ifthe provision is directly attributable to a certain asset, it is debited as cost of the asset (ie. estimated dismantling cost for PPEs and estimated restoration cost for wasting assets) Asset x Estimated Liability x COMMON TYPES OF PROVISIONS “Types of Provisions Present Obligation Arises When? Tawsuit or Court Cases Upon causing damage or harm. Decommissioning Cost Tpon imposition of provision of a law or contract ‘Warranties Premiums ™ Upeneae Guarantee Upon default of party guaranteed by the entity (1) The entity has a detailed formal plan (2) The entity has raised valid expectation in the minds of Restructuring those affected that the entity will carry out the restructuring by starting to implement the plan and announcing its main features to those affected by it. PREMIUMS LIABILITY Premiums are arlicles of value such as toys, dishes, silverware, and other goods and in some cases cash payments, given to customers as result of past sales or sales promotion activities. FREQUENTLY ASKED QUESTIONS (1) Premiums expense for the year (based on accrual of expense) (2) _ Estimated premiums lability at the end of the year Estimated Premiums Liability ‘Actual Expense xx Beginning Balance xx Accrual of Expense (upon sale)" _xx Ending Balance xx ‘Accrual of expense is computed as: (No. of premiums expected to be distributed x net cost) ‘Actual expense is computed as: (Actual premiums distributed x net cost") * (Cost iess reimbursement from customers) WARRANTIES LIABILITY Horne appliances lke television sets, stereo sets, ratio sets, refrigerators and the tke are often sold under guerantes, of soins fy fo provide free repair service of replacement during a specified period if the products are defective, Such ently oloy may involve significant costs on the part of the entity if the products sold prove to be defective in tne Tutwe within Peso weiled period of ime. Accordingly, at the point of sale, 2 constructive obligaton arises and 2 lablty is incurred FREQUENTLY ASKED QUESTIONS (1) Warranty expense for the year (based on accrual of expense) 2) Estimated warranty liability atthe end of the year f REVIEW PHILIPPINES Effectiveness. Efficiency. Convenience ee ph REAL EXCELLENCE ONLINE CPA REVIEW @ (074 6656774 @ 0016 8400661 © support@reomareview.ph — MAY 2024 OPA REVIEW SEASONPage 3 of 7 | FAR Handouts No.24 i ace PR an {OVISIONS Estimated Warranty Liability a Actual Expense xx Beginning Balance x Accrual of Expense (upon sale) _xx Ending Balance xx NOTE: Before accruing warranty liability at year-end, consider if estimated liability are stil valid, that is, are stil probable to be settied in the next period (i.e. if warranties have expiration) DECOMMISSIONING LIABILITY The cost of abandonment or decommissioning an asset after full exhaustion of its economic benefits is will result to a provision known as decommissioning liability If there is an increase in the balance of decommissioning liability, the journal entry is: Asset or Impairment Loss x Estimated Liability x IF there is a decrease in the balance of decommissioning liability, the journal entry is: Estimated Liability xx ‘Asset x RESTRUCTURING PROVISION PAS 37 defines restructuring as @ "program that is planned and controlled by management and materially changes either the scope of a business of an entity or the manner in which that business is conducted’ A restructuring provision shall include only direct expenditures arising from the restructuring, meaning, those ‘expenditures that are necessarily entailed by the restructuring and not associated with the ongoing activities of the entity For example, salaries and benefits of employees to be incurred after operations cease and that are associated with the Closure of the operations shall be included in the amount of the restructuring provision, PAS 87 specifically excludes the following expenditures from the restructuring provision: (2) Cost of retraining or relocating continuing statt (b) Marketing or advertising program to promote the new entity image. (©) Investment in new system and distribution network. PRESENTATION AND DISCLOSURE Provisions or estimated liabilities may be presented as current or non-current liablty. Among those that are presented as current liabilties are premiums liability and warranties labilly. On the other hand, those that are presented as non-current liabilities include decommissioning liabilities. DISCLOSURE REQUIREMENTS (1) Reconciliation showing the beginning balances, ending balances, additions and deduction for each class of provision (2) _ For each class of provisions, the timing, assumptions used, nature, uncertainties and reimbursement. REO CPA REVIEW PHILIPPINES ‘ Effectiveness. Efficiency. Convenience ‘www reoopareview.ph REAL EXCELLENCE ONLINE CPA REVIEW. © (074) 6656774 @ 0915 840.0661 @ support@reocpareviewph MAY 2021 CPA REVIEW SEASON» REAL EXCELLENCE DISCUSSION EXERCISES Page 4 of 7 | FAR Handouts No.24 KARIM G, ABITAGO, CPA PROVISIONS st PROBLEMS PROVISIONS IN GENERAL 1. Inrelation fo the estimated aby sesount of UST COMPANY, the following information were presented to you for evaluation: (a) On December 5, 2019, an employee filed 2 P3,000,000 lawsuit against UST COMPANY for damages suffered when one of UST’s equipment malfunctioned in August of 2019. UST's legal counsel expects the company will lose the lawsuit and estimates the loss to be between P500,000 and P1,500,000. The employee has offered to settle the lawsuit out of court for P1,200,000 but UST will not agree to the settlement. UST recalled a product on August 1, 2019 due to recently proven health hazard. The products recalled will be repaired free of charge. The company is uncertain whether all of the products recalled will have a defect. The ial era tales made by the company’s engineers and accountants and approved by the board of rectors: (b) Repair Cost 500,000 600,000 800,000 900,000 Probability 25% 20% 35% 20% (6) During December 2019, a competitor filed suit against UST for industrial espionage, claiming P700,000 in damages. Management and legal counsel believe itis probable that damages will be awarded to the plaintft and the best estimate of the damages is P600,000 ‘At the beginning of the year, UST guaranteed a P300,000 loan obtained by DLSU from BDO UNIBANK. On December 31, DLSU defaulted from this loan and itis possible that UST will be held liable to the bank for the loan of DLSU in July 2079, ADMU brought action against UST for polluting the Pasig River with its waste products. It is probable that ADMU will be successful but the amount of damages the entity might have to pay should not exceed 1,500,000, The company's P3,000,000 comprehensive public liability policy has a F200,000 deductible clause. UST estimates that the cash outflow is equal to its net liability on the comprehensive public liabiity policy. (The main production plant of UST COMPANY is located on the shores ofa lake, The lake has been rising for 2 number of years, and the company has installed dikes to prevent flooding. The dikes are currently Operating at or near capacity. Weather forecasters have predicted thatthe lake will ise another 8 inches this coming summer (2020), If this occurs, significant damage will likely result from stressing the dikes beyond capacity, UST COMPANY esiimated a P4,000,000 to P6,000,000 amount of loss should the flooding will not be prevented @ ) (@) UST is involved in ltgation regarding a faulty product sold in a prior year. The entity has consulted with an attorney and determined that it is possible that the entity may lose the case. The attomey estimated that there ig 4 40% chance of losing. If this is the case, the attomey estimated that the amount of any payment would be P1,000,000. (h) During 2019, UST is the defendant in a breach of patent lawsuit. The lawyers believe there is an 60% chance that the court will not dismiss the case and the entity will incur outflow of benefits. If the court rules in favour ‘of the claimant, the lawyers believe that there is a 70% chance that the entity will be required to pay damages of 800,000 and a 30% chance that the entity will be required to pay damages of P600.000. Other Gmounts of damages are unlikely. The court is expected to rule in late December 2020. There is no indication frat the claimant wil settle out of court. A 7% risk adjustment factor to the cash flows is considered appropriate to reflect the uncertainties in the cash flow estimates. An appropriate discount rate 's 10% per year. REQUIREMENT: Based on the above information, how much isthe total amount of provisions to be reported on the ‘statement of financial position as of December 31, 20197 PREMIUMS LIABILITY Sew NU CORE. has initiated promotional program whereby each box of pancake mix contain one coupon. The aetomer is enttied for a frying pan ifthe customer submitted 3 coupons plus P30. NU CORP. pays PSO for each fying pan and incurs adaltonal P10 fer handling and shipping costs upon redemption. The folowing information are deemed relevant: 2019 2020 Number of boxes sold 150,000 180,000 Selling price per box P70 P75 Number of frying pans purchased 30,000 25,000 Inventory of frying pans at year-end 18,000 46,000 The company estimates that 40% of the coupons issue« redemption. Coupons are redeemable within one-year from REO OPA REVIEW PHILIPPINES ‘ynww.reoopareview.ph © (074)6656774 @ 0916 9400661 © sunvori@reocpareview.pn J from boxes sold will be presented for the premium the date of purchase of the related pancake mix. Effectiveness. Efficiency. Convenience REAL EXCELLENCE ONLINE CPA REVIEW MAY 2021 CPA REVIEW SEASON® REAL Page 5 of 7 | FAR Handouts No.24 EXCELLENCE rani 0. as7aco, Pa REQUIREMENTS: (1) How much is the premiums expense to be reported in 2019 and 2020? (2) How much is the estimated premiums liability to be reported at the end of 2019 and 2020? 3. FEU CORP issues coupons to consumers which may be presented on or before their expiration date at retail food stores in order to obtain discounts on certain products produced by FEU. Retail food stores are reimbursed equal to the face value of the coupons redeemed, plus 10% coupon face value as compensation for handling costs. FEU honors request for coupon redemptions by retail food stores received up to three months after the consumer expiration date, In FEU's experience, 60% of the coupons issued ultimately are redeemed. Information with respect to the two series of coupons issued by FEU during 2019 are as follows: SERIES A. SERIES 8 Consumer expiration date June 30, 2019 December 31, 2019 Total face value of coupons issued 250,000 500,000 Total payments to retailers as of 12/31/2019 148,500 275,800 REQUIREMENTS: (1) How much is the promotional expense to be reported in 2019? (2) How much is the estimated liablity for unredeemed coupons to be reported at the end of in 20197 WARRANTIES LIABILITY 4 During 2019, UE CORP. introduced a new line of machines that carries a two-year warranty against manufacturer's defects. Based on industry experience, the estimated warranty cost percentages related to peso sales are as follows: Year of sale 1% Year after sale 8% Sales and actual warranty expenditures for 2019 and 2020 were as follows Year Sales Actual Warranty Expenditures 2019 4,000,000 54,000 2020 1,400,000 89,000 REQUIREMENTS: (1) How much is the warranty expense to be recognized in 2019 and 2020, respectively? (2) ‘What is the estimated warranty liability as of December 31, 2019 and 2020, respectively? 5. UP INC. owns a car dealership that it uses for servicing cars under warranty. In preparing its financial statements, the entity needs to ascertain the provision for warranty that it would be required to provide at the end of the yeer. The entity's experience with warranty claims is as follows: 60% of all cars sold in a year have zero defect, 25% of all cars sold in a year have normal defect, and 15% of all cars sold in a year have significant defect. The cost of rectifying a "normal defect’ in a car is P10,000. The cost of rectifying a “significant defect” in a car is 30,000. The entity sold 500 cars during the year. REQUIREMENTS: What is the "expected value" of the warranty provision for the current year? RESTRUCTURING PROVISION 6. On October 1, 2019 DLSU INC. decided to restructure the entity's operations as follows: % — DLSU has two factories located in Laguna and Batangas and it decided to shut down the operations of its LAGUNA FACTORY. + Employees working in LAGUNA FACTORY would be retrenched on October 31, 2019, and would be paid their accumulated entitlements plus six months’ wages but also some of its workers would be transferred to BATANGAS FACTORY which would continue operating. ‘On December 31, 2019, the following transactions and events had occurred: The retrenched employees have left and their accumulated entitlements have been paid. However, an amount of P300,000, representing a portion of the six months’ wages for the retrenched employees, has stil not been paid. % Costs of P80,000 are expected to be incurred in transferring the remaining employees to their new work in BATANGAS FACTORY. The transfer is planned for January 15, 2020. % Unpaid marketing costs as of this date amounted to P100,000 to promote the new image of the entity. % One employee, MIKA REYES, remains in ofder to complete administrative tasks relating to the closure of LAGUNA FACTORY and the transfer of employees to BATANGAS FACTORY. MIKA REYES is expected to stay until January 31, 2020. Her salary for January will be P30,000 and her retrenchment package will be 90,000, all of which will be paid on the day he leaves. MIKA REYES would spend 70% of his time administering the closure of LAGUNA FACTORY, 20% on administering the transfer of employees to BATANGAS FACTORY, and the remaining 10% on general administration REQUIREMENT: What total amount should be recognized as restructuring provision on December 31, 2019? REO CPA REVIEW PHILIPPINES Effectiveness. Efficiency. Convenience www.feocpareview.ph REAL EXCELLENCE ONLINE CPA REVIEW. © (074) 6856774 @ 0916840 0661 @ sunport@reocpareview.pn _ MAY 2021 CPA REVIEW SEASON= Page 6 of 7 | FAR Handouts No.24 REAL EXCELLENCE KARIM. ABITAGO, CPA PROVISIONS DECOMMISSIONING PROVISION ‘On January 1, 2019, ADMU CORP. purchased on oil tanker depot at a cost of P2,000,000. The entity is expected to ‘operate the depot for 5 years after which it is legally required to dismantle the depot and remove the underground ‘storage tanks, The oil tanker depot is depreciated using straight line with no residual value. Zs It is rellably estimated that the cost of decommissioning the depot will amount to P1,300,000. The appropriate discount rate is 10%. (On January 1, 2022, the entity estimated that additional decommissioning cost is estimated at P500,000, On December 31, 2023, after 5 years of operating the depot, the entity paid @ demolition entity to dismantle the depot at a price of P2,000,000. ‘ a aa. REQUIREMENTS: (1) How much is the estimated decommissioning liability at the end of 2019 and 2022 (2) How much is the gain or loss on settlement of decommissioning liability in 2023? (3) How much is the net amount to be presented in proft or loss for 2019, 2022 and 2023? MULTIPLE CHOICE (THEORIES) 1, Which of the following is correct regarding provisions? ‘A. The exact payee of estimated liabilities should be identified or determined in order for the liability to exist. B. Provision is a present obligation arising from a future event called as an obligating event. C. Uncertainty of the amount of the liability as well as the timing of its settlement differentiates provisions from other types of liabilities. D. _ None from the choices. 2. Which of the following creates a legal obligation? ‘A. Legislation or other operation of law. B. _ Entity established pattem of past practice. ©. contractual agreement between the entity and another party, D. Both Aand C 3. Aprovision shall be recognized when ‘A. There is a possible obligation arising from a past event, the outflow of resources is probable, and an approximate, amount can be set aside toward the obligation. B. There is a constructive obligation as a result of a past obligating event, the outfiow of resources is probable, and a reliable estimate can be made of the amount of the obligation. ©. Management decides that itis essential that a provision be made for unforeseen circumstances and keeping in mind this year the profits were enough but next year there may be losses. D. There is a legal obligation arising from a past obligating event, the probability of the outflow of resources is more than remote but less than probable, and a reliable estimate can be made of the amount of the obligation. 4, Regarding proper measurement of provisions, which of the following is incorrect? A. Reimbursements just like gains from expected disposal of assets, are recognized only when it is virtually certain, It is presented as a separate asset but gains from it can be presented net of the losses on the financial statements. B. The risks and uncertainties that inevitably surround many events and circumstances shall be taken into account in reaching the best estimate of a provision. c. ifan entity has an onerous contract, the present obligation under the onerous contract shall be recognized ‘and measured as a provision. The amount to be recognized as provision is the HIGHER amount between the ‘ost of fuliling the contract and the compensation or penalty arising from fallure to fulfil the contract. D. Where the effect of the time value of money is MATERIAL, the amount of provision shall be the present value of the expenditures expected to be required to settle the obligation 5, St: When the provision involves a large population of items, the estimated liability shall be measured as the midpoint of the possible outcomes $2: Ian entity did not record an accrual for a present obligation and did not disclose the nature of the obligation and the range of the loss, the loss is likely to be remote. $3: _ Ifthe provision is directly attributable to a certain asset, it s debited as cost of the asset A True, false, false D. False, false, true 8 False, true, true E. True, false, true C. True, tue, false 6. Reporting is required for A. Allloss contingencies. B. Loss contingencies that are possible and can be reliably measured. ©. Loss contingencies that are probable and can be reliably measured D. Gain contingencies that are probable and can be reliably measured. REO CPA REVIEW PHILIPPINES Effectiveness. Efficiency. Convenience www teocpareview.ph REAL EXCELLENCE ONLINE CPA REVIEW © (074) 665 6774 @ 091684000601 © suopori@reocnareview.sh MAY 2024 CPA REVIEW SEASON iPage 7 of 7 | FAR Handouts No.24 REAL nee ee 7. Anentity operates a plant in a foreign country. It is probable that the plant will be expropriated. However, the foreign government has indicated that the entity will receive a definite amount of compensation for the plant. The amount of. ‘compensation is less than the fair value but exceeds the carrying amount of the plant. The contingent asset should be reported A. In the statement of financial position B. In the notes to the financial statements C. Asa fixed asset valuation allowance account D. Asa valuation allowance as part of shareholders’ equity 8 Which of the following best describes the acorual approach of accounting for warranty cost? ‘A. Expensed when paid. B. — Expensed when incurred C. _ Expensed based on estimate in year of sale D. Expensed when warranty claims are certain 8. The board of directors of an entity decided in the latter part of the current year to wind up intemational operations in the Far East and move them to Australia. The decision was based on a detailed formal plan of restructuring as required by PAS 37. This decision wes conveyed to all workers and management personnel at the headquarters in Europe. The cost of this restructuring plan can be measured reliably. How should the entity treat this restructuring in the financial statements for the current year-end? ‘A Mention the decision to restructure and the cost involved in the chairman's statement in the annual report since itis a decision of the board of directors, B. Because the restructuring has not commenced before year-end, based on prudence, wait unti next year and do nothing in this years financial statements . Recognize a provision for restructuring since the board of directors has approved it and it has been announced in the headquarters of the entity in Europe. D. Disclose only the restructuring decision and the cost of restructuring because the entity has not announced the restructuring to those affected by the decision and thus has not raised an expectation that the entity would actually carry out the restructuring 10. provision should be recognized for which of the following? ‘A. Future operating losses B. Possible losses from unfavourable outcome of court cases. C. Decline in value of the asset due to impairment D. Liability for unredeemed coupons -- END OF HANDOUTS — REO CPA REVIEW PHILIPPINES Effectiveness. Efficiency. Convenience www.teocpareview. REAL EXCELLENCE ONLINE CPA REVIEW © (074) 665.6774 @ 0916 840.0861 @ support@reocpareviewch MAY 2021 CPA REVIEW SEASON.6s Page 1 of 7 | FAR Handouts No.25 REAL EXCELLENCE ARI. MBITAGO. CPA EMPLOYEE BENEFITS KARIM G. ABITAGO, CPA DEFINITION Employee benefits are all forms of consideration given by an entity in exchange for services-rendered by employees or for the termination of employment, NOTE: In accordance with PAS 19, employees INCLUDE directors and other management personnel Under PAS 19R, employee benefits include (SPOT) % Short-term employee benefits + Postemployment benefits % Other long-term employee benefits (other than postemployment benefits) % Termination benefits ‘SHORT-TERM EMPLOYEE BENEFITS Short-term employee benefits are employee benefits other than termination benefits which are expected to be settled wholly within twelve months after the end of annual reporting period in which the employees render the related service Examples of short-term employee benefits: ¥ Salaries, wages and social security contributions ¥ Short-term compensated or paid absences such as paid annual leave and paid sick leave ¥ Profit sharing and bonuses payable within twelve months ¥ _ Nonmonetary benefits, such as medical care, housing, car and free or subsidized goods, INTING FOR SHORT-TERM EMPLOYEE BENEFITS Accounting for short-term employee benefits is fairly straight forward because there are no actuarial assumptions to be mad The rules for short-term benefits are essentially an application of basic accounting principles and practice. (1) Unpaid short-term employee benefits at the end of the reporting period shall be recognized as accrued expense. (2) Any short-term benefits paid in advance shall be recognized as a prepayment. (3) The cost of short-term benefits shall be recognized as expense in the period when incurred, except when such cost may be included within the cost of an asset, such as property, plant and equipment ‘SHORT-TERM COMPENSATED ABSENCES ‘An entity may pay employees for absences for various reasons such as vacation, sickness and short-term disability, maternity or patemity and military service. Short-term compensated absences are classified as ‘* Accumulating - are those that are carried forward and can be used in future periods if the current period's entitiement is not used in ful, ‘* Vesting - Employees are entitled to a cash payment for unused entitlement on leaving the entity = __Nonvesting - Employees are not entitled to a cash payment for unused entitlement on leaving the entity. ‘ _ Non-accumulating - are those that are not carried forward. Such benefits lapse if the current period's entitiement is. ‘not used. Automatically, employees are not entitled to a cash payment for unused entitlement on leaving the entity (NON-VESTING), PROFIT SHARING AND BONUS PLANS. Under some profit-sharing plans, employees shall receive a share of the profit only if they remain with the entity for a specified period. Such plans create a constructive obligation as employees render service that increases the amount to be paid if they remain in service unti the end of the specified period. The measurement of such constructive obligation reflects the possibilty that some employees may leave without receiving profit-sharing payments. PAS 19R provides that an entity shall recognize the expected cost of profit sharing and bonus payment when all of the following conditions are present: (2) The entity has a present legal or constructive obligation to make such payment as a result of past event. (b) A reliable estimate of the obligation can be made. A present obligation exists when the entity has no realistic alternative but to make the payment FORMULAS USED IN COMPUTING BONUS: (1) Bonus is expressed as a certain percent of income before bonus and before tax. BONUS = Profit x B% eke eM Waeeea ph 74 @ 0916840 0661 © support@reocparPage 2 of 7 | FAR Handouts No.25 REAL EXCELLENCE KARIM G. ABITAGO, CPA EMPLOYEE BENEFITS, (2) Bonus is expressed as a certain percent of income after bonus but before tax, BONUS = P - [(1 + (1 + B%)] (3) Bonus is expressed as a certain percent of income after tax but before bonus, BONUS = P x [(1 - T%)+ (1 B% -T%)] (4) Bonus is expressed 2s a certain percent of income after bonus and after tax. BONUS = P x [(1 -%) + (1/(B% - 1% +1))] WHERE: P = Profit before bonus and before tax B% = Bonus rate T% = Tax rate POST-EMPLOYMENT BENEFITS Postemployment benefits are employee benefits, other than termination benefits and short-term employee benefits, which are payable after completion of employment Examples of post-employment benefits are ¥ Retirement benefits, such as pensions and lump sum payments on retirement ¥ — Postemployment life insurance ¥ Postemployment medical care NOTE: Post-employment plans can be formal or informal. A plan is FORMAL if it was established as part of the remuneration package for the employees. A plan is INFORMAL if it is evidenced only by the entity's practice to pay postemployment benefits. ‘CATEGORIES OF POST-EMPLOYMENT PLANS MAJOR CATEGORIES DEFINED CONTRIBUTION PLAN DEFINED BENEFIT PLAN The employer commits to make fixed contributions to | # _ The employer commits to pay a definite amount of a fund. The amount of benefits that an employee will retirement benefits. Such amount is independent of receive is dependent on the fund balance. any fund balance. 4+ The risk that the fund may be insufficient to meet the | & The risk that the fund may be insufficient to pay for expected benefits rests with the employee. the promised benefits rests with the employer. ‘OTHER CATEGORIES ‘CONTRIBUTORY PLAN. NON-CONTRIBUTORY PLAN $ Both the employer and employee contribute to the | Only the employer contributes to the retirement fund retirement fund (e.g. SSS). of the employee. FUNDED PLAN UNFUNDED PLAN The fund Is being isolated from the control of the | # The fund is being managed by the employer. In ‘employer and such is transferred to a trustee who addition, the employer pays directly the ‘retiring Undertakes to manage the fund and pay directly the employees. retiring employees. MULTI-EMPLOYER PLANS INSURED BENEFITS Under @ mult-employer plan, various unrelated | An employer may pay insurance premiums to fund a employers contribute to a common fund that is post-employment plan. It is classified either as managed by @ trustee to provide post-employment defined contribution or defined benefit plan. It is benefits to the employees of the participating classified as defined benefit plan if the employer employers. It is classified as either defined retains the obligation to either pay directly the contribution or defined beneft plan benefits to the employee or make good any deficiency ifthe insurer falls to pay in full the benefits ‘ACCOUNTING FOR DEFINED CONTRIBUTION PLANS ‘Accounting for a defined contribution plan is straightforward because the obligation of the entity is determined by the ‘amount contributed for each period. REQUIRED CONTRIBUTION = EXPENSE ¥ Any unpaid contribution at the end of the period shall be recognized as accrued expense Y Any excess contribution shall be recognized as prepaid expense but only to the extent that the repayment will lead to a reduction in future payments or a cash refund, The amount of contribution is measured at an UNDISCOUNTED amount unless itis due beyond 12 months. REO CPA REVIEW PHILIPPINES Effectiveness. Efficiency. Convenience www.reocpareview. REAL EXCELLENCE ONLINE CPA REVIEW © 074 0056774 @ 09168400001 © suoBerreocparevew ah MAY 2021 CPA REVIEW SEASONPage 3 of 7 | FAR Handouts No.25 REAL EXCELLENCE A UPLOVEE BENEFITS ACCOUNTING FOR DEFINED BENEFIT PLANS ‘Accounting for a defined contribution plan more complex since there is discounting and actuarial assumptions. REQUIRED CONTRIBUTION # EXPENSE “The following steps shall be followed in accounting for defined benefit plan STEP 4: Determine the Defined Benefit Obligation (DBO) STEP 2: Determine the Fair Value of Pian Assets, STEP 3: Determine the Deficit or Surplus STEP 4: Determine the Net Defined Liability or Asset STEP 5: Determine the Defined Benefit Cost STEP 1: Determine the Defined Benefit Obligation (DBO) DBO is the present value of expected future payments required to settle the obligation resulting from employee service in the current and past periods. This is determined using an actuarial valuation called PROJECTED UNIT CREDIT MEHOD. This method sees each period of service as giving rise to an additional unit of benefit entitlement and measures each unit separately to build up the final obligation How to compute the ending balance of DBO? See the following T-account to answer the question Defined Benefit Obligation (PV) ‘Aatuarial Gain xx Beginning Balance x Benefits Paid xx Current Service Cost CA of DBO settled in advance xx Past Service Cost Actuarial Loss Ending Balance xx Interest Expense xx xx xx. NOTES: Current service cost is the increase in the present value of the defined benefit obligation resulting from employee service in the current period. An employee's retirement benefit expense increases as he or she renders service. + Past service cost is the change in the present value of defined benefit obligation for employee service in prior periods resulting from a plan amendment or curtailment Plan amendment includes introduction of defined benefit pian or changes to an existing defined benefit pian. Plan curtailment is @ significant reduction in the number of employees covered by the defined benefit plan. All past service costs, whether vested or unvested, shall be recognized as expense immediately. 4 Interest expense is computed by multiplying the defined benefit obligation at the beginning of the reporting period by the "discount rate”. The discount rate is based on HIGH QUALITY CORPORATE BONDS or ON GOVERNMENT BONDS in the absence thereof. 4 Actuarial gains and losses are changes in the present value of the defined benefit obligation resulting from experience adjustments and the effects of changes in actuarial assumptions Actuarial assumptions are an entity's best estimate of the variables that would determine the ultimate cost of providing postemployment benefits. Actuarial assumptions shall be unbiased and mutually compatible. Actuarial assumptions comprise of demographic assumptions and financial assumptions. Demographic assumptions deal with mortality, rate of employee turnover, disability, early retirement, proportion of plan members eligible for benefits, and claim rates under medical plans. Financial assumptions deal with discount rate, future salary and benefit levels, future medical costs and taxes payable by the plan If the actual benefit obligation is higher than the estimated amount, there is an actuarial loss. This means that the projected benefit obligation has increased and the increase is recognized as an actvarial loss. If the actual benefit obligation is lower than the estimated amount, there is an actuarial gain. This means that the projected benefit obligation fas decreased and the decrease is recognized as an actuarial gain Benefits paid results from the settlement of the plan. A settlement is @ transaction that eliminates all further legal or constructive obligations for part or all of the benefits provided under a defined benefit plan. This is referred to as "routine settlement’ * An entity shall recognize gain or loss on the settlement of a defined benefit plan when the settlement occurs. This, happens if the employee opted an early retirement, ‘STEP 2: Determine the Fair Value of Plan Assets FVPA represents the balance of any fund set aside for the payment of the retirement benefits. REO CPA REVIEW PHILIPPINES Effectiveness. Efficiency. Convenience yoww.reoopareview.ph REAL EXCELLENCE ONLINE CPA REVIEW @ (074) 665.6774 @ 0916 8400661 @ support@reocpareview.ph — MAY 2021 CPA REVIEW SEASON“ag EMPLOYEE BENEFITS. Page 4 of 7| FAR Handouts No.25 Plan Assets comprise (1) Assets held by a long-term employee benefits fund ‘The assets are held by an entity, the fund itself, that is legally separate from the reporting entity. (2) Qualifying insurance policies ger ena er eens policy issued by an insurer that is not a related party of the reporting NOTE: Both are not available to the employer's cre unless the amount returned represents surplus assets, How to compute the ending balance of FVPA? See the following T-account to answer the question. Fair Value of Plan Assets Beginning Balance xx Benefits pad x Actual Return xx Settlement price of PBO settled in advance xx Contributions made __xx Fs even in bankruptcy and cannot be returned to the employer Ending Balance xx NOTES: Actual return comprises interest income and remeasurement gain. Interest income is computed by multiplying the fair value of plan assets at the beginning of the reporting period by the same discount rate used for interest expense. ‘STEP 3: Determine the Deficit or Surplus If FVPA < DBO = Deficit If FVPA > DBO = Surplus ‘STEP 4: Determine the Net Defined Liability or Asset Net Defined Benefit Liability (Accrued Pension) = Deficit Net Defined’ Benefit Asset (Prepaid Pension) = The lower of Surplus and Asset Ceiling NOTE: Asset ceiling is the present value of any economic benefits available in the form of refunds from the plan or reductions in future contributions to the plan. DBO and FVPA are items kept only in the memorandum records of the sub-enlity. The "prepaid/accrued benefit cost’ is the tem that appears in the statement of financial position of the employer entity. ‘REMEASUREMENTS Current Service Cost | | Interest expense xx | [RemeasurementonFVPA x(x) Past Service Cost xx_| | Interest income (x) ||RemeasurementonPBO x(x) Loss or (ein) on || taterest on effect of Change in effect of asset asset ceiling wx | [ceiling x) Total x(x) carly settlement xa |] Total x F Presented in OCT or OCL Disclosures - defined contribution plan The amount recognized as expense for the defined contribution plan, B._ The contribution fo defined contribution plan for key management personnel as required by PAS 24 on related party disclosures. Disclosures - defined benefit plan DiscloSGharacteristics of the defined benefit plan and risks associated with the plan, for exemple, the nature of benefits provided and any minimum funding b. Reconciliations for the fair value of plan assets, the present value of the defined benefit obligation end the effect of asset ceiling c. Separate showing of current service cost, past service cost, interest expense or income and remeasurements in the reconciliations. 4. Disaggregation of the fair value of plan assets into classes that distinguish the nature and risks of assets, subdividing the plan assets into those that have a quoted market price and those that do not have a quoted market price. e. _Asensitivity analysis for each significant actuarial assumption showing the effect on the defined benefit obligation for any change in the relevant actuarial assumption. REO CPA REVIEW PHILIPPINES Effectiveness. Efficiency. Convenience www.reocpareview.oh REAL EXCELLENCE ONLINE CPA REVIEW @ (074) 6658774 @ 0916 840 0661 supvorl@reocpareview ph — MAY 2021 CPA REVIEW SEASONPage 5 of 7| FAR Handouts No.25 REAL EXCELLENCE AT NYPLOVEE BENEFTS f. Description of any funding arrangement and funding policy. 9. Expected contribution to the plan for the next annual reporting period. h. Maturity profile of the defined benefit obligation, OTHER LONG-TERM BENEFITS ‘The term “other long-term employee benefits” is a residual definition. Other long-term employee benefits are all employee benefits other than short-term employee benefits, postemplayment benefits and termination benefits. Other long-term employee benefits usually include the following ‘a. Long-term paid absences such as long service or sabbatical leave b. Jubilee or other long service benefit Long-term disability benefit d. Profit sharing and bonus e. Deferred compensation The recognition and measurement of liability for other long-term employee benefits are the same as the recognition and measurement of defined benefit obligation. In other words, the liability recognized for other long-term employee benefits at the end of reporting period shall be the net total of the following amount: a. Present value of the benefit liability b. Fair value of the plan assets For other long-term employee benefits, all of the following components of defined benefit cost are recognized in profit or loss and included in employee benefit expense: TERMINATION BENEFITS Termination benefits are employee benefits provided in exchange for the termination of an employee's employment as a result of either a. An entity's decision to terminate an employee's employment before the normal retirement date. b. An employee's decision to accept an offer of benefits in exchange for the termination of employment. ‘The event that gives rise to an obligation is the termination of employment rather than employee service. ‘An entity shall recognize an expense and a lability for termination benefits at the earlier of the following dates: a. When the entity can. no longer withdraw the offer of the termination benefits, for example, when the plan of termination is already communicated to affected employees. b. _ When the entity recognizes the cost of restructuring that involves the payment of termination benefits Ifthe termination benefits are expected to be settled wholly within twelve months after the end of reporting period in which the termination benefit is recognized, the requirements for short-term employee benefits shall be applied. If the termination benefits are expected not to be settled wholly within twelve months after the end of reporting period, the requirements for other long-term employee benefits shall be applied REO CPA REVIEW PHILIPPINES Effectiveness. Efficiency. Convenience yoww.reocpareview.oh REAL EXCELLENCE ONLINE CPA REVIEW © (074) 6656774 @ 091684000651 © sunport@reocpareviewgh MAY 2021 CPA REVIEW SEASONPage 6 of 7 | FAR Handouts No.25 REAL EXCELLENCE KARIM G. ABITAGO, CPA DISCUSSION EXERCISES STRAIGHT PROBLEMS SHORT-TERM EMPLOYEE BENEFITS - COMPENSATED ABSENCES EMPLOYEE BENEFITS, 1. PROTACIO CORP. allows each employee to earn 15 days of paid vacation leave per year. Unused vacation leave ‘can be carried up to two years from the year there were eamed, thereafter it shall expire.; thereafter it shall expire ‘The company has 50 employees (assumed have been employed throughout 2019 and 2020) with an average salary of P800 per day. Salary rates increased by 10% in 2020 ‘According to past experience, 75% of allowed leaves to be carried-forward are ultimately exercised by the employees, Toal leave vecaton taken by employees during 2010 and: 2020 were’ 400 days end 480 days, respectively. REQUIREMENTS: (1) What amount should be reported as vacation pay expense in 2019 and 20207; (2) What is the balance of liability for compensated absences for the year ended December 31, 2019 and December 31, 20207 Under the following assumptions: (a) Unused vacation leaves vest (accumulating and vesting) (b) Unused vacation leaves do not vest (accumulating and non-vesting) (©) Unused vacation leave cannot be carried over next year (non-accumulating) 2, RIZAL INC. has an agreement to pay the sales manager a bonus of 10% of the entity's earnings. The income for the year before bonus and tax is P10,500,000. The income tax rate is 30% of income after bonus, REQUIREMENT. Determine the bonus under each of the following independent assumptions: (2) Bonus is @ certain percent of the income before bonus and before tax. (b) Bonus isa certain percent of income after bonus but before tax. (c) Bonus is a certain percent of income after bonus and after tax. (d) Bonus is certain percent of income after tax but before bonus. POST-EMPLOYMENT BENEFITS 3, EMILIO CORP. has a defined contribution plan that covers its existing employees. The term of the plan required EMILIO to contribute 8% of the annual employees’ salaries to the retirement plan each year. The following information shows the total annual salaries and the contribution made each year: ‘Annual Salaries: Contribution Made 2019 3,000,000 200,000 2020 3,600,000 280,000 REQUIREMENT: Prepare the entry to record entries pertaining to the defined contribution plan. 4, BONAFICO COMPANY agrees to provide lump-sum retirement benefits to employees equal to 3% of final salary for each year of service. Information on such employee is as follows: ‘Average annual salary level on January 1, 2018 3,000,000 ‘Average annual salary increase starting January 1, 2019 and every year thereafter 5% ‘Average service lives before entitlement to retirement benefits 6 years Discount rate 12% REQUIREMENTS: (1) What is the annual current service cost? (2) What is the balance of the defined benefit obligation as of December 31, 20207 5. ANDRES CORP. has established a defined benefit pension plan for an employee. Annual payments under the pension plan are equal to the employee's highest lifetime salary multiplied by 2% multiplied by number of years with the entity. On December 31, 2019, the employee had worked for ANDRES CORP. for 10 years. The current annual Salary is P600,000. The employee is expected to retire in 5 years and the salary increases are expected to average '5% per year during that period. The employee is expected to live for 8 years after retiring and will receive the first ‘annual pension payment one year after retirement. The discount rate is 10%. The relevant present value and future value factors are: REQUIREMENT: What is the balance of the defined benefit obligation as of December 31, 20197 6. On January 1, 2019, SILANG COMPANY had the following balances related to a defined benefit plan Fair value of plan assets 4,500,000 Projected beneft obligation 5,500,000 The actuary provided the following data for the current year Current service cost 400,000 Settlement discount rate 10% Expected return on plan assets 8% ‘Actual return on plan assets 600,000 Contribution to the plan 750,000 Benefits paid to retirees 200,000 Decrease in the present value of ‘benefit obligation due to change in actuarial assumptions 300,000 Present value of defined benefit obligation settied in advance 450,000 Settlement price of defined benefit obligation settled in advance 400,000 REO CPA REVIEW PHILIPPINES Effectiveness. Efficiency. Convenience www .teocpareview.oh : REAL EXCELLENCE ONLINE CPA REVIEW © (07) 6656774 @ 091684000661 © sueporteeocpereview.eh MAY 2021 CPA REVIEW SEASONPage 7 of7 | FAR Handouts No25 KARIM G, ABITAGO, CPA EXCELLENCE EMPLOYEE BENEFITS ONLINE see (On January 1, 2019, SILANG amended its retirement plan. The amendment resuited to an increase in the balance ofthe present value of defined benefit obligation from 5,600,000 to 5,750,000. REQUIREMENTS: (1) Whatis the projected benefit obligation on December 31, 20197 (2) Whatis the fair value of plan assets on December 31, 2019? 3) What's bal007eance of fhe prepaid or accrued pension as of December 31, 20197 (4) What amount employee benefit cost should be reported in the profit or loss? (6) Whatis the net amount of remeasurements for the year 2019? (6) How much is the amount of underfunding or overfunding during 2019? 7. Information on GABRIELA CORP’'s defined benefit pian is shown below. Fair value of plan assets, Jan. 1, 2018 6,000,000 Present value of defined obligation, Jan. 1, 2018 5,200,000 Current service cost r '580,000, Past service cost 220,000 Benefits paid 350,000 ‘Actual return on plan assets £850,000 Contribution to the plan 830,000 Actuarial loss 340,000, Present value of defined benefit obligation settled 500,000 Settlement price of defined benefit obligation 400,000 Expected rate of retum 12% Discount rate to discount DBO 10% ‘The present values of economic benefits available in the form of refunds from the plan are P700,000 and P800,000 ‘on January 1 and December 31, respectively REQUIREMENTS: (1) What'is the projected benefit obligation on December 31, 2019? (2) What is the fair value of plan assets on December 31, 20197 (3) What is balance of the prepaid or acorued pension as of December 31, 20197 (4) What amount employee benefit cost should be reported in the profit or loss? (5) What is the net amount of remeasurements for the year 20197 (6) How much is the amount of underfunding or overfunding during 2019? ‘TERMINATION BENEFITS & —_LAPU-LAPU COMPANY plans to close one of its branches in 5 months’ time. There are 50 employees in the branch. Because LAPU-LAPU wants to fil in some pending customer order, it offers employees the following: -> Each employee who stays and renders service until the closure of the branch will receive on the termination date a cash payment of P200,000. > __ Employees leaving before closure of the branch will receive P90,000. LAPU-LAPU expects that half of the employees will eave before closure. REQUIREMENT. How much is the termination benefits?Page 8 of 7 | FAR Handouts No.25 REAL EXCELLENCE KARIM @. ABITAGO, CPA EMPLOYEE BENEFITS MULTIPLE CHOICE (THEORIES) 4. Which is not a characteristic of short-term employee benefits? vom> 2 In A 9:99 wi A. B. ic D. There is no possibility of any actuarial gain or loss. No actuarial assumptions are required to measure the benefit obligation. Short-term employee benefit obligations are measured on a discounted basis, ‘Short-term employee benetits by definition are payable no later than twelve months after the end of the reporting period. terms of classification of short-term compensated absences, which of the following is incorrect? Under vesting short-term compensated absences, employees are entitled to a cash payment for unused entitiement on leaving the entity. Under non-vesting short-term compensated absences, employees are not entitled to a cash payment for unused entitlement on leaving the entity. ‘Accumulating short-term compensated absences are those that are carried forward and can be used in future periods if the current period's entitlement is not used in full Non-accumulating short-term compensated absences are those that are carried forward and can be used in future periods if the current period's entitlement is not used in full hich of the following is not e characteristic of a defined contribution plan? ‘The employer contribution each period is based on a formula. ‘The accounting for a defined contribution plan is straightforward and uncomplicated. The benefits to be received are usually determined by an employee's highest salary. ‘The benefit of gain or the risk of loss from the assets contributed to the pian are borne by the employee. 4. St: _Inrare circumstances, when a retirement benefit plan has attributes of both defined contribution and defined benefit plan, it is deemed a defined contribution plan. $2: Accounting for a defined contribution plan is straightforward because the obligation of the entity is determined by the amount contributed for each period. $3: Under a defined benefit plan, the risk that the fund may be insufficient to pay for the promised benefits rests A B a 5 In A B. c. D 6 Wr with the employer. False, true, true D. True, true, false True, false, false E. True, false true False, false, true ‘computing the current service cost component of pension expense The accumulated benefit obligation provides @ more realistic measure of the pension obligation on a’ going ‘concern basis. ‘An entity should employ an actuarial funding method to report pension expense that best reflects the cost of benefits to employees. The defined benefit obligation using future compensation levels provides a realistic measure of present pension obligation and expense. All of these. Inatis the treatment of actuarial gains and losses? ‘A. Asremeasurements recognized immediately in profit or loss. B. As remeasurements recognized immediately in retained earnings CAs remeasurements recognized immediately in other comprehensive income and subsequently recycled to profit or loss: 1D. _ As remeasurements recognized immediately in other comprehensive income and permanently excluded from profit or loss. 4 In computing the ending balance of defined benefit obligation, which of the following is deducted from the beginning balance? (1) Current service cost (3) Actuarial gain (2) Actuarial loss (4) Benefits paid A tand4 © tand3 B 3and4 D. 2and3 8. In accounting for defined benefit plan, which of the following ‘statements is incorrect? A The defined benefit obligation and plan assets accounts are NOT presented in the statement of financial position, B. NOT all defined benefit costs are presented in profit or loss. oS C. if the balance of the defined benefit obligation is higher than the balance of plan assets, the difference is presented in the statement of financial position D. if the balance of the defined benefit obligation is lower than the balance of plan assets, the difference is presented in the statement of financial position. REO CPA REVIEW PHILIPPINES Effectiveness. Efficiency. Convenience ‘wow. reoopareview.ph REAL EXCELLENCE ONLINE CPA REVIEW © (074) 6056774 @ 0016 840.0661 © support@reoepareview.oh — MAY 2021 GPA REVIEW SEASON ee Ss par se ea es10. ‘pension assets reported when ‘A. Plan assets at far value exceed the defined benefit obligation B. Plan assets at fair value exceed the accumulated benefit obligation C. The accumulated benefit obligation exceeds the fair value of plan assets D. The accumulated benefit obligation exceeds the fair value of plan assets but a past service cost exists. ‘Which of the following statements is incorrect in relation to termination benefits? ‘Abenefit that is in any way dependent on providing service in the future Is a termination benefit. The event that gives rise to an obligation for termination benefits the termination of employment ‘benefit resulting from mandatory retirement is a postemployment benefit rather than a termination benefit. ‘Abenefit resulting from termination of employment at the request of an employee without an entity offer is not a termination benefit gom> = END OF HANDOUTS —