IAS 19 - Employee Benefits (detailed review)

Objective

This standard prescribes the guidelines for the entity to deal with the accounting treatment of employee benefits and related disclosure requirements. This standard requires that the entity should recognize the following:

• An expense for the consumption of economic benefits relating to the employee services provided in exchange for employee benefits and

• A liability when the employee has rendered the services in return for the related employee benefits to be paid in the future

Scope

This standard is applicable for the accounting treatment of all employee benefits which may be formal, legislative or informal and are categorized as following under this standard:

a) Short Term Employee benefits which are payable within 12 months from the end of the year of services, such as salaries, wages, compensated annual leaves and  annual profit shares

b) Post Employment Benefits which fall due after the formal retirement of an employee, such as pensions or other retirement benefits

c) Other Long Term Benefits which are due after 12 months from the end of year of services, such as sabbatical leave and long term service awards

d) Termination benefits

Employee benefits are settled in the form of cash or in kind (i.e. provision of goods or services) and may be provided directly to employee or to their dependents

However, this standard does not deal with the following:

a) Employee benefits which are covered under IFRS 2 Share Based payment

b) Reporting requirements by the retirement benefit plan which are covered under IAS 26

Definitions

Employee Benefits

All forms of consideration which are transferred to employee in return for their services
are termed as employee benefits.

Short Term Employee Benefits

The benefits which are payable within twelve months period from the end of the year in which employee has provided the services are termed as short term employee benefits, such as salaries, wages, compensated annual leaves, annual profit shares and bonuses.

Post Employment Benefits

The benefits which are payable after the formal retirement of an employee are termed as post employment benefits, e.g. pensions or other retirement benefits

Other Long Term Employee Benefits

The benefits (other than the termination benefits) which are payable after 12 months from the end of year in which employee has provided the services are termed as post employment benefits, e.g. sabbatical leave and long term service awards.

Termination Benefits

The benefits which are payable as a result of termination of employee’s employment either because of entity’s decision to terminate the employee or employee’s own decision to accept termination in return for certain benefits.

Post Employment Benefit Plan

The plans (formal or informal) which are established by employer to provide benefits to one or more employees after the formal retirement are termed as post employment benefit plans.

Defined Contribution Plans

The plans under which employer commits a fixed amount of contribution for an employee, that is paid into a fund (separate entity) and which will be available to the employee at relevant maturity date are termed as defined contribution plans. However, employer is not liable for the shortfall if at maturity date the fund (separate entity) does not hold adequate resources to pay all employee benefits in respect of employee services in the current and previous years.

Defined Benefit Plans

These are other than the defined contribution plans.

Multi Employer Plans

The defined contribution plans or defined benefit plans (other than state plans) under which:

• Resources are contributed and pooled by various employers (not under common control) and
• Those resources will be used to provide benefits to employees of various employers on the basis that contributions and benefits levels are determined independent to the identity of the employers

Defined Benefit Liability

It is the present value of estimated future payments to settle the employee benefits in respect of current and previous services of employees, without the deduction of related plan asset.

Plan Asset

It reflects the resources which will be used to settle the employee benefits in respect of current and previous services of employees and entails the following:

• Assets or resources held in a long term fund (separate entity)
• A qualifying insurance policy

Assets held in a Long Term Fund

It encompasses the assets or resources held by the employer in a fund, in the form of separate legal entity, to pay off employee benefits in respect of current and previous services of employees and these are not available to the entity even in the event of bankruptcy except:

• If the remaining resources of the fund are adequate to pay all the related employee benefits of the plan or

• The assets are being returned to the entity as a reimbursement if the employee benefits are already paid by the entity itself

Qualifying Insurance Policy

It is an insurance policy, the proceeds of which will be used to pay off employee benefits in respect of current and previous services of employees and these are not available to the entity even in the event of bankruptcy except

• If the remaining resources of the fund are adequate to pay all the related employee benefits of the plan or

• The assets are being returned to the entity as a reimbursement if the employee benefits are already paid by the entity itself

Service Cost

It includes the following components:

• Current Service Cost: It is the increase in the present value of defined benefit liability in respect of the current year services of the employee

• Past Service Cost: It is the change in the present value of defined benefit liability in respect of the previous year services of the employee resulting from amendment into plan or curtailment

• Any settlement gain or loss

Interest on Defined Benefit Liability

It is the change in the present value of defined benefit liability due to the passage of time.

Return on Plan Asset

It is the dividend, interest and other income relating to the plan asset resources including realized and unrealized gains on the plan asset after deducting plan management cost and related taxes.

Re-measurement

It includes the following:

• Actuarial gains and losses relating to defined benefit liability
• Return on the plan asset
• Effect of asset ceiling adjustment.

Actuarial Gains and Losses

These are changes in the value of defined benefit liability resulting because of change in the actuarial assumptions and experience adjustments i.e. (the differences between the previous actuarial assumptions and what has actually occurred),

Asset Ceiling

It is the present value of economic benefits available in the form of refund from plan asset and reduction in future contribution to the plan asset.

Short Term Employee Benefits

The benefits which are payable within twelve months period from the end of the year in which employee has provided the services are termed as short term employee benefits and includes the following:

• Salaries
• Wages
• Annual bonuses
• Compensated annual leaves
• Annual profit shares

Recognition and Measurement of Short Term Employee Benefits

These are recognized in the period in which employee has rendered the services at undiscounted amount of benefit payable as follows:

• A liability after deducting the amount which has been already paid, if the amount already paid is in excess of undiscounted amount of benefit payable then the excess will be treated as current asset (pre-paid expense) and

• An expense which reflects the consumption of employee services and alternatively it may be included in the cost of another asset if required by a particular standard, such as IAS 16 Property Plant and Equipment or IAS 2 Inventories

Application of Recognition and Measurement

1) Compensated Absences

The entity may pay its employees for certain absences such as sickness, maternity, paternity, holiday or short term disability leaves therefore the entity will account for the related cost of short term compensated absences as follows:

a) Accumulating Compensated Absences

The compensated absences which are carried forward to the next year and can be utilized in future years if the current year’s entitlement is not utilized in full are termed as accumulating compensated absences. These may be vested or non-vested.

i) Vested Accumulating Compensated Absences

The accumulating compensated absences, for which employees are granted a separate additional cash payment in respect of unused leaves upon leaving the entity are termed as vested accumulating compensated absences.
The entity becomes liable when employees provide the services that increases their entitlement to future paid leaves therefore, at each reporting date the entity should recognize an expense and provision in respect of the unused vested accumulating compensated absences with the relating expected amount payable.

ii) Non-vested Accumulating Compensated Absences

The accumulating compensated absences, for which employees are not granted a separate additional cash payment in respect of unused leaves upon leaving the entity are termed as vested accumulating compensated absences however, these may be used in future periods.
The entity becomes liable when employees provide the services that increases their entitlement to future paid leaves therefore, at each reporting date the entity should recognize an expense and provision in respect of the unused non-vested accumulating compensated absences which are expected to be used in future with the relating expected amount payable.

b) Non-accumulating Absences

The compensated absences which are not allowed to be carried forward to the next years and expire if current year’s entitlement is not utilized in full are termed as non-accumulating compensated absences.
For these leaves the entity will recognize the expense when employee will actually take up the leave and no provision is required at reporting date as these does not increase employee’s entitlement to the future compensated absences.

2) Annual Profit Shares and Bonuses

The entity should recognize an expense and a provision at each reporting date in respect of the estimated amount of annual bonuses or profit shares if the entity has any legal and constructive obligation (past practices) for such amounts.

Post Employment Benefits

The benefits which are payable after the formal retirement of an employee are termed as post employment benefits e.g. pensions, post employment medical care facility and insurance benefits. These may be in the form of:

• Defined Contribution Plan or
• Defined Benefit Plan

Defined Contribution Plans

These are the benefit plans under which employer commits a fixed amount of contribution for an employee that is (may be along with employee’s equivalent contribution) paid into a fund (separate entity), which is then managed by the board of trustee (appointed persons) of the fund, to accumulate returns thereon, until the retirement date and later this will be available to employee at relevant retirement date. However, the amount of benefit which will be available to employee after the formal retirement depends upon how well the plan performs.

• The employer’s obligation is limited to the fixed amount of contributions only, and employer does not retain any risk and rewards related to the contributions after these are contributed to the fund (separate entity). The fund (separate entity) is termed as ‘Plan Asset’

• The employer is not liable for any shortfall in the plan asset, if at retirement date the fund (separate entity) does not hold adequate resources to pay all employee benefits in respect of employee services in the current and previous years.

• When the employee has provided the services, the employer will recognize the fixed amount of contributions at the end of accounting period as:

a) An expense which reflects the consumption of employee services and alternatively it may be included in the cost of another asset if required by a particular standard, such as IAS 16 Property Plant and Equipment or IAS 2 Inventories

b) A liability after deducting the amount which has been already paid to the plan asset, if the amount already paid is in excess of contribution payable then the excess will be treated as current asset (pre-paid expense)

• The contribution fund (separate entity) which is also known as plan asset is not treated as the asset of employer in case of defined contribution plans as employer does not retain the related risk and rewards

Disclosures

This standard requires the entity to disclose the amounts which are recognized as an expense in respect of defined contribution plans.

Defined Benefit Plans

The plans under which an employer commits a ‘certain benefit’ which will be available to employee after the formal retirement are termed as defined benefit plans e.g. (pension equal to certain percentage of final year salary multiple of year of services with employer) or (post employment medical care facility)

• These may be funded i.e. a fund (separate entity) is maintained by employer in which periodic contributions are made by employer which are then managed by the board of trustees (appointed persons) of the fund, to accumulate returns thereon, and later these accumulated funds will be used to pay employee retirements. The fund (separate entity) is known as plan asset. However, if plan funds asset does not have adequate resources to pay employee retirements then employer will make up the shortfall.

• In case of defined benefit plans, although the benefit will be paid to employee after the formal retirement in future however, the entity will recognize the expense in respect of future retirement benefit over the period of services to the retirement date on matching basis and it involves the following steps:

a) The entity will determine the estimated cost of future benefits resulting from employee services in the current year. This is determined using Projected Unit Credit Method and involves some actuarial assumptions

b) The actuarial assumptions include demographic and financial assumptions

c) Demographic assumptions take into account the effect of:

• Mortality rates
• Employee turnover rates
• Plan expected amendments

d) Financial assumptions take into account the effects of:

• Salary Increments
• Inflation Rates
• Statutory Increments
• Interest Rates

e) The estimated cost of future benefit determined by the entity is then discounted using the appropriate discount rate to arrive at the present value of defined benefit liability in respect of employee services in the current year, which is known as ‘current service cost’

f) The entity will incorporate interest expense on the present value of defined benefit liability outstanding at the start of the accounting period

g) The entity will recognize return on plan asset resources held at the start of the accounting period

h) The discount rate used should be the rate of return of high quality corporate bonds, if this is not available then the rate of return of the government securities

i) The entity will determine the re-measurement gains and losses on defined benefit liability and plan asset, as the difference between the amount of defined benefit liability and plan asset recognized by the entity and there fresh valuation determined at the end of reporting period, the resulting re-measurement gains and losses on the defined benefit liability and plan asset will be recognized in other comprehensive income which will include the following:

• Actuarial gains and losses relating to defined benefit liability
• Return on the plan asset
• Effect of asset ceiling adjustment

j) The net defined benefit liability (asset) is determined as the difference between the amount of the defined benefit liability and related plan asset at the end of reporting period

k) If there is net defined benefit asset, it will be restricted to the effect of asset ceiling adjustment

Statement of Profit or Loss

The entity will recognize the following elements in respect of defined benefit plan in the statement of profit or loss:

• Current service cost
• Past service cost
• Net interest on the net defined benefit liability (asset)
• Settlement gain or loss

Statement of Financial Position

The entity will recognize the following elements in respect of defined benefit plan in the statement of financial position:

• The net defined benefit liability (asset) is determined as the difference between the amount of the defined benefit liability and related plan asset at the end of reporting period

• If there is net defined benefit asset it will be restricted to the effect of asset ceiling adjustment

Past Service Cost

It is the change in the present value of defined benefit liability in respect of the previous year services of the employee resulting from amendment into plan or curtailment. It may be positive or negative.

• Past service cost is classified into vested past service cost (related to the employees which have already rendered the services) and non-vested past service cost (related to the employees for which services are to be rendered).

• However, it is irrelevant whether the past service cost is vested or non-vested, it will be recognized immediately in the profit or loss as an expense when the entity makes announcement and becomes liable for it

Curtailment

It is reduction in future earnable benefit of employees; it arises when the entity amends the plan in such a way that future services of employees will earn no benefit or low benefit such as:

• Significant reduction in number of employees
• Discontinuation of a business segment
• Sale of a business line

Curtailment may take place with the following arrangement:

Curtailment with Settlement

It is when future benefit of employee is curtailed and vested benefit will be paid off immediately, in such a case the difference between present value of defined benefit liability settled and settlement value will be charged to the statement of profit or loss.

Curtailment without Settlement

It is when future benefit of employee is curtailed but vested benefit of employees will be paid at original maturity date, in such a case the difference between (a) and (b) will be charged to the statement of profit or loss:

• Present value of defined benefit liability and fair value of plan asset before curtailment, and
• Present value of defined benefit liability and fair value of plan asset considering curtailment

Plan Asset

It contains the resources which will be used to settle the employee benefits in respect of current and previous services of employees and may be in the form of following:

• Assets or resources held in a long term fund (separate entity)
• A qualifying insurance policy

However, plan asset does not include the unpaid contributions.

Reimbursement

If an entity will get reimbursement for all or part of the employee defined benefit liability by another party, the entity will recognize the right to reimbursement as a separate asset only if it is virtually certain to be received, such as qualifying insurance policy under which insurance proceeds will be used to settle employee defined benefit liability.

• However, if at maturity date the insurance proceeds are not adequate to pay employee retirements then employer will make up the shortfall.

• The entity will recognize the right to reimbursement at fair value and it will be accounted for same as the plan asset

Asset Ceiling

It is applicable when there is net defined benefit asset in the statement of financial position i.e. the present value of defined benefit liability is less than the fair value of plan asset at the reporting date.

• The entity recognizes that net defined benefit asset because entity controls such asset and owns the related risks and rewards

• It is applied to rationalize the net defined benefit asset in the statement of financial position

• It states that net defined benefit asset in the statement of financial position should be recognized at lower of:

a) Value in the statement of financial position

b) Present value of refund available from plan asset (asset ceiling value)

The difference between (a) and (b) will be recognized in other comprehensive income as part of re-measurements.

Multi Employer Plans

These are defined contribution plans or defined benefit plans (other than state plans) under which:

• Resources are contributed and pooled by various employers (not under common control) and
• Those resources will be used to provide benefits to employees of various employers, on the basis that contributions and benefits levels are determined independent to the identity of the employers

The entity will classify the multi employer plan as a defined contribution plan or a defined benefit plan in accordance with the terms of the plan as discussed in this standard

If the entity is a participant to a multi employer defined benefit plan the entity will recognize its proportionate share of the defined benefit liability, plan asset and cost relating to the plan similarly as for any other defined benefit plan and

However, if adequate and reasonable information is not available to apply defined benefit accounting for a multi employer defined benefit plan, in this case the entity will account for such a plan as if it were a defined contribution plan and will disclose the fact

Disclosure

The standard requires the entity to disclose the following in respect of post employment benefits:

• The nature of the post employment benefit plan i.e. defined contribution plan or defined benefit plan
• The details of the plan in operation
• Amounts recognized in the current period in respect of plan
• Assumption used by the entity in determination of defined benefit liability if the plan is defined benefit plan
• Details of any plan asset held by the entity

Other Long Term Employee Benefit

The benefits (other than the termination benefits) which are payable after 12 months from the end of year in which employee has provided the services are termed as post employment benefits such as:

• Sabbatical leave
• Jubilee leaves
• Long term service awards
• Long term bonuses

These may be in the form of defined contribution plans or defined benefit plans. The entity will classify the other long term employee benefit plans as defined contribution plans or defined benefit plans in accordance with the terms of the plan and will account for such plans as follows:

 the other long term employee benefit plan is a defined contribution plan, it will be accounted for as per the accounting treatment of defined contribution plans as prescribed in this standard

If the other long term employee benefit plan is a defined benefit plan, it will be accounted for as per the accounting treatment of defined benefit plans as prescribed in this standard. However, when other long term employee benefit plan is a treated as defined benefit plan, the re-measurement gain or losses on defined benefit liability and plan asset will be recognized in the statement of profit or loss

Termination Benefits

The benefits which are payable as a result of termination of employee’s employment either because of:

• Entity’s decision to terminate the employee or
• Employee’s own decision to accept termination in return for certain benefits

The entity will recognize an expense and a liability in respect of expected amount of termination payments to settle the obligation in the year of termination

However, the expense and liability will be recognized at discounted value if the amount is expected to be settled after one year from the year of termination

 

Worked Example

AB Ltd is a private limited company and it has established a post employment funded defined benefit plan for its employees. In accordance with the terms of the plan, the employees will receive a pension equal to 2% of the final year salary of employee multiple of year of services with the entity.
AB Ltd determines the cost for the year using the projected unit credit method which also takes into account some actuarial assumptions regarding employee turnover, mortality rates, inflation rates and discount rates, which are based on the rate of return of high quality corporate bonds.

Following information is available related to the defined benefit plan for the year end of 31 December 2010

• The present value of pension benefit in respect of employee services for the year end of 31 December 2010 is $80,000.

• AB Ltd paid pension benefits of $84,000 to former employees in the current year

• The entity has contributed an amount of $40,000 into plan asset in the year end of 31 December 2010.

• The present value of defined benefit liability was $6million at year ended 31 December 2009 and it was $6.7 million at 31 December 2010.

• The plan asset had a fair value of $5.8 million at 31 December 2009 and the fair value of plan asset was $6.15 million at 31 December 2010

AB Ltd had amended the plan on 31 December 2010 and as a result employees are now entitled to an increased pension benefit. The estimated present value of these benefits is $250,000 at 31 December 2010.
The interest rate on high quality corporate bonds was 6% per annum 31 December 2009.

AB Ltd recognizes re-measurement gains and losses in 'other comprehensive income (items that will not be reclassified to profit or loss)' in accordance with IAS 19, revised 2011.

Required

Prepare the extracts of financial statements in respect of defined benefit plan of AB Ltd for the year end of 31 December 2010, along with the movement in Define benefit liability and plan asset.
(Assume that the pension benefits and the contributions paid were settled at 31 December 2010).

Solution

(Working 1)

Statement of Profit or Loss	31.12.2010
	$
Current Service Cost	(80)
Past Service Cost	(250)
Net Interest:
Interest Expense ($6,000 × 6%)                                 (360)
Interest Income   ($5,800 × 6%)                                  348	(12)
Curtailment Gain / Loss	-
Total Charge	(342)
Other Comprehensive Income
Re-measurements:
Loss on Define benefit Liability	(94)
Gain on Plan Asset	46
	(48)

(Working 2)

Statement of Financial Position	31.12.2010
	$
Present Value of Defined Benefit Liability at Reporting Date	6,700
Fair Value of Plan Asset at Reporting Date	(6,150)
Net Liability	550

(Working 3)

Define Benefit Liability a/c	31.12.2010
	$
Balance b/ f at 31.12.2009	6,000
Current Service Cost	80
Past Service Cost	250
Interest Expense ($6,000 × 6%)	360
Benefit Paid Out	(84)
Re-measurement Loss (Balancing Figure)	94
Present Value of Defined Benefit Liability at 31.12.2010	6,700

(Working 4)

Plan Asset a/c	31.12.2010
	$
Balance b/ f at 31.12.2009	5,800
Contribution into Plan Asset during the year	40
Interest Income ($5,800 × 6%)	348
Benefit Paid Out	(84)
Re-measurement Gain (Balancing Figure)	46
Fair Value of Plan Asset at 31.12.2010	6,150