New IASB Proposal Could Increase Scrutiny of Risks Taken by DB Plans
April 29, 2010
(PLANSPONSOR.com) - The International Accounting Standards Board (IASB) on
Thursday issued its exposure draft on accounting for defined benefit (DB) pension
plans.
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 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 behavior if finalized in its current form.
Elements
of the proposal, according to a Mercer news release, include:
-
Profit
or loss would no longer include the expected risk premium for investing in
risky assets;
-
Buyouts
and settlements would no longer affect profit or loss; and
-
Administration
costs could materially increase net defined benefit liabilities.
At
present, the expected reward from taking investment risk with plan assets is
presented as profit, even if it is not actually achieved, while under the IASB
proposal, 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,” commented
Warren Singer, UK Head of Pension Accounting at Mercer, in the press release. “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 proposal, 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 cash flows 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,” Singer said.
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,” commented 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.”
The IASB’s exposure draft – IAS 19 “Defined
benefit plans” – is available from http://www.iasb.org.
Rebecca Moore
editors@plansponsor.com