F6: Pension Plans

Question 1

Pension accounting is based on what type of accounting?

Answer 1

Accrual

Question 2

What causes accounting problems with defined benefit plans?

Answer 2

The use of estimates and assumptions

Question 3

Contributory vs Noncontributory

Answer 3

Contributory- employees required to contribute to the plan

Noncontributory- only the employer contributes

Question 4

The term “funding” refers to:

Answer 4

The sponsor company making contributions to the plan

Question 5

The 2 non-GAAP methods of pension plans

Answer 5

1- “Pay-as-you-go” Method

2- “Terminal Funding” Method

Question 6

“Pay-as-you-go” definition

Answer 6

• Cash basis method

- Expenses pension payments after someone has retired

Question 7

“Terminal Funding” definition

Answer 7

• Cash basis method

- Pays entire pension plan liability upon retirement by purchasing an annuity-type insurance policy

Question 8

The 2 GAAP methods of pension plans

Answer 8

1- Defined Contribution Plan

2- Defined Benefit Plan

Question 9

1 example of a Defined Contribution Plan

Answer 9

401K

Question 10

Defined Benefit Plan definition

Answer 10

• Defines the benefits to be paid to employees at retirement

- Calculated by using actuarial assumptions of future benefits

Question 11

4 factors that get looked at for defined benefit plan actuarial assumptions

Answer 11

1- EE’s compensation levels near retirement
2- # of years of service
3- # of years until retirement
4- # of years the plan expects to pay benefits after retirement

Question 12

ABO

Answer 12

• Accumulated Benefit Obligation

- use current salary

Question 13

PBO

Answer 13

• Projected Benefit Obligation

- use guess future salary

Question 14

Service cost definition

Answer 14

• Present value of all pension benefits earned by employees in the current year
• Provided by the actuary

Question 15

Interest cost happens because of:

Answer 15

the passage of time

Question 16

Prior service cost definition

Answer 16

• Service prior to initiation of plan that employees retroactively receive credit for
• Subsequent plan amendments

Question 17

Components that INCREASE PBO:

Answer 17

1- Service Costs
2- Interest Costs
3- Prior Service Costs
4- Actuarial loses

Question 18

Components that DECREASE PBO:

Answer 18

1- Actuarial gains

2- Benefit payments

Question 19

How to calculate the PBO

Answer 19

Beginning PBO
\+ service cost
\+ interest cost
\+ prior service cost
\+ actuarial losses
- actuarial gains
- benefits paid to retirees
= Ending PBO

Question 20

Plan assets should be reported at:

Answer 20

Fair value

Question 21

To calculate ending value of plan assets

Answer 21

Beginning fair value of plan assets
\+ contributions
\+ actual return on plan assets (squeeze)
- benefits paid to retirees
= Ending fair value of plan assets

Question 22

Pension expense on I/S AKA (and definition)

Answer 22

“Net periodic pension cost”

-The increase in PBO during the period

Question 23

I/S Expense Formula (SIR AGE)

Answer 23

current Service cost
\+ Interest cost
- Return on plan assets
\+ Amortization of prior service cost
- Gains and + losses
\+ amortization of Existing net obligation or net asset
= Net Periodic Pension Cost

Question 24

Current service cost definition

Answer 24

PV of all benefits earned in current period

Question 25

Interest cost definition and calculation

Answer 25

Increase in PBO due to the passage of time

Beginning of period PBO
X Discount Rate
= Interest Cost

Question 26

US GAAP allows companies to offset pension expense by one of two ways:

Answer 26

Either by:
1- actual return on plan assets
2- expected return on plan assets

Question 27

How to calculate expected return on plan assets

Answer 27

Beginning FV of plan assets
X expected rate of return on plan assets
= Expected return on plan assets

Question 28

How is unrecognized prior service costs recorded? (and calculation)

Answer 28

As unrecognized prior service cost in OCI

Beginning unrecognized prior service cost
/ by the average remaining service life
= amortization of prior service cost

Question 29

Gains/Losses arise from two sources:

Answer 29

1- difference between expected and actual return on plan assets
2- changes in actuarial assumptions

If good for the plan = gain
If bad for the plan = loss

Question 30

Entities have two choices when accounting for gains/losses:

Answer 30

1- recognize on I/S in period incurred

2- recognize in OCI when incurred and then amortize (most often used to smooth earnings)

Question 31

The “corridor approach” definition

Answer 31

Gains/losses can be amortized IF exceeds 10% of the GREATER of beginning year balances of:
1- market related value of plan assets
2- PBO

Question 32

The “corridor approach” calculation

Answer 32

Unrecognized gain/loss
- 10% of PBO OR Market related value (greater of)
= Excess
/ by average remaining service life
= Amortization of unrecognized gain/loss

Question 33

“Funded Status” calculation for B/S

Answer 33

FV of plan assets
- PBO
= Funded status

Question 34

If Overfunded,

Answer 34

Pension plan asset (always noncurrent)

this is a positive funded status

Question 35

If Underfunded,

Answer 35

Pension Plan liability (can be current, noncurrent, or both)

this is a negative funded status

Question 36

Settlements definition

Answer 36

Sale of assets to buy annuity contracts

Question 37

Curtailments definition

Answer 37

Events that reduce expected remaining years of service or eliminate accrual of defined benefit for a significant # of employees

Question 38

Termination Benefits definition & calculation

Answer 38

When employees are paid to terminate their rights to future pension payments

Lump sum payment
+ PV termination benefits
= Special term benefit

Question 39

2 rules of thumb when it comes to disclosures

Answer 39

1- More disclosure is better than less

2- Disclose as much as reasonably possible

Question 40

Relationship between pension plan and sponsoring company

Answer 40

They are two separate legal entities

GAAP requires f/s be presented by the pension plan itself