Chapter 19: Post-Employment Benefits Suggested Time Case 19-1 19-2 19-3 Propulsion XT Limited Candida Limited Solace Limited ................................................. Technical Review TR19-1 Defined Contribution Plan ..........................…. TR19-2 Defined Benefit Plan: Assets and Defined Benefit Obligation ...................... TR19-3 Defined Benefit Plan; Element 1 ..................... TR19-4 Defined Benefit Plan; Element 2 ..................... TR19-5 Defined Benefit Plan; Element 3 ..................... TR19-6 Defined Benefit Plan; Reporting ...................... TR19-7 Impact of ceiling asset test ............................... TR19-8 Net interest with asset ceiling amount ............. TR19-9 Net interest when contribution made during the year TR19-10 ASPE – calculation of pension expense ............... 10 15 10 10 10 10 10 10 10 10 Assignment A19-1 Pension Terms ........................................................................ A19-2 Defined Contribution Plan ..................................................... A19-3 Defined Contribution Plan ..................................................... A19-4 Defined Contribution Plan .................................................. A19-5 Defined Benefit Plan; Variables ............................................ A19-6 Defined Benefit Plan; Actuarial Cost Methods...................... A19-7 Defined Benefit Plan; Actuarial Cost Methods (*W) ............ A19-8 Defined Benefit Plan; Three Elements .................................. A19-9 Defined Benefit Plan; Three Elements................................... A19-10 Defined Benefit Plan; Three Elements................................... A19-11 Defined Benefit Plan; Three Elements (*W) ......................... A19-12 Defined Benefit Plan; Three Elements................................... A19-13 Defined Benefit Plan; Three Elements .................................. A19-14 Defined Benefit Plan; Three Elements .................................. A19-15 Defined Benefit Plan; Three Elements; Asset Ceiling ........... A19-16 Pension Spreadsheet............................................................... A19-17 Pension Spreadsheet .............................................................. A19-18 Pension Spreadsheet .............................................................. A19-19 Pension Spreadsheet .............................................................. A19-20 Pension Spreadsheet (*W) ..................................................... A19-21 Other Post-Employment Benefits .......................................... A19-22 Other Post-Employment Benefits .......................................... 10 15 15 15 15 15 15 25 35 35 35 40 30 30 30 20 30 30 30 30 30 30 © 2017 McGraw-Hill Education Ltd. All Rights Reserved. Solutions Manual to accompany Intermediate Accounting, Volume 2, 7th edition 19-1 A19-23 Other Post-Employment Benefits; Spreadsheet ..................... A19-24 Defined Benefit Plan; Disclosure........................................... A19-25 ASPE; Defined Benefit Plan .................................................. A19-26 ASPE; Defined Benefit Plan ................................................. A19-27 ASPE; Defined Benefit Plan ................................................ A19-28 ASPE; Defined Benefit Plan (*W) ........................................ A19-29 ASPE; Defined Benefit Plan ................................................. A19-30 Comprehensive; Chapters 12, 13, 14, 15, 18, 19 ................... 19-A1 to 19-A5 Actuarial cost methods; material posted on Connect 19-A1 Pension funding calculation (Connect) ............ 19-A2 Actuarial cost methods (Connect) ................... 19-A3 Actuarial cost methods (Connect) ................... 19-A4 Explain, pension calculations (Connect).......... 19-A5 Actuarial cost methods (Connect) .................... *W 30 15 15 15 15 15 15 120 25 20 35 40 40 The solution to this assignment is on the text website, Connect. This solution is marked WEB. © 2017 McGraw-Hill Education Ltd. All Rights Reserved. 19-2 Solutions Manual to accompany Intermediate Accounting, Volume 2, 7th edition Cases Case 19-1 Propulsion XT Limited Overview Propulsion XT (PXTL) is a large private company that complies with ASPE, but is evaluating the reporting implications of IFRS. The company has a covenant with respect to total debt-to-equity, as well as a covenant limiting common dividends. The company has a defined benefit pension plan that is underfunded by $1,743 (million). Alternatives, including re-examination of major assumptions and replacing the pension fund with a defined contribution plan, are being considered. Issues 1. Implications of IFRS 2. Assumptions associated with defined benefit plan 3. Implications of move to a defined contribution plan. Analysis and Conclusions 1. Implications of IFRS The major difference between IFRS and ASPE in financial reporting for defined benefit plans is that under ASPE actuarial and experience losses are recorded in earnings, and then retained earnings, but under IFRS are part of other comprehensive income and then accumulated other comprehensive income. On the balance sheet, this would represent a transfer of the cumulative $2,011 actuarial losses from retained earnings to AOCI. See the highlighted accounts in Exhibit 1. The shift improves the retained earnings balance, but does not change overall equity and would not alter ratios in any way. There are a myriad of other differences in the details between ASPE and IFRS with respect to pensions. A detailed review would be required to see if there are any other implications of a switch to IFRS. Additional disclosure would be needed under IFRS. In general, IFRS has a broader range of liabilities to be recognized, because constructive liabilities must be included on the SFP. This would be a concern for the debt-to-equity ratio and should be carefully evaluated in any decision about a switch to IFRS. © 2017 McGraw-Hill Education Ltd. All Rights Reserved. Solutions Manual to accompany Intermediate Accounting, Volume 2, 7th edition 19-3 2. Assumptions associated with defined benefit plan. The two major classifications of assumptions associated with defined benefit plans are demographic (turnover, mortality) and financial (interest rates, salary increases). The assumptions must be best estimates, and must be internally consistent. For example, if interest/inflation is high, compensation increases should also be on the high end. Demographic assumptions can be reviewed with the actuary. If turnover, mortality or retention rates are expected to be different than the current estimates suggest, then the estimates must be changed so that best estimates are used. Manipulation is not permitted, and facts must be gathered to support any estimates used. If mortality or turnover was higher, or retention lower, then the overall cost of the defined benefit plan would be lower and the unfunded position reduced. In terms of financial assumptions, the discount rate used is critical. It is linked to the interest rate for AA corporate bonds with a 30-year term. This rate must be carefully examined. If it were to be increased by 0.25%, then the overall pension obligation would decrease by 3.4% and pension expense would decrease by 7.5%. This is material. If a higher interest rate were used, this might be accompanied by higher expected future compensation increases, in order to keep the assumptions internally consistent. However, a 0.25% increase in compensation costs would only increase pension expense by 1%, and the obligation would increase by 0.2%. Therefore, the overall impact of an increase in this rate would be positive for the company. The rates cannot be changed for their impact on financial statements. Interest rates for the correct term, currency and risk rating must be carefully examined. If rates decline, the impact on pension obligation and expense would be negative. The company holds the risk in a defined benefit plan. 3. Implications of move to a defined contribution plan. A defined contribution plan would have two ongoing benefits to the company. First, annual cash payments would decrease. Currently, the company is paying $51 million, plus another $100 million to address the funding shortfall. It has been suggested that a defined contribution plan would involve payments of $61 (120% of $51). (This result may change based on negotiations with affected labour groups, and the estimate can only be considered tentative at this point.) In addition, the company’s risk profile would improve, because they would not be responsible for funding a defined benefit plan. If the plan were wound up, it has been suggested that the assets of the plan, $5,020, plus $200 million, or $5,220, would be used to extinguish a liability of $6,763. This would cause a gain of $1,543 to be recorded in earnings, because © 2017 McGraw-Hill Education Ltd. All Rights Reserved. 19-4 Solutions Manual to accompany Intermediate Accounting, Volume 2, 7th edition liabilities of $1,743 would be extinguished. This is a significant number, and would clearly improve the debt-to-equity ratio. It is not clear that this scheme or these terms would be acceptable to labour groups, who would be accepting the risk of a defined contribution plan. More assets may have to be transferred to settle the plan, and so no conclusions should be drawn until approval is obtained. The suggestion to settle the plan may cause labour unrest, and that may have significant strategic implications for the company and its operations. Senior management must assess this situation, refine cost proposals, and assess the labour climate. Some companies continue their existing defined benefit plans for current employees, but enroll new employees in a defined contribution plan. This again would have to be the result of labour negotiations, and is a far more long-term solution to the cash flow and risk management challenges. It may, however, be more acceptable (less unacceptable?) in labour talks. The approach taken should rest on a strategic decision. © 2017 McGraw-Hill Education Ltd. All Rights Reserved. Solutions Manual to accompany Intermediate Accounting, Volume 2, 7th edition 19-5 EXHIBIT 1 Propulsion XT Limited Revised Statement of Financial Position reflecting IFRS for Pension Amounts 31 December 20X5 (in millions) Liabilities Accounts payable and accrued liabilities Unearned revenue Long-term debt Net defined benefit liability Deferred income tax Derivative financial instruments $ 5,540 2,126 3,642 1,743 345 230 $13,626 Equity Preferred shares Common shares Contributed surplus Retained earnings ($1,810 + $2,011) Accumulated OCI 350 1,235 116 3,821 (2,011) 3,511 $ 17,137 © 2017 McGraw-Hill Education Ltd. All Rights Reserved. 19-6 Solutions Manual to accompany Intermediate Accounting, Volume 2, 7th edition Case 19-2 Candida Ltd. Overview Candida is a public company (i.e., complies with IFRS) and sponsors both defined benefit and defined contribution pension plans. The nature of the plans must be analyzed, along with related financial statement elements, and future cost increases. Issues 1. 2. 3. 4. Nature of defined benefit and defined contribution plans Financial statement elements relating to pension plans Projections for 20x6 Assumptions for review Analysis 1. Nature of plans Candida has both defined benefit and defined contribution plans. Defined benefit plans set out a pension entitlement for the retired employee, and Candida bears the risk of providing funding for the earned entitlement. A defined contribution plan establishes the employer obligation to provide resources to a pension trustee, and the employee accepts risk as to the size of pension payments. Candida’s shift to defined contribution plans (now $12 of $24 in pension expense) is consistent with a program to reduce financial risk. When plans are curtailed, pension obligations are eliminated. Some assets may be used or allocated in exchange, depending on the terms of the curtailment. A gain or loss on curtailment will be recognized, measured as the change in the pension obligation as compared to the change in assets. 2. Financial statement elements For Candida’s defined contribution plans, the expense is equal to payments made to the trustee. No other financial statement elements result. For Candida’s defined benefit plans, pension accounting is comprised of: a. An expense for current service cost (expected present value of pension benefits earned during the year), past service cost granted on plan initiation or amendment that are retrospectively based, and any gain or loss on plan curtailment. b. An expense for net interest cost on the net defined benefit liability. c. In accumulated OCI and comprehensive income, actuarial and experience losses. © 2017 McGraw-Hill Education Ltd. All Rights Reserved. Solutions Manual to accompany Intermediate Accounting, Volume 2, 7th edition 19-7 Under a pension arrangement, an actuary determines the expected present value of future benefits paid after retirement. This is called the defined benefit obligation, and is $228 million for Candida. It is based on the terms of the plans, and expected mortality rates and discount rates (interest rates on long-term debt). The growth in this liability due to work performed in a given year is item (1) above, current service cost. Interest on the obligation balance is part of item (2). Pensions are based on many estimates: interest rates, salary growth, bond yield rates, etc. When estimates are different than actual, experience gains or losses are created, and these (losses to date for Candida) are excluded from earnings and included in comprehensive income and accumulated OCI - item (3). The cumulative amount is $53 for Candida in 20X5, increased significantly from $20 in 20X4. A likely cause is experience losses on fund earnings (but could also represent changes in assumptions). Such amounts do not affect earnings, but do affect the liability on the SFP. Pension expense will not equal the amount paid. For example, Candida expensed $12 for its defined benefit plans in 20x5, but paid $38 ($50 – $12 for defined contribution). The net liability position is the net of the defined benefit obligation and pension plan assets: Defined benefit obligation $(228) Fair value of plan assets 113 Underfunded position of plan $ (115) The pension plan assets and obligation ($228 and $113, respectively) are on Candida’s SFP, but are NETTED. The nature of the net defined benefit liability has already been described. Note that for Candida, it also includes $14 of unfunded benefit obligations related to the Company’s other post-employment benefits (health care, etc.) Pension plan assets are funds placed with a pension trustee. They are only available for pension plan obligations, and include contributions to the plan plus fund earnings, less benefits paid, and less investment losses. 3. Projections for 20x6 Candida has experienced sizeable actuarial losses caused by experience losses to date in the plan. These are included in accumulated OCI and do not change earnings. © 2017 McGraw-Hill Education Ltd. All Rights Reserved. 19-8 Solutions Manual to accompany Intermediate Accounting, Volume 2, 7th edition 20x6 pension expense for the defined contribution programs should be close to 20x5 expense, although increased to reflect compensation expense $12.6 ($12 x 1.05). 20x6 pension expenses for the defined benefit plans might be as follows: 1. Pension expense - Service cost (20X5 - $7 x 1.05) $ 7.4 2. Net interest cost ($115 x 6%) 6.9 $14.3 Pension related expenses for the defined benefit plans is increased, to $14.3 from $12 in 20x5. Candida will also report actuarial gains and losses in comprehensive income and accumulated OCI. 4. Assumptions for review To minimize pension expense in 20x6, the following assumptions should be reviewed with the actuary: 1. 2. Mortality and turnover. These assumptions dictate eventual pension payout, and reduce current service and the defined benefit obligation. This would reduce service cost, but also create experience gains to reduce accumulated OCI. Discount rate. This discount rate determines net interest in item 2; lowering the yield rate will lower pension expense. The estimate must be based on market yields for long-term debt with similar term, risk and currency as the projected pension plan cash outflows. © 2017 McGraw-Hill Education Ltd. All Rights Reserved. Solutions Manual to accompany Intermediate Accounting, Volume 2, 7th edition 19-9 Case 19-3 SOLACE LIMITED Report to CFO You have requested that I examine the current accounting entries related to the company’s pension plan and other post-retirement plan for 20X8. For any errors found, I have also provided the correcting journal entries. The analysis is described in detail below. I have started with a reconciliation of the opening and closing balances related to the net defined benefit asset and the other post-employment benefit liability for the year ended 31 December 20X8. The related expenses in the net profit and the other comprehensive income items are then calculated based on these reconciliations. The correcting journal entries are then outlined at the end of this report to correct the related pension accounts. Statement of Financial Position The table below provides the reconciliation of the opening and closing balances to determine the correct balance of the net defined benefit asset and the OPEB at 31 December 20X8. Debit (credit) Obligation Opening balance Current service cost Interest expense (1) Past service cost amendment Actuarial revaluation (2) (plug) Benefits paid Closing balance of obligation Plan assets Opening balance Actual return on plan assets (3) Funding contribution Aug 1 Benefits paid Closing balance Net defined benefit (liability) asset Net Defined Benefit Asset $ OPEB $ (1,250,800) (75,600) (72,579) (190,800) (650,800) (57,200) (37,440) (89,721) 66,740 82,300 (1,597,200) 53,600 (625,100) 1,684,300 94,215 0 12,700 (82,300) 1,708,915 53,600 (53,600) 0 111,715 (625,100) © 2017 McGraw-Hill Education Ltd. All Rights Reserved. 19-10 Solutions Manual to accompany Intermediate Accounting, Volume 2, 7th edition (1) Interest on the obligation: (1,250,800 – (82,300 x 6/12)) x 6% = 1,209,650 x 6% = 72,579 Interest on the OPEB (650,800 – (53,600 x 6/12 ) x 6% = 37,440 (2) The “plug” to balance the obligation to the closing balance provided by the actuary. (3) The plug to balance the plan assets to the fair value at the end of 20X8. Net interest income: (1,684,300 + (12,700 x 5/12) - (82,300 x 6/12))) x 6% = (1,684,300 + 5292 – 41,150) x 6% = 1,648,442 x 6% = 98,907 Amount recorded to OCI = Actual return on the plan – net interest income = 94,215 – 98,907 = (4,692) The asset ceiling test recoverable amount is $116,900; the net defined benefit asset balance is $111,715, so there is no adjustment required for the effect of the asset ceiling. Statement of Comprehensive Income Based on the above reconciliations, the following are the correct expenses to be recognized in 20x8. Pension expense = Current service cost + past service adjustment = 75,600 + 190,800 = $266,400 dr Post-retirement benefits expense = $57,200 Net interest expense = Net interest expense - Net interest income = +72,579 + 37,440 98,907 = 11,112 dr Other Comprehensive income Actuarial gains/losses 89,721 –66,740 Experience loss 22,981 dr 4,692 dr. Correcting Journal Entries Retained earnings Pension Expense (266,400- 203,500) Net defined benefit asset Post-employment benefits expense (57,200-53,600) OPEB Net defined benefit asset Net interest income OPEB liability 190,800 62,900 253,700 3,600 3,600 26,328 11,112 37,440 © 2017 McGraw-Hill Education Ltd. All Rights Reserved. Solutions Manual to accompany Intermediate Accounting, Volume 2, 7th edition 19-11 OCI – Pension OPEB Net defined benefit asset 22,981 66,740 OCI – Pension Net defined benefit asset 4,692 89,721 4,692 Proof: Net defined benefit asset: 433,500 – 253700 + 26,328 – 89,721 – 4,692 = 111,715 OPEB = -650,800 -37,440 +66,740 – 3,600 = -625,100 Conclusion Once the adjusting journal entries are posted, all of the related pension accounts will be measured and recognized at their correct amounts for 20X8. © 2017 McGraw-Hill Education Ltd. All Rights Reserved. 19-12 Solutions Manual to accompany Intermediate Accounting, Volume 2, 7th edition Technical Review Technical Review 19-1 The defined contribution expense for 20X4 is equal to: Payment made in the year Present value of the delayed payment, discounted at 5% 200,000 x (P/F, 5%, 2) Total expense To record the pension expense: Pension expense 456,406 Defined contribution pension liability Cash 275,000 181,406 456,406 181,406 275,000 Technical Review 19-2 Defined benefit obligation Opening balance Increase due to current service cost Increase due to interest accrued (5% of opening balance) Decrease due to new past service Decrease due to change in actuarial assumptions Decrease due to pension benefits paid to pensioners Closing balance $5,215,000 cr. 601,900 cr. 260,750 cr. 356,000 dr. 106,000 dr. 67,900 dr. $5,547,750 cr. Pension fund assets Opening balance Increase due to actual investment income earned Decrease due to pension benefits paid to pensioners Increase due to contributions during the year Closing balance Net defined benefit plan liability ($5,547,750 - $5,336,900) $ 4,810,000 dr. 144,800 dr. 67,900 cr. 450,000 dr. $ 5,336,900 dr. $ 210,850 cr. © 2017 McGraw-Hill Education Ltd. All Rights Reserved. Solutions Manual to accompany Intermediate Accounting, Volume 2, 7th edition 19-13 Technical Review 19-3 Service cost: 1. Current service cost $ 601,900 2. Past service cost (negative) (356,000) $245,900 To record service cost: Pension expense………………………………………. 245,900 Net defined benefit liability………………… 245,900 To record the contribution to the fund: Net defined benefit liability………………… Cash……………………………………………….. 450,000 450,000 © 2017 McGraw-Hill Education Ltd. All Rights Reserved. 19-14 Solutions Manual to accompany Intermediate Accounting, Volume 2, 7th edition Technical Review 19-4 Net interest: Defined benefit obligation, beginning of the year $ 5,215,000 Pension plan assets, fair value, beginning of the year 4,810,000 Net defined benefit liability $405,000 Net interest, at 5% $ 20,250 The components are: Interest on the obligation of $260,750 ($5,215,000 x 5%) and Expected earnings of $240,500 ($4,810,000 x 5%) To record interest: Pension expense (or Interest expense)…………………… 20,250 Net defined benefit liability…………………. 20,250 © 2017 McGraw-Hill Education Ltd. All Rights Reserved. Solutions Manual to accompany Intermediate Accounting, Volume 2, 7th edition 19-15 Technical Review 19-5 Actuarial gain: change in assumptions: Net defined benefit liability …………………… 106,000 OCI: pension…………………………………………… 106,000 Experience loss, fund earnings: OCI: pension ($240,500 - $144,800)…………………. Net defined benefit liability………………. 95,700 95,700 © 2017 McGraw-Hill Education Ltd. All Rights Reserved. 19-16 Solutions Manual to accompany Intermediate Accounting, Volume 2, 7th edition Technical Review 19-6 On the SCI: Earnings (given, excluding pension expense) $ 4,200,000 cr. Pension expense ($245,900 + $20,250) 266,150 dr. Earnings $ 3,933,850 cr. OCI: Pension adjustments 10,300 cr. ($106,000 cr. and $95,700dr.) Comprehensive income $ 3,944,150 cr. On the Statement of Changes in Equity: Opening balance (given) Comprehensive income Closing balance Retained earnings $ 8,601,400 cr. Accumulated OCI, Pension $ 69,200 dr. 3,933,850 cr. 10,300 cr. $ 12,535,250 cr. $ 58,900 dr. On the SFP: Long-term liability: Net defined benefit liability $ 210,850 cr. (see below) Equity (not required): Retained earnings $ 12,535,250 cr. Accumulated OCI, Pension $ 58,900 dr. Net defined benefit liability: Opening balance (given) $405,000 cr. Payment to pension fund trustee 450,000 dr. Service cost 245,900 cr. Net interest 20,250 cr. Actuarial gains and losses 95,700 cr. 106,000 dr. Closing balance $210,850 cr. © 2017 McGraw-Hill Education Ltd. All Rights Reserved. Solutions Manual to accompany Intermediate Accounting, Volume 2, 7th edition 19-17 Proof, per TR 19-1: Defined benefit obligation Opening balance Increase due to current service cost Increase due to interest accrued (5% of opening balance) Decrease due to new past service Decrease due to change in actuarial assumptions Decrease due to pension benefits paid to pensioners Closing balance $5,215,000 cr. 601,900 cr. 260,750 cr. 356,000 dr. 106,000 dr. 67,900 dr. $5,547,750 cr. Pension fund assets Opening balance Increase due to actual investment income earned Decrease due to pension benefits paid to pensioners Increase due to contributions during the year Closing balance Net defined benefit plan liability ($5,547,750 - $5,336,900) $ 4,810,000 dr. 144,800 dr. 67,900 cr. 450,000 dr. $ 5,336,900 dr. $ 210,850 cr. Technical Review 19-7 Currently, the net defined benefit asset is: 7,670,000 -7,250,000 = 420,000 The ceiling asset test indicates that the asset can be no higher than $315,000 as this is the maximum amount available as a future benefit to the employer in the future. Therefore an adjustment of $105,000 ( 420,000 – 315,000) is required as follows: OCI pension Net defined benefit asset 105,000 105,000 © 2017 McGraw-Hill Education Ltd. All Rights Reserved. 19-18 Solutions Manual to accompany Intermediate Accounting, Volume 2, 7th edition Technical Review 19-8 Interest expense: Defined benefit obligation, beginning of the year $7,250,000 Weighted average for the benefit payments ($230,000 x 6/12 ) (115,000) $ 7,135,000 Weighted average balance outstanding $ Interest expense, at 5.5% ($7,135,000) 392,425 Interest income on plan assets: $7,670,000 Pension plan assets, fair value, end of 20X4 ($7,670,000) Weighted average for the contributions ($560,000 x 9/12) 420,000 Weighted average for the benefit payments ($230,000 x 6/12) (115,000) $ 7,975,000 Weighted average balance outstanding $ Interest income, at 5.5% ($7,975,000) 438,625 Interest income on effect of asset ceiling $105,000 Effect of the asset ceiling (balance at the beginning of the year) $ Interest income on effect of asset ceiling ($105,000 x 5.5%) $ Net interest income ($438,625 - $5,775 - $392,425) 5,775 40,425 This is the same as ($315,000 + 420,000) * 5.5% The journal entry is: Net defined benefit asset Interest income 40,425 40,425 © 2017 McGraw-Hill Education Ltd. All Rights Reserved. Solutions Manual to accompany Intermediate Accounting, Volume 2, 7th edition 19-19 Technical Review 19-9 Interest expense: Defined benefit obligation, beginning of the year $5,215,000 Weighted average for the benefit payments ($67,900 x 6/12 ) (33,950) $ 5,181,050 Weighted average balance outstanding $ Interest expense, at 5.0% ($5,181,050) 259,053 Interest income on plan assets: Pension plan assets, fair value, end of 20X7 $4,810,000 Weighted average for the contributions ($450,000 x 4/12) 150,000 Weighted average for the benefit payments ($67,900 x 6/12) (33,950) $ 4,926,050 Weighted average balance outstanding $ Interest income, at 5.0% ($4,926,050) Net interest expense (259,053 – 246,303) 246,303 12,750 The entry is made using the net amount: Interest expense Net defined benefit liability 12,750 12,750 © 2017 McGraw-Hill Education Ltd. All Rights Reserved. 19-20 Solutions Manual to accompany Intermediate Accounting, Volume 2, 7th edition Technical Review 19-10 Defined benefit obligation Opening balance Increase due to current service cost Increase due to interest accrued (5% of opening balance) Decrease due to new past service Decrease due to change in actuarial assumptions Decrease due to pension benefits paid to pensioners Closing balance $5,215,000 cr. 601,900 cr. 260,750 cr. 356,000 dr. 106,000 dr. 67,900 dr. $5,547,750 cr. Pension fund assets Opening balance Increase due to actual investment income earned Decrease due to pension benefits paid to pensioners Increase due to contributions during the year Closing balance Net defined benefit plan liability ($5,547,750 - $5,336,900) $ 4,810,000 dr. 144,800 dr. 67,900 cr. 450,000 dr. $ 5,336,900 dr. $ 210,850 cr. Under ASPE, since there is no OCI, all costs and adjustments are recognized as pension expense in the current year. Also, the net interest is calculated on the opening balance, with no adjustments for contributions and payments made during the year. 1. Current service cost Past service adjustment 2.a Interest cost ($5,215,000 × 5% ) 2.b Actual return 3.a Re-measurement: $ 601,900 (356,000) 260,750 (144,800) 106,000 $467,850 © 2017 McGraw-Hill Education Ltd. All Rights Reserved. Solutions Manual to accompany Intermediate Accounting, Volume 2, 7th edition 19-21 Assignments Assignment 19-1 1. The actuarial cost method that must be used to determine current service cost is the projected unit credit method. 2. A pension plan where the risk of the level of eventual pension payments rests with the employee is called a defined contribution plan. 3. A contributory pension plan is a plan in which employees are required to contribute to the plan. 4. The asset ceiling is a limiting factor in pension accounting when plan assets are higher than the defined benefit obligation but the surplus is not available to the employer. 5. Pension plans are usually registered because registration allows contributions to be tax deductible when contributed to the plan, rather than when paid out in benefits. 6. The actuarial cost method that projects years of service, and final salary, is called the level contribution method. 7. Past service cost will be a negative number (reduces the projected benefit liability) when benefits are decreased with reference to cumulative service. 8. An experience gain or loss related to annual return on plan assets is the difference between actual return and expected return. 9. The costs of pension benefit changes caused by settlement and curtailment are often included in discontinued operations rather than pension expense. 10. The expected present value of future pension benefits, evaluated using present value and actuarial expectations, including mortality, turnover, and the effects of current and future compensation levels, is called the defined benefit obligation. 11. Two examples of demographic assumptions that must be made to project pension variables are employee turnover and mortality. (Also acceptable: employee disability and early retirement) © 2017 McGraw-Hill Education Ltd. All Rights Reserved. 19-22 Solutions Manual to accompany Intermediate Accounting, Volume 2, 7th edition Assignment 19-2 Requirement 1 A defined contribution plan gives the employee a pension based on their assigned assets at the retirement date. While the overall target might be 70% of final pay, the actual pension assigned might be higher or lower than this amount. The employees take the risk. In contrast, a defined benefit plan would assign 70% of final pay as a pension, along with other specific terms agreed to in the plan, regardless of the actual assets in the plan. In a defined benefit plan, the company takes the risk. Requirement 2 If the targets were guaranteed, then this would be a defined benefit pension plan, and the company would have to base pension expense on actuarially determined calculations. Requirement 3 TGY expenses the amount paid to the plan for current service, or $375,000. Requirement 4 The immediate beneficiary of higher rates of return on assets (8% versus 6%) is the employee, since pensions are based on assets in the plan when the employee retires, and the more assets, the higher the pension. However, if the amount of the annual payment is re-evaluated every three years, the employer’s required contribution to the plan might be scaled back, or at least not increased as much, if plan earnings are robust. Much depends on the bargaining position of the company and its employees with respect to plan contributions. © 2017 McGraw-Hill Education Ltd. All Rights Reserved. Solutions Manual to accompany Intermediate Accounting, Volume 2, 7th edition 19-23 Assignment 19-3 Requirement 1 A defined benefit plan places financial risk with the sponsoring company, which is not appealing to many companies. In particular, if investment portfolios perform poorly, sponsoring companies have to address the asset shortfall. If workers live longer into retirement, or if specified benefits such as health care coverage are more expensive than the initial prediction, the sponsoring company again is responsible. Additional funding requirements may come at a time when the company is in challenging financial times in relation to its core operations. Note, though, that the company has some potential for upside benefit. If pension asset portfolios perform well, or mortality and cost estimates swing the other way, the employer benefits. In particular, when stock markets provide healthy returns, it is the company that sees the benefit through lower required contributions. Requirement 2 The employee group carries financial risk under defined contribution plans. The risk is that employees will not have accumulated sufficient assets during their working lives to support themselves in retirement, especially if mortality rates decline and retirement lasts longer. Higher than expected medical care costs may also be a factor. In addition to being an individual issue, this may be a social issue as governments attempt to cope with the challenges of elderly poor. Some employees, though, would prefer to make their own investment decisions, prefer the flexibility of having access to retirement savings, and expect that they will not stay with one employer long enough to make a significant claim on pension fund assets. These individuals may prefer a defined contribution program. For others, it is not an attractive form of compensation and may affect an employer’s ability to recruit if there are alternatives. © 2017 McGraw-Hill Education Ltd. All Rights Reserved. 19-24 Solutions Manual to accompany Intermediate Accounting, Volume 2, 7th edition Assignment 19-4 Requirement 1 Pension expense could be $219,000 for the year, based on the amount paid. It could also be $195,000 ($6,500,000 x 3%), which is 3% of actual salaries, and is the amount that the company should have paid. The correct answer depends on the disposition of the $24,000 difference. If this amount has irrevocably passed to the plan, then the expense is $219,000. If the company can get a refund, or apply the overpayment to the contribution for the following year, that is the amount is considered a prepayment towards next year’s payment for example, then pension expense is $195,000 and a prepaid pension asset is set up for the $24,000. Requirement 2 Zio would have pension expense of $130,000, the net amount to be contributed to the fund. Cash paid is $165,000 less the $35,000 forfeited assets. Requirement 3 Year 20X9 Expense Cash paid $144,500 = $100,000 ($100,000 + ($50,000 (P/F 6%,2)) = ($100,000 + $44,500)) 20X10 20X11 $150,000 + ($44,500 x .06) = $152,670 $150,000 + ($47,170 x .06) = $152,830 $150,000 $200,000 = $150,000 + $50,000 (the deferred amount from 20X9) © 2017 McGraw-Hill Education Ltd. All Rights Reserved. Solutions Manual to accompany Intermediate Accounting, Volume 2, 7th edition 19-25 Assignment 19-5 Requirement 1 Pension plan assets: 31 December.............................................................................................. $425,700 1 January ................................................................................................... 439,800 Decrease in pension plan assets ........................................................... ($14,100) Three causes of changes in pension plan assets: 1. Increase or decrease: Actual return on plan assets 2. Increase: Cash received from employer or employees (latter for contributory plan) 3. Decrease: Pension benefits paid to retirees Requirement 2 Defined benefit obligation: 31 December .................................................................................................... $720,500 1 January .......................................................................................................... 601,790 Increase ...................................................................................................... $118,710 Five causes of changes: 1. Increase: Current service cost 2. Decrease: Pension benefits paid to retirees 3. Increase or decrease: Losses or gains on changes in actuarial assumptions 4. Increase: Interest cost 5. Increase or decrease: New past service cost (decrease if benefits decline) (Also acceptable: plan settlement or curtailment: decrease in obligation) Requirement 3 Beginning Defined benefit obligation ............................. $601,790 Plan assets at fair value .................................. 439,800 Underfunded ................................................. $161,990 End $720,500 425,700 $294,800 This is the balance of the net defined benefit liability on the SFP. The underfunded pension status is the cash shortage that would exist if all of the pension benefits (at actuarial present value, including the effects of future salary adjustments) were to be paid on each of the measurement dates. (Note that there is no intention of doing so.) In this case, however, the increasingly-underfunded trend is of some concern. The fact that asset growth was negative during the year implies that returns in the plan assets were an issue, or, less likely, contributions to the plan were minimal. © 2017 McGraw-Hill Education Ltd. All Rights Reserved. 19-26 Solutions Manual to accompany Intermediate Accounting, Volume 2, 7th edition Assignment 19-6 Requirement 1 Three funding approaches and the projections: a) The accumulated benefit method: No projections are made. b) The projected unit credit method: Salaries are projected, but not years of service. c) The level contribution method: Salaries and years of service are projected. Requirement 2 The company’s defined benefit pension plan is only five years old. At this stage, the most likely pairing is: a) The accumulated benefit method: lowest value, $2,500; low because no projections are made. b) The projected unit credit method: mid-range value $3,900; salaries are projected, but not years of service. c) The level contribution method: highest value, $5,000; salaries and years of service are projected. (Note: Later in the life of the plan, the accumulated benefit method requires the highest funding, the level contribution method the lowest, and the projected unit credit method is still mid-range.) Requirement 3 The projected unit credit method must be used for external reporting. The company is not required to use this method for funding, but if they do not, a second set of calculations must be done by the actuary, which can be expensive. If the projected unit credit method is not used for funding, a deferred pension asset or liability will be recorded on the SFP. Requirement 4 The most appealing funding method to: a) Conserve current cash balances—The accumulated benefit method ($2,500). Since it involves no projections, it has the lowest initial funding requirement. b) Equal cash requirements each year—The level contribution method ($5,000) is the only method that produces this pattern. c) Same method as for accounting—The projected unit credit method ($3,900) must be used to measure the accounting expense for external reporting. © 2017 McGraw-Hill Education Ltd. All Rights Reserved. Solutions Manual to accompany Intermediate Accounting, Volume 2, 7th edition 19-27 Assignment 19-7 (WEB) PENSION EXPENSE FUNDED STATUS OF PLAN Liability element increases ACC’D EXPLANATION OCI Lower mortality rates Increase Create loss Higher turnover Decrease Liability element decreases Create gain Wage rollback Decrease Liability element decreases Create gain Workers live longer in retirement and are paid pension longer; pension expense higher. Retrospective element increases cumulative liability; re-measurement is a loss in OCI. Workers do not stay long enough to be retirees. Nonvested pension amounts released to general use. Therefore, pension expense lower. Retrospective element decreases cumulative liability; re-measurement is a gain in OCI. Workers make less money and pension lower on retirement (as long as based on pay and not flat benefit.) Therefore, pension expense lower. Retrospective element decreases cumulative liability; re-measurement is a gain in OCI. ……….Continued © 2017 McGraw-Hill Education Ltd. All Rights Reserved. 19-28 Solutions Manual to accompany Intermediate Accounting, Volume 2, 7th edition Higher borrowing rates Depends on Liability interactions… element See expl. decreases… But see expl. May create gain… But see expl. Higher discount rate. This should cause current service cost to increase, net interest to increase and there should be a gain on the change interest rate assumption, which will reduce the overall defined benefit obligation. The direction of the change in pension expense depends on the size of the change to current service cost versus net interest. Retrospective element decreases cumulative liability; re-measurement is a gain in OCI. May also cause an increase in expected wage assumptions; will have opposite effect as above and cancel out some of the change. May also cause higher actual earnings for pension assets. © 2017 McGraw-Hill Education Ltd. All Rights Reserved. Solutions Manual to accompany Intermediate Accounting, Volume 2, 7th edition 19-29 Assignment 19-8 Requirement 1 Net defined benefit liability, 31 December 20X8 Defined benefit obligation, 31 December 20X8 Pension plan assets, 31 December 20X8 Net defined benefit liability, 31 December 20X8 $6,499,000 cr. 5,398,000 dr. $ 1,101,000 cr. Requirement 2 Defined benefit obligation, 31 December 20X9 Obligation, 1 January 20X9 Current service cost, 20X9 Interest (1) PSC Actuarial revaluation Benefits paid Fair value of plan assets, 31 December 20X9 Value at 1 January 20X9 Actual earnings on plan assets Funding contributions Benefits paid Net defined benefit liability, 31 December 20X9 ($6,224,290 – $5,804,100) $6,499,000 250,400 386,790 (203,200) (603,700) (105,000) $6,224,290 cr. $5,398,000 61,100 450,000 (105,000) $5,804,100dr. $ 420,190 cr. (1) Interest expense on obligation: 6% x (6,499,000 – (105,000 x 6/12)) = 386,790 (2) Interest income: 6% x (5,398,000 – (105,000 x 6/12)) = 320,730 © 2017 McGraw-Hill Education Ltd. All Rights Reserved. 19-30 Solutions Manual to accompany Intermediate Accounting, Volume 2, 7th edition Requirement 3 Entries for three elements, and fund contribution Service cost: Pension expense ($250,400 less $203,200)………………. Net defined benefit asset/liability……………… 47,200 Net interest: Interest expense (see below)…………… Net defined benefit asset/liability……………… 66,060 47,200 66,060 Interest expense on obligation: 6% x (6,499,000 – (105,000 x 6/12)) = 386,790 Interest income: 6% x (5,398,000 – (105,000 x 6/12)) = 320,730 Net interest expense = 386,790 – 320,730 = 66,060 Remeasurements: Accumulated OCI (Experience loss on assets: $320,730 less $61,100)….. Net defined benefit asset/liability……………. 259,630 259,630 Net defined benefit asset/liability ……………….. 603,700 OCI (Revaluation)………………………………………. Contribution: Net defined benefit asset/liability……………….. 450,000 Cash……………………………………………………. 603,700 450,000 Requirement 4 Net defined benefit liability, 31 December 20X9 ($1,101,000 cr. Op. balance + $47,200 cr. + $66,060 cr. + $259,630 cr. - $603,700 dr. – $450,000 dr.) = $ 420,190 cr. Proof: equal to the net defined benefit as calculated in requirement 2 © 2017 McGraw-Hill Education Ltd. All Rights Reserved. Solutions Manual to accompany Intermediate Accounting, Volume 2, 7th edition 19-31 Assignment 19-9 Requirement 1 Net defined benefit liability, 31 December 20X1 Defined benefit obligation, 31 December 20X1 Pension plan assets, 31 December 20X1 Net defined benefit liability, 31 December 20X1 $2,870,000 cr. 1,936,000 dr. $ 934,000 cr. Requirement 2 Defined benefit obligation, 31 December 20X2 Obligation, 1 January 20X2 Current service cost, 20X2 Interest (1) PSC Actuarial revaluation Benefits paid Fair value of plan assets, 31 December 20X2 Value at 1 January 20X2 Actual earnings (loss) on plan assets Funding contributions 1 Feb Benefits paid Net defined benefit liability, 31 December 20X2 ($3,207,628 – $2,006,300) $2,870,000 175,200 138,128 (116,500) 355,700 (214,900) $3,207,628 cr. $1,936,000 (104,800) 390,000 (214,900) $2,006,300 dr. $ 1,201,328 cr. (1) Interest expense on obligation: 5% x (2,870,000 – (214,900 x 6/12)) = 138,128 Interest income: 5% x (1,936,000 – (214,000 x 6/12) + (390,000 x 11/12) ) = 5 % x ( 1,936,000 – 107,450 + 357,500) = 109,303 Requirement 3 Entries for three elements, and fund contribution Service cost: Pension expense ($175,200 less $116,500)………………. Net defined benefit asset/liability……………… 58,700 58,700 © 2017 McGraw-Hill Education Ltd. All Rights Reserved. 19-32 Solutions Manual to accompany Intermediate Accounting, Volume 2, 7th edition Net interest: Interest expense (see below) …………… 28,825 Net defined benefit asset/liability……………… 28,825 Interest expense on obligation: 5% x (2,870,000 – (214,900 x 6/12)) = 138,128 Interest income: 5% x (1,936,000 – (214,000 x 6/12) + (390,000 x 11/12) ) = 5 % x ( 1,936,000 – 107,450 + 357,500) = 109,303 Total net interest cost = 138,128 – 109,303 = 28 825 Remeasurements: OCI (Experience loss on assets: $109,303 plus $104,800)….. 214,103 Net defined benefit asset/liability……………… 214,103 OCI (Revaluation) …………………………………………… 355,700 Net defined benefit asset/liability ………………… 355,700 Contribution: Net defined benefit asset/liability……………….. Cash……………………………………………………. 390,000 390,000 Requirement 4 Net defined benefit liability, 31 December 20X2 ($934,000 cr. Op. balance + $58,700 cr. + $28,825 cr. + $214,103 cr. + $355,700 cr. – $390,000 dr.) = $ 1,201,328 cr. Proof: equal to the net defined benefit liability per requirement 2 © 2017 McGraw-Hill Education Ltd. All Rights Reserved. Solutions Manual to accompany Intermediate Accounting, Volume 2, 7th edition 19-33 Assignment 19-10 Requirement 1 Net defined benefit liability, 31 December 20X1 Defined benefit obligation, 31 December 20X1 Pension plan assets, 31 December 20X1 Net defined benefit liability, 31 December 20X1 $106,000 cr. 78,000 dr. $ 28,000 cr. Requirement 2 Defined benefit obligation, 31 December 20X2 Obligation, 1 January 20X2 Current service cost, 20X2 Interest (1) PSC Actuarial revaluation Benefits paid Fair value of plan assets, 31 December 20X2 Value at 1 January 20X2 Actual earnings on plan assets Funding contributions Benefits paid Net defined benefit liability, 31 December 20X2 ($106,830 - $74,200) (proof for requirement 4) $106,000 6,700 6,930 3,700 (2,500) (14,000) $106,830 cr. $78,000 3,200 7,000 (14,000) $74,200 dr. $32,630 cr. (1) Interest expense on obligation: 7% x (106,000 – (14,000 x 6/12)) = 6,930 Interest income: 7% x (78,000 – (14,000 x 6/12) + (7,000 x 1/12) ) = 7 % x ( 78,000 – 7,000 + 583) = 5,011 Total net interest cost = 6,930 – 5,011 = 1,919 © 2017 McGraw-Hill Education Ltd. All Rights Reserved. 19-34 Solutions Manual to accompany Intermediate Accounting, Volume 2, 7th edition Requirement 3 Entries for three elements, and fund contribution Service cost: Pension expense ($6,700 plus $3,700)……………………………. Net defined benefit liability ..…………………………. Net interest: Interest expense - see below………………. Net defined benefit liability .………………………… 10,400 10,400 1,919 1,919 Interest expense on obligation: 7% x (106,000 – (14,000 x 6/12)) = 6,930 Interest income: 7% x (78,000 – (14,000 x 6/12) + (7,000 x 1/12) ) = 7 % x (78,000 – 7,000 + 583) = 5,011 Total net interest cost = 6,930 – 5,011 = 1,919 Remeasurements: OCI (Experience loss on assets: $5,011 expected less $3,200 actual)………………………………………………………………. Net defined benefit liability……………………………. Net defined benefit liability ………………………………. OCI -pension……………………………….. Contribution: Net defined benefit liability…………………………….. Cash…………………………………………………………….. 1,811 1,811 2,500 2,500 7,000 7,000 Requirement 4 Net defined benefit liability, 31 December 20X2 ($28,000 cr. Op. balance + $10,400 cr. + $1,919 cr. + $1,811 cr. $2,500 dr. - $7,000 dr.)) Proof; equal to the net defined benefit as calculated in requirement 2 $32,630 cr. © 2017 McGraw-Hill Education Ltd. All Rights Reserved. Solutions Manual to accompany Intermediate Accounting, Volume 2, 7th edition 19-35 Assignment 19-11 (WEB) Requirement 1 Net defined benefit liability/asset, 31 December 20X8 Pension plan assets, 31 December 20X8 Defined benefit obligation, 31 December 20X8 Net defined benefit asset, 31 December 20X8 Asset ceiling maximum Difference to OCI $702,000 dr. 496,000 cr. $206,000 dr. 120,000 86,000 Note: Since the defined benefit obligation is less than the pension plan assets, the asset ceiling test must be performed Requirement 2 Defined benefit obligation, 31 December 20X8 Obligation, 1 January 20X9 Current service cost, 20X9 Interest (1) PSC Actuarial revaluation Benefits paid Fair value of plan assets, 31 December 20X8 Value at 1 January 20X9 Actual earnings (loss) on plan assets Funding contributions Benefits paid Net defined benefit liability, 31 December 20X9 ($683,300 - $319,850) (Proof for requirement 4) $496,000 9,100 24,620 56,000 (12,000) (7,200) $566,520 cr. $702,000 (17,500) 6,000 (7,200) $683,300 dr. $116,780 dr. Note that the maximum surplus recoverable is $125,000, so there is no reduction required for the net surplus balance at Dec 20X9 and the effect of the ceiling recorded in 20X8 in addition to the interest cost must be reversed. (1) Interest cost: (496,000 – (7,200 x 6/12) ) x 5% = 492,400 x 5% = 24,620 © 2017 McGraw-Hill Education Ltd. All Rights Reserved. 19-36 Solutions Manual to accompany Intermediate Accounting, Volume 2, 7th edition Interest income: 702,000 – (7,200 x 6/12) + (6,000 x 8/12)) x 5% = (702,000– 3,600 + 4,000) x 5% = 35,120 Interest on effect of ceiling cap 86,000 x 5% = 4,300 Total net interest income = 35,120 - 4,300 – 24,620 = 6,200 Proof: (120,000 + (6,000 x 8/12)) x 5% = 6,200 Requirement 3 Entries for three elements, and fund contribution Service cost: Pension expense ($9,100 plus $56,000)………………………….. Net defined benefit asset/liability……………………… Net interest: Net defined benefit asset/liability ………………………. Interest income 65,100 65,100 6,200 6,200 Same as above in requirement 2 (1) Interest cost: (496,000 – (7,200 x 6/12) ) x 5% = 492,400 x 5% = 24,620 Interest income: 702,000 – (7,200 x 6/12) + (6,000 x 8/12)) x 5% = (702,000– 3,600 + 4,000) x 5% = 35,120 Interest on effect of ceiling cap 86,000 x 5% = 4,300 Total net interest income = 35,120 - 4,300 – 24,620 = 6,200 Proof: (120,000 + (6,000 x 8/12)) x 5% = 6,200 Remeasurements: OCI ………………………………………………… Net defined benefit asset/liability (Experience loss on assets: $35,120 expected and $17,500 loss actual)…………… The adjustment for the difference expected return and actual return. Net defined benefit asset/liability …………………….. 52,620 52,620 12,000 © 2017 McGraw-Hill Education Ltd. All Rights Reserved. Solutions Manual to accompany Intermediate Accounting, Volume 2, 7th edition 19-37 OCI (Revaluation)…………………………………………… The adjustment for the actuarial revaluation Effect of ceiling adjustment Net defined benefit asset/liability …………………….. OCI (Revaluation) (86,000 + 4,300) …………………………….. The original ceiling effect plus relate interest Contribution: Net defined benefit asset/liability ………………………. Cash…………………………………………………………….. 12,000 90,300 90,300 6,000 6,000 Requirement 4 Net defined benefit liability, 31 December 20X9 ($120,000 dr. Op. balance - $65,100cr. + $6,200 dr. - $52,620 cr. + $12,000 dr. + 90,300 dr. + $6,000 dr.)) Proof; equal to the net defined benefit as calculated in requirement 2 $116,780 cr. © 2017 McGraw-Hill Education Ltd. All Rights Reserved. 19-38 Solutions Manual to accompany Intermediate Accounting, Volume 2, 7th edition Assignment 19-12 Requirement 1 Defined benefit obligation, 31 December 20X1 Obligation, 1 January 20X1 ($793,500 SFP after a $344,000 asset) Current service cost, 20X1 Interest (1) Actuarial revaluation Benefits paid $1,137,500 219,200 49,894 115,000 (57,500) $1,464,094cr. Fair value of plan assets, 31 December 20X1 Value at 1 January 20X1 Actual earnings on plan assets Funding contributions Benefits paid $344,000 12,000 424,000 (57,500) $722,500 dr. Net defined benefit liability, 31 December 20X1 ($1,464,094 - $722,500) $741,594 cr. Interest cost: (1,137,500 – (57,500 x 6/12) ) x 4.5% = 49,894 Interest income: 344,000– (57,500 x 6/12) + (424,000 x 10/12) ) x 4.5% = (344,000 – 28,750 + 353,333) x 4.5% = 30,086 Total net interest expense = 49,894 – 30,086 = 19,808 Requirement 2 Entries for three elements, and fund contribution Service cost: Pension expense …………………………………………………. Net defined benefit liability ……….………………… Net interest: Interest expense………………………………………………… Net defined benefit liability …........................................ 219,200 219,200 19,808 19,808 Revaluation: © 2017 McGraw-Hill Education Ltd. All Rights Reserved. Solutions Manual to accompany Intermediate Accounting, Volume 2, 7th edition 19-39 OCI ……………………………………………………………… Net defined benefit liability (Experience loss on assets: $30,086 expected less $12,000 actual income)…………………….. OCI (Revaluation) ……………………………………………….. Net defined benefit liability …………………………... Contribution: Net defined benefit liability…………………………… Cash…………………………………………………………….. 18,086 18,086 115,000 115,000 424,000 424,000 Proof: Net defined benefit liability, 31 December 20X1 ($793,500 cr. Op. balance + $219,200cr. + $19,808 cr. + $18,086cr. + $115,000 cr. - $424,000 dr.)) = 741,594 Proof; equal to the net defined benefit as calculated in requirement 1 © 2017 McGraw-Hill Education Ltd. All Rights Reserved. 19-40 Solutions Manual to accompany Intermediate Accounting, Volume 2, 7th edition Requirement 3 On the SCI: Earnings (given, excluding pension expense) $ 4,000,000 cr. Pension expense 219,200 dr. Interest expense 19,808 dr. Earnings $ 3,760,992 cr. Other comprehensive income: Pension adjustments ($18,086 dr. and $115,000 dr.) Comprehensive income 133,086 dr. $ 3,627,906 cr. On the Statement of Changes in Equity: Opening balance (given) Comprehensive income Closing balance Retained earnings $ 5,500,000 cr. Accumulated OCI, Pension $ 80,400 dr. 3,760,992 cr. 133,086 dr. $ 9,260,992 cr. $ 213,486 dr. On the SFP: Long-term liability: Net defined benefit liability (see below) Equity: $ 741,594 cr. Retained earnings $ 9,260,992 cr. Accumulated OCI, pension $ 213,486 dr. Net defined benefit liability, 31 December 20X1 $741,594 cr. Proof: Net defined benefit liability, 31 December 20X1 ($793,500 cr. Op. balance + $219,200cr. + $19,808 cr. + $18,086cr. + $115,000 cr. - $424,000 dr.)) = 741,594 Proof; equal to the net defined benefit as calculated in requirement 1 © 2017 McGraw-Hill Education Ltd. All Rights Reserved. Solutions Manual to accompany Intermediate Accounting, Volume 2, 7th edition 19-41 Assignment 19-13 Requirement 1 Entries for three elements, and fund contribution Service cost: Pension expense…………………………………………………….. Net defined benefit liability .…………………………… Net interest: Pension expense (($1,400,200 - $1,075,790) = $324,410 × 6%) $19,465 (components are $84,012 ($1,400,200 × 6%) less expected earnings of $64,547 ($1,075,790 × 6%)…………………………… Net defined benefit liability ........................................... Revaluation: Net defined benefit liability (Experience gain on assets: $151,685 actual and $64,547 (1,075,790 x 6%) expected income) …………………….. OCI……………………………………………………………….. Net defined benefit liability …………………..………….. OCI (Revaluation gain) ………………………………………… Contribution: Net defined benefit liability……………………………… Cash………………………………………………………………. 85,375 85,375 19,465 19,465 87,138 87,138 70,000 70,000 54,228 54,228 Requirement 2 On the SCI: Earnings (given, excluding pension expense) Pension expense ($85,375 + $19,465) Earnings $ 5,850,000 cr. 104,840 dr. $ 5,745,160 cr. Other comprehensive income: Pension adjustments ($87,138 cr. and $70,000 cr.) Comprehensive income 157,138 cr. $ 5,902,298 cr. © 2017 McGraw-Hill Education Ltd. All Rights Reserved. 19-42 Solutions Manual to accompany Intermediate Accounting, Volume 2, 7th edition On the Statement of Changes in Equity: Opening balance (given) Comprehensive income Closing balance Retained earnings $ 7,800,000 cr. Accumulated OCI, Pension $ 100,900 dr. 5,745,160 cr. 157,138 cr. $ 13,545,160cr. $ 56,238 cr. Net defined benefit liability (see below) Equity: $ 217,884 cr. Retained earnings $ 13,545,160 cr. Accumulated OCI, pension $ On the SFP: Long-term liability: 56,238 cr. Net defined benefit liability, 31 December 20X8 ($324,410 cr. Op. balance + $85,375 cr. + $19,465 cr. - $87,138 dr. - $70,000 cr. - $54,228 dr.) Proof; equal to the net defined benefit as calculated by (PBO $1,281,703 fund assets) (PBO = $1,400,200 + $85,375 - $70,000 + $84,012 interest = $1,499,587) ($1,499,587 - $1,281,703) = $217,884 $217,884 cr. © 2017 McGraw-Hill Education Ltd. All Rights Reserved. Solutions Manual to accompany Intermediate Accounting, Volume 2, 7th edition 19-43 Assignment 19-14 Pension expense: Element 1: Current service cost ........................................................................ $ 87,500 Element 1: Less gain on curtailment ($75,000 - $45,000) ................................ (30,000) Element 2: Net interest on net defined benefit liability (see below) ................. 32,238 Pension expense for 20x4 ................................................................................. $ 89,738 Change to accumulated OCI in 20X4: Element 3: Experience gain on defined benefit obligation, 20x4 ..................... (21,870)cr Element 3: Experience gain on fund earnings ($85,900 - $42,750 (See below)) (43,150)cr Total .................................................................................................................. $(65,020) cr Net Interest: (All funding is made at the end of the year and no benefits made.) Beginning of 20X4: Defined benefit obligation ..........................................................................$1,249,800 Fund assets .................................................................................................. 712,500 Balance ........................................................................................................($ 537,300) Interest on balance @ 6% ........................................................................... $ 32,238 Interest expense: 1,249,800 x 6% = 74,988 Interest income: 712,500 x 6% = 42,750 Net amount: 74,988 – 42,750 = 32,238 © 2017 McGraw-Hill Education Ltd. All Rights Reserved. 19-44 Solutions Manual to accompany Intermediate Accounting, Volume 2, 7th edition Assignment 19-15 Requirement 1 20x5 Pension expense ………………………………………………….. Net defined benefit asset/liability…………………… Net interest: Pension expense (all interest expense; no plan assets) Net defined benefit asset/liability ..………………….. Contribution: Net defined benefit asset/liability ………………………. Cash…………………………………………………………….. 150,000 150,000 15,000 15,000 200,000 200,000 20x6 Pension expense ………………………………………………….. Net defined benefit asset/liability……………………… 145,000 145,000 Net interest: Pension expense …………………………………………………. Net defined benefit asset/liability ..………………….. 11,000 Contribution: Net defined benefit asset/liability ………………………. Cash…………………………………………………………….. 185,000 11,000 185,000 © 2017 McGraw-Hill Education Ltd. All Rights Reserved. Solutions Manual to accompany Intermediate Accounting, Volume 2, 7th edition 19-45 Requirement 2 Net defined pension asset ($200,000 + $185,000 - $150,000 – $15,000 - $145,000 - $11,000) This is equal to: Defined benefit obligation ($150,000 + $145,000+ $15,000 + $31,000*) Compared to: Fund assets ($200,000 + $185,000 + $20,000*) $64,000 $341,000 $405,000 $64,000 *Note: the net interest of $11,000 is made up of: Interest expense: (150,000 + 15,000 + 145,000) x 10% = 31,000 Interest income: 200,000 x 10% = 20,000 Net interest expense = 11,000 Requirement 3 The limit on net defined benefit assets is the amount that can be recovered in the future. Future benefits might be a pension payment holiday in an over-funded plan, or a refund to the employer. Requirement 4 To record an asset ceiling of $51,500 for the net defined benefit asset: OCI pension .................................................................................. 12,500* Net defined benefit asset ......................................................... 12,500 *Note: the adjustment is computed as the difference between the asset ceiling of $51,500 and the net defined benefit asset of $64,000 (before the asset ceiling is recognized) per requirement 2. On the SFP: Net defined pension asset ($64,000 - $12,500) $51,500 © 2017 McGraw-Hill Education Ltd. All Rights Reserved. 19-46 Solutions Manual to accompany Intermediate Accounting, Volume 2, 7th edition Assignment 19-16 Pension Obligation 20x7 Beginning - PSC CSC Net Interest 4% * ($1,640 - $0) Pension Expense $ (1,640,000) $ 1,640,000 (117,000) (65,600) 117,000 65,600 Funding $(1,822,600) 20x8 CSC Net interest (4% of $1,822.6) and (4% of $317) Plan Assets (157,000) (72,904) 200,000 117,000 $317,000 12,680 (5,880) 37,000 41,400 Funding $(1,974,104) AOCI 1,822,600 (1,822,600) 317,000 $(1,505,600) 157,000 60,224 217,224 Actual return versus expected ($12.68 $6.8) Revaluation Benefits paid Net defined benefit Asset (Liab) (217,224) (5,880) 5,880 dr 37,000 37,000 cr (41,400) 200,000 157,000 $ 639,400 357,000 $(1,334,704) $31,120 © 2017 McGraw-Hill Education Ltd. All Rights Reserved. Solutions Manual to accompany Intermediate Accounting, Volume 2, 7th edition 19-47 Assignment 19-17 Pension Obligation 20x7 Opening CSC Net Interest (6% of $4,975,000) and (6% of $3,705,000) Actual return versus expected ($222,300 $276,000) Revaluation ($4,975,000) (430,000) (298,500) Plan Assets Pension Expense $3,705,000 222,300 53,700 (406,000) 235,000 ($5,874,500) (235,000) 510,000 $4,256,000 Accumulated OCI $(1,270,000) (1) 787,000dr. 53,700 (53,700)cr. (406,000) (506,200) 406,000dr. 510,000 ($1,618,500) ______ $1,139,300 dr. $430,000 76,200 $506,200 Benefits paid Funding Net defined benefit Asset (Liab) (1) $4,975,000 - $3,705,000 © 2017 McGraw-Hill Education Ltd. All Rights Reserved. 19-48 Solutions Manual to accompany Intermediate Accounting, Volume 2, 7th edition Pension Obligation 20x8 Opening CSC Net Interest (6% of $5,874,500) and (6% of $4,256,000) Actual return versus expected ($255,360 $80,000) PSC – reduction in liability and expense ($5,874,500) (488,000) (352,470) Plan Assets Pension Expense $4,256,000 255,360 295,000 ($6,374,970) ($1,618,500) $1,139,300 dr. (175,360) 175,360 dr. (45,000) $540,110 Benefits paid Funding Accumulated OCI $488,000 97,110 (175,360) 45,000 Net defined benefit Asset (Liab) (295,000) 525,000 $4,566,000 Solutions Manual to accompany Intermediate Accounting, Volume 2, 7th edition (540,110) 525,000 ($ 1,808,970) $1,314,660 dr. © 2017 McGraw-Hill EducationLtd. All Rights Reserved. 19-49 Assignment 19-18 Requirement 1 Pension Obligation 20x5 Beginning - PSC CSC Interest – 5% Plan Assets ($200,000) 0 (67,000) (10,000) Funding ($277,000) Pension Expense Net defined benefit Asset (Liab) Accumulated OCI $200,000 67,000 10,000 99,500 $99,500 $277,000 ($277,000) 99,500 ($177,500) 0 Requirement 2 Pension Obligation 20x6 Opening CSC Net Interest ($277,000 x .05) and ($99,500 x 5%) PSC (new) Actual return versus expected ($4,975 $8,900) Revaluation ($277,000) (96,000) (13,850) Plan Assets Pension Expense $99,500 4,975 (40,000) ($177,500) Accumulated OCI 0 $96,000 8,875 40,000 3,925 3,925 (3,925) cr. 35,000 dr. 118,000 (35,000) (144,875) 118,000 (35,000) $144,875 Funding Net defined benefit Asset (Liab) © 2017 McGraw-Hill Education Ltd. All Rights Reserved. 19-50 Solutions Manual to accompany Intermedia ($461,850) $226,400 $31,075 dr. ($235,450) © 2017 McGraw-Hill Education Ltd. All Rights Reserved. Solutions Manual to accompany Intermediate Accounting,Volume 2, 7th edition 19-51 Assignment 19-19 Pension Obligation 20x3 Opening balance CSC Net interest* Actual return versus expected ($17,815 + $17,000) Assumptions Funding Benefits paid 20x4 CSC Net Interest ** Actual versus expected return ($17,940 - $21,000) Assumptions Funding Benefits paid ($509,100) (49,000) (25,455) Plan Assets $356,300 17,815 (34,815) (86,000) 45,500 (624,055) (42,000) (31,203) Pension Expense 65,000 ( 45,500) 358,800 82,000 (106,000) $55,263 * ($625,258) $355,800 ($509,100 x 5%) and ($356,300 x 5%) © 2017 McGraw-Hill Education Ltd. All Rights Reserved. 19-52 $(152,800) 72,700 dr. (34,815) 34,815 dr. (86,000) (56,640) 65,000 86,000dr. (265,255) ______ 193,515 dr. 3,060 (3,060) cr. (34,000) 82,000 34,000 dr. $42,000 13,263 (34,000) 106,000 Accumulated OCI $49,000 7,640 _______ $56,640 17,940 3,060 Net defined benefit Asset (Liab) ( 55,263) ($269,458) $224,455 dr. Solutions Manual to accompany Intermediate Accounting, Volume 2, 7th edition ** ($624,055 x 5%) and ($358,800 x 5%) Solutions Manual to accompany Intermediate Accounting,Volume 2, 7th edition 19-53 © 2017 McGraw-Hill Education Ltd. All Rights Reserved. 19-53 Assignment 19-20 (WEB) Pension Obligation 20x4 – Opening CSC Fund–1 Jan. Net Interest (5% x $416,000); (5% of $90,000) Expected versus actual earnings ($4,500 - $1,000) Fund 31 Dec $51,000 + $90,000 20X5 CSC Net Interest (5% of $487,800) and (5% of $232,000) Fund - 31 Dec $57,000 + $90,000 +$16,000 Expected versus actual earnings ($11,600 - $16,800) Actuarial Assumptions ($416,000) (51,000) (20,800) Plan Assets 0 90,000 4,500* Pension Expense $416,000 51,000 (57,000) (24,390) 11,600 (3,500) $3,500 dr. (483,300) 141,000 (255,800) _____ 3,500 dr. $57,000 12,790 163,000 163,000 5,200 5,200 _______ $69,790 ( 16,000) ($585,190) 0 16,300 _______ $483,300 141,000 232,000 Accumulated OCI 90,000 (3,500) _______ (487,800) Net defined benefit Asset (Liab) 0 $411,800 *$90,000 invested 1 January and earning interest in 20x4 © 2017 McGraw-Hill EducationLtd. All Rights Reserved. 19-54 Solutions Manual to accompany Intermediate Accounting, Volume 2, 7th edition (69,790) (16,000) ($173,390) (5,200) cr. 16,000 dr. $14,300 dr. Assignment 19- 21 Requirements 1-3 Requested information is in bold below Projected obligation dr./(cr.) Beginning balances Current service cost Interest on net obl. (see below) Actual return on assets versus expected ($4,113-$350) Benefit payments Funding contribution $(69,000) (16,000) (4,410) Plan assets dr./(cr.) OPEB expense dr./(cr.) $58,000 4,113 Accumulated OCI OPEBs $23,000dr. $16,000 297 (3,763) (3,763) ______ (R2)16,297 (12,000) 9,000 (R1)$(77,410)(R1) $55,350 Net OPEB asset (liability) $(11,000) 3,763dr. (16,297) 12,000 9,000 (R3)(22,060) ______ (R3) $26,763dr. Net Interest expense Interest expense: 69,000 – (12,000 benefit payment x 6/12) x 7% = 4,410 Interest income: (58,000 – (12,000 benefit payment x 6/12) + (9,000 x 9/12)) x 7% = (58,000 – 6,000 + 6,750) x 7% = 4,113 Net interest = 4,410 – 4,113 = 297 © 2017 McGraw-Hill Education Ltd. All Rights Reserved. Solutions Manual to accompany Intermediate Accounting, Volume 2, 7th edition 19-55 Assignment 19-22 Requirements 1-3 Requested information is in bold below Beginning balances Current service cost Interest on net obl. See below: Actual return on assets versus expected ** ($0-0) Actuarial revaluation – reduction to liability and gain Projected Plan OPEB obligation dr./(cr.) assets dr./(cr.) expense dr./(cr.) $(1,282,000) (211,000) (59,675) $ 0 300,000 177,000 (R1) $(1,075,675) Accumulat ed OCI OPEBs OPEB asset (liability) $(1,282,000)* $186,000dr $211,000 59,675 300,000 (300,000)cr (R2)$270,675 Benefit payments Funding contribution Accrued (177,000) 178,000 (R1) $1,000 (270,675) 178,000 ______ (R3) (R3) ($1,074,675) $(114,000) cr * Column 1 less column 2 ** Line can be omitted; included here only for demonstration purposes Interest cost: (5% x ($1,282,000 – (177,000 benefit payment x 6/12))) = 59,675 © 2017 McGraw-Hill Education Ltd. All Rights Reserved. 19-56 Solutions Manual to accompany Intermediate Accounting, Volume2, 7th edition Assignment 19-23 Beginning balances Current service cost Interest on obl. and assets (5%) Note 2 and Note 3 Actual return on assets versus expected ($1,075-$600) Actuarial loss Benefit payments Funding contribution Projected Plan OPEB Net obligation dr./(cr.) assets dr./(cr.) expense dr./(cr.) OPEB asset (liability) $(544,800)(1) $(566,300) (67,800) (28,315) $21,500 1,075 43,900 $(653,515) ______ $95,040 (43,900) 46,400 $24,600 $45,000 $67,800 27,240 (475) (35,000) Accumulated OCI OPEB (475) 475 (35,000) (95,040) 35,000 46,400 $(628,915) _______ $80,475 (1) $566,300 - $21,500 = $544,800 (2) Interest expense = 566,300 x 5% = 28,315 (3) Interest income = 21,500 x 5% = 1,075 © 2017 McGraw-Hill Education Ltd. All Rights Reserved. Solutions Manual to accompany Intermediate Accounting, Volume 2, 7th edition 19-57 Assignment 19-24 Requirement 1 The discount rate for the defined benefit pension obligation is based on interest rates for long-term debt in corporate bond markets. Long-term interest rates for a similar term as cash flows expected for the pension plan are used. The rate has declined, which means that there is less interest cost for pension expense, but the discounted present value of benefits is higher. The interplay of these two factors will dictate the exact change to pension expense. The weighted average rate of compensation increase would be set with reference to future salary levels, which are based in part on the inflation rate. Other factors are labour force composition, industry trends, and overall trends in the economy. Salary rate increases are lower this year, which means that future benefits are lower and pension expense should decline. The retention rate would be estimated with reference to past retention rates, and conditions on the labour market. Factors might include wage rate increases, and (again) labour force composition, industry trends, and overall trends in the economy. Retention rates are lower this year, which means that future benefits are lower and pension expense should decline. Note that “best estimates” must be used for all assumptions; these estimates must be consistent. Requirement 2 In 20X2, the pension fund has obligations of $612 and assets of $545. It is therefore underfunded in the amount of $67 by accounting measures. This is an improvement from the underfunded position of $91 in the prior year. The net position of the fund is reported on the SFP and thus a liability of $67 ($91 in 20x1) appears on the SFP. Requirement 3 Actuarial amounts are recorded in OCI. These include retrospective and prospective remeasurement of the projected benefit obligation for changes in assumptions such as interest rate, salary rate changes, retention and other demographics. The OCI amounts also include the difference between actual fund earnings, which may be volatile, and expected earnings on fund assets, measured using a stable rate based on long-term bond yields with similar term, risk and currency as the cash flows expected for the pension plan. OCI amounts are not recycled to earnings, but are a permanent element of equity. OCI amounts may be transferred to another equity account, such as retained earnings. © 2017 McGraw-Hill Education Ltd. All Rights Reserved. 19-58 Solutions Manual to accompany Intermediate Accounting, Volume2, 7th edition Assignment 19-25 Requirement 1 Pension expense: Current service Finance cost (1) Re-measurements: Experience loss on assets (2) Past service Revaluation Pension expense (recovery) (3) $ 250,400 66,060 262,780 (203,200) (603,700) $(227,660) (Recovery): Net defined benefit asset/liability ……………. 227,660 Pension expense (recovery)……………………………………. Contribution: Net defined benefit asset/liability……………….. 450,000 Cash……………………………………………………. 227,600 450,000 (1) ($1,101,000* × 6%) Interest expense 6,499,000 x 6% = 389,940 Interest income: 5,398,000 x 6% = 323,880 Net interest = 389,940 – 323,880 = 66,060 * Net defined benefit liability, 31 December 20X8 Defined benefit obligation, 31 December 20X8 Pension plan assets, 31 December 20X8 Net defined benefit liability, 31 December 20X8 $6,499,000 cr. 5,398,000 dr. $ 1,101,000 cr. (2) Experience loss on assets: $323,880 less $61,100 = 262,780 (3) Alternate calculation based on finance cost for liability only, and actual return; also acceptable and provides the same end result: $250,400 +$389,940 - $61,100 $203,200 - $603,700 = ($227,660) Note: Students may prepare a series of entries, or do an overall calculation of the expense and record it in a summary entry. Either approach is acceptable, but the assignment specified one summary entry. © 2017 McGraw-Hill Education Ltd. All Rights Reserved. Solutions Manual to accompany Intermediate Accounting, Volume 2, 7th edition 19-59 Requirement 2 Net defined benefit liability, 31 December 20X9 ($1,101,000 cr. Op. balance - $227,660 dr. – $450,000 dr.) = $ 423,340 cr. Proof: equal to the net defined benefit as calculated in A19-8 or below Defined benefit obligation, 31 December 20X9 Obligation, 1 January 20X9 Current service cost, 20X9 Interest (6% of opening balance) PSC Actuarial revaluation Benefits paid Fair value of plan assets, 31 December 20X9 Value at 1 January 20X9 Actual earnings on plan assets Funding contributions Benefits paid Net defined benefit, 31 December 20X9 ($6,227,440 – $5,804,100) $6,499,000 250,400 389,940 (203,200) (603,700) (105,000) $6,227,440 cr. $5,398,000 61,100 450,000 (105,000) $5,804,100 dr. $ 423,340 cr. © 2017 McGraw-Hill Education Ltd. All Rights Reserved. 19-60 Solutions Manual to accompany Intermediate Accounting, Volume2, 7th edition Assignment 19-26 Requirement 1 Pension expense: Current service Finance cost (1) interest only Actual return Re-measurements: Past service Revaluation Pension expense (3) $ 175,200 143,500 104,800 (116,500) 355,700 $ 662,700 Expense: Pension expense ……………. ………………………… 662,700 Net defined benefit asset/liability..…………. 662,700 Contribution: Net defined benefit asset/liability……………….. 390,000 Cash……………………………………………………. 390,000 (1) ($2,870,000* × 5%) = 143,500 Interest expense: ($2,870,000* × 5%) = 143,500 Interest income: 1936,000 x 5% = 96,800 Net interest expense: 143,500 – 96,800 = 46,700 Net defined benefit liability, 31 December 20X1 Defined benefit obligation, 31 December 20X1 Pension plan assets, 31 December 20X1 Net defined benefit liability, 31 December 20X1 $2,870,000 cr. 1,936,000 dr. $ 934,000 cr. Note: Students may prepare a series of entries, or do an overall calculation of the expense and record it in a summary entry. Either approach is acceptable, but the assignment specified one summary entry. © 2017 McGraw-Hill Education Ltd. All Rights Reserved. Solutions Manual to accompany Intermediate Accounting, Volume 2, 7th edition 19-61 Requirement 2 Net defined benefit liability, 31 December 20X2 ($934,000 cr. Op. balance + $662,700 cr. – $390,000 dr.) = $ 1,206,700 cr. Proof: equal to the net defined benefit as calculated in A19-9 or below Defined benefit obligation, 31 December 20X2 Obligation, 1 January 20X2 Current service cost, 20X2 Interest (5% of opening balance) PSC Actuarial revaluation Benefits paid Fair value of plan assets, 31 December 20X2 Value at 1 January 20X2 Actual earnings (loss) on plan assets Funding contributions Benefits paid Net defined benefit, 31 December 20X2 ($3,213,000 – $2,006,300) $2,870,000 175,200 143,500 (116,500) 355,700 (214,900) $3,213,000cr. $1,936,000 (104,800) 390,000 (214,900) $2,006,300 dr. $ 1,206,700 cr. © 2017 McGraw-Hill Education Ltd. All Rights Reserved. 19-62 Solutions Manual to accompany Intermediate Accounting, Volume2, 7th edition Assignment 19-27 Requirement 1 Pension expense: Current service Finance cost (1) Re-measurements: Experience loss on assets (2) Past service Revaluation Pension expense (3) Expense: Pension expense ……………. ………………………… Net defined benefit asset/liability..…………. Contribution: Net defined benefit asset/liability……………….. Cash………………………………………………….. $ 6,700 1,960 2,260 3,700 (2,500) $12,120 12,120 12,120 7,000 7,000 (1) ($28,000* × 7%) = 1,960 Interest expense 106,000 x 7% = 7,420 Interest income 78,000 x 7% = 5,460 Net interest = 7,420 – 5,460 = 1,960 * Net defined benefit liability, 31 December 20X1 Defined benefit obligation, 31 December 20X1 Pension plan assets, 31 December 20X1 Net defined benefit liability, 31 December 20X1 $106,000 cr. 78,000 dr. $ 28,000 cr. (2) Experience loss on assets: $5,460 less $3,200 (3) Alternate calculation based on finance cost for liability only, and actual return; also acceptable and provides the same end result: $6,700 +$7,420 - $3,200 +$3,700 - $2,500 = $12,120 Note: Students may prepare a series of entries, or do an overall calculation of the expense and record it in a summary entry. Either approach is acceptable, but the assignment specified one summary entry. © 2017 McGraw-Hill Education Ltd. All Rights Reserved. Solutions Manual to accompany Intermediate Accounting, Volume 2, 7th edition 19-63 Requirement 2 Net defined benefit liability, 31 December 20X2 ($28,000 cr. Op. balance + $12,120 cr. – $7,000 dr.) = $ 33,120 cr. Proof: equal to the net defined benefit as calculated in A19-10 or below: Defined benefit obligation, 31 December 20X2 Obligation, 1 January 20X2 Current service cost, 20X2 Interest (7% of opening balance) PSC Actuarial revaluation Benefits paid Fair value of plan assets, 31 December 20X2 Value at 1 January 20X2 Actual earnings on plan assets Funding contributions Benefits paid Net defined benefit, 31 December 20X2 ($107,320 - $74,200) $106,000 6,700 7,420 3,700 (2,500) (14,000) $107,320 cr. $78,000 3,200 7,000 (14,000) $74,200 dr. $33,120 cr. © 2017 McGraw-Hill Education Ltd. All Rights Reserved. 19-64 Solutions Manual to accompany Intermediate Accounting, Volume2, 7th edition Assignment 19-28 (WEB) Requirement 1 and Requirement 2 Pension expense: Current service Finance cost (revenue)(1) Re-measurements: Experience loss on assets (2) Past service Revaluation Change in valuation allowance (3) Pension expense (4) $ 9,100 (6,000) 52,600 56,000 (12,000) (90,300) $9,400 Expense: Pension expense ……………. ………………………… 9,400 Net defined benefit asset/liability..…………. 9,400 Contribution: Net defined benefit asset/liability……………….. 6,000 Cash……………………………………………………. 6,000 (1) Net interest income Interest expense on the obligation 496,000 x 5% = 24,800 Interest income on the plan asset less the valuation allowance = (702,000) x 5% = 35,100 Interest on the valuation allowance = 86,000 x 5% = 4,300 Total net interest income: -24,800 + 35,100 - 4,300 = 6,000 Proof = $120,000 x 5% = $6,000 * Net defined benefit asset, 31 December 20X8 Defined benefit obligation, 31 December 20X8 Pension plan assets, 31 December 20X8 Net defined benefit asset, 31 December 20X8 Since the maximum surplus recoverable is $120,000 Valuation allowance Net defined benefit asset balance 31 December 20X8 $496,000 cr. 702,000 dr. $ 206,000 dr. (86,000) 120,000 (2) Experience loss on assets: $35,100 plus $17,500 = 52,600 © 2017 McGraw-Hill Education Ltd. All Rights Reserved. Solutions Manual to accompany Intermediate Accounting, Volume 2, 7th edition 19-65 (3) The change in the valuation allowance: To determine the change in the valuation allowance, the closing balance of the net defined benefit asset needs to be compared to the asset ceiling limit. The calculations of the closing net defined benefit obligation and plan assets are shown below. Valuation allowance -- opening Add interest on effect of asset ceiling Net balance before adjustment Change in valuation allowance for 20X9 Closing balance – valuation allowance 86,000 4,300 90,300 (90,300) 0 (4) Alternate calculation based on finance cost for liability only, and actual return; also acceptable and provides the same end result: $9,100 +$24,800 + 17,500 + $56,000 - $12,000 - 86,000= $9,400 Note: Students may prepare a series of entries, or do an overall calculation of the expense and record it in a summary entry. Either approach is acceptable, but the assignment specified “all entries.” © 2017 McGraw-Hill Education Ltd. All Rights Reserved. 19-66 Solutions Manual to accompany Intermediate Accounting, Volume2, 7th edition Requirement 2 Net defined benefit liability, 31 December 20X9 ($120,000 dr. Op. balance - $9,400 cr. + $6,000 dr.) = $ 116,600 dr. Proof: equal to the net defined benefit as calculated in A19-10 or below Defined benefit obligation, 31 December 20X9 Obligation, 1 January 20X9 Current service cost, 20X9 Interest (5% of opening balance) PSC Actuarial revaluation Benefits paid Fair value of plan assets, 31 December 20X9 Value at 1 January 20X9 Actual earnings (loss) on plan assets Funding contributions Benefits paid Net defined benefit liability, 31 December 20X9 ($683,300 dr. – 566,700 cr) $496,000 9,100 24,800 56,000 (12,000) (7,200) $566,700 cr. $702,000 (17,500) 6,000 (7,200) $683,300 dr. $116,600 dr. The asset ceiling maximum is $120,000, and therefore there is no valuation allowance required as at December 31, 20X9. Therefore, the valuation allowance from the previous year is now reversed. © 2017 McGraw-Hill Education Ltd. All Rights Reserved. Solutions Manual to accompany Intermediate Accounting, Volume 2, 7th edition 19-67 Assignment 19-29 Pension Obligation 20x7 Beginning - PSC CSC Net Interest 4% * ($1,640 - $0) Pension Expense $ (1,640,000) $ 1,640,000 (117,000) (65,600) 117,000 65,600 Funding $(1,822,600) 20x8 CSC Net interest (4% of $1,822.6) and (4% of $317) Actual return versus expected ($12.68 $6.8) Revaluation Benefits paid Plan Assets (157,000) (72,904) 317,000 $317,000 12,680 (5,880) 37,000 41,400 1,822,600 (1,822,600) 317,000 $(1,505,600) 157,000 60,224 5,880 (37,000) (41,400) 186,104 Funding $(1,974,104) Net pension Asset (Liab) 357,000 $ 639,400 (186,104) 357,000 $(1,334,704) Note: 20X7 is no different between IFRS and ASPE. In 20X8, note the absence of AOCI; items are expensed instead. The net pension liability on the balance sheet at the end of the year is identical; it is still the net position of the fund. © 2017 McGraw-Hill Education Ltd. All Rights Reserved. 19-68 Solutions Manual to accompany Intermediate Accounting, Volume2, 7th edition Assignment 19-30 Requirement 1 Preferred dividends declared ($51 x $6) .................................. Preferred dividends payable ......................................... 306 Common shares ($11,050 / 6,621) x 865 ................................. Contributed capital, common share retirement (balance) ........ Retained earnings ..................................................................... Suspense ....................................................................... 1,540 788 3,912 Premium on bond payable........................................................ Interest expense ............................................................ 83 Compensation expense (administrative) .................................. Stock options outstanding ............................................ $900 / 4 = $225 225 306 6,240 83 225 Pension expense (operating) ($1,848 x .85)............................. 1,571 Pension expense (administrative) ........................................... 277 Defined benefit obligation ($1,603 - $2,098) .......................... 250 Suspense ....................................................................... 2,098 Pension expense = $1,700 + ($9,716 – $9,096) x 6%) + ($435 vs. ($9,096 x 6%)) = $1,848 Or, $1,700 + ($9,716 x 6%) – $435 = $1,848 Stock dividend ......................................................................... Common shares outstanding ........................................ (6,210 – 865) x .10 x $8 4,276 Interest expense ($3,985 x 7%) ................................................ Lease liability ............................................................... 279 Lease liability ........................................................................... Current bank loan ......................................................... 612 4,276 279 612 © 2017 McGraw-Hill Education Ltd. All Rights Reserved. Solutions Manual to accompany Intermediate Accounting, Volume 2, 7th edition 19-69 Solution Exhibit 1 Oilfield Multiservices Ltd Draft Financial Statements for the year ended December 31, 20X7 (in thousands) Balance Sheet Assets Cash Accounts receivable Inventory Prepaid expenses and deposits Current assets $ Capital assets, net Intangible assets Suspense Liabilities Accounts payable and accrued liabilities Income tax payable Current bank loan Current liabilities 14,960 30,497 1,958 930 48,345 78,441 890 890 -2,098 - 6,240 - $ 136,014 $ 19,511 1,600 12,100 33,211 306 3,985 +279 - 612 3,652 31,210 -83 31,127 6,900 620 -250 6,900 370 30,000 1,210 Future income tax Deferred pension obligation Total Liabilities Shareholders' Equity Preferred shares Common shares Contributed capital on common stock retirement Stock options oustanding Retained earnings Total Shareholders' Equity Total Liabilities & Shareholders' Equity $ 78,441 8,338 Total Assets Lease liability Long-term debt Premium 14,960 30,497 1,958 930 48,345 $ 127,676 $ 19,817 1,600 12,712 34,129 612 75,926 76,178 5,100 11,050 -1,540 + 4,276 5,100 13,786 788 450 42,700 675 31,937 -788 225 60,088 $ 136,014 51,498 $ 127,676 © 2017 McGraw-Hill Education Ltd. All Rights Reserved. 19-70 Solutions Manual to accompany Intermediate Accounting, Volume2, 7th edition Solution Exhibit 1 Oilfield Multiservices Ltd Draft Financial Statements for the year ended December 31, 20X7 (in thousands) Statement of Income and Retained Earnings Sales $ 146,560 Expenses Operating Selling, general & admin Interest Depreciation 103,490 8,385 2,355 8,420 122,650 Income before tax Income tax Net Income 23,910 5,950 17,960 Opening retained earnings Common share retirement Dividends Preferred Common Stock 27,965 Closing retained earnings $ 146,560 1,571 +225 + 277 -83 + 279 21,641 5,950 15,691 3,912 3,225 $ 105,061 8,887 2,551 8,420 124,919 306 4,276 42,700 27,965 3,912 306 3,225 4,276 $ 31,937 Requirement 3 Key financial targets: Retained earnings Debt/Equity Before After $42,700 $31,937 1.26 1.47 Comment : Financial targets are met in the revised financial statements. Retained earnings have been significantly reduced by the stock dividend and the common share repurchase. The value of the stock dividend was at the discretion of the Board of Directors and could have been recorded at a lower amount. The Board may be able to change their resolution on this issue. Retained earnings levels are still above the $30 million target, but OML must be cautious in the coming year with any share transactions that will decrease this account; leeway in the coming year depends on the level of income. © 2017 McGraw-Hill Education Ltd. All Rights Reserved. Solutions Manual to accompany Intermediate Accounting, Volume 2, 7th edition 19-71 Debt-to-equity is acceptable but very close to the 1.5 target. Debt should be reduced, and equity increased, over the coming year. The company has adequate current resources (cash) to accomplish some debt repayment; there is a large current bank loan coming due, and if this is repaid with available cash, the debt/equity ratio will improve. (CGA-Canada, adapted) © 2017 McGraw-Hill Education Ltd. All Rights Reserved. 19-72 Solutions Manual to accompany Intermediate Accounting, Volume2, 7th edition Actuarial cost methods; Connect assignments Assignment 19-A1 Mary’s final salary: $25,000 × (F/P, 5%, 24) = $25,000 × 3.225 Mary’s annual pension: 25 ×2% × $80,625 Value of pension at retirement: $40,313 × (P/AD, 7%, 20) = $40,313 × 11.3356 Level annual contribution: $456,972 ÷ (F/A, 7%, 25) = $456,972 × 67.676 [alternatively: $456,983 × (P/F, 7%, 25) ÷ (P/A, 7%, 25)] $ 80,625 $ 40,313 $ 456,972 $ 7,225 © 2017 McGraw-Hill Education Ltd. All Rights Reserved. Solutions Manual to accompany Intermediate Accounting, Volume 2, 7th edition 19-73 Assignment 19-A2 Requirement 1 The accumulated benefit method calculates the contributions that an employer must make in order to fund the pension to which the employee is currently entitled, based on the years of service to date and on current salary. Annual annuity earned = 2% x 1 year x $16,000 = $320.00 APV = $320 x (P/A, 6%, 20) = $320 x 11.46992 = $3,670.37 Funding = $3,670.37 x (P/F, 6%, 24) = $3,670.37 x .24698 = $906.51 The projected unit credit method calculates the required funding based on the years of service to date but on a projected estimate of the employee’s salary at the retirement date. Life annuity earned = $51,602 x 2% x 1 year = $1,032.04 APV = $1,032.04 x (P/A, 6%, 20) = $1,032.04 x 11.46992 = $11,837.42 Funding = $11,837.42 (P/F, 6%, 24) = $11,837.42 x .24698 = $2,923.61 The level contribution method projects both the final salary and the total years of service, and then allocates the cost evenly over years of service. Annual annuity = APV/(F/A, 6%,25 years) = ($11,837.42 x 25) ÷ (F/A, 6%, 25) = $295,935 ÷ 54.865 = $5,393.88 Requirement 2 Jack would likely prefer the level contribution method, as it requires the largest up-front funding of his pension, making the pension more secure in the event of corporate failure. Excluding the risk of corporate failure, however, Jack should be indifferent, since his defined benefit plan specifies his eventual pension irrespective of funding. Requirement 3 The company, wishing to conserve current cash balances, would likely prefer the accumulated benefit method, which has the lowest cash requirement in early years. Requirement 4 The projected unit credit method must be used for accounting. © 2017 McGraw-Hill Education Ltd. All Rights Reserved. 19-74 Solutions Manual to accompany Intermediate Accounting, Volume2, 7th edition Assignment 19-A3 Requirement 1 a) Accumulated benefit method First year Annual pension annuity = 1.5% x 1 year x $30,000 = $450 PVretirement = $450 x (P/AD, 7%, 12) = $450 x 8.49867 = $3,824 PVnow = $3,824 x (P/F, 7%, 24) = $3,824 x .19715 = $754 Note that the pension is paid at the beginning of each retirement year. Second year Annual pension annuity = 1.5% x 2 years x $31,800 = $954; $954 - $450 = $504 PVretirement = $504 x (P/AD, 7%, 12) = $504 x 8.49867 = $4,283 PVnow = $4,283 x (P/F, 7%, 23) = $4,283 x .21095 = $904 b) Projected unit credit method First year Salary in age 64 year: $30,000 x (F/P, 6%, 24) $30,000 x 4.049 = $121,470 Annual annuity: $121,470 x 1.5% x 1 year = $1,822 PVnow = $1,822 (P/AD, 7%, 12) x (P/F, 7%, 24) = $1,822 (8.49867) (.19715) = $3,053 Second year PVnow = $1,822 (P/AD, 7%, 12) x (P/F, 7%, 23) = $1,822 (8.49867) (.21095) = $3,266 Note that as long as the expected lifetime salary increase continues to be expected to be 6%, the actual salary in year 2 is irrelevant. c) Level contribution method First and second years: Annual pension annuity: 1.5% x 25 x $121,470 = $45,551 Contribution annuity = $45,551 (P/AD, 7%, 12)/(F/A, 7%, 24) = $45,551 (8.49867)/58.177 = $6,654 © 2017 McGraw-Hill Education Ltd. All Rights Reserved. Solutions Manual to accompany Intermediate Accounting, Volume 2, 7th edition 19-75 Assignment 19-A4 Requirement 1 The final funding requirement is calculated as follows: a) Project the salary at retirement. b) Calculate Calamari’s pension based on final salary (2% per year to a maximum of 60%.) c) Determine Calamari’s life expectancy after retirement. d) Calculate the present value of the salary entitlement at 7% for the years of life. Requirement 2 Accumulated benefit method— Annuity = $40,000 x 2% = $800; PV = $800 x (P/AD 7%,15) (9.74547) = $7,796; Funding = $7,796 x (P/F, 7%,19) (.27651) = $2,156 Projected unit credit method— Level funding method— Annuity = $81,700 x 2% = $1,634; PV = $1,634 x (P/AD 7%,15) (9.74547) = $15,924 Funding = $15,924 x (P/F, 7%,19) (.27651) = $4,403 Annuity = $81,700 x 2% x 20 = $32,680; Funding = $32,680 (P/AD 7%,15) (9.74547)/ (F/A 7%,20) (40.995) = $7,769 or, $318,482 / 40.995 = $7,769 Requirement 3 Pension expense Net defined pension asset $4,403 $3,366 see requirement 2 ($4,403 - $7,769) Requirement 4 Assumptions: • the average compounded rate of salary increase • the long-term rate of earnings on plan assets • the life expectancy for the employee from retirement age Requirement 5 Effect on funding requirement: a) Calamari lives longer b) Return on assets higher c) Salary increase, unexpected d) Salary freeze, unexpected Funding increases Funding decreases Funding increases Funding decreases © 2017 McGraw-Hill Education Ltd. All Rights Reserved. 19-76 Solutions Manual to accompany Intermediate Accounting, Volume2, 7th edition Assignment 19-A5 Requirement 1 Accumulated benefit method $35,000 x 1.75% x 1 year = $612.50 PV50 = $612.50 (P/AD, 5%, 18) = $612.50 x 12.27407 = $7,518 PV25 = $7,518 x (P/F, 5%, 24) = $7,518 x .31007 = $2,331 Projected unit credit method Annual annuity = $35,000 (F/P, 4%, 24) = $89,716 x 1.75% = $1,570 PV50 = $1,570 (P/AD, 5%, 18) = $1,570 x 12.27407 = $19,272 PV25 = $19,272 (P/F, 5%, 24) = $19,272 x .31007 = $5,976 Level Contribution method Annual annuity = $89,716 x (25 x 1.75%) = $39,251 PV50 = $39,251 x (P/AD, 5%, 18) = $39,251 x 12.27407 = $481,766 PV25 = $481,766/(F/A, 5%, 25) = $481,766/47.727 = $10,094 Requirement 2 Accumulated benefit method PV50 = $612.50 x (P/AD, 8%, 18) = $612.50 x 10.12164 = $6,200 PV25 = $6,200 x (P/F, 8%, 24) = $6,200 x .15770 = $978 Projected unit credit method Annual annuity = $35,000 (F/P, 6%, 24) = $141,713 x 1.75% = $2,480 PV50 = $2,480 (P/AD, 8%, 18) = $2,480 x 10.12164 = $25,102 PV25 = $25,102 (P/F, 8%, 24) = $25,102 x .15770 = $3,959 Level contribution method Annual annuity = $141,713 x (1.75% x 25) = $61,999 PV50 = $61,999 x (P/AD, 8%, 18) = $61,999 x 10.12164 = $627,536 PV25 = $627,536/(F/A, 8%, 25) = $627,536/73.106 = $8,584 © 2017 McGraw-Hill Education Ltd. All Rights Reserved. Solutions Manual to accompany Intermediate Accounting, Volume 2, 7th edition 19-77 Requirement 3 Accumulated benefit method PV50 = $612.50 (P/AD, 5%, 10) = $612.50 x 8.10782 = $4,966 PV25 = $4,966 x (P/F, 5%, 24) = $4,966 x .31007 = $1,540 Projected unit credit method Annual annuity (see Requirement 1) = $1,570 PV50 = $1,570 (P/AD, 5%, 10) = $1,570 x 8.10782 = $12,729 PV25 = $12,729 (P/F, 5%, 24) = $12,729 x .31007 = $3,947 Level contribution method Annual annuity = $39,251 (Requirement 1) PV50 = $39,251 (P/AD, 5%, 10) = $39,251 x 8.10782 = $318,240 PV25 = $318,240/(F/A, 5%, 25) = $318,240/47.727 = $6,668 Requirement 4 The accumulated benefit method bases funding requirements on existing salary and service years. No projections—of final pay or total years of service—are made. The projected unit credits method bases funding requirements on projected final salary but on existing years of service. The level contribution method projects both salaries and years of service, then allocates level funding to periods or salary dollars. The variables to which the funding formula is particularly sensitive, as demonstrated in requirements 1 and 2, include: 1. The discount rate (return on fund assets) 2. The rate of expected increase in salary (although 1 & 2 work in opposite directions) 3. Turnover estimates 4. Mortality rates. © 2017 McGraw-Hill Education Ltd. All Rights Reserved. 19-78 Solutions Manual to accompany Intermediate Accounting, Volume2, 7th edition