Prepared by

Coby Harmon
University of California, Santa
Barbara
20-1
Westmont College
 CHAPTER 20
Accounting for Pensions and
Postretirement Benefits
LEARNING
OBJECTIVES
After studying this chapter, you should be able to:
1. Discuss the fundamentals of 4. Explain the accounting for
pension plan accounting. remeasurements.
2. Use a worksheet for 5. Describe the requirements
employer’s pension plan for reporting pension
entries. plans in financial
statements.
3. Explain the accounting for
past service costs. 6. Explain the accounting for
20-2 other postretirement
 PREVIEW OF CHAPTER 20

Intermediate Accounting
IFRS 3rd Edition
20-3 Kieso ● Weygandt ● Warfield
 LEARNING OBJECTIVE 1
Pension Plan Accounting Discuss the fundamentals
of pension plan
accounting.

An arrangement whereby an employer provides payments

to retired employees after for services they performed in
their working years.
Pension Plan
Administrator

Employer Contributions

Retired
Employees Benefit Payments Assets &
Liabilities

20-4 LO 1
 Pension Plan Accounting

Pension plans can be:

u Contributory: employees voluntarily make
payments to increase their benefits.

u Non-contributory: employer bears the entire

cost.

u Qualified pension plans: offer tax benefits.

Pension fund should be a separate legal and
accounting entity.

20-5 LO 1
 Pension Plan Accounting

Defined Contribution Defined Benefit Plan

u
Plan
Employer contribution u Benefit determined by plan
determined by plan (fixed) u Employer contribution
u Risk borne by employees varies (determined by
u Benefits based on plan Actuaries)
value u Risk borne by employer
Companies engage actuaries to ensure that a pension plan
is appropriate for the employee group covered.

20-6 LO 1
 Pension Plan Accounting

The Role of Actuaries in Pension

Accounting
Actuaries make predictions of mortality rates, employee
turnover, interest and earnings rates, early retirement
frequency, future salaries, and other factors necessary
to operate a pension plan.

They also compute the various pension measures that

affect the financial statements, such as
u the pension obligation,

u the annual cost of servicing the plan, and

u the cost of amendments to the plan.

20-7 LO 1
 Pension Plan Accounting

Measures of the Liability

Two questions:
1. What is the pension obligation that a company
should report in the financial statements?

2. What is the pension expense for the period?

20-8 LO 1
 Measures of the Liability
Alternative Approaches
Employer’s pension
obligation is the
deferred compensation
obligation it has to its
employees for their
service under the terms
of the pension plan.
ILLUSTRATION IASB’s
20.3
Different Measures
choice
of the Pension
Obligation

20-9 LO 1
 Measures of the Liability

Net Defined Benefit Obligation (Asset)

Net defined benefit liability (asset)
u Referred to as the funded status.

u Represents the deficit or surplus related to a

defined pension plan.

ILLUSTRATION 20.4
Presentation of Funded Status

20-10 LO 1
 Pension Plan Accounting

Reporting Changes in the Defined Benefit

Obligation (Asset)
The IASB requires:
u All changes in the defined benefit obligation and
plan assets in the current period be recognized in
comprehensive income.

u Companies report changes arising from different

elements of pension liabilities and assets in different
sections of the statement of comprehensive income,
depending on their nature.

20-11 LO 1
 Reporting Changes in Obligation
(Asset)
ILLUSTRATION 20.5
Reporting Changes in the Pension Obligation (Assets) Three Components
of Pension Costs

20-12 LO 1
 Reporting Changes in Obligation
(Asset)
Component of
1. Service Cost Pension Expense

u Current service cost - increase in the present value of

the defined benefit obligation from employee service in
the current period.
u Past service cost - change in the present value of the
defined benefit obligation for employee service for prior
periods—generally resulting from a plan amendment.
u Reported in the statement of comprehensive income in
the operating section of the statement and affects net
income.
u Companies must consider future compensation levels in
20-13 measuring the present obligation and periodic pension LO 1
 Reporting Changes in Obligation
(Asset)
Component of
2. Net Interest Pension Expense

u Computed by multiplying the discount rate by the

funded status of the plan (defined benefit obligation
minus plan assets).
u Net defined benefit obligation results in interest expense.
u Net defined benefit asset results in interest revenue.
u Amount is often shown below the operating section of
the income statement in the financing section.
u Discount rate is based on the yields of high-quality
bonds with terms consistent with the company’s
pension obligation.
20-14 LO 1
 Reporting Changes in Obligation
(Asset)
3. Remeasurements

u Gains and losses related to the defined benefit

obligation.
u Gains or losses on the fair value of the plan assets.
u This component is reported in other comprehensive
income, net of tax.
u Remeasurement gains or losses therefore affect
comprehensive income but not net income.

20-15 LO 1
 Pension Plan Accounting

Plan Assets and Actual Return

Plan Assets
u Investments in shares, bonds, other securities, and
real estate.
u Reported at fair value.
u Employer contributions and the actual return on
plan assets increase pension plan assets.
u Benefits paid to retired employees decrease plan
assets.

20-16 LO 1
 Plan Assets and Actual Return

Illustration: Hasbro SA has pension plan assets of

€4,200,000 on January 1, 2019. During 2019, Hasbro
contributed €300,000 to the plan and paid out retirement
benefits of €250,000. Its actual return on plan assets was
€210,000 for the year. Compute the amount of plan assets
at December 31, 2019.
Plan assets, January 1, 2019 €4,200,000
Contributions by Hasbro to plan 300,000
Actual return 210,000
Benefits paid to employees - 250,000
Plan assets, December 31, 2019 €4,460,000
ILLUSTRATION 20.6
Determination of Pension Assets

20-17 LO 1
 Plan Assets and Actual Return

Illustration: Hasbro SA has pension plan assets of

€4,200,000 on January 1, 2019. During 2019, Hasbro
contributed €300,000 to the plan and paid out retirement
benefits of €250,000. Its actual return on plan assets was
€210,000 for the year. Some companies compute the
actual return as follows.
Plan assets, January 1, 2019 €4,200,000
Plan assets, January 1, 2019 - 4,200,000
Increase in fair value of plan assets 260,000
Deduct: Contributions to plan €300,000
Add: Benefit payments to employees 250,000 - 50,000
Actual return € 210,000
ILLUSTRATION 20.8
Computation of Actual Return on Plan
20-18 Assets LO 1
 LEARNING OBJECTIVE 2
Using a Worksheet Use a worksheet for
employer’s pension plan
entries.

The “General Journal Entries” The “Memo Record”

columns determine the journal columns maintain
entries to record in the formal balances for the defined
general ledger accounts. benefit obligation and
plan assets.
20-19 LO 2
 2019 Entries and Worksheet

Illustration: On January 1, 2019, Zarle AG provides the

following information related to its pension plan for the
year 2019.
l Plan assets, January 1, 2019, are €100,000.
l Defined benefit obligation, January 1, 2019, is
€100,000.
l Annual service cost is €9,000.
l Discount rate is 10 percent.
l Funding contributions are €8,000.
l Benefits paid to retirees during the year are €7,000.

Instructions: Prepare a pension worksheet and pension

journal entry for Zarle Company for the year ending
20-20 LO 2
December 31, 2019.
 2019 Entries and Worksheet
2019 Pension worksheet for Zarle Company.

20-21 LO 2
 2019 Entries and Worksheet
2019 Pension journal entry for Zarle Company.

Journal Pension Expense 9,000

Entry Cash 8,000
Pension Asset/Liability 1,000
20-22 LO 2
 LEARNING OBJECTIVE 3
Past Service Costs Explain the accounting
for past service costs.

Past Service Cost

u Change in the present value of the defined benefit
obligation resulting from a plan amendment or a
curtailment.

u Expense past service cost in the period of the

ILLUSTRATION 20.12
Types of Past Service
amendment or curtailment. Costs

20-23 LO 3
 2020 Entries and Worksheet

Illustration: On January 1, 2020, Zarle AG amends the

pension plan to grant employees past service benefits
with a present value of €81,600. The following
additional facts apply to the pension plan for the year
2020.
l Annual service cost is €9,500.
l Discount rate is 10 percent.
l Annual funding contributions are €20,000.
l Benefits paid to retirees during the year are
€8,000.

Instructions: Prepare a pension worksheet and pension

journal entry for Zarle Company for the year ending
20-24
December 31, 2020. LO 3
 2020 Entries and Worksheet
2020 Pension worksheet for Zarle Company.

(1
)
(2
)

(1) Obligation $193,600 x 10%

(2) Assets $111,000 x 10%
20-25 LO 3
 LEARNING OBJECTIVE 4
Remeasurements Explain the accounting
for remeasurements.

Uncontrollable and unexpected swings that can

result from
1. sudden and large changes in the fair value of plan
assets and

2. changes in actuarial assumptions that affect the

amount of the defined benefit obligation.

Gains and losses reported in other comprehensive

income.

20-26 LO 4
 Remeasurements

Asset Gains and Losses

Difference between the actual return and the interest
revenue computed in determining net interest.

Illustration: Shopbob SE has plan assets at January 1,

2019, of €100,000. The discount rate for the year is 6
percent, and the actual return on the plan assets for 2019
is €8,000. In 2019, Shopbob should record an asset gain of
€2,000, computed as follows.

20-27 ILLUSTRATION 20.15 LO 4

 Remeasurements

Liability Gains and Losses

Any change in actuarial assumptions that affect the
amount of the defined benefit obligation.
u Companies report liability gains and liability losses
in Other Comprehensive Income (G/L).
u They accumulate the asset and liability gains and
losses from year to year in Accumulated Other
Comprehensive Income.
u This amount is reported on the statement of
financial position in the equity section.

20-28 LO 4
 2021 Entries and Worksheet

Illustration: The following facts for Zarle Company apply to

the pension plan for 2021.
l Annual service cost is €13,000.
l Discount rate is 10 percent.
l Actual return on plan assets is €12,000.
l Annual funding contributions are €24,000.
l Benefits paid to retirees during the year are €10,500.
l Changes in actuarial assumptions establish the end-of-
year defined benefit obligation at €265,000.

Instructions: Prepare a pension worksheet and pension

journal entry for Zarle Company for the year ending
December 31, 2021.
20-29 LO 4
 2021 Entries and Worksheet
2021 Pension worksheet for Zarle Company.

(1
)
(2
)

(3
)
(3
)

(1) Obligation $214,460 x

10%
20-30 (2) Assets $134,100 x 10% (3) Calculation next slide LO 4
 2021 Entries and Worksheet
2021 Pension worksheet for Zarle Company.

20-31 LO 4
 2021 Entries and Worksheet
2021 Pension journal entry for Zarle Company.

Pension Expense 21,036

Other Comprehensive Income (G/L) 28,004
Cash 24,000
Pension Asset/Liability 25,040
20-32 LO 4
 LEARNING OBJECTIVE 5
Reporting Pension Describe the requirements
for reporting pension
Plans in Financial plans in financial
statements.
Statements
Within the Financial Statements
Pension Expense
u Report these components in one section of the
statement of comprehensive income and report
total pension expense.

or

u Report the service cost component in operating

income and the net interest in a separate section
related to financing.

20-33 LO 5
 Within the Financial Statements

Gains and Losses (Remeasurements)

u Asset and liability gains and losses are recognized
in other comprehensive income.

u Not recognized in net income.

20-34 LO 5
 Within the Financial Statements
Illustration: Obey ASA provides the following information
for the year 2019.

ILLUSTRATION
20.20
Computation of Other
Comprehensive
Income

ILLUSTRATION
20.21
Computation of
Comprehensive
Income

20-35 LO 5
 Within the Financial Statements

The components other comprehensive income must be

reported using one of two formats:
1. a two statement approach or
2. a one statement approach (a combined statement
of comprehensive income).

Two
statemen
t
approach

ILLUSTRATION
20.22
Comprehensive
Income
20-36
Reporting LO 5
 Within the Financial ILLUSTRATION 20.23
Computation of

Statements Accumulated Other

Comprehensive Income

ILLUSTRATION 20.24
Reporting of
Accumulated OCI

20-37 LO 5
 Within the Financial Statements

Recognition of the Net Funded Status of the

Pension Plan
u Companies must recognize on their statement
of financial position the overfunded (pension
asset) or underfunded (pension liability) status
of their defined benefit pension plan.

20-38 LO 5
 Within the Financial Statements

Classification of Pension Asset or Pension

Liability
u The excess of the fair value of the plan assets
over the defined benefit obligation is classified as
a noncurrent asset.

20-39 LO 5
 Within the Financial Statements

Aggregation of Pension Plans

u The only situation in which offsetting is
permitted is when a company:
1. Has a legally enforceable right to use a
surplus in one plan to settle obligations in the
other plan, and

2. Intends either to settle the obligation on a

net basis, or to realize the surplus in one plan
and settle its obligations under the other
plan simultaneously.

20-40 LO 5
 Within the Notes to Financial
Statements
A company is required to disclose information
that:
a. Explains characteristics of its defined benefit
plans and risks associated with them.

b. Identifies and explains the amounts in its

financial statements arising from its defined
benefit plans.

c. Describes how its defined benefit plans may

affect the amount, timing, and uncertainty of
the company’s future cash flows.

20-41 LO 5
 Other Postretirement LEARNING OBJECTIVE 6
Explain the accounting for
Benefits other postretirement
benefits.

ILLUSTRATION 20.27
Differences between Pensions and
Postretirement Healthcare Benefits

20-42 LO 6
 GLOBAL ACCOUNTING
INSIGHTS
LEARNING OBJECTIVE 7
Compare the accounting for income taxes under IFRS and U.S. GAAP.

Postretirement Benefits
The underlying concepts for the accounting for postretirement
benefits are similar between U.S. GAAP and IFRS—both U.S. GAAP
and IFRS view pensions and other postretirement benefits as forms
of deferred compensation. At present, there are significant
differences in the specific accounting provisions as applied to these
plans.

20-43 LO 7
 GLOBAL ACCOUNTING
INSIGHTS
Relevant Facts
Following are the key similarities and differences between U.S.
GAAP and IFRS related to pensions.
Similarities
• U.S. GAAP and IFRS separate pension plans into defined
contribution plans and defined benefit plans. The accounting for
defined contribution plans is similar.
• U.S. GAAP and IFRS recognize a pension asset or liability as the
funded status of the plan (i.e., defined benefit obligation minus
the fair value of plan assets). (Note that defined benefit obligation
is referred to as the projected benefit obligation in U.S. GAAP.)
• U.S. GAAP and IFRS compute unrecognized past service cost
(PSC) (referred to as prior service cost in U.S. GAAP) in the same
20-44 LO 7
manner.
 GLOBAL ACCOUNTING
INSIGHTS
Relevant Facts
Differences
• U.S. GAAP includes an asset return component based on the
expected return on plan assets. While both U.S. GAAP and IFRS
include interest expense on the liability in pension expense, under
IFRS for asset returns, pension expense is reduced by the amount
of interest revenue but other changes in asset values
remeasurements are recorded in other comprehensive in come.
• U.S. GAAP amortizes PSC over the remaining service lives of
employees, while IFRS recognizes past service cost as a
component of pension expense in income immediately.

20-45 LO 7
 GLOBAL ACCOUNTING
INSIGHTS
Relevant Facts
Differences
• U.S. GAAP recognizes liability and asset gains and losses in
“Accumulated other comprehensive income” and amortizes these
amounts to income over remaining service lives (generally using
the “corridor approach”). Under IFRS, companies recognize both
liability and asset gains and losses (referred to as
remeasurements) in other comprehensive income. These gains and
losses are not “recycled” into income in subsequent periods.
• U.S. GAAP has separate standards for pensions and
postretirement benefits, and significant differences exist in the
accounting. The accounting for pensions and other postretirement
benefit plans is the same under IFRS.
20-46 LO 7
 GLOBAL ACCOUNTING
INSIGHTS
On the Horizon
The IASB and the FASB have been working collaboratively on a
postretirement benefit project. The recent amendments issued by
the IASB moves IFRS closer to U.S. GAAP with respect to
recognition of the funded status on the statement of financial
position. Significant differences remain in the components of
pension expense. If the FASB restarts a project to reexamine
expense measurement of postretirement benefit plans, it likely will
consider the recent IASB amendments in this area.

20-47 LO 7
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20-48