Intermediate accounting 17e stice skousen cengage chapter 17

Federal unemployment insurance tax to employer only Social security and income tax legislation impose five taxes based on payrolls:... Accounting for Payroll TaxesState Unemployment Ta

Intermediate Accounting,17E

Stice | Stice | Skousen

PowerPoint presented by: Douglas Cloud Professor Emeritus of Accounting, Pepperdine

University

Employee Compensation—

Payroll, Pensions, and Other

Compensation Issues

Payroll and Payroll Taxes

1 Federal old-age, survivors’, and disability

(tax to both the employee and employer)

2 Federal hospital insurance (tax to both

employer and employee)

3 Federal unemployment insurance (tax to

employer only)

Social security and income tax

legislation impose five taxes based on

payrolls:

Payroll and Payroll Taxes

4 State unemployment insurance (tax to

employer only)

5 Individual income tax (tax to employee

only but withheld and paid by

employer)

Federal Insurance Contributions Act (FICA)

• The Federal Insurance Contributions Act

(FICA) provides for FICA taxes from both

employers and employees to provide

funds for federal old-age, survivors’, and disability benefits for certain individuals

and members of their families

• The employer is required to withhold FICA

taxes from each employee’s wages

• In 2007, annual wages up to $97,200 were

subject to 6.20% of FICA tax

• FICA also includes a provision for

Medicare tax

discussed in that the tax is applied to all wages earned

employer and employee

Federal Hospital Insurance

Federal Unemployment

Insurance

• The Federal Social Security Act and the

Federal Unemployment Tax Act (FUTA)

provide for the establishment of

unemployment insurance plans

employed in each of 20 weeks during a calendar year or who pay $1,500 or more

in wages during a calendar quarter are

affected

Federal Unemployment

Insurance

earned has been 6.2% since 1985

5.4% for taxes paid on state

unemployment tax, effectively reducing the federal tax to 0.8% (6.2% – 5.4%)

State Unemployment

Insurance

(SUTA) differ across states Most states only tax employers, but a few tax both

also allowed as credits in the calculation

of the federal contribution

Income Tax

of individuals are collected in the

period in which the wages are paid.

employers to withhold income tax

from wages paid to their

employees.

(continues)

Income Tax

employers engaged in a trade or

business but also of religious and

charitable organizations,

educational institutions, social

organizations, and governments of

the United States.

Salaries Expense 16,000

Employees Income Taxes Payable 1,600

Accounting for Payroll Taxes

(continues)

Accounting for Payroll Taxes

State Unemployment Taxes Payable 864 Federal Unemployment Taxes

0.054) × $16,000

Accounting for Payroll Taxes

State Unemployment Taxes Payable 108

To accrue the payroll tax liability of the employer.

Assume accrued salaries at December 31

were $9,500 Of this amount, $2,000 was

subject to unemployment taxes and $6,000

to FICA tax The adjusting entry for the

employer’s payroll taxes would be as follows:

$2,000

Compensated Absences

Compensated absences include

payments by employers for:

(continues)

Compensated Absences

• At the end of any given period, the

firm has a liability for the earned but unused compensated absences.

• The estimated amounts earned must

be charged against current revenue

and a liability established for that

amount.

• The difficult part comes when

estimating how much should be

accrued.

(continues)

FASB Statement No 43 requires a

liability to be recognized for

compensated absences that—

1 have been earned through services

already rendered

2 vest or can be carried forward to

subsequent years, and

3 are estimable and probable

Compensated Absences

S&N Corporation has 20 employees who are paid an average of $700

per week During 2010, all

employees earned a total of 40

vacation weeks but took only 30

weeks of vacation that year They

took the remaining 10 weeks of

vacation in 2011 when the average rate of pay was $800 per week.

Compensated Absences

(continues)

Wages Expense 7,000

Vacation Wages Payable 7,000

To record accrued vacation wages ($700 × 10 weeks).

Journal Entry for December 31, 2010

Journal Entry for December 31, 2010

Journal Entry for December 31, 2011

Journal Entry for December 31, 2011

Compensated Absences

Stock-Based Compensation

and Bonuses

Photo Graphics, Inc gives its store

managers a 10% bonus based on

individual store earnings The bonus

deducting income taxes Income for

a particular store is $100,000 before charging any bonus or income taxes.

(continues)

B = 0.10($100,000 – B)

B = $10,000 – 0.10B

B + 0.10B = $10,000 1.10B = $10,000

Postemployment Benefits

• In Statement No 112 , FASB extends

recognition requirements to benefits that accrue to former or inactive employees after employment but before retirement

 Supplemental unemployment benefits

 Severance benefits

 Disability-related benefits

 Job training and counseling

Accounting for Pensions

Three major categories of pension

plans have emerged:

1 Government plans, primarily

Social Security

2 Individual plans, such as

individual retirement accounts (IRAs)

3 Employer plans

(continues)

Accounting for Pensions

Postretirement benefits other than

pensions extend benefits beyond the

active years of employment and include such items as—

• Health care

• Life insurance

• Legal services

• Special discounts on items produced

or sold by the employer

• Tuition assistance

Nature and Characteristics of

Employer Pension Plans

• Noncontributory pension plans are funded entirely by the employer.

• Plans where the employee also

contributes to the cost of the plan are referred to as contributory pension

plans

• Under defined contribution pension

plans , the employer pays a periodic

contribution which is administered by

an independent third party.

Nature and Characteristics of

Employer Pension Plans

• Under defined benefit pension

plans , the employee is guaranteed a

specified retirement income often

related to his or her number of years of employment and average salary over a certain number of years.

• A pension fund may be viewed

essentially as a fund set aside to meet the employer’s future pension

obligation.

Vesting of Pension Benefits

Vesting occurs when an

employee has met certain

specified requirements and is

eligible to receive pension

benefits at retirement regardless

of whether or not the employee

continues working for the

employer.

Funding of Defined

Benefit Plans

periodic contributions that

accumulate to the balance needed

to pay the promised retirement

benefits to employees.

present values.

Issues in Accounting for Defined Benefit Plans

A list of issues follows:

1 The amount of net periodic pension

expense to be recognized on the income statement

2 The amount of pension liability or asset to

be reported on the balance sheet

3 Accounting for pension settlements,

curtailments, and terminations

4 Disclosures needed to supplement the

amounts reported in the financial statements

Simple Illustration of Pension Accounting

• Lorien Bach is 35 years old

• She has worked for Thakkar for 10 years

• Her salary for 2010 was $40,000

• Pension payments begin after the

employee turns 65

• The annual payment is equal to 2% of the

highest salary times the number of years with the company

• Thakkar knows for certain that Bach will

live exactly 75 years Her benefits are fully vested

Simple Illustration of Pension Accounting

pension fund containing $10,000

contributions of $1,500

during the year

return of 12% on pension fund assets

Step 1: Estimate Pension Obligation

Step 1: Estimate Pension Obligation

Accumulated Benefit Obligation (ABO)

Accumulated Benefit Obligation (ABO)

Accumulated benefit obligation (ABO)

Projected Benefit Obligation (PBO)

Projected Benefit Obligation (PBO)

Assume Thakkar Company expects

Bach’s 2011 salary of $40,000 to

increase 5% every year until retirement.

(2% × 10 years) × $172,877 = $34,575 (rounded)

PV = $40,000, N = 30, I = 5%The PBO is $12,176, which

is the PV of the 10 future annual payments of

$34,575.

Estimation of Pension

Obligation

Pension-Related Liability Pension-Related Liability

PBO,Beginning of Discount Interest

Computation of Pension Expense for 2011: Interest Cost

Computation of Pension Expense for 2011: Interest Cost

(rounded)

(continues)

Estimation of Pension

Obligation

The impact of this extra year of service is

to increase the December 31, 2011, PBO

by $1,339 over what it would have been

if Bach had just vacationed for the entire year Therefore, the service cost

element of pension expense for the year

is $1,339

Computation of Pension Expense for 2011: Service Cost

Computation of Pension Expense for 2011: Service Cost

Estimation of Pension

Obligation

Computation of Pension Expense for 2011:

Return on the Pension Fund

Computation of Pension Expense for 2011:

Return on the Pension Fund

Pension expense is reduced by the

return on the pension fund for the

year Because Thakkar expects a

12% rate of return, the original

$10,000 will have a return of $1,200

in 2011.

(continues)

Estimation of Pension

Obligation

Projected Benefit Obligation, End of Year Projected Benefit Obligation, End of Year

Service cost and interest cost

±

Change in actuarial assumptions

(continues)

Estimation of Pension

Obligation

Fair Value of Pension Fund, End of Year Fair Value of Pension Fund, End of Year

Employer contribu- tions

±

Actual return

on pension

fund

The fair value of the pension fund is

based on its market value at a given

measurement date.(continues)

Estimation of Pension

Obligation

To record 2011 pension expense.

Service cost ($1,339) + Interest cost ($1,218) – Expected return ($1,200)

New contributions to

pension fund

Estimation of Pension

Obligation

Thornton Electronics—2011

Thornton’s pension-related balances as

of January 1, 2011, are as follows:

Prior Service Cost

When a pension plan is initially

adopted or amended to provide

increased benefits, employees are

granted additional benefits for

services performed in years prior to the plan’s adoption or amendment The cost of these additional benefits

Thornton Electronics

The cost represented by a plan

adoption or amendment is recognized

as a reduction in Other

Comprehensive Income Thornton's

prior service cost is $75,000.

To record January 1, 2011, prior service cost arising from plan amendment.

The Basic Spreadsheet

Financial Statement Accounts Detailed Accounts

(h) Amort of Deferred Loss

Summary Journal Entries

Pension Related Asset/

(Liability)

Net Pension Expense

Accumulated Other Comprehen

Income

Fair Value of Pension Fund

Periodic Pension Expense Items

The work sheet is divided into two sections:

The work sheet is divided into two sections: the Financial

Statement Accounts section

The work sheet is divided into two sections: the Financial

Statement Accounts section and the Detailed Accountssection

Thornton Electronics’ Pension

Activity for 2011

• Contributions to pension plan $115,000

• Benefits paid to retirees $125,000

• Fair value of pension fund

at December 31, 2011 $1,513,500

• Obligation discount rate 11.0%

• Long-term expected rate of return 10.0%

(continues)

Service Cost

• Service cost is the present value of

additional benefits earned by employees during the period

• This cost is determined by actuaries

based on the pension plan’s benefit

formula

• Service cost for Thornton is recorded in

the work sheet as an increase in net

periodic pension expense and an

increase to the PBO

(continues)

(continues)

Interest Cost

• The interest cost represents the fact

that the present value of Thornton’s

pension obligation is increased by the

interest on the beginning PBO

• The interest cost for 2011 is $1,500,000

× 0.11, or $165,000

• The interest cost is shown as entry (b) in

Slide 17-49

(continues)

(continues)

Actual Return on the

Pension Fund

Fair value of pension fund, 12/31/11 $1,513,500 Fair value of pension fund, 1/1/11 1,385,000 Increase in fair value $ 128,500 Add benefits paid 125,000 Deduct contributions made (115,000) Actual return on the pension fund $ 138,500

(continues)

The actual return of $138,500 is shown in entry (c) as in Slide 17-51

(continues)

Actual Return on the

Pension Fund

not reduce the account Cash;

benefit payments are shown in

decrease in both the pension fund

and the remaining PBO.

(continues)

• In Statement No 87, FASB requires that

prior service cost be amortized by

assigning an equal amount to each

future period receiving benefit under the plan

(continues)

Ten percent (15 employees) of Thornton’s

employees are expected to retire or quit with

vesting privileges The prior service cost is

Plan Contributions

• Under the Pension Protection Act of 2006,

companies are required to contribute an amount equal to their service cost and

interest cost each year plus an additional contribution designed to eliminate any

remaining shortfall within seven years

• Thornton made a cash contribution to the

pension fund of $115,000 This is

reflected on the worksheet as item (f) on Slide 17-58 (continues)

Summary Journal Entries

Pension-Related Asset/Liability 101,500 Accumulated Other Comprehensive

Summary journal entry to recognize pension expense for 2011.

Summary Journal Entries

Pension-Related Asset/Liability 115,000

Summary journal entry to record pension fund contribution.

Thornton Electronics—2012

• Service cost as reported by actuaries$87,000

• Contributions to pension plan $75,000

• Benefits paid to retirees $132,000

• Actual return on pension fund $26,350

• Actuarial change increasing PBO $80,000

• Obligation discount rate 11.0%

• Long-term expected rate of return

(continues)

Thornton Electronics—2013

• Service cost as reported by

• Contributions to pension plan $80,000

• Benefits paid to retirees $140,000

• Actual return on pension fund $175,500

• Obligation discount rate 11.0%

• Long-term expected rate of return 10.0%

• Accumulated benefit obligation,

December 31, 2013 $1,795,150

(continues)

Amortization of Deferred Net Pension

Gain or Loss from Prior Years

years is amortized over future years if it

accumulates to more than an amount

of the unrecognized net gain or loss that

exceeds 10% of the greater of:

 PBO or

 the market-related value of plan

assets at the beginning of the year.

Corridor Amortization

May use any amortization method that:

 equals or exceeds straight-line

amortization over remaining expected service years of covered employees, and

 is consistently applied.

Disclosure of Pension Plans

1 A reconciliation between the

beginning and ending balances for

the projected benefit obligation

2 A reconciliation between the

beginning and ending balances in

the fair value of the pension fund

following major disclosure

requirements for most publicly traded companies:

obligation

amounts recognized in the balance sheet

period

income for the period and the details of the existing balances in accumulated other

comprehensive income

Disclosure of Pension Plans

7 The assumptions used relating to (a)

discount rate, (b) rate of compensation increase, and (c) expected long-term

rate of return on the pension fund

8 Disclosure of the percentage of the

different types of investments held in

the pension fund along with a narrative description of the investment strategy

(continues)

Disclosure of Pension Plans