Intermediate accounting 15e kieso warfield chapter 20

Distinguish between accounting for the employer’s pension plan and accounting for the pension fund.. Use a worksheet for employer’s pension Accounting for Pensions and Postretirement

Prepared by

Intermediat

e Accounting

Intermediat

e Accounting

Prepared by Coby Harmon

INTERMEDIATE ACCOUNTING

F I F T E E N T H E D I T I O N

Prepared by Coby Harmon University of California, Santa Barbara

kieso weygandt warfield

team for success

PREVIEW OF CHAPTER

Intermediate Accounting

15th Edition Kieso Weygandt Warfield

20

6 Describe the amortization of prior service costs.

7 Explain the accounting for unexpected gains and losses.

8 Explain the corridor approach to amortizing gains and losses.

9 Describe the requirements for reporting pension plans in financial statements.

After studying this chapter, you should be able to:

LEARNING OBJECTIVES

1 Distinguish between accounting for the

employer’s pension plan and accounting

for the pension fund.

2 Identify types of pension plans and their

characteristics.

3 Explain alternative measures for valuing

the pension obligation.

4 List the components of pension expense.

5 Use a worksheet for employer’s pension

Accounting for Pensions and Postretirement

Benefits

20

An arrangement whereby an employer provides benefits (payments) to retired employees for services they provided in their working years.

Pension Plan Administrator

Pension Plan Administrator

Pension plans can be:

increase their benefits.

Pension fund should be a separate legal and accounting

entity.

Nature of Pension Plans

Nature of Pension Plans

Illustration 20-2

Pension Funds and Pension Expense

The two most common types of pension plans are defined

contribution plans and defined benefit plans.

6 Describe the amortization of prior service costs.

7 Explain the accounting for unexpected gains and losses.

8 Explain the corridor approach to amortizing gains and losses.

9 Describe the requirements for reporting pension plans in financial statements.

After studying this chapter, you should be able to:

LEARNING OBJECTIVES

1 Distinguish between accounting for the

employer’s pension plan and accounting

for the pension fund.

2 Identify types of pension plans and their

characteristics.

3 Explain alternative measures for valuing

the pension obligation.

4 List the components of pension expense.

5 Use a worksheet for employer’s pension

Accounting for Pensions and Postretirement

Benefits

20

Defined-Contribution Plan Defined-Benefit Plan

 Employer contribution

determined by plan (fixed)

 Risk borne by employees

 Benefits based on plan

value

 Benefit determined by plan

 Employer contribution

varies (determined by Actuaries)

 Risk borne by employer

Actuaries make predictions (called actuarial assumptions) of mortality rates, employee turnover, interest and earnings rates, early retirement frequency, future salaries, and any other factors necessary to operate a pension plan

Nature of Pension Plans

6 Describe the amortization of prior service costs.

7 Explain the accounting for unexpected gains and losses.

8 Explain the corridor approach to amortizing gains and losses.

9 Describe the requirements for reporting pension plans in financial statements.

After studying this chapter, you should be able to:

LEARNING OBJECTIVES

1 Distinguish between accounting for the

employer’s pension plan and accounting

for the pension fund.

2 Identify types of pension plans and their

characteristics.

3 Explain alternative measures for valuing

the pension obligation.

4 List the components of pension expense.

5 Use a worksheet for employer’s pension

Accounting for Pensions and Postretirement

Benefits

20

Two questions:

1) What is the pension obligation that a company should

report in the financial statements?

2) What is the pension expense for the period?

Accounting for Pensions

Employer’s pension

obligation is the deferred

compensation obligation it

has to its employees for

their service under the

terms of the pension plan

Alternative Measures of the Liability

Accounting for Pensions

Illustration 20-3

FASB’s choice

Recognition of the Net Funded Status of the

Pension Plan

 Companies must recognize on their balance sheet the

full overfunded or underfunded status of their defined benefit pension plan.

Accounting for Pensions

measured as the difference between the fair value of the plan assets and the

projected benefit obligation.

6 Describe the amortization of prior service costs.

7 Explain the accounting for unexpected gains and losses.

8 Explain the corridor approach to amortizing gains and losses.

9 Describe the requirements for reporting pension plans in financial statements.

After studying this chapter, you should be able to:

LEARNING OBJECTIVES

1 Distinguish between accounting for the

employer’s pension plan and accounting

for the pension fund.

2 Identify types of pension plans and their

characteristics.

3 Explain alternative measures for valuing

the pension obligation.

4 List the components of pension expense.

5 Use a worksheet for employer’s pension

Accounting for Pensions and Postretirement

Benefits

20

Accounting for Pensions

Illustration 20-4

Components of Annual

Pension Expense

Service Costs +

1.

Accounting for Pensions

Components of Pension Expense

Actuarial present value of benefits attributed by the pension

benefit formula to employee service during the period

Effect on Expense

Interest on the Liability +

2.

Accounting for Pensions

Components of Pension Expense

Interest for the period on the projected benefit obligation

outstanding during the period

The interest rate use is referred to as the settlement rate

Effect on Expense

Actual Return on Plan Assets

+-3.

Accounting for Pensions

Components of Pension Expense

Increase in pension funds from interest, dividends, and

realized and unrealized changes in the fair value of the plan

assets.

Illustration 20-5

Effect on Expense

Accounting for Pensions

Components of Pension Expense

Plan amendments often include provisions to increase

benefits for employee service provided in prior years.

Company allocates the cost (prior service cost) of providing

these retroactive benefits to pension expense in the future,

specifically to the remaining service-years of the affected

employees.

Amortization of Prior Service Costs +

4.

Effect on Expense

Gain or Loss

+-5.

Accounting for Pensions

Components of Pension Expense Effect on

Expense

Volatility in pension expense can result from sudden and

large changes in the fair value of plan assets and by changes

in projected benefit obligation.

6 Describe the amortization of prior service costs.

7 Explain the accounting for unexpected gains and losses.

8 Explain the corridor approach to amortizing gains and losses.

9 Describe the requirements for reporting pension plans in financial statements.

After studying this chapter, you should be able to:

LEARNING OBJECTIVES

1 Distinguish between accounting for the

employer’s pension plan and accounting

for the pension fund.

2 Identify types of pension plans and their

characteristics.

3 Explain alternative measures for valuing

the pension obligation.

4 List the components of pension expense.

5 Use a worksheet for employer’s pension

The “General Journal Entries” columns

determine the journal entries to be

recorded in the formal general ledger

The “Memo Record”

columns maintain balances for the unrecognized pension items

Using a Pension Worksheet

Illustration: On January 1, 2014, Zarle Company provides the

following information related to its pension plan for the year 2014

Plan assets, January 1, 2014, are $100,000

Projected benefit obligation, January 1, 2014, is $100,000

Annual service cost is $9,000

Settlement rate is 10 percent

Actual return on plan assets is $10,000

Funding contributions are $8,000

Benefits paid to retirees during the year are $7,000

Prepare the pension worksheet for 2014

Using a Pension Work Sheet

Using a Pension Work Sheet

Prepare a pension worksheet for 2014

($100,000 x 10%)

($1,000) net liability

Illustration 20-8

Pension Journal Entry

Illustration 20-8

6 Describe the amortization of prior service costs.

7 Explain the accounting for unexpected gains and losses.

8 Explain the corridor approach to amortizing gains and losses.

9 Describe the requirements for reporting pension plans in financial statements.

After studying this chapter, you should be able to:

LEARNING OBJECTIVES

1 Distinguish between accounting for the

employer’s pension plan and accounting

for the pension fund.

2 Identify types of pension plans and their

characteristics.

3 Explain alternative measures for valuing

the pension obligation.

4 List the components of pension expense.

5 Use a worksheet for employer’s pension

Accounting for Pensions and Postretirement

Benefits

20

Amortization of Prior Service Cost

Company should not recognize the retroactive benefits as

pension expense in the year of amendment

Employer should recognize the pension expense over the

remaining service lives of the employees who are expected to

benefit from the change in the plan

Prior Service Cost

Amortization Method:

 Board prefers a years-of-service method

 Employers may use straight-line amortization over the

average remaining service life of the employees

E20-7: The following defined pension data of Rydell Corp apply to the year

2014.

Using a Pension Work Sheet

Projected benefit obligation, 1/1/14 (before amendment)

$560,000 Plan assets, 1/1/14

546,200 Pension liability

13,800

On January 1, 2014, Rydell Corp., through plan amendment,

grants prior service benefits having a present value of

120,000 Settlement rate

9%

Service cost

58,000 Contributions (funding)

65,000 Actual (expected) return on plan assets

52,280 Benefits paid to retirees

40,000

Instructions: For 2014, prepare a pension work sheet for Rydell Corp that

shows the journal entry for pension expense.

LO 6

Using a Pension Work Sheet

Pension Expense 83,920

Other Comprehensive Income (PSC) 103,000

Pension Asset/Liability 121,920

Cash 65,000

Using a Pension Work Sheet

E20-7: Pension Journal Entry for 2014.

Dec 31

6 Describe the amortization of prior service costs.

7 Explain the accounting for unexpected gains and losses.

8 Explain the corridor approach to amortizing gains and losses.

9 Describe the requirements for reporting pension plans in financial statements.

After studying this chapter, you should be able to:

LEARNING OBJECTIVES

1 Distinguish between accounting for the

employer’s pension plan and accounting

for the pension fund.

2 Identify types of pension plans and their

characteristics.

3 Explain alternative measures for valuing

the pension obligation.

4 List the components of pension expense.

5 Use a worksheet for employer’s pension

Gain or Loss

Unexpected swings in pension expense can result from:

1 Sudden and large changes in the fair value of plan assets,

and

2 Changes in actuarial assumptions that affect the amount of

the projected benefit obligation

Gains and Losses

Question: What is the potential negative impact on net

income of these unexpected swings?

Volatility

The profession decided to reduce the volatility with smoothing techniques.

Gains and Losses

Smoothing Unexpected Gains and Losses

on Plan Assets

 Companies include the expected return on the plan assets

as a component of pension expense, not the actual return in

a given year

 Companies record asset gains and asset losses in an

account, Other Comprehensive Income (G/L), combining them with gains and losses accumulated in prior years

Gains and Losses

Smoothing Unexpected Gains and Losses

on the Pension Liability

 Companies report liability gains and liability losses in Other

Comprehensive Income (G/L)

 Companies combine the liability gains and losses in the

same Other Comprehensive Income (G/L) account

 They accumulate the asset and liability gains and losses in

Accumulated Other Comprehensive Income and report on the balance sheet in the stockholders’ equity section

Gains and Losses

6 Describe the amortization of prior service costs.

7 Explain the accounting for unexpected gains and losses.

8 Explain the corridor approach to amortizing gains and losses.

9 Describe the requirements for reporting pension plans in financial statements.

After studying this chapter, you should be able to:

LEARNING OBJECTIVES

1 Distinguish between accounting for the

employer’s pension plan and accounting

for the pension fund.

2 Identify types of pension plans and their

characteristics.

3 Explain alternative measures for valuing

the pension obligation.

4 List the components of pension expense.

5 Use a worksheet for employer’s pension

Corridor Amortization

 FASB invented the corridor approach for amortizing

the accumulated net gain or loss balance when it gets

too large How large is too large?

 10% of the larger of the beginning balances of the

projected benefit obligation or the market-related

value of the plan assets

 Any Accumulated OCI net gain or loss balance above

the 10% must be amortized.

Gains and Losses

Illustration: Data for Callaway Co.’s projected benefit

obligation and plan assets over a period of six years.

Gains and Losses

Illustration 20-14

Computation of the Corridor

Gains and Losses

Illustration 20-15

Graphic Illustration

of the Corridor

BE20-7: Shin Corporation had a projected benefit obligation of

$3,100,000 and plan assets of $3,300,000 at January 1, 2014

Shin also had a net actuarial loss of $465,000 in accumulated

OCI at January 1, 2014 The average remaining service period of

Shin’s employees is 7.5 years

actuarial loss

Gains and Losses

BE20-7: Compute Shin’s amortization of the loss.

Gains and Losses

÷

Using a Pension Work Sheet

P20-2: Jackson Company adopts acceptable accounting for its

defined benefit pension plan on January 1, 2013, with the following

beginning balances: plan assets $200,000; projected benefit obligation

$250,000 Other data are as follows

Using a Pension Work Sheet

P20-2: Pension Work Sheet for 2013

($57,000)

* Expected Return on Plan Assets $200,000 x

10% = $20,000

*

Using a Pension Work Sheet

P20-2 Pension Journal Entry for 2013

OCI – Gain/Loss 2,000

Pension Asset/Liability 7,000

Cash 16,000

Dec 31

Using a Pension Work Sheet

P20-2: Pension Work Sheet for 2014

($217,700) liability

* Actual return = Expected Return

*

Pension Expense 95,100

Pension Asset/Liability 160,700

Cash40,000

Dec 31

Using a Pension Work Sheet

P20-2 Pension Journal Entry for 2014

Using a Pension Work Sheet

P20-2: Pension Work Sheet for 2015

($203,400) liability

* Plug

*

Using a Pension Work Sheet

P20-2 Pension Journal Entry for 2013

Dec 31

6 Describe the amortization of prior service costs.

7 Explain the accounting for unexpected gains and losses.

8 Explain the corridor approach to amortizing gains and losses.

9 Describe the requirements for reporting pension plans in financial statements.

After studying this chapter, you should be able to:

LEARNING OBJECTIVES

1 Distinguish between accounting for the

employer’s pension plan and accounting

for the pension fund.

2 Identify types of pension plans and their

characteristics.

3 Explain alternative measures for valuing

the pension obligation.

4 List the components of pension expense.

5 Use a worksheet for employer’s pension

Accounting for Pensions and Postretirement

Benefits

20