Pension Accounting Flashcards
Provide examples of postretirement benefits other than pensions.
health care
life insurance
tuition assistance
legal services
day care
housing subsidies
What is the difference between a defined contribution pension plan and a defined benefit pension plan?
Which of these plans causes the most problems from an accounting perspective?
defined contribution pension plan the employer is required to place a specified amount of money into a pension plan each year. the money is invested and whatever is being held at any point in time belongs to the employee for retirement purposes
defined benefit pension plan the employer defines what an employee will receive after retiring. the amount put into the plan each year is not necessarily tied to the amount that the employee will receive
because of the uncertainty, a defined benefit pension plan is much more difficult from an accounting perspect
In connection with a defined benefit pension plan, what is meant by the projected benefit obligation?
the projected benefit obligation is the present value of future pension benefit payments earned to date based on actuarial assumptions about future compensation levels
What causes the projected benefit obligation to change each year?
under normal conditions, the projected benefit obligation will increase because (1) employees work and earn larger pensions, and (2) interest is added to the figure (because it is a PV figure)
the projected benefit obligation will decrease because of payments made to retired individuals
the projected benefit obligation can also go up or down if the pension plan is amended or if an estimated figure used in computing the obligation is changed.
The projected benefit obligation is the PV of the expected pension payments. Because it is a PV figure, interest must be added each year.
What rate is used for computing this interest?
The rate used in computing interest on a projected benefit obligation is known as the discount rate or, sometimes, the settlement rate.
What does the term service cost mean in connection with a defined benefit pension plan?
Service cost in the increase recognized during a year in the projected benefit obligation because employees have worked an additional year. It is the increase in liability directly related to their work for the current year.
What is meant by the term prior service cost in connection with a pension?
A prior service cost is an increase or decrease in a projected benefit obligation because the terms of the pension agreement have been amended.
A prior service cost can also be created when a defined benefit pension plan is first started, if employees are given credit for the time they worked before the plan was started.
What is meant by the term unrealized gain or loss, which is also sometimes known as an actuarial gain or loss?:
An unrealized gain or loss is the increase or decrease caused in the projected benefit obligation that is created by the change in an estimation.
An unrealized gain or loss can also occur if the expected income on plan assets differs from the actual income.
What is meant by the term funding?
What is meant by the term plan assets?
Funding is the setting aside of money so that it will be available for pension payments when entity employees retire.
Plan assets is the total of all money that has been set aside at the moment, as well as any income that has been earned on this money.
How does the amount of an entity’s plan assets change over the course of a year?
Plan assets being held to pay retirement benefits will increase each year as the entity makes current payments. It will also increase because of income earned on those assets.The plan assets will decrease whenever payments are made to retired individuals.
What is meant by the term net pension cost?
The net pension cost is the amount that will be recognized each year by an entity as its pension expense on the income statement.
In computing its annual pension expense, an entity must include up to 5 components. What are these components, and will they increase or decrease the expense?
- Service cost for the year - expense rises
- Interest on the projected benefit obligation - expense rises
- Income earned on plan assets - expense falls
- Amortization of any prior service cost - expense rises usually but can fall.
- Amortization of any unrealized gain or loss - if gain is amortized expense falls, if a loss is amortized expense rises
One component of net pension cost each year is the earnings on the plan assets.
How is this figure computed?
the earnings on plan assets is the amount of plan assets at the beginning of the year multiplied by the expected income rate for the year.
One possible component of net pension cost is the amortization of any prior service cost. Assume that a pension plan is amended on Jan 1, year 1, and the projected benefit obligation increases by $300,000. This is a prior service cost. How much amortization is recognized in the net pension cost for Year 1?
A prior service cost can be amortized in a number of different ways. However, it is most common to amortize this cost into the pension expense computation using the straight-line method over the remaining service life of the of the employees benefited by the amended plan.
One possible component of net pension cost is the amortization of any unrealized gain or loss. This component is rarely encountered. Why is that?
unrealized gains and losses are expected t swing back and forth so that they will hover around zero. For this reason, amortization is ignored unless the unrealized gain or loss gets to be larger than a defined amount, called the corridor. Under that circumstance, amortization (based on the remaining service lives of the employees) is recognized on the excess amount.
