IASB Reporting Proposal Seen Driving DB Risk Changes
30 April 2010 (PLANSPONSOREurope.com) - The International Accounting Standards Board (IASB) has issued its exposure draft on accounting for defined benefit (DB) pension plans – and changes could be in the wind for pension fund managers.
In fact, the proposed changes to international accounting standards (IAS 19) could encourage greater scrutiny of the risks taken by defined benefit plans and the way in which these risks are rewarded, according to Mercer.
In particular, Mercer said in a press release that it believes the proposal, which places both the upside and downside of risks taken by DB plans outside of the profit or loss account, could affect company behaviour if finalized in its current form.
“The proposals may encourage companies to de-risk their defined benefit plans, or will at least remove perceived barriers to de-risking. Under the proposals, the profit or loss amounts will be independent of the investing risks taken by the pension plan. This is a big change from the current standard, which rewards holding risky assets to take advantage of a higher expected rate of return – and thus lower expense,” commented Warren Singer, UK Head of Pension Accounting at Mercer.
Mercer noted that, at present, the expected reward from taking investment risk with plan assets is presented as profit, even if it is not actually achieved. However, under the proposals, the actual reward or loss from taking investment risk would be recognized immediately in the balance sheet but presented outside of the profit or loss account. “This change aims to improve the decision-usefulness of the profit or loss account for analysts and other users of those accounts,” continued Mr. Singer. “The proposal is a balance between using actual return on assets, which may introduce too much volatility for the profit or loss account to be useful, or using the expected return on assets, which has been criticized for creating artificial profits.”
Similarly under the proposals, Mercer noted that the cost of settling liabilities with an insurance company (compared to the accounting reserve) would be presented outside of the profit or loss account, as this type of settlement does not affect the expected future benefit cashflows to be provided by a DB plan. At present, this cost would reduce a company’s profits. “Again, this proposal would make it easier from an accounting perspective for companies to reduce risks and settle defined benefit liabilities with an insurer,” commented Singer.
Mercer views the IASB’s clarification of the intended treatment of administration costs as another important development. “The IASB feels there is some diversity in the treatment of administration costs and they are clarifying that entities should not include costs that have nothing to do with plan assets in the return on plan assets,” continued Mr. Singer. “For those companies who currently allow for administration costs in the expected return on asset assumption and who are not currently granting additional benefits, Mercer estimates that this clarification could add around up to 5% to the Defined Benefit Obligation and possibly result in a material change in disclosed deficit or surplus positions.”
Nevin E. Adams
editors@plansponsoreurope.com