ASSOCHAM IFRS Master Class

IFRS Compliance for Employee Benefits
Ben Facer, Regional Consulting Leader 14 July 2010

Agenda

Our discussion today will cover:
The scope of retirement plan accounting AS-15 vs IAS19 ± where are the differences? IAS19 ± Getting it right Potential changes to IAS19

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The Scope of Retirement Plan Accounting

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cope of - and I Focus on retirement benefits Post-employment benefits Retirement indemnities Medical plans for retirees Other long-term benefits Long service awards Long-term compensated absences Long-term disability plans Medical plans Long term service awards Long-term disability plans Retirement Benefits Long-term compensated absences Mercer 4 .

Scope: Defined benefit vs defined contribution  IAS19 covers employee benefits in defined benefit form Q: A: What is ´defined contributionµ What is ´defined benefitµ Q: A: A structure where: Anything that is not ‡ Employer pays ´defined contributionµ a fixed rate of contributions. employer has no further legal or constructive obligation. with a potential call on the employer Example: Exempt Provident Fund Mercer 5 . and ‡ Following payment. even if plan goes into deficit  Your DC fund might be included when: ± ± ± ± Guaranteed minimum interest rate Interest rate linked to a particular index Guaranteed minimum benefit Interest rate smoothing.

AS-15 vs IAS19 What are the Differences? Mercer 6 .

 Three key differences: ± Discount rate ± Recognition of actuarial gains and losses ± Balance Sheet (Statement of Financial Position) Liability Mercer 7 . hence the standards are identical in most respects.AS-15 vs IAS19 Where are the differences?  AS-15 (Revised 2005) was issued as a stepping stone to full IFRS.

Paragraph 78: 78. The currency and term of the government bonds should be consistent with the currency and estimated term of the post-employment benefit obligations.end of the reporting bonds The currency and period on high quality corporate bonds. period) on government bonds shall be used.Discount Rate What do the Standards say? IAS19. the market yields (at the end of the reporting estimated term of the post-employment benefit obligations. The rate used to discount post-employment benefit obligations (both funded and unfunded) should be determined by reference to market yields at the balance sheet date on government bonds. Mercer 8 . AS-15. Inconsistent with the currency and term of the government bonds should be countries where there is not deep market in such bonds.

relative to the assumptions chosen  Under AS-15. all actuarial gains and losses must be immediately recognised in the Profit & Loss account IAS19 allows three methods of recognition: ± Deferred through the P&L ± the µCorridor¶ approach ± Immediately through the P&L ± Immediately through the Statement of Comprehensive Income  Mercer 9 .Recognising actuarial gains and losses  Actuarial gains and losses arise from two broad sources: ± Changes in assumptions used from year to year ± The experience of the Plan.

IAS19 ² Getting it right! Mercer 10 .

indicates that those state benefits will change in Retirement Medical some predictable companies example. 25% provide disclosures ± Post Retirementplan benefits if ³past history. for surveyed in line with future changes accounting provision and general salary levels´ ‡ 92% havein general price levels ordisclosures Mercer 11 . for impacting Medical reliable non-vested employees Postevidence. interest provide disclosures 3. or other to vesting.000 Other Employee Benefits Exempt Provident Funds Gratuity Cap 2. ‡ Provided by 35% ofmanner. Other Treatment:benefits: employee valued ‡ Increase Awards Long Serviceto past ± Leave encashment service benefit disclosed as a ³Past Service Cost´ How? ‡ Immediate recognition ‡ / Long by 12% of companies surveyed ± JubileeProvidedService Awards for vested employees 75% Straight line amortisation over average term ‡ IAS19 Para 83: Make assumptions regarding state benefits ‡ have accounting provision.000. Cap on Gratuity to increase from Rs350.000 to Rs1.Ensure that you include all plans within scope 1. Exempt Provident Funds Impact: ShouldEncashment Leave they to valued? ‡ they be valued? ± Should Increase bepast service benefits ‡ Provided to future surveyed do Increase by all companies surveyed ± How? 13% of companiesaccrual of benefits ‡ Evenhave accounting provision. 36%rate guarantee must be 82% for a ³DC´ Exempt PF.

Actuarial assumptions shall be unbiased and mutually compatible. Actuarial assumptions are an entity¶s best estimates of the variables that will determine the ultimate cost of providing post employment benefits Assumptions include: Demographic Assumptions ‡ Mortality ‡ Disability ‡ Resignation ‡ Retirement ‡ Medical claim rates ‡ Employees with dependents Financial Assumptions ‡ Discount rate ‡ Return on assets ‡ Salary Inflation ‡ Future benefit levels ‡ Future medical costs Mercer 12 . 73.Ensure that you set assumptions correctly IAS19: 72.

Effects of Changes in Actuarial Assumptions Assumption Discount rate Increase Liab would decrease and leads to actuarial gain Liab would increase and leads to actuarial loss Decrease Liab would increase and leads to actuarial loss Liab would decrease and will lead to actuarial gain Salary Increase Rate Expected long-term rate of return High expected return results in low pension cost Low expected return results in high pension cost Mercer 13 .

unless no deep market ‡ ³High quality´ typically considered AA rating ‡ Spread between AA Corporate and Central Govt 10 year bonds was 130 bps at 31 March 2010 State Government vs Central Government Bonds? ± Central Govt Bonds hold a sovereign guarantee ‡ Sovereign Rating (S&P) BBB± State Govt Bonds are offering higher yields ± by around 100 bps ‡ At lower security  Mercer 14 .Assumptions: Setting the discount rate Which bonds to reference?  Corporate vs Government Bonds ± IAS19 requires reference to ³high quality´ corporate bonds.

Assumptions: Setting the Discount Rate The Yield Curve in India .5 8 7.5 4 0 5 10 15 20 25 30 Te m to Mar-10 Mar-0 atu it Lo .Duration Cent a 8.) YT 7 6. Mar-10 Mercer 15 .5 6 5. Mar-0 Lo .5 5 4.5 o e nment Bon Yie s: n ia (% p.a.

An entity shall disclose information that enables users of financial statements to evaluate the nature of its defined benefit plans and the financial effects of changes in those plans during the period.   Para 120A sets out in detail specific disclosure items that are required. Let¶s look at some simplified examples: ± Balance Sheet ± Profit & Loss ± Treatment of Gains and Losses Mercer 16 .Ensure that your disclosures are compliant IAS19: 120.

000) 0 0 (6.000 3.000) 0 12.000) Mercer 17 .000.200.000) 0 31 December 2009 11.000 (6.000 (9.000.200.000.000.Disclosures: Balance Sheet 31 December 2010 Benefit Obligation Fair value of plan assets Funded status Unrecognised net actuarial gain/(loss) Unrecognised past service (cost)/benefit Net amount recognised (9.000.000 5.200.

assets in an employee benefits fund must generally: ± Be held in an entity which is legally separate from the company ± Are available only to pay or fund employee benefits  Reconciled from year to year with: ± ± ± ± Contributions Benefit payments Expected return on assets Actuarial gains / losses Mercer 18 .Assets  Must be valued at fair value ± Exchanged by willing parties in an arm¶s length transaction May comprise: ± Assets in an employee benefits fund ± An insurance policy   To qualify.

Actuarial gain/loss: Assets Market value of assets Benefit Payments leavers Contributions and Expected Investment Return Asset Gain Year Start Year End Year End Expected Year End Actual Asset gain/(loss) Actual .Expected market value of assets Mercer 19 .

000.200.000) Mercer 20 .Disclosures: Balance Sheet 31 December 2010 Benefit Obligation Fair value of plan assets Funded status Unrecognised net actuarial gain/(loss) Unrecognised past service (cost)/benefit Net amount recognised (9.000.200.000) 0 12.000 (9.000.000.000 5.000 (6.000 3.000) 0 31 December 2009 11.000) 0 0 (6.000.200.

or ³DBO´ The actuarial present value of all benefits attributed to employee service rendered to date ± Gradual accrual of benefits promised. not benefits vested ± Projected Unit Credit method ± includes expected future salary increases ± Present value is calculated using discount rate assumption (bond yield)  Reconciled from year to year with: ± ± ± ± Service cost Interest cost Benefit payments Actuarial gains / losses Mercer 21 .Disclosures: Benefit Obligation   Named the ³Defined Benefit Obligation´.

Expected liability Mercer 22 .Actuarial gain/loss: Liability Liability Benefit Payments leavers Extra year¶s interest and benefit accrual Liability Loss ear Start ear End ear End Expected ear End Actual Actuarial Loss/(gain) = Actual liability .

Disclosures: Profit & Loss 31 December 2010 Current service cost Interest cost Expected return on assets Amortisation of net gain/(loss) Curtailment (gain)/loss recognised Settlement (gain)/loss recognised Total pension expense 790.000 (15.000 20.000 Mercer 23 .000 (10.000) 0 0 31 December 2009 585.000) 0 0 0 585.000 15.000 0 780.

Key components of pension cost  Service cost ± The increase in DBO resulting from one extra year of employee service Interest cost ± The increase in DBO resulting from the passage of time Expected return on assets ± The amount of the DBO increase that is expected to be funded from investment returns ± Credit for the expected risk premium   Mercer 24 .

via pension expense 10% x Max (Assets.500 ‡ Gains/losses may pass though either: ± Profit & Loss. liabilities) ‡ Excess unrecognized gain/(loss) excess is spread over expected average remaining working lifetime and included in pension expense ± Immediate Recognition Example ‡ Balance sheet = Funded Status ‡ Assets = 1. ± ³10 corridor´ ‡ allows for some annual variability in experience ‡ corridor = 10% of max (assets.000gain/loss ± immediately recognized on the Balance No amortization of Deficit = 500 Sheet Liabilities = 1. Liabilities) = 150 ± Statement of Comprehensive Income Deficit outside ´corridorµ = 500 ² 150 = 350 Expected Remaining Working Lifetime = 15 years Amortisation = 350 / 15 = 23 per year Mercer 25 .Disclosures: Reporting gains and losses  IAS19 allows three methods to report the unrecognized net actuarial gain and loss.

Hot Off The Press! Potential Changes to IAS19 Mercer 26 .

IASB Exposure Draft Current Requirements in IAS19 Source: IASB Mercer 27 .

IASB Exposure Draft Proposed Requirements in IAS19 Source: IASB Mercer 28 .

Summary  IAS19 is not a material change from AS-15 ± Key change is the allowable methods of gain/loss recognition Consider carefully your assumption setting process ± Are assumptions your realistic best estimate ± Avoid unnecessary volatility resulting from poorly chosen assumptions Consider ALL of your employee benefits. and ensure you are appropriately accounting for your expense and liability    And finally ± some of this may change anyway! 29 Mercer .