Chapter 17
Pensions and Other Postretirement Benefits
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17–1
Intermediate Accounting 7e
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Solutions Manual, Vol.2, Chapter 17
© The McGraw-Hill Companies, Inc., 2013
17–2
QUESTIONS FOR REVIEW OF KEY TOPICS
Question 17–1
Pension plans are arrangements designed to provide income to individuals during their
retirement years. Funds are set aside during an employee’s working years so that the accumulated
funds plus earnings from investing those funds are available to replace wages at retirement. An
individual has a pension fund when she or he periodically invests in stocks, bonds, CDs, or other
securities for the purpose of saving for retirement. When an employer establishes a pension plan,
the employer provides some or all of the periodic contributions to the retirement fund.
The motivation for corporations to establish pension plans comes from several sources. Pension
plans provide employees with a degree of retirement security. They may fulfill a moral obligation
many employers feel toward employees. Pension plans often enhance productivity, reduce turnover,
satisfy union demands, and allow employers to compete in the labor market.
Question 17–2
A qualified pension plan gains important tax advantages. The employer is permitted an
immediate tax deduction for amounts paid into the pension fund. Conversely, the benefits to
employees are not taxed until retirement benefits are received. Also, earnings on the funds set aside
by the employer accumulate tax-free. For a pension plan to be qualified for special tax treatment,
these general requirements must be met:
1. It must cover at least 70% of employees.
2. It cannot discriminate in favor of highly compensated employees.
3. It must be funded in advance of retirement through contributions to an irrevocable trust fund.
4. Benefits must “vest” after a specified period of service, commonly five years.
5. It complies with specific restrictions on the timing and amount of contributions and benefits.
Question 17–3
This is a noncontributory plan because the corporation makes all contributions. When
employees make contributions to the plan in addition to employer contributions, it’s called a
“contributory” plan. This is a defined contribution plan because it promises fixed annual
contributions to a pension fund, without further commitment regarding benefit amounts at
retirement.
Question 17–4
The vested benefit obligation is the pension benefit obligation that is not contingent upon an
employee's continuing service.
Question 17–5
The accumulated benefit obligation is the discounted present value of retirement benefits
calculated by applying the pension formula with no attempt to forecast what salaries will be when
the formula actually is applied. The projected benefit obligation is the present value of those
benefits when the actuary includes projected salaries in the pension formula.
© The McGraw-Hill Companies, Inc., 2013
17–3
Intermediate Accounting 7e
Answers to Questions (continued)
Question 17–6
The projected benefit obligation can change due to periodic service cost, accrued interest,
revised estimates, plan amendments, and the payment of benefits.
Question 17–7
The balance of the plan assets can change due to investment returns, employer contributions, and
the payment of benefits.
Question 17–8
The pension expense reported on the income statement is a composite of periodic changes that
occur in both the pension obligation and the plan assets. These include service cost, interest cost,
return on the plan assets, and the amortization of prior service cost and of net gains or losses.
Question 17–9
The service cost in connection with a pension plan is the present value of benefits attributed by
the pension formula to employee service during the period, projecting future salary levels (i.e., the
projected benefits approach).
Question 17–10
The interest cost is the projected benefit obligation outstanding at the beginning of the period
multiplied by the actuary's interest (discount) rate. This is the “interest expense” that accrues on the
PBO and is included as a component of pension expense rather than being separately reported.
Question 17–11
GAAP specifies that the actual return be included in the determination of pension expense.
However, the actual return is adjusted for any difference between actual and expected return,
meaning that the expected return is really the amount reflected in the calculation of pension expense.
This “investment revenue” is deducted as a component of pension expense rather than being
separately reported.
The difference between actual and expected return on plan assets is combined with gains and
losses from other sources for possible future amortization to pension expense.
Question 17–12
Prior service cost is the obligation (present value of benefits) due to giving credit to employees
for years of service provided before either the date of an amendment to (or initiation of) a pension
plan. Prior service cost is recognized as other comprehensive income as incurred and then as a
component of accumulated other comprehensive income in the company’s balance sheet. The
account is allocated (amortized) to pension expense over the service period of affected employees.
The straight-line method allocates an equal amount of the prior service cost to each year. The
service method recognizes the cost each year in proportion to the fraction of the total remaining
“service years” worked in each of these years.
Solutions Manual, Vol.2, Chapter 17
© The McGraw-Hill Companies, Inc., 2013
17–4
Answers to Questions (continued)
Question 17–13
Gains or losses related to pension plan assets represent the difference between the return on
investments and what the return had been expected to be. They are recognized as other
comprehensive income as incurred and then as a component of accumulated other comprehensive
income in the company’s balance sheet: either a net loss–AOCI or a net asset–AOCI depending on
whether cumulative losses have exceeded gains, or vice versa. The account is amortized to pension
expense only if the net loss–AOCI or net asset–AOCI exceeds a defined threshold. Specifically, a
portion of the excess is included in pension expense only if it exceeds an amount equal to 10% of
the PBO, or 10% of plan assets, whichever is higher. The amount that should be included is the
excess divided by the average remaining service period of active employees expected to receive
benefits under the plan. Gains or losses related to the pension obligation are treated the same way.
In fact, gains and losses from both sources are combined to determine the net gains or net losses
referred to above.
Question 17–14
A company’s PBO is not reported among liabilities in the balance sheet. Similarly, the plan
assets a company sets aside to pay those benefits are not reported among assets in the balance sheet.
However, firms report the net difference between those two amounts, referred to as the “funded
status” of the plan, as either a net pension liability (if underfunded) or a net pension asset (if
overfunded).
Question 17–15
The two components of pension expense that may reduce pension expense are the return on plan
assets (always) and the amortization of a net gain–AOCI (amortizing a net loss–AOCI increases the
expense).
Question 17–16
The components of pension expense that involve delayed recognition are the prior service cost
and gains and losses.
Question 17–17
The excess of the actual return on plan assets over the expected return is considered a gain. It
does, in fact, decrease the employer’s pension cost, but not immediately the pension expense. It is
reported as other comprehensive income as it occurs, grouped with other gains and losses to create a
net gain–AOCI or net loss–AOCI account, and then amortized as a component of pension expense
only if the net gain–AOCI or net loss–AOCI exceeds an amount equal to 10% of the PBO, or 10% of
plan assets, whichever is higher.
Question 17–18
The cash contribution is debited to the pension asset. It adds to plan assets, thereby reducing an
underfunded status (PBO > assets) or increasing an overfunded status (assets > PBO). So, if the plan
is underfunded so that a net pension liability exists, the liability is reduced. Otherwise, if the plan is
overfunded so that a net pension asset exists, the asset is increased.
© The McGraw-Hill Companies, Inc., 2013
17–5
Intermediate Accounting 7e
Answers to Questions (continued)
Question 17–19
TFC Inc. revises its estimate of future salary levels causing its PBO estimate to increase by the
$3 million. The $3 million is considered a loss and is reported in the statement of comprehensive
income rather than being reported as part of traditional net income as would occur if included as part
of pension expense. It then becomes part of accumulated other comprehensive income in the
balance sheet as part of the net loss–AOCI or net gain–AOCI. A portion of that balance might
possibly be amortized to pension expense if the net loss–AOCI or net gain–AOCI exceeds an
amount equal to 10% of the PBO, or 10% of plan assets, whichever is higher.
Question 17–20
The difference between the employer’s obligation (PBO) and the resources available to satisfy
that obligation (plan assets) is the funded status of the pension plan. Firms must report the net
difference between those two amounts, referred to as the “funded status” of the plan, in the balance
sheet. It’s reported as a net pension asset if the plan assets exceed the PBO or as a net pension
liability if the PBO exceeds the plan assets.
Question 17–21
The expected postretirement benefit obligation (EPBO) is the actuary's estimate of the total
postretirement benefits (at their discounted present value) expected to be received by plan
participants. When a plan is pay-related, future compensation levels are implicitly assumed. The
accumulated postretirement benefit obligation (APBO) measures the obligation existing at a
particular date, rather than the total amount expected to be earned by plan participants. The APBO
is conceptually similar to a pension plan’s projected benefit obligation. The EPBO has no
counterpart in pension accounting.
Question 17–22
The cost of benefits is “attributed” to the years during which those benefits are assumed to be
earned by employees. The attribution period spans each year of service from the employee’s date of
hire to the employee’s “full eligibility date,” which is the date the employee has performed all the
service necessary to have earned all the retiree benefits estimated to be received by that employee.
The approach assigns an equal fraction of the EPBO to each of those years. The attribution period
does not include any years of service beyond the full eligibility date, even if the employee is
expected to work after that date.
Question 17–23
The service cost for pensions reflects additional benefits employees earn from an additional
year’s service, whereas the service cost for retiree health care plans is simply an allocation to the
current year of a portion of a fixed total cost.
Question 17–24
The attribution period spans each year of service from the employee’s date of hire to the
employee’s “full eligibility date,” 30 years in this case. The APBO is $10,000, which represents the
portion of the EPBO earned after 15 years of the 30-year attribution period: $20,000 x 15/30 =
$10,000.
Solutions Manual, Vol.2, Chapter 17
© The McGraw-Hill Companies, Inc., 2013
17–6
Answers to Questions (concluded)
Question 17–25
Mid-South Logistics prepares its financial statements according to U.S. GAAP. Under U.S.
GAAP, prior service cost is included among OCI items in the statement of comprehensive income
and thus subsequently becomes part of AOCI where it is amortized over the average remaining
service period. On the other hand, under IAS No. 19, prior service cost (called past service cost
under IFRS) is combined with service cost and reported within the income statement, in the period
in which it arises, rather than as a component of other comprehensive income as it is under U.S.
GAAP, so it never is amortized to expense. Since Mid-South Logistics is amortizing a portion of the
amount, U.S. GAAP is indicated.
Question 17–26
Under both U.S. GAAP and IFRS we report gains and losses among OCI items in the statement
of comprehensive income; thus, they subsequently become part of AOCI. But, under IFRS the gains
and losses are not subsequently amortized to expense and recycled or reclassified from other
comprehensive income as is required under U.S. GAAP (when the accumulated net gain or net loss
exceeds the 10% threshold). A second difference pertains to the make-up of the gain or loss on plan
assets. This amount under U.S. GAAP is the difference in the actual and expected returns, where the
expected return is different from company to company and usually different from the interest rate
used to determine the interest cost. Under IFRS, though, we use the same rate (the rate for highgrade corporate bonds) for both the interest cost on the defined benefit obligation and the interest
income on the plan assets. In fact, under IFRS, we multiply that rate times the net difference
between the defined benefit obligation and plan assets and report the net interest cost/income.
.
© The McGraw-Hill Companies, Inc., 2013
17–7
Intermediate Accounting 7e
BRIEF EXERCISES
Brief Exercise 17–1
($ in millions)
Beginning of the year PBO
Service cost
Interest cost
Loss (gain) on PBO
Less: Retiree benefits
End of the year PBO
$80
10
4
0
(6)
$88
x (5% x $80)
Brief Exercise 17–2
($ in millions)
Beginning of the year PBO
Service cost
Interest cost
Loss (gain) on PBO
Less: Retiree benefits
End of the year PBO
$80
?
4
0
(6)
$85
x (5% x $80)
Service cost = $85 – 80 – 4 + 6 = $7 million
Brief Exercise 17–3
($ in millions)
Beginning of the year PBO
Service cost
Interest cost
Loss (gain) on PBO
Less: Retiree benefits
End of the year PBO
$80
10
4
0
(?)
$85
x (5% x $80)
Retiree benefits = $85 – 80 – 4 – 10 = $9 million
Solutions Manual, Vol.2, Chapter 17
© The McGraw-Hill Companies, Inc., 2013
17–8
Brief Exercise 17–4
($ in millions)
Beginning of the year PBO
Service cost
Interest cost
Loss (gain) on PBO
Less: Retiree benefits
End of the year PBO
$80
10
4
x (5% x $80)
?
(6)
$85
Gain = $85 – 80 – 10 – 4 + 6 = $3 million
Brief Exercise 17–5
($ in millions)
Plan assets
Beginning of the year
Actual return
Cash contributions
Less: Retiree benefits
End of the year
$80
4 x (5% x $80)
7
(6)
$85
Brief Exercise 17–6
($ in millions)
Plan assets
Beginning of the year
Actual return
Cash contributions
Less: Retiree benefits
End of the year
$80
4
7
(?)
$83
x (5% x $80)
Retiree benefits = $83 – 80 – 4 – 7 = $8 million
© The McGraw-Hill Companies, Inc., 2013
17–9
Intermediate Accounting 7e
Brief Exercise 17–7
($ in millions)
Plan assets
Beginning of the year
Actual return
Cash contributions
Less: Retiree benefits
End of the year
$100
?
x (? % x $100)
7
(6)
$104
Return on assets = $104 – 100 – 7 + 6 = $3 million
Rate of return on assets = $3 million ÷ $100 million = 3%
Solutions Manual, Vol.2, Chapter 17
© The McGraw-Hill Companies, Inc., 2013
17–10
Brief Exercise 17–8
The difference between an employer’s obligation (PBO) and the resources
available to satisfy that obligation (plan assets) is the funded status of the pension
plan. The employer must report the net difference between those two amounts,
referred to as the “funded status” of the plan in the balance sheet. It’s reported as a net
pension liability if the PBO exceeds the plan assets or a net pension asset if the plan
assets exceed the PBO. In the situation described, JDS would report a net pension
liability of $15 million:
($ in millions)
PBO
Plan assets
Net pension liability
$40
25
$15
If the plan assets are $45 million, JDS would report a net pension asset of $5
million:
($ in millions)
Plan assets
PBO
Net pension asset
$45
40
$5
© The McGraw-Hill Companies, Inc., 2013
17–11
Intermediate Accounting 7e
Brief Exercise 17–9
($ in millions)
Service cost
Interest cost (5% x $80)
Expected return on the plan assets ($5 actual, less $1 gain)
Amortization of prior service cost
Amortization of net loss (gain)
Pension expense
Solutions Manual, Vol.2, Chapter 17
$10
4
(4)
0
0
$10
© The McGraw-Hill Companies, Inc., 2013
17–12
Brief Exercise 17–10
($ in millions)
Service cost
Interest cost
Expected return on the plan assets ($4 actual, plus $2 loss)
Amortization of prior service cost
Amortization of net loss (gain)
Pension expense
$10
4
(6)
2*
0
$10
* $20 ÷ 10 years = $2
© The McGraw-Hill Companies, Inc., 2013
17–13
Intermediate Accounting 7e
Brief Exercise 17–11
Gains or losses should not be part of pension expense unless and until total net
gains or losses exceed a defined threshold. Specifically, a portion of the excess is
included in pension expense only if it exceeds an amount equal to 10% of the PBO, or
10% of plan assets, whichever is larger. The amount that should be included is the
excess divided by the average remaining service period of active employees expected
to receive benefits under the plan. Amortization of net gains is deducted from pension
expense; amortization of a net loss is added to pension expense. Pension expense in
this instance is decreased by a $2 million amortization of the net gain:
($ in millions)
Net gain
Less: 10% corridor (threshold)*
Excess
Service period
Amortization
$30
(10)
$20
÷ 10
$ 2
* 10% times either the PBO ($80) or plan assets ($100), whichever is larger.
Solutions Manual, Vol.2, Chapter 17
© The McGraw-Hill Companies, Inc., 2013
17–14
Brief Exercise 17–12
The net pension liability, which is the difference between the PBO and plan assets,
increases by the combination of the service cost, interest cost, and the expected return
($70 + 50 – 55 million) as is reflected in the following entry.
To Record Pension Expense
Pension expense (total) ............................
Plan assets ($55 expected return on assets)
PBO ($70 + 50)....................................
Prior service cost—AOCI....................
($ in millions)
67
55
120
2
The net pension liability (PBO minus plan assets) is affected only by the three
components of pension expense that change either the PBO or plan assets. The
pension expense also includes the $2 million of prior service cost amortization but,
unlike the other three components, this amortization amount affects neither the PBO
nor the plan assets and therefore doesn’t change the net pension liability. However,
the prior service cost (an accumulated other comprehensive income account) is
reduced by $2 million. This reduction is reported as other comprehensive income in
the statement of comprehensive income.
© The McGraw-Hill Companies, Inc., 2013
17–15
Intermediate Accounting 7e
Brief Exercise 17–13
Pension gains and losses (either from changing assumptions regarding the PBO or
the return on assets being higher or lower than expected) are deferred and not
immediately included in pension expense and net income. They are, however,
reported as other comprehensive income in the period they occur. Accordingly, these
gains and losses are reported in Andrews’s statement of comprehensive income as a
gain of $4 million and a loss of $1 million. Here are the entries:
($ in millions)
Loss—OCI (loss from actual return falling short of expected)
Plan assets ...............................................................
1
PBO .............................................................................
Gain—OCI (gain from change in assumption) .................
4
1
4
The net pension liability in the balance sheet declines by the $3 million net effect
of the loss and the gain:
($ in millions)
PBO
Less: Plan assets
Net pension liability
$4 Ø
1Ø
$3Ø
The Net loss—AOCI in the balance sheet increases by the current $1 million
Loss—OCI and deceases by the current $4 million Gain—OCI, a net reduction of $3
million.
($ in millions)
Plus: Loss—OCI
Less: Gain—OCI
Decrease in Net loss—AOCI
Solutions Manual, Vol.2, Chapter 17
$1
(4)
$(3)
© The McGraw-Hill Companies, Inc., 2013
17–16
Brief Exercise 17–14
2013
2014
APBO
$50,000 x 6/30 = $10,000
$54,000 x 7/30 = $12,600
Service Cost
$50,000 x 1/30 = $1,667
$54,000 x 1/30 = $1,800
30-year attribution period (age 26–55).
Brief Exercise 17–15
($ in millions)
Beginning of 2013 APBO
Service cost
Interest cost
Gain on APBO
Less: Retiree benefits
End of 2013 APBO
$25
7
2
(1)
(3)
$30
ƒ (8% x $25)
© The McGraw-Hill Companies, Inc., 2013
17–17
Intermediate Accounting 7e
EXERCISES
Exercise 17–1
I
N
D
I
I
1.
2.
3.
4.
5.
D
N
D
I
N
N
6.
7.
8.
9.
10.
11.
Events
Interest cost.
Amortization of prior service cost.
A decrease in the average life expectancy of employees.
An increase in the average life expectancy of employees.
A plan amendment that increases benefits is made retroactive to
prior years.
An increase in the actuary’s assumed discount rate.
Cash contributions to the pension fund by the employer.
Benefits are paid to retired employees.
Service cost.
Return on plan assets during the year lower than expected.
Return on plan assets during the year higher than expected.
Exercise 17–2
($ in millions)
Beginning of 2013
Service cost
Interest cost
Loss (gain) on PBO
Less: Retiree benefits
End of 2013
Solutions Manual, Vol.2, Chapter 17
$30
12
3
0
(4)
$41
x (10% x $30)
© The McGraw-Hill Companies, Inc., 2013
17–18
Exercise 17–3
I
I
N
D
N
1.
2.
3.
4.
5.
N
N
N
I
N
I
D
6.
7.
8.
9.
10.
11.
12.
Events
Interest cost.
Amortization of prior service cost—AOCI.
Excess of the expected return on plan assets over the actual return.
Expected return on plan assets.
A plan amendment that increases benefits is made retroactive to
prior years.
Actuary’s estimate of the PBO is increased.
Cash contributions to the pension fund by the employer.
Benefits are paid to retired employees.
Service cost.
Excess of the actual return on plan assets over the expected return.
Amortization of net loss—AOCI.
Amortization of net gain—AOCI.
© The McGraw-Hill Companies, Inc., 2013
17–19
Intermediate Accounting 7e
Exercise 17–4
Requirement 1
($ in millions)
Pension expense (total) .............................
Plan assets (expected return on assets) .........
PBO ($10 service cost + $6 interest cost) ...
Net loss—AOCI (current amortization)
14
4
16
2
Requirement 2
($ in millions)
Pension expense (total) .............................
Plan assets (expected return on assets) .........
Net gain—AOCI (current amortization)
PBO ($10 service cost + $6 interest cost) ...
10
4
2
16
Requirement 3
($ in millions)
Pension expense (total) .............................
Plan assets (expected return on assets) .........
PBO ($10 service cost + $6 interest cost) ...
Net loss—AOCI (current amortization)
Prior service cost (current amortization)
17
4
16
2
3
The amortization amounts are reported as other comprehensive income in the
statement of comprehensive income.
Solutions Manual, Vol.2, Chapter 17
© The McGraw-Hill Companies, Inc., 2013
17–20
Exercise 17–5
($ in millions)
Plan assets
Beginning of the year
Actual return
Cash contributions
Less: Retiree benefits
End of the year
$600
48
100
(11)
$737
Exercise 17–6
($ in millions)
PBO:
Beginning of the year
Service cost
Interest cost
Loss (gain) on PBO
Less: Retiree benefits
End of the year
$360
?
36
0
(54)
$465
x (10% x $360)
Service cost = $465 – 360 – 36 + 54 = $123 million
Exercise 17–7
($ in millions)
Plan assets
Beginning of the year
Actual return
Cash contributions
Less: Retiree benefits
End of the year
$700
77
x (11% x $700)
?
(66)
$750
Cash contributions = $750 – 700 – 77 + 66 = $39 million
© The McGraw-Hill Companies, Inc., 2013
17–21
Intermediate Accounting 7e
Exercise 17–8
($ in 000s)
Service cost
$112
51
Interest cost (6% x $850)
Expected return on the plan assets ($99 actual, less $9 gain*) (90)
Amortization of prior service cost
8
Amortization of net loss
1
Pension expense
$82
* (11% x $900) – (10% x $900)
Exercise 17–9
Under IFRS the various components of pension expense are not reported
as a single net amount. Instead, Sterling Properties would separately
report service cost (including past service cost), net interest cost/income,
and remeasurement gains and losses:
($ in 000s)
Income statement:
Service cost—2013
Past service cost
Service cost (reported in income statement)
$112
80
$192
Net interest income* (6%** x [$900 – 850])
$ 3
Statement of comprehensive income:
Remeasurement gain– OCI ([11% – 6%] x $900])
Net pension cost (not separately reported)
$ (45)
$150
* Because plan assets exceed the DBO, we have net interest income rather than net interest cost
** This solution assumes that the 6% interest rate is also the interest rate for high-quality
corporate bonds, which is the rate prescribed for determining the net interest cost/income.
Note: Using IFRS, there would be no prior service cost in AOCI and no amortization of the net
loss.
Solutions Manual, Vol.2, Chapter 17
© The McGraw-Hill Companies, Inc., 2013
17–22
Exercise 17–10
Requirement 1
($ in millions)
Service cost
Interest cost
Expected return on the plan assets ($9 actual, less $1 gain)
$20
12
(8)
Pension expense
$24
Requirement 2
Pension expense (calculated above)
Plan assets (expected return on plan assets)
PBO ($20 service cost + $12 interest cost)
24
8
32
Plan assets
Cash (contribution)
20
PBO
Plan assets (given)
9
20
9
The following entry also would be required although it does not affect the pension
expense or the plan asset funding:
Plan assets
Gain—OCI
1
1
© The McGraw-Hill Companies, Inc., 2013
17–23
Intermediate Accounting 7e
Exercise 17–11
Requirement 1
($ in 000s)
Service cost
$310
161
Interest cost (7% x $2,300)
Expected return on the plan assets ($216 actual, plus $24 loss*) (240)
Amortization of prior service cost
25
Amortization of net gain
(6)
Pension expense
* (10% x $2,400) – (9% x $2,400)
Requirement 2
Pension expense (calculated above)
Plan assets (expected return on assets)
Net gain—AOCI (current amortization)
Prior service cost—AOCI (current amortization)
PBO ($310 service cost + $161 interest cost)
$250
250
240
6
25
471
Loss—OCI ($216 actual return on assets – $240 expected return) 24
Plan assets
Plan assets
Cash (contribution)
245
PBO
Plan assets (retiree payments)
270
24
245
270
The amortization amounts are reported as other comprehensive income in
the statement of comprehensive income.
Solutions Manual, Vol.2, Chapter 17
© The McGraw-Hill Companies, Inc., 2013
17–24
Exercise 17–12
Requirement 1
1.2% x service years x final year’s salary =
1.2% x
20
x
$270,000
=
$64,800
Requirement 2
The present value of the retirement annuity at the end of 2038 is
$64,800 x 9.10791* = $590,193
* Present value of an ordinary annuity of $1: n = 15, i = 7% (from Table 4)
Requirement 3
The PBO is the present value of the retirement benefits at the end of 2013:
$590,193 x .18425* = $108,743
*
Present value of $1: n = 25, i = 7 % (from Table 2)
Requirement 4
1.2% x 20 x $80,000 = $19,200
$19,200 x 9.10791* = $174,872
$174,872 x .18425** = $32,220
* Present value of an ordinary annuity of $1: n = 15, i = 7% (from Table 4)
** Present value of $1: n = 25, i = 7% (from Table 2)
Requirement 5
1.2% x 21 x $270,000 = $68,040
$68,040 x 9.10791* = $619,702
$619,702 x .19715** = $122,174
* Present value of an ordinary annuity of $1: n = 15, i = 7% (from Table 4)
** Present value of $1: n = 24, i = 7% (from Table 2)
© The McGraw-Hill Companies, Inc., 2013
17–25
Intermediate Accounting 7e
Exercise 17–12 (concluded)
Requirement 6
PBO at the end of 2014
PBO at the end of 2013
Change in PBO
Less: Interest cost ($108,743 x 7%)
Service cost
$122,174
(108,743)
$ 13,431
(7,612)
$ 5,819
The change due to service cost can be verified as follows ($1 difference due to rounding):
(1.2% x 1 yr. x $270,000) x 9.10791 x .19715 =
annual retirement benefits
from 2014 service
to discount
to 2036 *
$5,818
to discount
to 2014 **
* Present value of an ordinary annuity of $1: n = 15, i = 7% (from Table 4)
** Present value of $1: n = 24, i = 7% (from Table 2)
Solutions Manual, Vol.2, Chapter 17
© The McGraw-Hill Companies, Inc., 2013
17–26
Exercise 17–13
Requirement 1
($ in 000s)
Net loss or gain
Less: 10% corridor (threshold)*
Excess
Service period
Amortization
Case 1
$320
– 331
none
÷ 12
none
Case 2
Case 3
$330
270
$ 60
15
$ 4
$260
170
$ 90
10
$ 9
* 10% times either the PBO or plan assets (beginning of the year), whichever is larger.
Case 1
3,310 or 2,800: choose 3,310
Case 2
2,670 or 2,700: choose 2,700
Case 3
1,700 or 1,550: choose 1,700
Requirement 2
($ in 000s)
Case 1
Case 2
Case 3
January 1, 2013 net loss or (gain)
2013 loss (gain) on plan assets
2013 amortization
2013 loss (gain) on PBO
January 1, 2014
$320
(11)
0
(23)
$286
($330)
(8)
4
16
($318)
$260
2
(9)
(265)
($ 12)
Note: The balance in this account is recognized as part of accumulated other
comprehensive income in the balance sheet.
© The McGraw-Hill Companies, Inc., 2013
17–27
Intermediate Accounting 7e
Exercise 17–14
In the balance sheet,
Liabilities increase by $274 million:
¾ The PBO increases by $374 (service cost and interest cost); plan
assets increase by $100 (expected return on assets plus the gain due to
the actual return exceeding expectations). When those two accounts
are reported in the balance sheet by netting the two together (PBO less
plan assets), the net pension liability (underfunded plan) will increase
by $274 million.
Shareholders’ equity decreases by $274 million:
Retained earnings:
¾ Retained earnings decreases by the reduction of earnings by the $294
million expense.
Accumulated other comprehensive income:
¾ The prior service cost—AOCI (a negative shareholders’ equity
account) decreases by the $8 million amortization.
¾ The net loss—AOCI (a negative shareholders’ equity account)
decreases by the $2 million amortization and by the $10 million
gain—OCI.
Retained earnings
Prior service cost—AOCI
Net loss—AOCI
Shareholders’ equity
($294)
8
12
$274
Journal entries (not required):
To record expense
Pension expense (given)
Plan assets (expected return on assets)
Prior service cost—AOCI (current amortization)
Net loss—AOCI (current amortization)
PBO ($224 service cost + $150 interest cost)
To record gain on assets ............................
Plan assets ...............................................
Gain—OCI (actual return exceeded expected return)
Solutions Manual, Vol.2, Chapter 17
($ in 000s)
294
90
8
2
374
10
10
© The McGraw-Hill Companies, Inc., 2013
17–28
Exercise 17–15
($ in 000s)
PBO
Plan
Assets
Prior
Service
Cost—
AOCI
Balance,
Jan. 1,
2013
(800)
600
114
( )s indicate
credits; debits
otherwise
Service
cost
Interest
cost, 5%
Expected
return on
assets
Adjust for:
Loss on
assets
Net
Loss—
AOCI
80
Pension
Expense
Cash
Net
Pension
(Liability
) / Asset
(200)
(84)
84
(84)
(40)
40
(40)
(48)
48
48
(6)
6
(6)
Amortization:
Prior
service
cost
(6)
Amortization:
Net loss
Gain on
PBO
Prior
service
cost
Cash
funding
Retiree
benefits
Bal., Dec.
31, 2013
6
0
12
(0)
(12)
0
12
0
0
68
50
(50)
(862)
660
(68)
108
74
82
68
(202)
© The McGraw-Hill Companies, Inc., 2013
17–29
Intermediate Accounting 7e
Exercise 17–16
Requirement 1
($ in millions)
Pension expense (calculated below)
Plan assets (expected return on assets)
Net loss—AOCI (current amortization)
Prior service cost—AOCI (current amortization)
PBO ($80 service cost + $42 interest cost)
88*
40
2
4
122
* Service cost
Interest cost
Expected return on the plan assets ($32 actual, plus $8 loss)
Amortization of prior service cost
Amortization of net loss
Pension expense
$ 80
42
(40)
4
2
$ 88
Computation of net loss amortization:
Net loss—AOCI (previous losses exceeded previous gains)
10% of $600 PBO (greater than $400 plan assets)
Amount to be amortized
$ 80
(60)
$ 20
÷ 10 years
$ 2
Amortization
The amortization amounts are reported as other comprehensive income in
the statement of comprehensive income.
Requirement 2
($ in millions)
Loss—OCI ($32 actual return on assets – $40 expected return)
Plan assets
8
PBO
Gain—OCI (from change in assumption regarding the PBO)
14
Solutions Manual, Vol.2, Chapter 17
8
14
© The McGraw-Hill Companies, Inc., 2013
17–30
Exercise 17–16 (concluded)
Requirement 3
Plan assets
Cash (contribution)
Requirement 4
PBO
Plan assets (retiree benefit payments)
($ in millions)
90
90
($ in millions)
38
38
© The McGraw-Hill Companies, Inc., 2013
17–31
Intermediate Accounting 7e
Exercise 17–17
List A
d_ 1. Future compensation levels estimated. a.
f_ 2. All funding provided by the employer. b.
a_ 3. Credit to OCI and debit to
c.
plan assets.
d.
l_ 4. Retirement benefits specified
e.
by formula.
f.
e_ 5. Trade-off between relevance
g.
and reliability.
h.
b_ 6. Cumulative gains in excess of losses. i.
g_ 7. Current pay levels implicitly assumed. j.
i_ 8. Created by the passage of time.
k.
c_ 9. Not contingent on future employment. l.
k_ 10. Risk borne by employee.
m.
h_ 11. Increased by employer contributions. n.
m_ 12. Caused by plan amendment.
j_ 13. Loss on plan assets.
n_ 14. Excess over 10% of plan assets or PBO.
Solutions Manual, Vol.2, Chapter 17
List B
Actual return exceeds expected
Net gain—AOCI
Vested benefit obligation
Projected benefit obligation
Choice between PBO and ABO
Noncontributory pension plan
Accumulated benefit obligation
Plan assets
Interest cost
Delayed recognition in earnings
Defined contribution plan
Defined benefit plan
Prior service cost
Amortize net loss—AOCI
© The McGraw-Hill Companies, Inc., 2013
17–32
Exercise 17–18
Requirement 1
A decrease in the discount rate from 7% to 6% increases the projected benefit
obligation. The lower the discount rate in a present value calculation, the higher the
present value. When the obligation increases, it is reported as a loss.
Requirement 2
($ in millions)
Loss—OCI (from change in discount rate)
PBO
13
13
U.S. GAAP requires that actuarial gains and losses be included among OCI items
in the statement of comprehensive income, thus subsequently become part of AOCI.
Requirement 3
Reporting actuarial gains and losses among OCI items in the statement of
comprehensive income also is required under IAS No. 19, referred to as
remeasurement gains and losses. Under IAS No. 19 they are not subsequently
amortized to expense and recycled or reclassified from other comprehensive income
as is required under U.S. GAAP (if the net gain or net loss exceeds the 10% corridor
threshold). So, the entry might be identical to the one in Requirement 2 except we call
it a “remeasurement” loss and the projected benefit obligation is called the defined
benefit obligation (DBO):
($ in millions)
Remeasurement loss—OCI (from change in discount rate) 13
DBO
13
© The McGraw-Hill Companies, Inc., 2013
17–33
Intermediate Accounting 7e
Exercise 17–19
Requirement 1
($ in millions)
Pension expense (calculated below)
Plan assets (expected return on assets)
Net gain—AOCI (current amortization)
Prior service cost—AOCI (current amortization)
PBO ($82 service cost + $24 interest cost)
67*
45
2
8
106
* Service cost
Interest cost
Expected return on the plan assets ($40 actual, plus $5 loss)
Amortization of prior service cost
Amortization of net gain
Pension expense
$ 82
24
(45)
8
(2)
$ 67
Computation of net gain amortization:
Net gain—AOCI (previous gains exceeded previous losses)
10% of $500 plan assets (greater than $480 PBO)
Amount to be amortized
$ 80
(50)
$ 30
÷ 15 years
$ 2
Amortization
Requirement 2
Journal entries to record gains and losses
($ in millions)
PBO (given) ..............................................
Gain—OCI (from change in assumption regarding the PBO)
10
Loss—OCI ($40 actual return on assets – $45 expected return)
Plan assets ...........................................
5
Requirement 3
10
5
($ in millions)
Plan assets
Cash (contribution)
70
PBO
Plan assets (benefit payments)
40
Solutions Manual, Vol.2, Chapter 17
70
40
© The McGraw-Hill Companies, Inc., 2013
17–34
Exercise 17–19 (continued)
Requirement 4
PBO
480 Jan. 1 balance
82 Service cost
24 Interest cost
New gain
10
Benefits paid
40
_________________
536 Dec. 31 balance
Plan Assets
Jan. 1 balance
Expected return
500
45
5 New loss
Cash funding
70
40 Benefits paid
_________________
Dec. 31 balance 570
© The McGraw-Hill Companies, Inc., 2013
17–35
Intermediate Accounting 7e
Exercise 17–19 (concluded)
SHAREHOLDERS’ EQUITY: ACCUMULATED
OTHER COMPREHENSIVE INCOME
Net Gain—AOCI
80
10
Jan. 1 balance
New gain
New loss
5
Amortized in 2013 2
_________________
83 Dec. 31 balance
Prior Service Cost—AOCI
Jan. 1 balance
48
8 Amortized in 2013
_________________
Dec. 31 balance 40
Requirement 5
The pension plan is overfunded. Beale will report a net pension asset of $34 million
in its 2013 balance sheet:
Plan assets
2012
2013
Solutions Manual, Vol.2, Chapter 17
$500
$570
–
–
–
PBO =
Net pension asset
480 =
536 =
$20
$34
© The McGraw-Hill Companies, Inc., 2013
17–36
Exercise 17–20
( )s indicate
credits; debits
otherwise
($ in millions)
PBO
Balance,
Jan. 1, 2013 (480)
Service cost (82)
Interest cost,
(24)
5%
Expected
return on
assets
Adjust for:
Loss on
assets
Plan
Assets
Prior
Service
Cost
–AOCI
500
48
Net
Gain
–AOCI
Cash
(80)
45
(5)
Pension
Expense
Net Pension
(Liability) /
Asset
82
20
(82)
24
(24)
(45)
45
5
(5)
Amortization
of:
Prior
service
cost
Net gain
Gain on
PBO
Cash
funding
Retiree
benefits
Balance,
Dec. 31,
2013
(8)
2
10
8
(2)
(10)
10
70
40
(40)
(536)
570
(70)
40
(83)
67
70
34
© The McGraw-Hill Companies, Inc., 2013
17–37
Intermediate Accounting 7e
Exercise 17–21
Requirement 1
($ in millions)
Service cost
Interest cost
Expected return on the plan assets ($27 actual, less $3 gain)
Amortization of prior service cost
Amortization of net gain or net loss—AOCI
Pension expense
$ 60
27
(24)
0*
0
$ 63
* Since the amendment was at the end of the year, there is no amortization of prior service
cost in 2013.
Requirement 2
($ in millions)
Pension expense (calculated above)
Plan assets (expected return on assets)
PBO ($60 service cost + $27 interest cost)
63
24
87
Plan assets
Gain—OCI ($27 actual return on assets – $24 expected return)
3
3
Prior service cost—OCI (from 2013 amendment)
PBO
12
Plan assets
Cash (funding contribution)
60
PB O
Plan assets (retiree benefits)
37
Solutions Manual, Vol.2, Chapter 17
12
60
37
© The McGraw-Hill Companies, Inc., 2013
17–38
Exercise 17–22
Under U.S. GAAP, prior service cost is included among other comprehensive
income items in the statement of comprehensive income and thus subsequently
becomes part of accumulated other comprehensive income where it is amortized
over the average remaining service period.
Under IAS No. 19, past service cost (called prior service cost under U.S. GAAP) is
expensed immediately as part of the service cost for the year.
Requirement 1
Income statement:
Service cost—2013
Past service cost
Service cost
Net interest cost (7.5% x [$360 – 240])
($ in millions)
$ 60
12
$ 72
$ 9
Other comprehensive income:
Remeasurement gain—OCI ($27 – [7.5% x $240])
($ 9)
Net pension cost (not separately reported)
$ 72
© The McGraw-Hill Companies, Inc., 2013
17–39
Intermediate Accounting 7e
Exercise 17–22 (concluded)
Requirement 2
($ in millions)
Service cost
DBO (2013 service cost)
DBO (past service cost)
72
Net interest cost (7.5% x [$360 – 240])
Plan assets (7.5% x $240: interest income)
DBO (7.5% x $360: interest cost)
9
18
Plan assets (actual return in excess of 7.5%)
Remeasurement gain—OCI ($27 – [7.5% x $240])
60
12
27
9
9
When Lacy adds its annual cash investment to its plan assets, the value of
those plan assets increases by $60 million:
To Record Funding
Plan assets
Cash (contribution to plan assets)
60
60
Lacy’s retired employees were paid benefits of $37 million in 2013. Paying
those benefits, of course, reduces the obligation to pay benefits (the DBO), and
since the payments are made from the plan assets, that balance is reduced as well:
To Record Payment of Benefits
DBO
Plan assets
Solutions Manual, Vol.2, Chapter 17
37
37
© The McGraw-Hill Companies, Inc., 2013
17–40
Exercise 17–23
B
1.
Change in actuarial assumptions for a defined benefit pension plan.
C
2.
Determination that the accumulated benefits obligation under a pension
plan exceeded the fair value of plan assets at the end of the previous year
by $17,000. The only pension-related amount on the balance sheet was
net pension liability of $30,000.
D
3.
Pension plan assets for a defined benefit pension plan achieving a rate of
return in excess of the amount anticipated.
D
4.
Instituting a pension plan for the first time and adopting GAAP for
employers’ accounting for defined benefit pension and other
postretirement plans.
© The McGraw-Hill Companies, Inc., 2013
17–41
Intermediate Accounting 7e
Exercise 17–24
Requirement 1
$72,000
EPBO
2013
Requirement 2
$72,000 x 2/[2+28]
EPBO
2013
fraction
earned
= $4,800
APBO
2013
Requirement 3
$72,000 x
EPBO
2013
1.06
to accrue
interest
= $76,320
EPBO
2014
Requirement 4
$76,320 x
EPBO
2014
3/30
fraction
earned
Solutions Manual, Vol.2, Chapter 17
= $7,632
APBO
2014
© The McGraw-Hill Companies, Inc., 2013
17–42
Exercise 17–25
Requirement 1
$50,000 x
EPBO
3/25
fraction
earned
= $6,000
APBO
Requirement 2
$6,000 (beginning APBO) x 6% = $360
Requirement 3
$53,000 x
EPBO
2013
1/25
attributed
to 2013
= $2,120
service
cost
Requirement 4
Postretirement benefit expense ($360 + 2,120) .......
Postretirement benefit liability .......................
2,480
2,480
© The McGraw-Hill Companies, Inc., 2013
17–43
Intermediate Accounting 7e
Exercise 17–26
Requirement 1
22 years
Requirement 2
$44,000
Requirement 3
$44,000 x
EPBO
?/22
fraction
earned
$44,000 x
EPBO
10/22
fraction
earned
= $20,000
APBO
= $20,000
APBO
10 years before 2012: beginning of 2003 (or end of 2002)
Requirement 4
$
?
x
EPBO
beg.
1.10
interest
multiple
$40,000 x
EPBO
beg.
1.10
interest
multiple
= $44,000
EPBO
end
= $44,000
EPBO
end
or, alternatively:
$
?
x
EPBO
$40,000 x
EPBO
9/22
fraction
earned
9/22
fraction
earned
Solutions Manual, Vol.2, Chapter 17
= $16,364
APBO
= $16,364
APBO
© The McGraw-Hill Companies, Inc., 2013
17–44
Exercise 17–27
Requirement 1
($ in 000s)
Service cost
Interest cost (7% x $700)
Return on the plan assets (10% x $50)
Amortization of prior service cost
Amortization of net gain
Postretirement benefit expense
$124
49
(5)
0
(1)
$167
Requirement 2
($ in 000s)
Postretirement benefit expense (calculated above) ........................
Plan assets (expected return on assets) ............................................
Net gain—AOCI (current amortization) ........................................
APBO ($124 service cost + $49 interest cost) ..............................
167
5
1
Plan assets ..................................................................................
Cash (contributions to fund) ......................................................
185
PBO ............................................................................................
Plan assets (retiree benefits) .....................................................
87
173
185
87
The amortization amount is reported as other comprehensive income on the statement
of comprehensive income.
© The McGraw-Hill Companies, Inc., 2013
17–45
Intermediate Accounting 7e
Exercise 17–28
Requirement 1
($ in 000s)
Net loss (previous losses exceeded previous gains)
10% of $2,800 ($2,800 is greater than $500)
Excess at the beginning of the year
Average remaining service years
Amount amortized to 2013 expense
$336
280
$ 56
÷ 14
$ 4
Requirement 2
($ in 000s)
Postretirement benefit expense
exclusive of net loss amortization
Amortization of net loss
Postretirement benefit expense
$212
4
$216
Requirement 3
($ in 000s)
Net loss, beginning of 2013
2013 gain on plan assets ([10% – 9%] x $500)
2013 amortization
2013 loss on PBO
Net loss, end of 2013
Solutions Manual, Vol.2, Chapter 17
$336
(5)
(4)
39
$366
© The McGraw-Hill Companies, Inc., 2013
17–46
Exercise 17–29
Requirement 1
($ in millions)
Service cost
Interest cost
Return on plan assets
Amortization of prior service cost
Postretirement benefit expense
$34
12 ƒ (8% x [$130 + 20])
(0)
1 ƒ($20 ÷ 20 yrs)
$47
Requirement 2
($ in millions)
Postretirement benefit expense (calculated above) ........................
Prior service cost—AOCI (amortization) ................................
APBO ($34 service cost + $12 interest cost) ................................
47
1
46
The amortization amount is reported as other comprehensive income in the statement
of comprehensive income.
© The McGraw-Hill Companies, Inc., 2013
17–47
Intermediate Accounting 7e
Exercise 17–30
Requirement 1
The “negative” prior service cost is first offset against any existing
prior service cost before it is amortized.
($ in 000s)
Prior service cost
Reduction for amendment
Negative prior service cost
Service period to full eligibility
Amortization
Requirement 2
Service cost
Interest cost
Return on plan assets
Amortization of prior service cost
Postretirement benefit expense
Solutions Manual, Vol.2, Chapter 17
$ 50
(80)
$(30)
÷ 15 years
$ 2
$114
36 ƒ (8% x [$530 – 80])
(0)
(2) ƒ ([$50 – 80] ÷ 15 yrs)
$148
© The McGraw-Hill Companies, Inc., 2013
17–48
Exercise 17–31
Requirement 1
($ in 000s)
Year
2014
2015
2016
2017
2018
2019
2020
2021
2022
2023
Totals
Number of
Employees
Still Employed
Fraction of
Total Service
Years
100/550
100
90
80
70
60
50
40
30
20
10
______
550*
90/550
80/550
70/550
60/550
50/550
40/550
30/550
20/550
10/550
Prior
Service
Cost
x $110
x 110
x 110
x 110
x 110
x 110
x 110
x 110
x 110
x 110
__________
550/550
Total Number
of Service Years
Amount
Amortized
= $ 20
= 18
= 16
= 14
= 12
= 10
=
8
=
6
=
4
=
2
_____
$110
Total Amount
Amortized
Requirement 2
$110,000 ÷ 5.5 years* = $20,000/year
* The average service life is the total estimated service years divided by the
total number of employees in the group:
550 years
total number
of service years
÷
100
=
total number
of employees
5.5 years
average
service years
© The McGraw-Hill Companies, Inc., 2013
17–49
Intermediate Accounting 7e
Exercise 17–32
Requirement 1
The specific citation that describes the guidelines is found in FASB ASC 715–
60–35: “Compensation-Retirement Benefits–Defined Benefit Plans–Other
Postretirement–Subsequent Measurement.”
a. What is the objective for attributing expected postretirement benefit
obligations to years of service: 715–60–35–61
b. When does the attribution period for expected postretirement benefits begin
for an employee: 715–60–35–66
c. When does the attribution period for expected postretirement benefits end
for an employee: 715–60–35–68
Requirement 2
Specifically, the guidelines are:
Attribution
35-61 In the context of this Subtopic, attribution is the process of assigning the
expected cost of benefits to periods of employee service. The general
objective is to assign to each year of service the cost of benefits earned or
assumed to have been earned in that year.
35-66 The beginning of the attribution period generally is the date of hire.
However, if the plan's benefit formula grants credit only for service from a
later date and that credited service period is not nominal in relation to
employees' total years of service before their full eligibility dates, the
expected postretirement benefit obligation is attributed from the beginning of
that credited service period.
35-68 In all cases, the end of the attribution period shall be the full eligibility date.
For postretirement benefit plans that are pay-related or that otherwise index
benefits during employees' service periods to their retirement date, the full
eligibility date and retirement date may be the same. The attribution period
for those benefits will differ from the attribution period for a similarly
defined pension benefit with a capped credited service period.
Solutions Manual, Vol.2, Chapter 17
© The McGraw-Hill Companies, Inc., 2013
17–50
Exercise 17–33
The FASB Accounting Standards Codification represents the single source of
authoritative U.S. generally accepted accounting principles. The specific citation for
each of the following items is:
1. The disclosure required in the notes to the financial statements for plan
assets:
FASB ASC 715–20–50–1b: “Compensation-Retirement Benefits–Defined
Benefit Plans-General–Disclosure–Disclosures by Public Entities.”
2. Recognition of the net pension asset or net pension liability:
FASB ASC 715–30–25–1: “Compensation-Retirement Benefits–Defined Benefit
Plans-Pension–Recognition–Recognition of Liabilities and Assets.”
3.
Disclosures required in the notes to the financial statements for pension cost
for a defined contribution plan:
FASB ASC 715–70–50–1: “Compensation-Retirement Benefits–Defined
Contribution Plans-Disclosure–General.”
© The McGraw-Hill Companies, Inc., 2013
17–51
Intermediate Accounting 7e
CPA / CMA REVIEW QUESTIONS
CPA Exam Questions
1. d. A company doesn’t report its PBO among liabilities in the balance sheet.
Neither does it report the plan assets it sets aside to pay those benefits
among assets in the balance sheet. However, a company must report the net
difference between those two amounts, referred to as the “funded status” of
the plan. The funded status for Wolf at Dec. 31, 2013, is $385,000 – 255,000
= $130,000.
2. b. Gains and losses (either from changing assumptions regarding a pension
obligation or the return on assets being higher or lower than expected) are
deferred and not immediately included in pension expense and net income.
They are, instead, reported in the statement of comprehensive income. The
statement includes not only items of other comprehensive income, but net
income as well.
3. d. The statement of comprehensive income will report a $2 million loss and an
$8 million gain. This will cause the net pension liability to decrease by $6
million. Accumulated other comprehensive income will increase by $6
million, the $8 million gain less the $2 million loss.
4. d. Amortizing a net gain for pensions and other postretirement benefit plans
will increase retained earnings and decrease accumulated other
comprehensive income. Amortization of a net gain reduces the expense and
thus increases net income and therefore retained earnings. Here’s the entry
to record the expense:
Postretirement expense ................................. xxx
Plan assets (expected return on assets) ................ xxx
Net gain—AOCI ........................................... xxx
APBO (service cost and interest cost) .........
Net loss—AOCI ..................................
Prior service cost—AOCI ....................
Solutions Manual, Vol.2, Chapter 17
xxx
xxx
xxx
© The McGraw-Hill Companies, Inc., 2013
17–52
CPA Exam Questions (concluded)
5. a. Gains and losses are deferred and not immediately included in
postretirement benefit expense and net income. They are, instead, reported
in the statement of comprehensive income. J&J, then, records a loss—other
comprehensive income when it revises its estimate of future health care
costs, causing its postretirement benefit obligation estimate to increase.
6. c. Gains and losses are reported in the statement of comprehensive income as
other comprehensive income under both sets of standards. Under IFRS, they
remain in AOCI while under GAAP they may be recycled to net income if a
net gain or net loss exceeds the “corridor.”
7. a.
Under U.S. GAAP, prior service cost is included among OCI items in the
statement of comprehensive income and thus subsequently becomes part of
AOCI where it is amortized over the average remaining service period. On
the other hand, under IAS No. 19, prior service cost (called past service cost
under IFRS) is combined with service cost and reported within the income
statement rather than as a component of other comprehensive income as it is
under GAAP, so it never is amortized to expense.
8. b. Under U.S. GAAP, prior service cost is included among OCI items in the
statement of comprehensive income and thus subsequently becomes part of
AOCI where it is amortized over the average remaining service period. On
the other hand, under IAS No. 19, prior service cost (called past service cost
under IFRS) is combined with service cost and reported within the income
statement rather than as a component of other comprehensive income as it is
under GAAP, so it never is amortized to expense.
CMA Exam Questions
1. a. The PBO is the actuarial present value of all future benefits attributable to
past employee service at a moment in time. It is based on assumptions as to
future compensation if the pension plan formula is based on future
compensation.
2. b. Prior service cost arises from the awarding of retroactive benefits resulting
from plan initiation or amendments. Prior service cost is assigned to the
future service periods of active employees using either a straight-line or
another acceptable method of allocation. Given that the average remaining
service life of the firm’s employees is 10 years, the annual charge is $19,000
($190,000 ÷ 10).
© The McGraw-Hill Companies, Inc., 2013
17–53
Intermediate Accounting 7e
PROBLEMS
Problem 17–1
Requirement 1
measurement date
1999
(beg.)
2013
(end)
2033
(end)
2051
(end)
___________________________________________________
15 years
20 years
Service period
18 years
Retirement
Requirement 2
1.6% x 15 x $90,000 = $21,600
Requirement 3
The present value of the retirement annuity as of the retirement date (end of
2033) is:
$21,600 x 10.05909* = $217,276
* Present value of an ordinary annuity of $1: n = 18, i = 7% (from Table 4)
The ABO is the present value of the retirement benefits at the end of 2013:
$217,276 x .25842* = $56,148
* Present value of $1: n = 20, i = 7% (from Table 2)
Requirement 4
1.6% x 18 x $100,000 = $28,800
$28,800 x 10.05909* = $289,702
$289,702 x .31657** = $91,711
* Present value of an ordinary annuity of $1: n = 18, i = 7% (from Table 4)
** Present value of $1: n = 17, i = 7% (from Table 2)
Solutions Manual, Vol.2, Chapter 17
© The McGraw-Hill Companies, Inc., 2013
17–54
Problem 17–2
Requirement 1
measurement date
p
1999
(beg.)
2013
(end)
2033
(end)
2051
(end)
___________________________________________________
15 years
20 years
Service period
18 years
Retirement
Requirement 2
1.6% x 15 x $240,000 = $57,600
Requirement 3
The present value of the retirement annuity as of the retirement date (end of
2033) is:
$57,600 x 10.05909* = $579,404
[This is the lump-sum equivalent of the retirement
annuity as of the retirement date.]
* Present value of an ordinary annuity of $1: n = 18, i = 7% (from Table 4)
The PBO is the present value of the retirement benefits at the end of 2013:
$579,404 x .25842* = $149,730
* Present value of $1: n = 20, i = 7% (from Table 2)
Requirement 4
1.6% x 18 x $240,000 = $69,120
$69,120 x 10.05909* = $695,284
$695,284 x .31657** = $220,106
* Present value of an ordinary annuity of $1: n = 18, i = 7% (from Table 4)
** Present value of $1: n = 17, i = 7% (from Table 2)
© The McGraw-Hill Companies, Inc., 2013
17–55
Intermediate Accounting 7e
Problem 17–3
Requirement 1
1.6% x 14 x $240,000 = $53,760
$53,760 x 10.05909* = $540,777
$540,777 x .24151** = $130,603
* Present value of an ordinary annuity of $1: n = 18, i = 7% (from Table 4)
** Present value of $1: n = 21, i = 7% (from Table 2)
Requirement 2
1.6% x 1 x $240,000 = $3,840
Requirement 3
$3,840 x 10.05909* = $38,627
$38,627 x .25842** = $9,982
* Present value of an ordinary annuity of $1: n = 18, i = 7% (from Table 4)
** Present value of $1: n = 20, i = 7% (from Table 2)
Requirement 4
$130,603 x 7% = $9,142
Requirement 5
PBO at the beginning of 2013 (end of 2012)
Service cost:
Interest cost: $130,603 x 7%
PBO at the end of 2013
Note:
$130,603
9,982
9,142
$149,727
In requirement 3 of the previous problem this same amount is calculated without
separately determining the service cost and interest elements (allowing for a $3
rounding adjustment).
Solutions Manual, Vol.2, Chapter 17
© The McGraw-Hill Companies, Inc., 2013
17–56
Problem 17–4
Requirement 1
PBO Without Amendment
PBO With Amendment
1.6% x 15 yrs. x $240,000 = $57,600
1.75% x 15 yrs. x $240,000 = $63,000
$57,600 x 10.05909* = $579,404
$63,000 x 10.05909* = $633,723
$579,404 x .25842** = $149,730
$633,723 x .25842** = $163,767
Ì
Ë
$14,037
Prior service cost
* Present value of an ordinary annuity of $1: n = 18, i = 7% (from Table 4)
** Present value of $1: n = 20, i = 7% (from Table 2)
Alternative calculation: 1.75 – 1.6 =
0.15% x 15 yrs x $240,000 = $5,400
$5,400 x 10.05909* = $54,319
$54,319 x .25842** = $14,037
Requirement 2
$14,037 ÷ 20 years (expected remaining service) = $702
Requirement 3
1.75% x 1 x $240,000 = $4,200
$4,200 x 10.05909* = $42,248
$42,248 x .27651** = $11,682
* Present value of an ordinary annuity of $1: n = 18, i = 7% (from Table 4)
** Present value of $1: n = 19, i = 7% (from Table 2)
Requirement 4
$163,767 x 7% = $11,464
Requirement 5
Service cost (from req. 3)
Interest cost (from req. 4)
Return on the plan assets (10% x $150,000)
Amortization of prior service cost (from req. 2)
Pension expense
$11,682
11,464
(15,000)
702
$8,848
© The McGraw-Hill Companies, Inc., 2013
17–57
Intermediate Accounting 7e
Problem 17–5
PBO With Previous Rate
1.6% x 15 yrs x $240,000 = $57,600
$57,600 x 10.05909
2
1
$579,404 x .25842 =
= $579,404
$149,730
PBO With Revised Rate
1.6% x 15 yrs x $240,000 = $57,600
$57,600 x 9.37189
3
= $539,821
4
$115,819
$539,821 x .21455 =
$33,911
Gain on PBO
1
2
3
4
Present value of an ordinary annuity of $1: n = 18, i = 7% (from Table 4)
Present value of $1: n = 20, i = 7% (from Table 2)
Present value of an ordinary annuity of $1: n = 18, i = 8% (from Table 4)
Present value of $1: n = 20, i = 8% (from Table 2)
Solutions Manual, Vol.2, Chapter 17
© The McGraw-Hill Companies, Inc., 2013
17–58
Problem 17–6
1.
2.
3.
4.
Projected Benefit Obligation
Balance, January 1, 2013
Service cost
Interest cost (6% x $0)
Benefits paid
Balance, December 31, 2013
Service cost
Interest cost (6% x $150)
Benefits paid
Balance, December 31, 2014
Plan Assets
Balance, January 1, 2013
Actual return on plan assets (10% x $0)
Contributions, 2013
Benefits paid
Balance, December 31, 2013
Actual return on plan assets (10% x $160)
Contributions, 2014
Benefits paid
Balance, December 31, 2014
Pension expense—2013
Service cost
Interest cost (6% x $0)
Expected return on the plan assets (10% x $0)
Pension expense
Pension Expense—2014
Service cost
Interest cost (6% x $150)
Expected return on the plan assets (10% x $160)
Pension expense
($ in 000s)
$ 0
150
0
(0)
$150
200
9
(0)
$359
$ 0
0
160
(0)
$160
16
170
(0)
$346
$150
0
0
$150
$200
9
(16)
$193
Net pension asset or net pension liability
PBO
Plan assets
Net pension asset, Dec. 31, 2013
$150
160
$ 10
PBO
Plan assets
Net pension liability, Dec. 31, 2014
$359
346
$ 13
© The McGraw-Hill Companies, Inc., 2013
17–59
Intermediate Accounting 7e
Problem 17–7
Requirement 1
($ in 000s)
Net gain (previous gains exceeded previous losses)
10% of $1,400 ($1,400 is greater than $1,100)
Excess at the beginning of the year
Average remaining service period years
Amount amortized to 2013 pension expense
$170
140
$ 30
÷ 15
$ 2
Requirement 2
Pension expense exclusive of net gain amortization
Amortization of net gain
Pension expense
Requirement 3
Net gain—AOCI, beginning of 2013
2013 loss on plan assets ([10% – 9%] x $1,100)
2013 amortization
2013 gain on PBO
Net gain—AOCI, end of 2013 (beg. of 2014)
Solutions Manual, Vol.2, Chapter 17
$325
(2)
$323
$(170)
11
2
(23)
$(180)
© The McGraw-Hill Companies, Inc., 2013
17–60
Problem 17–8
( )s indicate
credits; debits
otherwise
($ in millions)
Balance, Jan.
1, 2013
Service cost
Interest
cost, 10%
Expected
return on
assets
Adjust for:
Loss on
assets
PBO
(830)
(74)
Plan
Assets
Prior
Service
Cost
–AOCI
680
20
Net
Loss
–AOCI
Cash
93
(83)
68
(7)
Pension
Expense
Net
Pension
(Liability) /
Asset
74
(150)
(74)
83
(83)
(68)
68
7
(7)
Amortization of:
Prior
service
cost
Net loss
Loss on
PBO
Prior
service
cost
Cash
funding
Retiree
benefits
Bal., Dec.
31, 2013
(5)
(1)
(13)
5
1
13
(40)
(13)
40
(40)
84
50
(50)
(990)
775
(84)
55
112
95
84
(215)
© The McGraw-Hill Companies, Inc., 2013
17–61
Intermediate Accounting 7e
Problem 17–8 (concluded)
Calculations:
Interest cost = $830 x 10% = $83
Expected return on assets = $680 x 10% = $68
Amortization of net loss:
Net loss—AOCI
Corridor: 10% x $830
Excess
Avg. service life
2013 Amortization
$93
83
$10
10 years
$ 1
Requirement 2
($ in millions)
Pension expense (total) ...............................................................
Plan assets (expected return on plan assets).....................................
PBO ($74 service cost + $83 interest cost) ...................................
Prior service cost—AOCI (2013 amortization).........................
Net loss—AOCI (2013 amortization) .......................................
95
68
157
5
1
The amortization amounts are reported as other comprehensive income in the
statement of comprehensive income
Requirement 3
Record gains and losses and new prior service cost
($ in millions)
Loss—OCI ($61 actual return on assets less than $68 expected return)
Plan assets ...........................................
7
Loss—OCI (from change in assumption regarding the PBO)
Prior service cost—OCI (from new amendment to the PBO) ..........
PBO ......................................................................................
13
40
Requirement 4
7
57
($ in millions)
Plan assets
Cash (contribution to plan assets)
84
PBO
Plan assets (retiree benefits)
50
Solutions Manual, Vol.2, Chapter 17
84
50
© The McGraw-Hill Companies, Inc., 2013
17–62
Problem 17–9
1.
Pension expense
($ in 000s)
Service cost
$60
16
Interest cost (5% x $320)
Return on the plan assets (9% x $400) (36)
Amortization of prior service cost
0
Amortization of net loss or gain
0
Pension expense
$40
2.
Projected Benefit Obligation
Balance, January 1
Service cost
Interest cost
Benefits paid
Balance, December 31
$320
60
16
(44)
$352
Plan Assets
Balance, January 1
Actual return on plan assets
Contributions 2013
Benefits paid
Balance, December 31
$400
36
120
(44)
$512
3.
4.
Net Pension Asset or Net Pension Liability
PBO
Plan assets
Net pension asset, Dec. 31, 2013
$352
512
$160
© The McGraw-Hill Companies, Inc., 2013
17–63
Intermediate Accounting 7e
Problem 17–9 (concluded)
5. Journal Entries
($ in 000s)
Pension expense (total) ...............................................................
Plan assets (expected return on plan assets).....................................
PBO ($60 service cost + $16 interest cost) ...................................
Prior service cost—AOCI (2013 amortization) .......................
Net loss—AOCI (2013 amortization) .......................................
Plan assets
Cash (contribution to plan assets)
40
36
76
0
0
120
120
PBO
Plan assets (retiree benefits)
44
44
The amortization amounts are reported as other comprehensive income in the
statement of comprehensive income.
Jan. 1, 2013
PBO
Plan Assets
Net pension asset
$320
400
$ 80
Dec. 31, 2013
PBO
Plan Assets
Net pension asset
$352
512
$160
Solutions Manual, Vol.2, Chapter 17
© The McGraw-Hill Companies, Inc., 2013
17–64
Problem 17–10
Requirement 1
($ in millions)
Service cost
Interest cost
Expected return on the plan assets
($20 actual, plus $4 loss)
Amortization of prior service cost
Amortization of net gain or net loss—AOCI
Pension expense
$ 75
45
(24)
0*
0
$ 96
* Since the amendment was at the end of the year, there is
no amortization of prior service cost in 2013.
Requirement 2
Pension expense (calculated above)
Plan assets (expected return on assets: 8% x $300)
PBO ($75 service cost + $45 interest cost)
($ in millions)
96
24
120
Prior service cost—OCI (from 2013 amendment)
PBO
12
PBO
Gain—OCI* (change in assumption)
22
Loss—OCI ($20 actual return – $24 expected return)
Plan assets
12
22
4
4
Plan assets
Cash (funding contribution)
60
PBO
Plan assets (retiree benefits)
36
60
36
© The McGraw-Hill Companies, Inc., 2013
17–65
Intermediate Accounting 7e
Problem 17–10 (concluded)
Requirement 3
($ in millions)
PBO balance, January 1
$480
Service cost
75
Interest cost
45
Gain from change in actuarial assumption (22)
Prior service cost (new)
12
Benefits paid
(36)
PBO balance, December 31
$554
Plan assets balance, January 1
Actual return on plan assets
Contributions 2013
Benefits paid
Plan assets balance, December 31
$300
20
60
(36)
$344
Because the plan is underfunded, Electronic
Distribution will report a net pension liability:
PBO balance, December 31
$554
Plan assets balance, December 31
(344)
Net pension liability
$210
Solutions Manual, Vol.2, Chapter 17
© The McGraw-Hill Companies, Inc., 2013
17–66
Problem 17–11
Requirement 1
($ in millions)
Reported in income statement:
Service cost—2013
Past service cost
Service cost
$ 75
12
$ 87
Net interest cost (10% x [$480 – 300])
$ 18
Reported as OCI:
Remeasurement gain from assumption change—OCI
$(22)
Remeasurement loss on plan assets—OCI ($20 – [10% x $300])
10
Net pension cost (not separately reported)
$(12)
$ 93
© The McGraw-Hill Companies, Inc., 2013
17–67
Intermediate Accounting 7e
Problem 17–11 (continued)
Requirement 2
($ in millions)
Service cost
DBO (Service cost—2013)
DBO (past service cost)
87
Net interest cost (10% x [$480 – 300])
Plan assets (10% x $300: interest income)
DBO (10% x $480: interest cost)
18
30
Remeasurement loss—OCI ($20 – [10% x $300])
Plan assets (actual return below 10%)
10
DBO
Remeasurement gain—OCI (given)
22
75
12
48
10
22
When Electronic adds its annual cash investment to its plan assets, the value
of those plan assets increases by $60 million:
To Record Funding
Plan assets
Cash (contribution to plan assets)
60
60
Retired employees were paid benefits of $36 million in 2013. Paying those
benefits, of course, reduces the obligation to pay benefits (the DBO), and since the
payments are made from the plan assets, that balance is reduced as well:
To Record Payment of Benefits
DBO
Plan assets
Solutions Manual, Vol.2, Chapter 17
36
36
© The McGraw-Hill Companies, Inc., 2013
17–68
Problem 17–11 (concluded)
Requirement 3
($ in millions)
DBO balance, January 1
$480
Service cost
75
Interest cost (10% x $480)
48
Gain from change in actuarial assumption (22)
Past service cost
12
Benefits paid
(36)
DBO balance, December 31
$557
Plan assets balance, January 1
Actual return on plan assets
Contributions 2013
Benefits paid
Plan assets balance, December 31
$300
20
60
(36)
$344
Because the plan is underfunded, Electronic Distribution will report a net pension
liability:
DBO balance, December 31
$557
Plan assets balance, December 31
(344)
Net pension liability
$213
© The McGraw-Hill Companies, Inc., 2013
17–69
Intermediate Accounting 7e
Problem 17–12
Requirement 1
($ in millions)
2013
$520
220
(192)
40
(5)
$583
Service cost (given)
Interest on PBO (2013: 10% x $2,200*; 2014: 10% x $2,560*)
Expected return (2013: 12% x $1,600; 2014: 12% x $1,940**)
Amortization of prior service cost ($400 ÷ 10 years)
Amortization of net gain ***
Pension expense
*PBO
Balance, 1-1-2013
Prior service cost
Balance, 1-2-2013
Interest 10%
Service cost
Payments
Balance, 12-31-2013
Interest 10%
Service cost
Payments
Balance, 12-31-2014
2014
$570
256
(232.8)
40
none
$633.2
**Plan Assets
$1,800
400
$2,200
220
520
(380)
$2,560
256
570
(450)
$2,936
Balance, 1-1-2013
$1,600
2013 contribution
540
2013 actual return
180
Payments
(380)
Balance, 12-31-2013 $1,940
2014 contribution
590
2014 actual return
210
Payments
(450)
Balance, 12-31-2014 $2,290
*** Net Gain—AOCI
2013
Net gain—AOCI at 1-1-2013
10% of $1,800 ($1,800 is greater than $1,600):
Excess at the beginning of the year
Average remaining service period
Amount amortized to 2013 pension expense
2014
Net gain—AOCI at 1-1-2013
Loss in 2013 (actual return: $180 - expected return: $192)
Amortization in 2013 (calculated above)
Net gain—AOCI at 1-1-2014
10% of $2,560 ($2,560 is greater than $1,940):
No excess at the beginning of the year
$230
(180)
$ 50
÷ 10 years
$5
$230
(12)
(5)
$213
(256)
none
No amortization for 2014
Solutions Manual, Vol.2, Chapter 17
© The McGraw-Hill Companies, Inc., 2013
17–70
Problem 17–12 (continued)
Requirement 2
2013
Pension expense (total) ..............................................................
Plan assets (expected return on plan assets) ....................................
Net gain—AOCI (2013 amortization) ..........................................
PBO ($520 service cost + $220 interest cost) ...............................
Prior service cost—AOCI (2013 amortization) ........................
2014
Pension expense (total) ..............................................................
Plan assets (expected return on plan assets) ....................................
PBO ($570 service cost + $256 interest cost) ...............................
Prior service cost—AOCI (2014 amortization) ........................
($ in millions)
583
192
5
740
40
633.2
232.8
826.0
40.0
The amortization amounts are reported as other comprehensive income in the
statement of comprehensive income
Requirement 3
($ in millions)
2013
Loss—OCI ($180 actual return on assets less than $192 expected return) 12
Plan assets ............................................................................
12
Prior service cost—OCI (from new amendment to the PBO) ..........
PBO .....................................................................................
400
400
2014
Loss—OCI ($210 actual return on assets less than $232.8 expected return) 22.8
Plan assets ............................................................................
22.8
© The McGraw-Hill Companies, Inc., 2013
17–71
Intermediate Accounting 7e
Problem 17–12 (concluded)
Requirement 4
($ in millions)
2013
Plan assets
Cash (contribution to plan assets)
540
2014
Plan assets
Cash (contribution to plan assets)
590
2013
PBO
Plan assets (benefit payments)
380
2014
PBO
Plan assets (benefit payments)
450
Solutions Manual, Vol.2, Chapter 17
540
590
380
450
© The McGraw-Hill Companies, Inc., 2013
17–72
Problem 17–13
Balance at Jan. 1
Prior service cost
Amortization of prior service cost
Projected Benefit
Obligation
$
0
2,000,000
Plan Assets
$
0
2,000,000
250,000
$200,000
250,000
180,000
180,000
($2,000,000 ÷ 10 years)
Service cost
Interest cost
($2,000,000* x 9%)
Return on plan assets
Actual ($2,000,000** x 11%)
Expected ($2,000,000** x 9%)
Retirement payments
Cash contribution
Balance at Dec. 31
Note:
*
Pension
Expense
220,000
(180,000)
(16,000)
$2,414,000
(16,000)
250,000
$2,454,000
$450,000
The $40,000 gain ($220,000 – 180,000), while not included in pension
expense, is reported as a gain—OCI in the statement of comprehensive
income; it is carried forward as part of accumulated other comprehensive
income in the balance sheet to be combined with future gains and losses,
which will be included in pension expense only if the net gain or net loss
exceeds 10% of the higher of the PBO or plan assets.
Since the plan was adopted at the beginning of the year, the prior service cost
increased the PBO at that time.
** Since the prior service cost was funded at the beginning of the year, the plan
assets were increased at that time.
© The McGraw-Hill Companies, Inc., 2013
17–73
Intermediate Accounting 7e
Problem 17–14
1. Actual return on plan assets
($ in 000s)
Plan assets
Beginning of 2013
Actual return
Cash contributions
Less: Retiree benefits
End of 2013
$2,400
?
245
(270)
$2,591
Actual return = $2,591 – 2,400 – 245 + 270 = $216
2. Loss or gain on plan assets
Expected return
Actual return
Loss on plan assets
3. Service cost
PBO:
Beginning of 2013
Service cost
Interest cost
Loss (gain) on PBO
Less: Retiree benefits
End of 2013
$240 x (10% x $2,400)
(216)
$24
$2,300
?
161 x (7% x $2,300)
0
(270)
$2,501
Service cost = $2,501 – 2,300 – 161 + 270 = $310
Solutions Manual, Vol.2, Chapter 17
© The McGraw-Hill Companies, Inc., 2013
17–74
Problem 17–14 (concluded)
4. Pension expense
($ in 000s)
Service cost
Interest cost
Expected return ($216 actual, plus $24 loss)
Amortization of:
Prior service cost—AOCI
Net gain—AOCI
Pension expense
* 2013 loss on plan assets
$310
161
(240)
25
(6)
$250
x (7% x $2,300)
x ($325 – 300)
x ($330 – 300 – 24*)
5. Average remaining service life of active employees
Net gain, Jan. 1
10% of $2,400
Excess
Amount amortized
Average service period
$330
240
$ 90
÷ 6
15 years
© The McGraw-Hill Companies, Inc., 2013
17–75
Intermediate Accounting 7e
Problem 17–15
( )s indicate
credits; debits
otherwise
($ in 000s)
Balance, Jan.
1, 2013
Service
cost2
Interest
cost, 7%1
Expected
return on
assets3
Adjust for:
Loss on
assets4
PBO
Plan
Assets
(4100) 4530
Prior
Service
Cost
–AOCI
Net
Loss
–AOCI
840
477
Pension
Expense
Cash
Net
Pension
(Liability)
/ Asset
430
(332)
332
(332)
(287)
287
(287)
(453)
453
453
(53)
53
(53)
Amortization of:
Prior
service
cost5
Net loss6
Gain on
PBO
Cash
funding
Retiree
benefits
Bal., Dec.
31, 2013
(70)
(2)
44
70
2
(44)
44
340
295
(340)
340
(295)
(4380) 4975
770
484
238
595
1 7% x $4,100 = $287
2 $4,380 – 4,100 – 287 + 44 + 295 = $332
3 10% x $4,530 = $453 (expected)
4 10% x $4,530 = $453 (expected) – 400 = $53
5 $840 ÷ 12 = $70
6 ($477 – 453) ÷ 12 = $2
Solutions Manual, Vol.2, Chapter 17
© The McGraw-Hill Companies, Inc., 2013
17–76
Problem 17–16
Requirement 1
Calculation of pension expense:
Service cost (given)
Interest cost (given)
Expected return on the plan assets ($15 actual, plus $5 loss)
Amortization of prior service cost (given)
Amortization of the net loss *
Pension expense
* Amortization of the net loss:
Net loss—AOCI (previous losses exceeded previous gains)
10% of $300 ($300 is greater than $200): the “corridor”
Excess at the beginning of the year
Average remaining service period
Amount amortized to 2013 pension expense
($ in millions)
$48
24
(20)
4
1
$57
$40
(30)
$10
y 10 years
$1
To record expense
($ in millions)
Pension expense (total) ..............................................................
Plan assets (expected return on plan assets) ....................................
PBO ($48 service cost + $24 interest cost)...................................
Prior service cost—AOCI (2013 amortization) ........................
Net loss—AOCI (2013 amortization) .......................................
57
20
72
4
1
To record funding and benefit payment
($ in millions)
Plan assets
Cash (contribution to plan assets)
45
PBO
Plan assets (benefit payments)
20
45
20
© The McGraw-Hill Companies, Inc., 2013
17–77
Intermediate Accounting 7e
Problem 17–16 (continued)
Requirement 2
To record gains and losses
($ in millions)
Loss—OCI ($20 – 15 loss due to return on assets being less than expected) 5
Plan assets ...........................................
5
PBO .........................................................
Gain—OCI ($2 gain on change of PBO assumption)
2
2
Requirement 3
($ in millions)
PBO
Plan
Assets
Prior
Service
Cost
–AOCI
Net
Loss
–AOCI
Bal., Jan. 1, 2013
(300)
200
32
40
Service cost
Interest cost, 8%
Expected return on assets
Loss on assets
Amortization of:
Prior service cost–AOCI
Net loss–AOCI
(48)
(24)
( )s indicate credits; debits
otherwise
Gain on PBO
Bal., Dec. 31, 2013
Solutions Manual, Vol.2, Chapter 17
Cash
(100)
48
24
(20)
20
(5)
(48)
(24)
20
(5)
5
(4)
(1)
2
4
1
(2)
2
45
Cash contributions
Retiree benefits
Pension
Expense
20
(20)
(350)
240
(45)
28
42
Net
Pension
(Liability)
/ Asset
57
45
(110)
© The McGraw-Hill Companies, Inc., 2013
17–78
Problem 17–16 (continued)
Requirement 4
Calculation of pension expense:
Service cost (given)
Interest cost (given)
Expected return on the plan assets ($36 actual, less $12 gain)
Amortization of prior service cost (given)
Amortization of the net loss *
Pension expense
* Amortization of the net loss:
Net loss—AOCI (previous losses exceeded previous gains)
10% of $350 ($350 is greater than $240): the “corridor”
Excess at the beginning of the year
Average remaining service period
Amount amortized to 2014 pension expense
To record expense
Pension expense (total) ...............................................................
Plan assets (expected return on plan assets) ....................................
PBO ($38 service cost + $28 interest cost)...................................
Net loss—AOCI (2014 amortization) .......................................
Prior service cost—AOCI (2014 amortization) ........................
To record funding and benefit payments
($ in millions)
$38
28
(24)
4
0.7
$46.7
$42
(35)
$ 7
y 10 years
$ 0.7
($ in millions)
46.7
24.0
66.0
.7
4.0
($ in millions)
Plan assets ...........................................................
Cash (contribution to plan assets) ............................
30.0
PBO.....................................................................
Plan assets (benefit payments) ..............................
16.0
30.0
16.0
© The McGraw-Hill Companies, Inc., 2013
17–79
Intermediate Accounting 7e
Problem 17–16 (continued)
Requirement 5
To record gains and losses
($ in millions)
Loss—OCI ($5 loss on change of PBO assumption)
PBO .....................................................
5
5
Plan assets ...............................................
Gain—OCI ($36 actual return on assets exceeds $24 gain expected)
12
12
Requirement 6
SHAREHOLDERS’ EQUITY: ACCUMULATED
OTHER COMPREHENSIVE INCOME
Net Loss—AOCI
Balance, Jan. 1
New loss
42.0
5.0 12.0
New gain
0.7
Amortized in 2014
_________________
Balance, Dec.31 34.3
Prior Service Cost–AOCI
Balance, Jan. 1
28.0
4.0 Amortized in 2014
_________________
Balance, Dec.31 24.0
Solutions Manual, Vol.2, Chapter 17
© The McGraw-Hill Companies, Inc., 2013
17–80
Problem 17–16 (concluded)
Requirement 7
( )s indicate credits; debits
otherwise
Plan
Assets
Prior
Service
Cost
–AOCI
Net
Loss
–AOCI
240
28
42
($ in millions)
PBO
Bal., Jan. 1, 2014
(350)
Service cost
Interest cost, 8%
Expected return on assets
Gain on assets
Amortization of:
Prior service cost–AOCI
Net loss–AOCI
Loss on PBO
Cash contributions
Retiree benefits
(38)
(28)
16
30
(16)
Bal., Dec. 31, 2014
(405)
290
Pension
Expense
Cash
(110)
38
28
(24)
24
12
(38)
(28)
24
12
(12)
(4)
(0.7)
5
(5)
4
0.7
(30)
24
34.3
Net
Pension
(Liability)
/ Asset
46.7
(5)
30
(115)
© The McGraw-Hill Companies, Inc., 2013
17–81
Intermediate Accounting 7e
Problem 17–17
Requirement 1
To Record Pension Expense
($ in millions)
15.2
Deferred tax asset (40% x [$41 + 24 – 27]) .....................................
Pension expense ($41 + 24 – 27 + 4 + 1) ........................................
43.0
Plan assets (expected return on plan assets)..................................... 27.0
65.0
PBO ($41 service cost + $24 interest cost) ...................................
2.4
Prior service cost—AOCI (current amortization net of $1.6 tax benefit)
.6
Net loss—AOCI (current amortization net of $.4 tax benefit) ..........
Income tax expense (40% x $43)
................................................
17.2
Although for financial reporting purposes the income is reduced now, only the
actual contributions to the plan assets can be deducted for tax purposes. This creates a
“temporary difference” as described in Chapter 16.
Remember, we already recorded the deferred tax asset for the net loss and the prior
service cost, and amortizing a portion of those amounts now merely moves amounts to
the income statement, not the tax return where a tax benefit would be realized. We do,
however, need to record a deferred tax asset for the future deductible amounts created
by the new amounts—service cost, interest cost, and return on assets.
Also, because the annual tax expense should reflect both the current and deferred
tax effects of what occurs each year, the 2013 tax expense is reduced by the $17.2
million eventual tax savings from the 2013 pension expense.
Here now is how the new gain and new loss would be recorded if we now include
the tax implications:
Solutions Manual, Vol.2, Chapter 17
© The McGraw-Hill Companies, Inc., 2013
17–82
Problem 17–17 (continued)
To Record New Gains and Losses
Deferred tax asset (40% x $23) ...................
Loss—OCI ($23 loss, net of $9.2 tax benefit)
PBO .....................................................
Plan assets ................................................
Gain—OCI ($3 gain, net of $1.2 tax expense)
Deferred tax liability (40% x $3) ............
($ in millions)
9.2
13.8
23.0
3.0
1.8
1.2
Global reported a $23 million loss in 2013 from revising an assumption used to
calculate its PBO. That additional cost is recognized now on the statement of
comprehensive income but won’t be deducted until the pension benefits are paid in the
future. This creates a future deductible amount and thus a deferred tax asset for 40%
of the loss. In like manner, the $3 million gain creates a future taxable amount and
thus a deferred tax liability for 40% of the gain.
There are no tax effects of the funding and payment of benefits entries.
© The McGraw-Hill Companies, Inc., 2013
17–83
Intermediate Accounting 7e
Problem 17–17 (continued)
To Record Funding and Payment of Benefits
Plan assets ...............................................
Cash (contribution to plan assets) .............
($ in millions)
48
48
Earlier, when we recorded the pension expense, the book basis (financial
statement carrying value) of the net pension liability increased relative to its tax basis
(original value for tax purposes less amounts included to date on the tax return). That
created a temporary difference and thus a deferred tax asset. This occurred also in
previous years.
Now, when $48 million cash is paid, that payment is deducted for tax purposes.
This reduces our temporary difference and thus our deferred tax asset. As a portion of
this asset is realized, income taxes payable is reduced as well:
Income tax payable .................................
Deferred tax asset ($48 x 40%) .................
19.2
19.2
The payment for retiree benefits reduces both the obligation to make payments
and the plan assets used to make the payment. There is no net tax effect of that
transaction:
PBO .........................................................
Plan assets (retiree benefits)........................
Solutions Manual, Vol.2, Chapter 17
38
38
© The McGraw-Hill Companies, Inc., 2013
17–84
Problem 17–17 (concluded)
Requirement 2
GLOBAL COMMUNICATIONS
Statement of Comprehensive Income
Year ended December 31, 2013
Net income
$300.0
Other comprehensive income:
Net unrealized holding gain on investments ($30, net of $12 tax)
Loss on pensions—PBO estimate ($23, net of $9.2 tax benefit)
Gain on pensions—return on plan assets ($3, net of $1.2 tax)
Comprehensive income
$ 18.0
(13.8)
1.8
6.0
$306.0
© The McGraw-Hill Companies, Inc., 2013
17–85
Intermediate Accounting 7e
Problem 17–18
Requirement 1
Retirement
Period
5 years
Attribution Period
26 years
age
34
1990
(end)
age
age
60
62
2016 2018
(end) (end)
age
67
2023
(end)
___________________________________________________________________
retirement
Ç
date
hired
Ç
“full-eligibility”
date
Requirement 2
Year
End
2019
2020
2021
2022
2023
Expected
Net Cost
$4,000
4,400
2,300
2,500
2,800
PV of $1
n = 1–5, i = 6%
x .94340
x .89000
x .83962
x .79209
x .74726
Present Value
at Dec. 31, 2018
$ 3,774
3,916
1,931
1,980
2,092
$13,693
Requirement 3
$13,693 x .74726* = $10,232
*Present value of $1: n = 5, i = 6% (from Table 2)
Solutions Manual, Vol.2, Chapter 17
© The McGraw-Hill Companies, Inc., 2013
17–86
Problem 17–18 (concluded)
Requirement 4
$10,232 x 23 yrs*/26 yrs** = $9,051
* 1990-2013
** Attribution period (1990–2016)
Requirement 5
$13,693 x .79209* = $10,846 (EPBO)
* Present value of $1: n = 4, i = 6% (from Table 2)
$10,846 x 24 yrs*/26 yrs** = $10,012
* 1990–2014
** attribution period (1990–2016)
Requirement 6
$13,693 x .79209* = $10,846 (EPBO)
* Present value of $1: n = 4, i = 6% (from Table 2)
$10,846 x 1 yr/26 yrs = $417
Requirement 7
$9,051 (beginning APBO) x 6% = $543
Requirement 8
APBO at the beginning of 2014 (from req. 4)
Service cost: (from req. 5)
Interest cost: (from req. 6)
APBO at the end of 2014 (agrees with req. 5*)
$9,051
417
543
$10,011
* $1 difference due to rounding.
© The McGraw-Hill Companies, Inc., 2013
17–87
Intermediate Accounting 7e
Problem 17–19
EPBO
2013
2014
2015
2016
2017
2018
2019
2020
$18,000
19,800 1
21,780
23,958
26,354
28,989
31,888
35,077
Fraction
Earned
1/8
2/8
3/8
4/8
5/8
6/8
7/8
8/8
Totals
APBO
Service
Cost
$ 2,250 $ 2,250
4,950 2
2,475 3
8,168
2,723
11,979
2,995
16,471
3,294
21,742
3,624
27,902
3,986
35,077
4,385
$25,732
Interest
Cost
10%
$
0
225 4
495
817
1,198
1,647
2,174
2,790
$ 2,250
2,700 5
3,218
3,812
4,492
5,271
6,160
7,175
$9,346
$35,078
Expense
1 $18,000 x 1.10 = $19,800
2 $19,800 x 2/8 = $4,950
3 $19,800 x 1/8 = $2,475
4 $2,250 (APBO) x 10% = $225
5 $2,475 + 225 = $2,700
Solutions Manual, Vol.2, Chapter 17
© The McGraw-Hill Companies, Inc., 2013
17–88
Problem 17–20
Requirement 1
($ in 000s)
APBO:
Beginning of 2013
Service cost
Interest cost
Loss (gain) on APBO
Less: Retiree benefits
End of 2013
$460
?
23
0
(52)
$485
„ (5% x $460)
Service cost = $485 – 460 – 23 + 52 = $54
Requirement 2
($ in 000s)
Service cost
Interest cost
Return on plan assets
Amortization of:
prior service cost
net gain
Postretirement benefit expense
$54
23
(0)
10
(1)
$86
„ (5% x $460)
„ ($120 – 110)
„ ($50 – 49)
Requirement 3
($ in 000s)
Accumulated postretirement benefit obligation
Plan assets
Net postretirement benefit liability
$485
75
$410
© The McGraw-Hill Companies, Inc., 2013
17–89
Intermediate Accounting 7e
Problem 17–21
Requirement 1
The difference between an employer’s obligation (PBO) and the resources
available to satisfy that obligation (plan assets) is the funded status of the pension
plan. The employer must report the net difference between those two amounts,
referred to as the “funded status” of the plan in the balance sheet. It’s reported as a
pension liability if the PBO exceeds the plan assets or a pension asset if the plan assets
exceed the PBO. Toys R Us would report a pension liability of $19 million:
($ in millions)
PBO
Plan assets
Pension liability
Solutions Manual, Vol.2, Chapter 17
$111
92
$ 19
© The McGraw-Hill Companies, Inc., 2013
17–90
Problem 17–21 (continued)
Requirement 2
Gains or losses should not be part of pension expense unless and until total net
gains or losses exceed a defined threshold. Specifically, a portion of the excess is
included in pension expense only if it exceeds an amount equal to 10% of the PBO, or
10% of plan assets, whichever is higher. The amount that should be included is the
excess divided by the average remaining service period of active employees expected
to receive benefits under the plan. Amortization of a net loss is added to pension
expense. Pension expense in this instance is increased by a $1 million amortization of
the net loss:
($ in millions)
Unrecognized net actuarial loss
Less: 10% corridor (threshold)*
Excess
Service period
Amortization
$11.0
(10.8)
$ 0.2
÷ 10
$ .002**
**Toys R Us rounded this amount up to $1 million for the financial statements.
* 10% times either the PBO ($108) or plan assets ($75), whichever is larger.
Requirement 3
($ in millions)
Service cost
$6
Interest cost
5
Expected return on plan assets
(4)
Amortization of prior service cost
0
Amortization of net loss
1
Pension expense
$8
© The McGraw-Hill Companies, Inc., 2013
17–91
Intermediate Accounting 7e
Problem 17–21 (concluded)
Requirement 4
The pension liability, which is the difference between the PBO and plan assets,
increases by the combination of the service cost, interest cost, and the expected return
as is reflected in the following entry.
To Record Pension Expense..............................
($ in millions)
8
Pension expense (calculated in Req. 3) ......................................
4
Plan assets (expected return on assets) ........................................
11
PBO (service cost $6 + interest cost $5) ....................................
1
Net loss—AOCI (current amortization) .................................
The net pension liability (PBO minus plan assets) is affected only by the three
components of pension expense that change either the PBO or plan assets. The
pension expense also includes the $1 million amortization of net loss but, unlike the
other three components, this amortization amount affects neither the PBO nor the plan
assets and therefore doesn’t change the net pension liability.
The net loss—AOCI is reduced by the $1 million amortization. It’s reported as
other comprehensive income in the statement of comprehensive income.
Pension gains and losses (either from changing assumptions regarding the PBO or
the return on assets being higher or lower than expected) are deferred and not
immediately included in pension expense and net income. They are, however,
reported as other comprehensive income in the period they occur. Accordingly, the
actuarial gain that increased the PBO and the gain from the actual return exceeding the
expected return are reported in Toys R Us’s statement of comprehensive income as a
gain of $11 million and a gain of $14 – 2 = $12 million. Here are the entries:
($ in millions)
PBO ...........................................................
Loss–OCI (given) .........................................
11
Plan assets .................................................
Gain—OCI ($14 – 2)...................................
12
Solutions Manual, Vol.2, Chapter 17
11
12
© The McGraw-Hill Companies, Inc., 2013
17–92
CASES
Judgment Case 17–1
Requirement 1
Here is a graphical depiction of your estimated service and retirement periods:
2013
2052
2072
_____________________________________________
40 years
Service period
20 years
Retirement
Salary at retirement:
$100,000 x 3.26204, or
$100,000 x (1.03)40 = $326,204
1.5% x 40 x $326,204 = $195,722
The present value of the retirement annuity as of the retirement date (end of
2052) is:
$195,722 x 11.46992* = $2,244,916
[This is the lump-sum equivalent of the retirement
annuity as of the retirement date.]
* Present value of an ordinary annuity of $1: n = 20, i = 6%
© The McGraw-Hill Companies, Inc., 2013
17–93
Intermediate Accounting 7e
Case 17–1 (continued)
Requirement 2
The value of your plan assets as of the anticipated retirement date is $1,872,981:
A
B
C
D
End of
Years to
Year:
Retirement
Salary
Contribution
2013
39
100,000
8,000
2014
38
103,000
8,240
2015
37
106,090
8,487
2016
36
109,273
8,742
2017
35
112,551
9,004
2018
34
115,927
9,274
2019
33
119,405
9,552
2020
32
122,987
9,839
2021
31
126,677
10,134
2022
30
130,477
10,438
2023
29
134,392
10,751
2024
28
138,423
11,074
2025
27
142,576
11,406
2026
26
146,853
11,748
2027
25
151,259
12,101
2028
24
155,797
12,464
2029
23
160,471
12,838
2030
22
165,285
13,223
2031
21
170,243
13,619
2032
20
175,351
14,028
2033
19
180,611
14,449
2034
18
186,029
14,882
2035
17
191,610
15,329
2036
16
197,359
15,789
2037
15
203,279
16,262
2038
14
209,378
16,750
2039
13
215,659
17,253
2040
12
222,129
17,770
2041
11
228,793
18,303
2042
10
235,657
18,853
2043
9
242,726
19,418
2044
8
250,008
20,001
2045
7
257,508
20,601
2046
6
265,234
21,219
2047
5
273,191
21,855
2048
4
281,386
22,511
2049
3
289,828
23,186
2050
2
298,523
23,882
2051
1
307,478
24,598
2052
0
316,703
25,336
Lump-sum equivalent of the retirement annuity
as of the retirement date
Solutions Manual, Vol.2, Chapter 17
E
Future Value
at Retirement
77,628
75,431
73,296
71,222
69,206
67,247
65,344
63,495
61,698
59,952
58,255
56,606
55,004
53,447
51,935
50,465
49,037
47,649
46,300
44,990
43,717
42,479
41,277
40,109
38,974
37,871
36,799
35,757
34,745
33,762
32,806
31,878
30,976
30,099
29,247
28,419
27,615
26,834
26,074
25,336
1,872,981
© The McGraw-Hill Companies, Inc., 2013
17–94
Case 17–1 (concluded)
Your annual retirement pay assuming continuing investment of assets at 6% will be:
$1,872,981 ÷ 11.46992 = $163,295
* Present value of an ordinary annuity of $1: n = 20, i = 6%
Requirement 3
Based on the calculations alone, the state’s defined benefit plan offers the larger
retirement annuity and, therefore, lump-sum equivalent of the retirement annuity. Be
aware though that many other factors need to be considered. Plans vary in terms of
the flexibility regarding how you can choose to receive distributions of your
retirement assets. Very often, defined benefit plans provide benefits only until you
and/or your spouse dies with no benefits to other beneficiaries; whereas, assets
accumulated under defined contribution plans can be bequeathed to other
beneficiaries.
Also, greater uncertainty is associated with defined contribution plans, in general.
The employee bears the risk of uncertain investment returns and, potentially, might
settle for far less at retirement than at first expected. On the other hand, results may
exceed expectations as well. Risk is reversed in a defined benefit plan. Because
specific benefits are promised at retirement, the employer is responsible for making up
the difference when investment performance is less than expected.
Related, uncertainty regarding mortality significantly affects the equation.
Defined benefit plans pay benefits from retirement to death. Assets accumulated
under defined contribution plans, however, are a fixed amount. How well that amount
provides for retirement income depends on how many years you live after retirement.
© The McGraw-Hill Companies, Inc., 2013
17–95
Intermediate Accounting 7e
Communication Case 17–2
Suggested Grading Concepts and Grading Scheme:
Content (80% )
25 The net periodic pension expense measures this compensation and
consists of the following five elements which can vary differently
from changes in employment.(5 each; maximum of 25 for this part)
The service cost component is the present value of the benefits
earned by the employees during the current period.
The interest cost component is the increase in the projected benefit
obligation due to the passage of time.
The return on plan assets reduces the pension expense. The actual
return on plan assets component is the difference between the fair
value of the plan assets at the beginning and the end of the period,
adjusted for contributions and benefit payments. This amount is
adjusted for any gain or loss, so it is the expected return that actually
affects the calculation.
Prior service cost is created when a pension plan is amended and
credit is given for employee service rendered in prior years. This
retroactive credit is not recognized as pension expense entirely in the
year the plan is amended, but is recognized in pension expense over
the time that the employees who benefited from this credit work for
the company.
Gains and losses arise from changes in estimates concerning the
amount of the projected benefit obligation or the return on the plan
assets being different from expected. These are not included in
pension expense as they occur. They are instead reported as other
comprehensive income.
20 Gains and losses occur when the PBO or the return on plan assets
turns out to be different than expected. (10 each; maximum of 20 for
this part)
Gains and losses are reported as they occur in the statement of
comprehensive income, not as part of pension expense. They
accumulate over time as a net gain or net loss, a component of
accumulated other comprehensive income.
A net gain or a net loss affects pension expense only if it exceeds an
amount equal to 10% of the PBO, or 10% of plan assets, whichever is
higher.
Solutions Manual, Vol.2, Chapter 17
© The McGraw-Hill Companies, Inc., 2013
17–96
Case 17–2 (concluded)
When the corridor is exceeded, the excess is not charged to pension
expense all at once. Instead, the amount that should be included is the
excess divided by the average remaining service period of active
employees expected to receive benefits under the plan.
20 PBO and ABO compared (10 each; maximum of 20 for this part)
Both the accumulated benefit obligation and the projected benefit
obligation represent the present value of the benefits attributed by the
pension benefit formula to employee service rendered prior to a
specific date.
The accumulated benefit obligation is based on present salary levels
and the projected benefit obligation is based on estimated future salary
levels.
15 The projected benefit obligation in excess of plan assets:
This is the funded status of the plan and is reported in the balance
sheet as a pension liability (10 points)
If the plan assets exceed the PBO, it would be reported as a pension
asset. (5 points)
80 points
Writing (20%)
5
Terminology and tone appropriate to the audience of
assistant controllers.
6
Organization permits ease of understanding.
Introduction that states purpose.
Paragraphs separate main points.
9
English
Word selection.
Spelling.
Grammar.
20 points
© The McGraw-Hill Companies, Inc., 2013
17–97
Intermediate Accounting 7e
Judgment Case 17–3
Requirement 1
Yes, it’s true that the pension expense is calculated as if the balance sheet
contained certain amounts it doesn’t individually report, specifically the projected
benefit obligation and the pension assets. The balance sheet does actually reflect
these balances on a “net” basis; that is, the funded status of the plan is reported as a
net pension liability to the extent the PBO exceeds the pension assets or as a net
pension asset if the pension assets exceed the PBO.
Actually, even the pension expense falls short of reflecting all changes in the
PBO and plan assets due to methods invented by the FASB to defer the effect of
gains, losses, and the prior service cost.
Requirement 2
A small liability, $30,000, was reported in 2012 because the plan was
underfunded by that amount—the PBO exceeded plan assets. This was not the case
in 2013.
Requirement 3
A net pension asset, $405,000, was reported in 2013 because the plan was
overfunded by that amount—the plan assets exceeded the PBO. This was not the
case in 2012.
Solutions Manual, Vol.2, Chapter 17
© The McGraw-Hill Companies, Inc., 2013
17–98
Case 17–3 (concluded)
Requirement 4
Two of the other amounts reported in the disclosure note are reported in the
balance sheet. The net gain and prior service cost are reported as components of
accumulated other comprehensive income. This is a part of shareholders’ equity.
Requirement 5
Gains and losses occur when either the PBO or the return on plan assets turns out
to be different than expected. LGD’s net gain indicates that cumulative previous
gains of either type have exceeded cumulative previous losses of either type. The
loss in 2013 indicates the PBO is higher than previously expected due to some
unspecified change in an actuarial assumption. This loss, as well as any other loss or
gain, is reported in the statement of comprehensive income as it occurs.
A net gain or a net loss affects pension expense only if it exceeds an amount
equal to 10% of the PBO, or 10% of plan assets, whichever is higher. That appears
to be the case with LGD and the amortized portion of the net gain is one component
of the pension expense.
Requirement 6
As mentioned in the previous part, losses and gains are reported in the statement
of comprehensive income as they occur. These amounts accumulate as a net gain or
net loss in the balance sheet as part of accumulated other comprehensive income,
one of the components of shareholders’ equity.
© The McGraw-Hill Companies, Inc., 2013
17–99
Intermediate Accounting 7e
Communication Case 17–4
First, this case has no right or wrong answer. The process of developing the
proposed solutions will likely be more beneficial than the solutions themselves.
Students should benefit from participating in the process, interacting first with other
group members, then with the class as a whole.
Solutions should take into account the facts brought out in the solution to the
previous case on which this one is based. Also, it is likely that some of the
suggestions will be variations of the following alternatives:
1. The FASB “funded status” approach as described in the text.
2. Individual recognition of the projected benefit obligation and the plan assets.
3. Recognition of the accumulated benefit obligation rather than the projected
benefit obligation.
4. Alternatives 1, 2, or 3, but with no “smoothing”—deferral of gains, losses, or
prior service cost..
It is important that each student actively participate in the process. Domination
by one or two individuals should be discouraged. Students should be encouraged to
contribute to the group discussion by (a) offering information on relevant issues, (b)
clarifying or modifying ideas already expressed, or (c) suggesting an alternative
direction.
Solutions Manual, Vol.2, Chapter 17
© The McGraw-Hill Companies, Inc., 2013
17–100
Real World Case 17–5
Requirement 1
Dell’s pension plan is a defined contribution plan in the form of a 401(k) plan. It is
described in disclosure note 5:
Note 15. Benefit Plans (in part)
401(k) Plan — Dell has a defined contribution retirement plan (the "401(k)
Plan") that complies with Section 401(k) of the Internal Revenue Code.
Substantially all employees in the U.S. are eligible to participate in the 401(k)
Plan. Effective January 1, 2008, Dell matches 100% of each participant's
voluntary contributions, subject to a maximum contribution of 5% of the
participant's compensation, and participants vest immediately in all Dell
contributions to the 401(k) Plan. Dell's contributions during Fiscal 2011, Fiscal
2010, and Fiscal 2009 were $132 million, $91 million, and $93 million,
respectively.
Requirement 2
Defined contribution plans promise defined periodic contributions to a pension fund,
without further commitment regarding benefit amounts at retirement. Retirement
benefits are entirely dependent upon how well investments perform. Thus, the
employee bears the risk of uncertain investment returns. The employer is free of any
further obligation.
Requirement 3
Dell matches employee contributions dollar for dollar up to 5%. Also, both employee
and employer contributions vest immediately. So, she is entitled to roll over $20,400:
Employee contribution
$10,000
Dell match
10,000
Total invested
$20,000
Value increase (2% x $20,000)
400
Vested balance
$20,400
© The McGraw-Hill Companies, Inc., 2013
17–101
Intermediate Accounting 7e
Case 17–5 (concluded)
Requirement 4
Dell’s plan is a 401(k) plan—named after the Tax Code section that specifies the
conditions for the favorable tax treatment of these plans. 401(k) plans allow voluntary
contributions by employees, which in Dell’s case is matched up to 5% of salary per
year. Dell simply records pension expense equal to the cash contribution.
Summarized for the year, Dell recorded the following:
($ in millions)
Pension expense ..................................
Cash .................................................
Solutions Manual, Vol.2, Chapter 17
132
132
© The McGraw-Hill Companies, Inc., 2013
17–102
Ethics Case 17–6
Mr. Maxwell’s apparent motivation for the change in the way contributions are
handled is to have the company benefit from the earning power of the contributed
funds for up to three months, prior to the funds being deposited for the benefit of the
employees. Temporarily diverting 401(k) funds this way benefits the company at the
expense of the employee.
There is some question as to whether the practice described is illegal. In practice,
such cases are rarely prosecuted. Regardless of the legality, though, there is the
ethical question of whether the employer should earn dividends, interest, and so forth
on funds deducted from employees’ paychecks, prior to the funds being deposited to
the employees’ accounts.
© The McGraw-Hill Companies, Inc., 2013
17–103
Intermediate Accounting 7e
Research Case 17–7
Results will vary depending on companies chosen.
Walmart provided the following disclosures in its annual report for the year ending
January 31, 2011:
Note 14. Retirement-Related Benefits (in part)
The Company maintains separate Profit Sharing and 401(k) Plans for associates in the
United States and Puerto Rico, under which associates generally become participants
following one year of employment. Through fiscal 2011, the Profit Sharing
component of the plan was entirely funded by the Company, and the Company made
an additional contribution to the associates' 401(k) component of the plan. In addition
to the Company's contributions, associates could elect to contribute a percentage of
their earnings to the 401(k) component of the plan.
Beginning in fiscal 2012, the Company will offer a safe harbor 401(k) plan to all
eligible United States associates. The Company will match 100% of participant
contributions up to 6% of annual eligible earnings. The Company will offer the same
matching contribution to all eligible Puerto Rico associates. The matching
contributions will immediately vest at 100% for each associate. Participants can
contribute up to 50% of their pretax earnings, but not more than the statutory limits.
Participants age 50 or older may defer additional earnings in catch-up contributions up
to the maximum statutory limits.
Annual contributions made by the Company to the United States and Puerto Rico
Profit Sharing and 401(k) Plans are made at the sole discretion of the Company.
Contribution expense associated with these plans was $1.1 billion in fiscal 2011 and
2010 and $1.0 billion in fiscal 2009.
Employees in international countries who are not U.S. citizens are covered by various
post-employment benefit arrangements. These plans are administered based upon the
legislative and tax requirements in the countries in which they are established.
Solutions Manual, Vol.2, Chapter 17
© The McGraw-Hill Companies, Inc., 2013
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Case 17–7 (continued)
Annual contributions to international retirement savings and profit sharing plans are
made at the discretion of the Company, and were $221 million, $218 million and $210
million in fiscal 2011, 2010 and 2009, respectively.
The Company's subsidiaries in the United Kingdom and Japan have defined benefit
pension plans. The plan in the United Kingdom was underfunded by $494 million and
$339 million at January 31, 2011 and 2010, respectively. The plan in Japan was
underfunded by $309 million and $249 million at January 31, 2011 and 2010,
respectively. These underfunded amounts have been recorded in "Deferred income
taxes and other" in our Consolidated Balance Sheets at January 31, 2011 and 2010.
Certain other international operations have defined benefit arrangements that are not
significant.
In February 2011, ASDA and the trustees of ASDA's defined benefit plan agreed to
remove future benefit accruals from the plan and, with the consent of a majority of the
plan participants, also removed the link between past accrual and future pay increases.
In return, ASDA will pay £43 million (approximately $70 million) in compensation
costs to the plan participants. This curtailment charge will be recorded in expense in
the first quarter of fiscal 2012.
Older, more mature, companies are more likely to have defined benefit plans.
Macy’s, Inc., has a defined benefit plan described in Note 11. Among the many facts
disclosed is the following:
The following weighted average assumptions were used to determine benefit
obligations for the supplementary retirement plan at January 29, 2011 and January 30,
2010:
2010
2009
Discount rate
5.40%
5.65%
Rate of compensation increases
4.50%
4.50%
© The McGraw-Hill Companies, Inc., 2013
17–105
Intermediate Accounting 7e
Case 17–7 (concluded)
The Codification reference for the requirement to disclose the discount rate used to
estimate the PBO is:
FASB ASC 715–20–50–1k: Compensation-Retirement Benefits–Defined Benefit
Plans-General–Disclosure–Disclosures by Public Entities
Specifically, section k states:
x
k. On a weighted-average basis, all of the following assumptions used in the accounting for
the plans, specifying in a tabular format, the assumptions used to determine the benefit
obligation and the assumptions used to determine net benefit cost:
o
1. Assumed discount rates (refer to paragraph 715-30-35-45 for a discussion of
representationally faithful disclosure)
o
2. Rates of compensation increase (for pay-related plans)
o
3. Expected long-term rates of return on plan assets.
Solutions Manual, Vol.2, Chapter 17
© The McGraw-Hill Companies, Inc., 2013
17–106
Real World Case 17–8
Answers will vary depending on the year of the financial statements used. The
following answers are based on FedEx’s fiscal 2011 financial statements.
Requirement 1
FedEx sponsors both defined benefit and defined contribution pension plans as
well as a postretirement healthcare plan. These are described in disclosure note 12:
PENSION PLANS. Our largest pension plan covers certain U.S. employees age 21
and over, with at least one year of service. Pension benefits for most employees are
accrued under a cash balance formula we call the Portable Pension Account. Under
the Portable Pension Account, the retirement benefit is expressed as a dollar
amount in a notional account that grows with annual credits based on pay, age and
years of credited service, and interest on the notional account balance. The Portable
Pension Account benefit is payable as a lump sum or an annuity at retirement at the
election of the employee. The plan interest credit rate varies from year to year
based on a U.S. Treasury index. Prior to 2009, certain employees earned benefits
using a traditional pension formula (based on average earnings and years of
service); however, benefits under this formula were capped on May 31, 2008. We
also sponsor or participate in nonqualified benefit plans covering certain of our
U.S. employee groups and other pension plans covering certain of our international
employees. The international defined benefit pension plans provide benefits
primarily based on final earnings and years of service and are funded in
compliance with local laws and practices.
POSTRETIREMENT HEALTHCARE PLANS. Certain of our subsidiaries offer
medical, dental and vision coverage to eligible U.S. retirees and their eligible
dependents. U.S. employees covered by the principal plan become eligible for
these benefits at age 55 and older, if they have permanent, continuous service of at
least 10 years after attainment of age 45 if hired prior to January 1, 1988, or at least
20 years after attainment of age 35 if hired on or after January 1, 1988.
Postretirement healthcare benefits are capped at 150% of the 1993 per capita
projected employer cost, which has been reached and, therefore, these benefits are
not subject to additional future inflation.
© The McGraw-Hill Companies, Inc., 2013
17–107
Intermediate Accounting 7e
Case 17–8 (continued)
Requirement 2
A pension plan is underfunded when the obligation (PBO) exceeds the resources
available to satisfy that obligation (plan assets) and overfunded when the opposite
is the case. The PBO exceeds plan assets in both years reported. Thus, a net
pension liability is reported in the balance sheet both years, as FedEx’s defined
benefit plans are underfunded. The amounts of each are reported in the disclosure
note as reproduced below. The postretirement healthcare plan is not just
underfunded; it is unfunded. The funded status reported as a liability, then, is
equal to the postretirement benefit obligation each year.
Accumulated Benefit Obligation ("ABO")
Pension Plans
2011
2010
$16,806 $14,041
Postretirement
Healthcare Plans
2011 2010
Changes in Projected Benefit Obligation ("PBO") and Accumulated Postretirement Benefit
Obligation ("APBO")
PBO/APBO at the beginning of year
$14,484 $11,050
$565 $433
Service cost
521
417
31
24
Interest cost
900
823
34
30
Actuarial loss
1,875
2,607
44
102
Benefits paid
(468)
(391)
(48)
(45)
Other
60
(22)
22
21
PBO/APBO at the end of year
$17,372
Change in Plan Assets
Fair value of plan assets at the beginning of year
Actual return on plan assets
Company contributions
Benefits paid
Other
$648
$565
$13,295 $10,812
2,425
1,994
557
900
(468)
(391)
32
(20)
$—
—
26
(48)
22
$—
—
24
(45)
21
Fair value of plan assets at the end of year
$15,841
$13,295
$—
$—
Funded Status of the Plans
$(1,531)
$(1,189)
Solutions Manual, Vol.2, Chapter 17
$14,484
$(648) $(565)
© The McGraw-Hill Companies, Inc., 2013
17–108
Case 17–8 (concluded)
Requirement 3
FedEx reports three actuarial assumptions used to determine projected benefit
obligations:
Pension Plans
Discount rate
Rate of increase in future
compensation levels
Expected long-term rate of
return on assets
2011
2010
5.76%
6.37%
4.58%
4.63%
8.0%
8.0%
x The reported decrease in the discount rate from 2010 to 2011 increased
FedEx’s projected benefit obligation. The lower the discount rate in a
present value calculation, the higher the present value.
x FedEx reported a decrease in the rate of increase in future compensation
levels. This decreased FedEx’s PBO. Lower compensation estimates in the
pension formula result in lower estimates of retirement benefits and thus in
the PV of those benefits.
x The expected long-term rate of return on assets will not directly affect
FedEx’s projected benefit obligation. It affects instead the plan assets and
pension expense.
© The McGraw-Hill Companies, Inc., 2013
17–109
Intermediate Accounting 7e
Real World Case 17–9
Requirement 1
The increase in a company’s PBO attributable to making a plan amendment
retroactive is referred to as the prior service cost. Prior service cost adds to the
cost of having a pension plan. Amending a pension plan typically is done with the
idea that future operations will benefit from having done so. Thus, the cost is not
recognized as pension expense entirely in the year the plan is amended, but is
recognized as pension expense over the time that the employees who benefited
from the retroactive amendment will work for the company in the future. In GM’s
case, that may be a relatively short time. Apparently, a motive for GM’s
amendment was the expectation that employees would retire early and take
advantage of the limited time offer.
Requirement 2
The amendment increased GM’s pension obligation. GM’s pension expense will
be higher each year for as long as the prior service cost is amortized. Presumably,
in this instance, GM expects the bulk, if not all, of the cost to be expensed in the
first year.
Solutions Manual, Vol.2, Chapter 17
© The McGraw-Hill Companies, Inc., 2013
17–110
Analysis Case 17–10
Requirement 1
Normally, a company’s net periodic pension cost represents an expense and
therefore decreases earnings. Often, though, circumstances cause this element of
the income statement to actually increase reported earnings. This occurs when the
“expected return on assets,” a negative component of pension expense, is higher
than the combined total of the other components.
Consider the following disclosure adapted from a pension footnote in a previous
annual report of Qwest Communications that indicated that “the pension plan
contributed” $87 million to reported earnings during the year:
($ in millions)
Service cost
Interest cost
Expected return on plan assets.
Net (credit) cost
$ 170
601
(858)
$ (87)
The major contributor to this effect is the expected return on plan assets of over
$858 million.
© The McGraw-Hill Companies, Inc., 2013
17–111
Intermediate Accounting 7e
Case 17–10 (concluded)
Requirement 2
Companies must report the actuarial assumptions used to make estimates
concerning pension plans, namely the discount rate, the average rate of
compensation increase, and the expected long-term rate of return on plan assets.
x The expected long-term rate of return on assets directly affects the net pension
expense. The higher the rate, the higher the “expected return on assets,” a
negative component of the net pension cost. The more aggressive a company is
in estimating this return, the lower will be the expense and the higher reported
profits will be.
x The discount rate can affect profits, too. The higher the discount rate in a
present value calculation, the lower the present value. A lower present value
will decrease the service cost and interest cost components of the net pension
cost and increase earnings.
x The lower the rate of increase in future compensation levels, the lower will be
the PBO, the service cost, and interest cost. So, the lower the rate of increase in
future compensation levels, the higher earnings will be.
Solutions Manual, Vol.2, Chapter 17
© The McGraw-Hill Companies, Inc., 2013
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Research Case 17–11
The specification of postretirement benefit coverage in the Content Specification
Outline will depend on the date the website is accessed.
The examination structure comprises four separately scored sections:
x Auditing & Attestation
x Business Environment & Concepts
x Financial Accounting & Reporting (business enterprises, not-for-profit
organizations, and governmental entities)
x Regulation (professional responsibilities, business law, and taxation)
Postretirement benefits are not specifically mentioned by name. However, the content
specification outline indicates testing of standards for presentation and disclosure in
the balance sheet and of comprehensive income and, more specifically, employee
benefits are tested in the Financial Accounting & Reporting section.
The education requirements to sit for the CPA exam vary somewhat from state to
state. In Tennessee, examination candidates must have a minimum of 150 semester
(225 quarter) hours, which includes:
x A baccalaureate or higher degree from a Board-recognized academic institution,
x 24 semester hours in accounting, and
x 24 semester hours in general business subjects.
Educational requirements must be met within 120 days following the examination or
grades will be voided.
© The McGraw-Hill Companies, Inc., 2013
17–113
Intermediate Accounting 7e
Analysis Case 17–12
Requirement 1
($ in millions)
Net loss, beginning of 2010
Gain on plan assets (actual: $329 – 218)
2010 amortization
2010 loss on PBO
Net loss, end of 2010
$1,186
(112)*
(61)
103
$1,116
* rounded to reflect the $9M net gain Macy’s reports in Note 11: $112 – $103 = $9
Requirement 2
Gains or losses should not be part of pension expense unless and until total net
gains or losses exceed a defined threshold. Specifically, a portion of the excess is
included in pension expense only if it exceeds an amount equal to 10% of the PBO, or
10% of plan assets, whichever is higher. The amount that should be included is the
excess divided by the average remaining service period of active employees expected
to receive benefits under the plan. Amortization of net gains is deducted from pension
expense; amortization of a net loss is added to pension expense.
($ in millions)
Net loss
Less: 10% corridor (threshold)*
Excess
Service period
Amortization (given)
$ 1,186
(288)
$ 898
?
÷
$
61
Average service years = $ 898 ÷ $61 = 14.7 years
* 10% times either the beginning-of-the-period PBO ($2,879) or plan assets
($1,865), whichever is larger
Solutions Manual, Vol.2, Chapter 17
© The McGraw-Hill Companies, Inc., 2013
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Case 17–12 (concluded)
Requirement 3
($ in millions)
Net gain, beginning of 2010
Loss (gain) on plan assets (actual: 0 – expected: 0)
2010 amortization
2010 loss on APBO
Net gain, end of 2010
$38
0
(5)
(8)
$25
Requirement 4
Note 12 states the effect on expense of a 1% decrease in the healthcare
cost trend is $1M. Using that, we can determine the effect on net income
($ in millions):
$847 reported net income + $1 million (1 – .35) = $848.
© The McGraw-Hill Companies, Inc., 2013
17–115
Intermediate Accounting 7e
Air France–KLM Case
Requirement 1
Under IAS No. 19, prior service cost (called past service cost under IFRS) is
combined with service cost and reported within the income statement..
Under U.S. GAAP, prior service cost is not expensed immediately, but is
included among OCI items in the statement of comprehensive income and thus
subsequently becomes part of AOCI where it is amortized to earnings over the average
remaining service period.
Requirement 2
If AF used IFRS, it would report gains and losses among OCI items in the
statement of comprehensive income, which subsequently become part of AOCI. The
gains and losses remain in AOCI; they are not subsequently amortized to expense and
recycled or reclassified from other comprehensive income as is required under U.S.
GAAP (when the accumulated net gain or net loss exceeds the 10% threshold).
Requirement 3
Under IFRS the various components of pension expense are not reported as a
single net amount. AF would separately report service cost (including past service
cost) net interest cost/income, and amortization of remeasurement gains and losses.
Service cost and net interest cost/income would be reported within the income
statement. Remeasurement gains and losses would be reported as other
comprehensive income in the statement of comprehensive income. Under U.S.
GAAP, all components of pension expense are reported as a single net amount in the
operating profit (loss) section of the income statement.
Solutions Manual, Vol.2, Chapter 17
© The McGraw-Hill Companies, Inc., 2013
17–116