IAS 26 – Accounting and Reporting by Retirement Benefit Plans

Introduction

The aim of IAS 26 is to provide guidance regarding measurement and disclosure principles for financial reports of retirement plans.

Scope

The standard is applicable to instances where financial reports of retirement plans are being prepared.

Important Concepts Related to IAS 26

• Retirement plans are also referred by other names like superannuation schemes, retirement benefit or pension schemes.
• This accounting standard is basically designed to deal with the accounting of the retirement plan as well as reporting the plan’s financial performance and position to its members. It is not designed to deal with reporting to individual members/ participants regarding their rights and obligations in connection to the benefit plan.
• International Accounting Standard 19 is related to determining cost of post-employment benefits to be included in the financials of entities having benefit plans for their employees. Hence, it can be said that IAS 26 complements and supports IAS 19.
• Retirement plans can either be defined benefit or defined contribution. Businesses operating in different countries are subject to different laws and regulations regarding operating a retirement plan. Different businesses operating across the world are required to maintain separate accounts/ funds that may have legal structure and status separate from the employer, to which both employers and employees made contributions, and which is ultimately used for making payments relating to post-employment benefits. This Standard is applicable to all the retirement plans irrespective of whether a separate fund is maintained and irrespective of whether it has trustees.
• The funding and accounting requirements applicable to retirement plans having assets, whether current or non-current, invested with entities working in the insurance industry are the same as private investment arrangements. Accordingly, these fall within the realm of IAS 26 unless the agreement with an insurance entity has been made either with an individual member or with a group consisting of the plan’s members and the insurance company is the sole responsible for the retirement benefit obligation.
• This Standard is not designed to address other types of benefits which employees’ receive such as redundancy plans, early retirement, employment termination indemnities, bonus plans, and welfare and health plans, etc.
• Government arrangements such as social security does not fall within the domain of this reporting Standard.
• Some retirement plans have entities other than employers that sponsor the plan; this Standard is also applicable to the financial reports of those plans.
• Most retirement plans are based on formal agreements. Some plans are informal but have acquired a degree of obligation as a result of employers’ established practices. While some plans allow employers to restrict their obligations. Generally, it is difficult for an owner to cancel a plan if it wants to retain its employees. The same basis of accounting and reporting applies to an informal plan as to a formal plan.
• Most retirement plans work as per the terms and conditions laid down in formal agreements. However, there are some plans that are informal but still has a certain degree of obligation due to the employers’ past practices. Some retirement plans allow employers to restrict their obligations with regards to their plans. It is very difficult for a company to cancel a retirement plan if it wants to retain its employees. The requirements for accounting and reporting under this standard is applicable to both formal and informal retirement plans.

Key Definitions Pertaining to IAS 26

Retirement Plans: These can be defined as arrangements in which an employer provides benefits to its employees as post-employment benefits, either as a lump sum payment or as a monthly or annual income.

Defined Contribution Plans (DCPs): These can be defined as retirement plans in which retirement benefits payable to the participants are calculated by adding contributions to the fund (both from the employer and employees) and the amount earned by the plan by investing the amount it received from the employer and employees through contributions.

Defined Benefit Plans (DBPs): These are retirement plans in which retirement benefits payable to an employee are determined through the use of a formula that is typically based on an employee’s service years’ or earnings or in some cases both.

Funding: In the context of this standard, it can be defined as assets that are transferred to the retirement plan that in most cases is considered as a separate entity from the entity (the company) that has created the fund in the first place to meet obligations relating to payment of post-employment benefits to its employees.

Following are the terms that are used specifically in the context of this standard:

Participants: These can be defined as those who are eligible for obtaining benefits as per the terms and policies of the benefit plan. These are also known as members of a benefit plan.

Net Assets Available for Benefits: This can be calculated for a retirement plan by deducting all the liabilities of the retirement plan, except for the present amount of benefits that are promised, from the assets of the benefit plan.

Actuarial Present Value of Promised Retirement Benefits: This can be defined as the value of all the payments which a retirement plan is expected to make to all its past as well as existing employees in connection to the services that have already been provided.

Vested Benefits: These can be defined as benefits whose payment, as per the plan’s terms, aren’t dependent upon continued employment.

Trustees: These are those parties that manage assets of a fund that has been created by an entity for the purpose of establishing and operating a retirement benefit plan for its employees.

Defined Contribution Plan

The financials of such a plan should consist of a statement of changes in the plan’s net assets available for retirement benefits together with information about the plan’s financing policy.

In this retirement plan, the future benefits of a participant to the plan is calculated by adding the plan’s investment income and the total amount of contributions made by the employees, employers and in some cases both.

For a DCP, the main reason behind accounting and reporting is to periodically provide information regarding the planning and performance of the retirement plan’s investments. The aforementioned objective is normally satisfied when financial statements containing the following are prepared and provided to all the concerned parties:

• Information about all the significant activities undertaken by the plan during the period under consideration and the impact of any change related to the contribution plan as well as to its terms and conditions and membership;
• Statements providing information about the performance of the investments made by the plan during the period under consideration and the plan’s financial position at the same period-end; and
• Information about the plan’s policies relating to the investments it makes during a specific financial period.

Defined Benefit Plans

The financial reports of such a plan should consist of the following:

1) A statement showing:

• All the net assets that are available for benefits
• The present amount of all the expected post-employment benefits. These benefits should be distinguished between non‑vested and vested benefits
• The plan’s deficit or excess; or

2) A statement of net assets available for benefits that includes one of the mentioned below:

• A note that discloses the present amount of all the expected post-employment benefits. It is important to distinguish whether the said benefits are vested or non‑vested; or
• A note providing reference to the aforementioned in an actuarial valuation report that will accompany the plan’s financial reports.

If an actuarial value of expected post-employment benefits is yet to be determined as on the plan’s financial period-end date then in such a scenario the latest valuation can be used as a base. However, it would be important to disclose the time of the last valuation in the plan’s financial reports.

The actuarial value of expected post-employment benefits is usually calculated using the post-employment benefits that were promised as per the plan’s terms and conditions regarding the services provided by employees till date either using their existing salaries or their expected future salaries together with a disclosure providing information about the basis and assumptions used. The impact of any change in the assumptions used during the actuarial valuation, that significantly impacted the said value of expected post-employment benefits, should be properly disclosed in the plan’s financial statements.

Actuarial Present Value of Promised Post-Employment Benefits

The value of all the payments that are expected to be paid by a benefit plan might be determined and recorded using existing salaries or future expected salaries till the retirement time of all those that are participants of the retirement plan.

The reasons for adopting the existing salary approach includes the following:

1) The actuarial value of all the expected post-employment benefits, is the total of all the amounts that are attributable to every member/ participant of the benefit plan.

2) Increase in retirement benefits related to an increase in salary becomes an obligation for the plan since the date on which the increase in salary occurs; and

3) The actuarial value of post-employment benefits that have been promised using existing salary/ remuneration levels is usually related to amount payable either on discontinuance of the plan or in at the time of termination of a participant.

The reasons for opting for the expected salary approach includes the following:

1) In plans which use final pay approach, retirement benefits are calculated by using expected salaries of the participants at the date of retirement or near the date of retirement; hence projection of salaries of participants, contributions and return rates is a must;

2) It is important to prepare financial reports and information using the going concern assumption;

3) Failing to include projection of salaries, when the basis of most of the funding to the plan is based upon projections of salaries, may ultimately result in reporting of the plan receiving excess funding when the actually the retirement plan is adequately funded or vice versa.

The actuarial value of post-employment benefits promised to the participants, based on existing salaries should be disclosed in the notes to the financial reports of the retirement plan to highlight and indicate obligation in relation to the benefits that have been earned till the plan’s financial statements date. The aforementioned disclosure basically indicates the magnitude and importance of a potential obligation reported in the plan’s financials using the going concern assumption which usually forms the basis of funding. Apart from the said disclosure, sufficient and adequate explanation may be needed in order to clearly indicate the view point from which the present amount of benefits promised should be interpreted. Such an explanation might include information regarding the planned funding’s adequacy as well as the policy in this regard based on projections of the salaries of the plan’s participants. This may either be incorporated in the actuarial report or in the plan’s financial reports.

Content of Plan’s Financial Statements

In General, the financials of a benefit plan irrespective of whether it is defined contribution or defined benefit, must contain the following information:

• a statement of changes in net assets available for benefits;
• information about the plan’s accounting policies; and
• a note that explains the retirement plan as well as the impact of any change in the retirement plan during a specific financial period.

Valuation of Assets Owned by the Plan

Investments made by the retirement plan should be presented in the plan’s accounts at its fair value. For any marketable security, market value is fair value. Where, it is impossible to estimate the fair value of the investments made by the plan then this should be disclosed in the plan’s financial reports.

Disclosures

The financials of a benefit plan irrespective of whether it is defined contribution or defined benefit, should contain the following, only if applicable:

1) A statement of net assets that are available for retirement benefits which comprises of the following:

• Assets suitably classified as on the plan’s financial statements period-end;
• The basis on which the assets appearing in the plan’s financials have been valued;
• Details regarding any investment that exceeds either five per cent of the assets available for retirement benefits or five per cent of any type or class of security;
• Liabilities except the one related to the present amount of retirement benefits; and
• Details regarding any investment made by the plan in the employer.

2) A statement of changes in net assets that are available for retirement benefits presenting the following:

• Contributions made by employers
• Contributions made by employees’
• Income from investments such as dividends and interest
• Benefits that have been paid or are still payable
• Other income
• Administrative and general expenditure
• Other expenditure
• Taxes on net profit
• Surpluses and deficits resulting from disposal of assets (investments included) together with any changes in the value of plan’s investments
• Transfers made to and received from other retirement plans.

3) Information regarding the plan’s funding policies.

4) for DBPs, the actuarial value of expected benefits based upon all the retirement benefits promised to the participants of the retirement plan in accordance with the plan’s terms and conditions, on services rendered by the participants till date and use of either existing salaries or future expected salaries; the aforementioned information may be incorporated in an actuarial report that will accompany the plan’s financials; and

5) In case of DBPs, information about significant assumptions used for actuarial valuations as well as the method considered for calculating the actuarial value of expected post-employment benefits.

The benefit plan report should contain basic information about the plan such as its description, either in its financials or in a report that is separate from the plan’s financials. It should include the following:

(a) Names of all the employees and employers which the plan covers;

(b) Total number of members of the retirement plan that will be receiving benefits from the retirement plan as well as quantity of other participants;

(c) A note giving information regarding whether all the participants of the retirement plan contribute towards the retirement plan;

(d) The nature and type of the retirement plan – defined benefit or defined contribution;

(e) Information regarding a plan’s termination terms and conditions;

(f) Basic information about the benefits that are promised to the plan’s participants;

(g) Any change in above mentioned points during the time period which the report covers.