pwc.com/ifrs practical guide to ifrs · pdf practical guide to ifrs ias 19 amendment to...

pwc.com/ifrs

Practical guide to IFRSIAS 19 amendment to significantly affectthe reporting of employee benefits

At a glance

The IASB hason accounting for employee benefits.The biggest impact of the changes ison defined benefit plans and otherpost-employment benefits; however,termination benefits and otheremployee benefits are also affected.

Actuarial gains and losthe asset ceiling and the actual returnon plan assets (‘remeasurements’) arerecognised in the balance sheetimmediately, with a charge or credit toother comprehensive income (OCI) inthe periods in which they occur. Theyare not recyc

There will be less flexibility in incomestatement presentation. Definedbenefit cost will be split into twocategories: (1) service cost, pastservice cost and settlement; and(2) interest expense or income.

Interest expense or income will nowbe net interest on the net definedbenefit liability (asset), calculated byapplying the discount rate to the netdefined benefit liability (asset). Thisreplaces the interest cost on thedefined benefit obligation and theexpected return on plan assets.

Past-service cost will be recognised inprofit or loss in the period of a planamendment.

August 2011


At a glance

The IASB has amended its standardon accounting for employee benefits.The biggest impact of the changes ison defined benefit plans and other

employment benefits; however,termination benefits and otheremployee benefits are also affected.

Actuarial gains and losses, the effect ofthe asset ceiling and the actual returnon plan assets (‘remeasurements’) arerecognised in the balance sheetimmediately, with a charge or credit toother comprehensive income (OCI) inthe periods in which they occur. Theyare not recycled.

There will be less flexibility in incomestatement presentation. Definedbenefit cost will be split into twocategories: (1) service cost, past-service cost and settlement; and(2) interest expense or income.

Interest expense or income will nowet interest on the net defined

benefit liability (asset), calculated byapplying the discount rate to the netdefined benefit liability (asset). Thisreplaces the interest cost on thedefined benefit obligation and theexpected return on plan assets.

service cost will be recognised inprofit or loss in the period of a planamendment.

A curtailment will only occur when anentity significantly reduces thenumber of employees. Curtailmentgains and losses will be accounted foras past-service cost.

A liability for a termination benefitwill be recognised at the earlier ofwhen the entity can no longerwithdraw the offer of the terminationbenefit and when the entity recognisesany related restructuring costs.

Enhanced disclosures are required inorder to present the characteristics ofbenefit plans and risks associated withthem, and identify and explain theamounts recognised in the financialstatements.

Background

The amendment has been included in theMemorandum of Understanding betweenthe IASB and the FASB. Although therewill still be significant differences,elimination of the options further alignsIFRS and US GAAP.

PwC observation:the accounting for employee benefits,including contributionwill be consideredconsideration of the post

Both the IASB and the FASB haveindicated that further improvements andconvergence are desirable in the future.


A curtailment will only occur when anentity significantly reduces thenumber of employees. Curtailmentgains and losses will be accounted for

service cost.

ability for a termination benefitwill be recognised at the earlier ofwhen the entity can no longerwithdraw the offer of the terminationbenefit and when the entity recognisesany related restructuring costs.

Enhanced disclosures are required ino present the characteristics of

benefit plans and risks associated withthem, and identify and explain theamounts recognised in the financial

Background

The amendment has been included in theMemorandum of Understanding between

the FASB. Although therewill still be significant differences,elimination of the options further alignsIFRS and US GAAP.

PwC observation: Further changes tothe accounting for employee benefits,including contribution-based promises,will be considered in the IASB'sconsideration of the post-2011 agenda.

Both the IASB and the FASB haveindicated that further improvements andconvergence are desirable in the future.

Practical guide to IFRS – IAS 19 (revised), ‘Employee benefits’ 2

Practical issues

The amendment will change reporting forcertain types of benefits and raise anumber of application issues, which areconsidered below.

Net interest cost

The amendment replaces the interest coston the defined benefit obligation, and theexpected return on plan assets with a netinterest cost based on the net definedbenefit asset or liability and the discountrate measured at the beginning of theyear. The net defined benefit asset orliability is adjusted for actual benefitpayments and contributions during theyear. There is no change in the discountrate; this continues to reflect the yield onhigh-quality corporate bonds, or ongovernment debt when there is no deepmarket in high-quality corporate bonds.

PwC observation: This is the mostsignificant change in the measurementof employee benefit expense. It willincrease the income statement chargefor many entities because the discountrate is typically lower than theexpected-return-on-assets assumptioncurrently used. However, this change isneutral for total comprehensive income,as the reduction in profit or loss is offsetby an increase in OCI.

Remeasurements

The amendment introduces a new term:‘remeasurements’. This is made up ofactuarial gains and losses on the definedbenefit obligation, the difference betweenactual investment returns and the returnimplied by the net interest cost and theeffect of the asset ceiling. Remeasure-ments are recognised immediately in OCIand are not recycled.

PwC observation: The corridor andspreading method and the immediaterecognition of actuarial gains/losses inprofit or loss are no longer permitted.This will reduce diversity in presentationand will ensure that the balance sheetalways reflects the extent to which apension plan is funded. Amountsrecognised in OCI are not recycledthrough profit or loss, but the standardno longer requires these items to berecognised immediately in retainedearnings. This will allowremeasurements to be presented as aseparate category within equity.

Past-service cost

The amendment changes the definition ofpast-service cost to clarify the distinctionbetween curtailments and past-servicecosts; it also requires all past-servicecosts to be recognised immediately inprofit or loss, regardless of vestingrequirements. A plan amendment thatreduces the defined benefit obligationwill be a negative past-service cost, sothere will be symmetry between theaccounting for amendments that increaseor reduce the obligation for past service.A curtailment will be the effect of areduction in the number of employeesparticipating in a plan.

PwC observation: IAS 19 currentlyrequires unvested past-service costs tobe recognised on a straight-line basisover the future service period until thebenefits become vested; vested past-service costs are recognisedimmediately. The changes requiremanagement to recognise all past-service costs in the period of a planamendment. Unvested past-service costscan no longer be spread over a future-service period. The amendment alsoremoves the requirement to determinewhether a benefit reduction was acurtailment or a negative past-servicecost. Changes to benefits that reduce thedefined benefit obligation will also bepast-service costs.


Example

An entity operates a pension plan thatprovides a pension of 1% of final salaryfor each year of service, subject to aminimum of five years’ service. On1 January 20X1, the entity improves thepension to 1.25% of final salary for eachyear of service, including prior years. Thepresent value of the defined benefitobligation therefore increased byC500,000, as follows:

CEmployees with more than 5years’ of service at 1 January20X1 400,000Employees with less than 5years’ of service at 1 January20X1 (average of three yearsof service so two years untilvesting) 100,000

Increase in defined benefitobligation 500,000

Existing IAS 19

A past service cost of C400,000 shouldbe recognised immediately, as thosebenefits have already vested. Theremaining C100,000 is recognised on astraight-line basis over the two-yearperiod from 1 January 20X1.

Amendment to IAS 19

A past service cost of C500,000 shouldbe recognised and charged in the incomestatement immediately.

Settlement

The amendment clarified the definitionof a settlement but did not makesignificant changes to the accounting forgains and losses on settlement.Settlement gain or loss is defined as thedifference between (a) the present valueon the settlement date of the definedbenefit obligation being settled, and (b)the settlement price, including any planassets transferred and any paymentsmade directly by the entity. It isrecognised in profit or loss when thesettlement occurs.

The settlement gain or loss will no longerinclude unrecognised actuarial gains orlosses, as these will be recognisedimmediately in OCI.

PwC observation: The amendedstandard clarifies that the payment ofbenefits provided in the terms of a planand included in the actuarialassumptions − for example, an option at retirement for employees to take theirbenefit in the form of a lump sum ratherthan a pension or routine pensionpayments − are not settlements.

Risk and cost-sharing plans

The rising costs of post-employmentbenefits − arising from improving longevity, poor investment returns,legislative changes or increasing medicalcosts − have led to changes in plan design that do not always fit easily into theexisting guidance. The amendmentclarifies the accounting for features suchas employee contributions or benefitsthat vary depending on the experience ofthe plan, contingent benefit increasesrelating to the investment performance ofthe plan and limits on the employer'sobligation to contribute to a plan. Itrequires the expected cost of benefits toreflect all these plan terms, which maytherefore require specific actuarialassumptions. For example, the cost of abenefit linked to investment returns willrequire an assumption about investmentreturns to be included in the expectedincrease in the pension.

PwC observation: Determining thesubstance of such arrangements,particularly constructive obligationsbeyond the contractual plan terms, willrequire judgement and significantdisclosure. The substance of the benefitis also important to determine whetherchanges in actual benefits are planamendments or actuarial gains orlosses, and whether they affect profit orloss or OCI.

Example

Pension plan X has a long-establishedpractice of providing cost-of-livingincreases to pensions in payment in linewith the movement in a consumer priceindex (CPI). However, these are onlyawarded to the extent that the investmentreturns earned on plan assets are above aspecific rate. There is no catch-up infuture years for subsequent higherreturns when an increase has been


restricted due to the rate of returnearned. The assumption regarding futurepension increases should reflect not onlyexpectations for the future movement inthe CPI but also the expected returns onplan assets and the variability in thosereturns.

Taxes

Taxes payable by the plan are currentlyrecognised in the return on plan assets.The amended standard requires taxesrelated to defined benefit plans to beincluded either in the return on assets orthe calculation of the benefit obligation,depending on their nature.

Taxes on the return on plan assets will bepart of the actual investment return andrecognised in OCI. Social charges orother taxes levied on benefit payments orcontributions to the plan should beincluded in the measurement of thedefined benefit obligation to the extentthat they relate to benefits in respect ofservice before the balance sheet date.

PwC observation: Entities are onlyaffected if their current policy is differentfrom the revised requirements. Anentity that has to change its policy fortaxes will be required to recalculate thedefined benefit obligation, return onplan assets and the pension costsbecause the amendment is appliedretrospectively.

Judgement is required to determinewhether taxes should be included in themeasurement of the defined benefitobligation or the return on plan assets.The revised standard refers specificallyto taxes payable by the plan, but webelieve taxes relating to benefits andpaid by the employer should berecognised in the same way

Example

In territory X, pension plans are subjectto income tax on investment income(interest, dividends and realised capitalgains) and contribution income. The taxon investment income should berecognised in the actual return on assets.The tax on contributions should berecognised in the measurement of thedefined benefit obligation based on the

expected future contributions payable inrespect of past service.

Administration costs and otherexpenses

The amendment requires costs associatedwith the management of plan assets to bededucted from the return on plan assets,which is unchanged from the existingstandard. Other expenses such as record-keeping costs or actuarial valuation feesshould be recognised in profit or losswhen the services are received. Thischanges the existing standard, wherethere is a choice either to includeexpenses in the calculation of the definedbenefit obligation or in the actual andexpected return on plan assets.

The amendment gives a detaileddefinition how the return on plan assetsis calculated:

Interest+ Dividends+ Other income+/- Unrealised gains/losses- Costs of managing investments- Taxes payable on investment returns= Total return on plan assets

PwC observation: Entities are onlyaffected if their current policy is differentfrom the new requirements. Oneexample of this would be where costsother than investment managementhave been reflected in the expectedand actual return. When a policy has tobe changed, it may be necessary torecalculate the defined benefitobligation, return on plan assets andthe pension costs, as the amendment isapplied retrospectively.

Termination benefits

The amendment makes changes to thedefinitions and accounting fortermination benefits to bring IAS 19broadly into line with the US GAAPtreatment of one-time terminationbenefits.

The changes clarify that any benefit thatmust be earned by working for a futureperiod is not a termination benefit. Atermination benefit is given only inexchange for the termination ofemployment. A benefit that is in any way


dependent on providing services in thefuture is not a termination benefit.

The amendment also clarifies theidentification of an obligating eventwhen an employer offers voluntarytermination benefits. A liability isrecognised when the entity can no longerwithdraw an offer.

Termination benefits and past-servicecosts can be very similar and may oftenarise as part of a restructuring. Theamendment clarifies that:

● The gain or loss on a curtailment orplan amendment linked to arestructuring or termination benefit isrecognised at the earlier of when therelated restructuring costs ortermination benefits are recognisedand when the curtailment or planamendment occurs; and

Termination benefits linked to arestructuring are recognised at theearlier of when the relatedrestructuring costs are recognised andwhen the entity can no longerwithdraw an offer of the terminationbenefit.

PwC observation: The amendmentremoves an element of choice regardingwhether some benefits are treated astermination or post-employment benefits.Management will have to assess whethertermination benefits meet the newdefinition or are earned by working for afuture period, in which case they wouldbe classified as either a short-term, otherlong-term or post-employment benefit.

This changes existing benefits and notsimply future terminations. Managementshould consider the timing of recognitionfor benefits that are termination benefitsand whether an offer can no longer bewithdrawn. Benefits that have beenpreviously classified as terminationbenefits may be reclassified. This mightresult in later recognition of the relatedexpense than the existing IAS 19.

Example

Management is committed to close afactory in 10 months and, at that time,will terminate the employment of all ofthe remaining employees at the factory.Management needs the expertise of theemployees at the factory to complete

existing contracts and announces thefollowing plan.

Each employee that renders service untilthe closure of the factory will receive, onthe termination date, a cash payment ofC30,000. Employees leaving beforeclosure of the factory will receiveC10,000. There are 120 employees at thefactory. Management expects 20employees to leave before closure. Thetotal expected cash outflows under theplan are C3,200,000 (20 × C10,000 +100 × C30,000).

The entity accounts for benefits providedin exchange for termination ofemployment as termination benefits; itaccounts for benefits provided inexchange for services as short-termemployee benefits.

Termination benefitsThe benefit provided in exchange fortermination of employment isC10,000, which the entity would haveto pay for terminating theemployment without any futureservice. The entity recognises aliability of C1,200,000 (120 ×C10,000) for the termination benefitsat the earlier of when the plan oftermination is communicated to theaffected employees and when theentity recognises the restructuringcosts associated with the closure ofthe factory.

Benefits provided in exchange forserviceThe incremental benefits thatemployees will receive if they provideservices for the 10-month period aregiven in exchange for servicesprovided over that period. They areaccounted for as short-term employeebenefits, as the entity expects to settlethem within 12 months after the endof the annual reporting period. In thisexample, discounting is not required,so an expense of C200,000(C2,000,000 ÷ 10) is recognised ineach month during the service periodof 10 months, with a correspondingincrease in the carrying amount of theliability. Under current IAS 19, itcould be argued that the wholeamount of C3,200,000 meets thedefinition of a termination benefit andshould be recognised when the closureand terms are announced.


Other long-term employeebenefits

There is diversity in practice under theexisting standard around whether theclassification of the obligation as currentor non-current under IAS 1 also drivesthe classification of the benefit as short orlong term. The diversity arises becauseboth standards use the term ‘due to besettled’, which is not defined.

The amendment clarifies the definitionsof short- and long-term benefits byconfirming that the distinction is basedon whether payment is expected to bewithin the next 12 months or not, ratherthan when payment can be demanded. Along-term benefit could be a currentliability when the entity does not have theunconditional right to defer settlementfor more than 12 months.

PwC observation: Managementshould review the classification of short-and long-term benefits, and reclassifyand remeasure obligations inaccordance with the revised guidance.The accounting for short-term benefitsremains unchanged and is generallysimple, as no actuarial assumptions arerequired and any obligations aremeasured on an undiscounted basis.Long-term benefits are still accountedfor in a similar way to defined benefitplans.

Example

Employees accrue a 20-day vacationentitlement rateably over the year.Unused entitlement can be carriedforward indefinitely but is lost if not usedbefore the employee leaves the company.Entitlement is utilised on a ‘first in firstout’ basis.

Entity A has past experience thatindicates that employees often carryforward their entitlement for a number ofyears, building up balances greater than20 days. Entity B has past experience thatindicates that employees utilise theirentitlement such that they do not buildup balances in excess of 10 days andtypically use any carried forwardentitlement in the next year.

Entity A concludes that the vacationaccrual represents an other long-term

benefit, as it does not expect to settle allthe benefit within 12 months of theperiod in which it has been earned.

Entity B concludes that the vacationaccrual represents a short-term benefit,as it expects to settle the benefit within 12months of the period during which it hasbeen earned.

PwC observation: Although theclassification in Entity A and Entity B isdifferent, this would only have anoticeable impact if the effect ofdiscounting in Entity A was material tothe liability. As the benefit is expectedto be settled within a little over 12months after the balance sheet date, ifinterest rates are low the impact maybe small.

Interim reporting

The amendment does not make anyconsequential amendments to IAS 34,‘Interim financial reporting’, to simplifythe general requirements of IAS 19 in thecontext of interim reporting. However,the IASB notes in the Basis forConclusions that an entity is not alwaysrequired to remeasure a net definedbenefit liability (asset) for interimreporting purposes under IAS 19 andIAS 34.

PwC observation: The removal of thecorridor and spreading approach mayincrease the complexity of interimreporting for some entities. Those usingthis approach typically only remeasurethe net defined benefit obligationbetween year ends in the event of aplan amendment, curtailment orsettlement. Entities choosing torecognise actuarial gains and losses inOCI typically remeasure the definedbenefit obligation and plan assets ateach interim date to establish a gain orloss recognised in OCI. Service cost,interest cost and expected return onassets would not be recalculated unlessthere was a plan amendment,curtailment or settlement. The removalof the corridor and spreading optionsmay make it necessary for an entity tovalue the obligation at each interimbalance sheet date.

Back-end loading of benefitformula


Under IAS 19, defined benefits should beattributed to periods of service followingthe plan’s benefit formula unless anemployee’s service in later years will leadto a materially higher level of benefit(and therefore current service cost) thanin earlier years (back-end loading).Where this is the case, the benefitsshould be allocated to periods of serviceon a straight-line-basis.

The exposure draft stated that assumedsalary increases should be considered indetermining whether or not there is back-end loading. The Board concluded thatthis additional guidance should not beincluded in the final standard.

PwC observation: A conclusion thatsalary increases do not result in a planbenefit formula that is back-end loadedleads to inconsistencies in thetreatment of plans providingeconomically identical benefits,depending on how those benefits aredescribed in the plan documentation.Our view is that the current practice ofincluding future salary increases indetermining whether a benefit formulaallocates a materially higher level ofbenefit to later years is appropriate.

Disclosure

The amendment introduces additionaldisclosures. The Board focused thedisclosure objectives on the matters mostrelevant to the users of the financialstatements. The amendment will requiredisclosure to:

• explain the characteristics of and risksassociated with its defined benefitplans;

• identify and explain the amounts inthe entity’s financial statementsarising from its defined benefit plans;and

• explain how the defined benefit plansmay affect the entity’s future cashflows regarding timing, amount anduncertainty.

There are many new disclosurerequirements, including:

Risks specific to the entity arisingfrom defined benefit plansA narrative description of the specificor unusual risks arising from adefined benefit plan is required.Judgement will be required to identifythose risks that should be explained,which may be challenging if there aremany defined benefit plans withdifferent characteristics within agroup.

Categories of plan assets based onrisks/natureThe amendment requires abreakdown of the plans assets intocategories that distinguish the riskand liquidity characteristics andwhether or not they have a quotedmarket price in an active market.

Actuarial assumptionsEntities are required to disclose thesignificant actuarial assumptions,together with a sensitivity analysis forreasonably possible variations in eachof the significant actuarial assumptions.Judgement is required to determinewhich the significant assumptions are.

ReconciliationsA reconciliation between the openingand closing balances for plan assets,the defined benefit obligation, thebalance sheet asset or liability and theeffect of the asset ceiling will berequired.

Future cash flowsEntities will be required to disclosesignificant information, in addition tothe sensitivity analyses mentionedabove, to help users understand thepotential impact on cash flows,including:

− a narrative description of anyasset-liability matching strategies;

− a description of the fundingarrangements and funding policy;

− the amount of the expectedcontributions in the next year; and

− the weighted-average duration ofthe defined benefit obligation.

Extended disclosures for multi-employer plansThe accounting for multi-employerplans has not changed. However,


more information has to be disclosedfor multi-employer plans. Forexample:

− a description of the fundingarrangements;

− the extent to which the entitymight be liable for other entities’obligations;

− qualitative information regardingany withdrawal liability unless it isprobable that the entity willwithdraw;

− an indication of an entity's level ofparticipation in a plan (forexample, proportion of totalmembers); and

− the expected contribution in thefollowing year.

PwC observation:The disclosure requirements undercurrent IAS 19 are extensive andsometimes difficult to understand. Theamendment moves away from achecklist of items to an objective ofproviding relevant information whenplans are material to the entity.However, the new requirements arelikely to require more extensivedisclosures and more judgement todetermine what disclosure is required.Management should also be aware thatsome of the new disclosures mayrequire additional actuarial calculationsand should consider whether theinternal reporting has to be updated tocollect the new disclosures.

Transition

The amendment is effective for annualperiods beginning on or after 1 January2013; full retrospective application isrequired in accordance with IAS 8‘Accounting policies, changes in

accounting estimates and errors’, exceptfor (a) changes to the carrying value ofassets that include employee benefit costsin the carrying amount and (b)comparative information about thesensitivity analysis of the defined benefitobligation. Early adoption is permitted.

PwC observation: The amendmenthas to be applied retrospectively, whichwill require the disclosure of a thirdbalance sheet in accordance with IFRS1. There is an exception for assets thatinclude employee costs so that assetssuch as inventory and property, plantand equipment that include employeebenefits in cost do not have to berestated. This exception is notapplicable for first-time adopters. Thechanges will also remove the employeebenefits exemption in IFRS 1.

Next steps

Management should determine the effectof the revised standard and, in particular,any changes in benefit classification orpresentation.

Management should consider the effectof the changes on any existing employeebenefit arrangements and whetheradditional processes are needed tocompile the information required tocomply with the new disclosurerequirements.

Management should also consider thechoices that still remain within IAS 19,including the possibility of earlyadoption, the possible effect of thesechanges on key performance ratios andhow to communicate these effects toanalysts and other users of the accounts.

This publication has been prepared for general guidance on matters of interest only, and does not constitute professional advice. Itdoes not take into account any objectives, financial situation or needs of any recipient; any recipient should not act upon the informationcontained in this publication without obtaining independent professional advice. No representation or warranty (express or implied) isgiven as to the accuracy or completeness of the information contained in this publication, and, to the extent permitted by law,PricewaterhouseCoopers LLP, its members, employees and agents do not accept or assume any liability, responsibility or duty of carefor any consequences of you or anyone else acting, or refraining to act, in reliance on the information contained in this publication or forany decision based on it.

© 2011 PricewaterhouseCoopers. All rights reserved. PricewaterhouseCoopers refers to the network of member firms ofPricewaterhouseCoopers International Limited, each of which is a separate and independent legal entity.

pwc.com/ifrs practical guide to ifrs · pdf practical guide to ifrs ias 19 amendment to...

Documents