Service Costs

This component of net periodic pension cost is the actuarial present value of benefits attributed during the current period. Under ASC 715-30, the plan's benefit formula is the key to attributing benefits to employee service periods. In most cases, this attribution is straightforward.

If the benefit formula is ambiguous, the accounting for pension service costs must be based on the substantive plan. In some cases, this means that if an employer has committed to make future amendments to provide benefits greater than those written in the plan, that commitment is the basis for the accounting. The relevant facts regarding that implicit commitment are disclosed.

Employers use pensions as a compensation tool to aid in the recruitment and long-term retention of employees. To provide incentives for employees to continue their employment with the company over time, plan participants' rights to receive present or future pension benefits are often conditioned on continued employment with the employer/plan sponsor for a specified period. As the conditions are satisfied, the employee is said to “vest” in that portion of the future benefits that become unconditional.

Vesting schedules can result in a disproportionate share of plan benefits being attributed to later years of employment. In this situation, instead of applying the benefit formula, proportions or ratios are used to attribute projected benefits to years of service in a manner that more equitably reflects the substance of timing of earning of the employee benefits. Normally, the actuary accomplishes this by attributing plan benefits to completed years of service by multiplying total benefits by the following ratio:

Certain types of benefits are not includable in vested benefits (e.g., death or disability benefit) and, thus, require a different allocation formula to attribute them to years of service. If the plan's benefit formula does not specify how to relate the benefit to years of service, the following formula is used by the actuary to attribute the benefits to years of service:

ASC 715-30 actuarial assumptions must reflect plan continuation, must be consistent as to future economic expectations, and must be the best estimate in regard to each individual assumption. It is not acceptable to determine that the aggregate assumptions are reasonable if any of the individual assumptions are unreasonable.

The discount rate used in the calculation of service costs is the rate at which benefits could be settled. Examples include those rates in current annuity contracts, those published by the Pension Benefit Guaranty Corporation (PBGC), and those that reflect returns on high-quality, fixed-income investments.

Future compensation is considered in the calculation of the service cost component to the extent specified by the benefit formula. To the degree considered in the benefit formula, future compensation includes changes due to advancement, longevity, inflation, etc. Indirect effects, such as predictable bonuses based on compensation levels, and automatic increases specified by the plan also need to be considered. The effect of retroactive amendments is included in the calculation when the employer has contractually agreed to them. Service costs attributed during the period increase both the ABO and PBO, since they result in additional benefits to be payable in the future.

Interest on PBO

The PBO is a discounted amount. It represents the discounted actuarial present value, at the date of the valuation, of all benefits attributed under the plan's formula to employee service rendered prior to that date. Each year, when the actuary calculates the end-of-year PBO, it is one year closer to the year in which the benefits attributed in prior years will be paid to participants. Consequently, the present value of those previously attributed benefits will have increased to take into account the time value of money. This annual increase, computed by multiplying the assumed settlement discount rate times the PBO at the beginning of the year, increases net periodic pension cost and PBO.

Since this “interest” cost is accounted for as part of pension cost, it is not treated as interest for the purposes of computing capitalized interest under ASC 835-20.

Benefits Paid

Benefits paid to retirees are deducted from the above to arrive at the end-of-the-year statement of financial position amounts of the accumulated benefit obligation and the projected benefit obligation.

Actual Return on Plan Assets

This component is the difference between the fair value of the plan assets at the end of the period and the fair value of the plan assets at the beginning of the period adjusted for contributions and payments during the period. Another way to express the result is that it is the net (realized and unrealized) appreciation and depreciation of plan assets plus earnings from the plan assets for the period.

ASC 715 requires that measurements of defined benefit plan assets and obligations must (with limited exceptions) be as of the date of the statement of financial position of the respective reporting entity.

Gain or Loss

Gains (losses) result from (1) changes in plan assumptions, (2) changes in the amount of plan assets, and (3) changes in the amount of the projected benefit obligation. As discussed previously, even though these gains or losses are economic events that impact the sponsor's obligations under the plan, immediately upon their occurrence, their instantaneous recognition in the sponsor's results of operations is not permitted by ASC 715-30. Instead, to provide “smoothing” of the effects of what are viewed as being short-term fluctuations, the net gain (loss) is amortized if it meets certain criteria specified below.

ASC 715 requires that actuarial gains and losses be given recognition in other comprehensive income as they occur, thus affecting statement of financial position display in full, even as the expense recognition is deferred and amortized. If actuarial gains are realized, this will give rise to a pension- or other benefit plan-related asset (or reduction in a pension- or benefit plan-related liability); if actuarial losses are incurred, these will give rise to a benefit plan liability, or reduction in an extant plan asset.

Since actuarial cost methods are based on numerous assumptions (employee compensation, mortality, turnover, earnings of the pension plan, etc.), it is not unusual for one or more of these assumptions to be invalidated by changes over time. Adjustments will invariably be necessary to bring prior estimates back into line with actual events. These adjustments are known as actuarial gains (losses). The accounting issue regarding the recognition of actuarial adjustments is their timing. All pension costs must eventually be recognized as expense. Actuarial gains (losses) are not considered prior period adjustments since they result from a refinement of estimates arising from obtaining subsequent information. These are considered changes in an estimate, and are to be recognized in current and future periods (i.e., prospectively only).

Plan asset gains (losses) result from both realized and unrealized amounts. They represent periodic differences between the actual return on assets and the expected return. The expected return is generated by multiplying the expected long-term rate of return by the market-related value of plan assets. Market-related value is a concept unique to pension accounting. It results from the previously discussed actuarial smoothing techniques under ASC 715-30.

Market-related value consists of two components. The first component is the fair value of the plan assets. The second component is an adjustment for the unrecognized portion of previous years' market gains or losses that are being amortized over a period of five years or less using a consistently applied method. Consistently applied means from year to year for each asset class (i.e., bonds, equities), since different classes of assets may have their market-related value calculated in a different manner (i.e., fair value in one case, moving average in another case). Thus, the market-related value may be fair value, but it also may be other than fair value if all or a portion of it results from calculation.

Plan asset gains (losses) include both (1) changes in the market-related value of assets (regardless of definition) from one period to another and (2) any changes that are not yet reflected in market-related value (i.e., the difference between the actual fair values of assets and the calculated market-related values). Only the former changes are recognized and amortized. The latter changes are recognized over time through the calculated market-related values. Differences between the actual amount of PBO from the assumed amount will also result in gain (loss).

Irrespective of the income smoothing techniques used, if this unrecognized net gain (loss) exceeds a “corridor” of 10% of the greater of the beginning balances of the market-related value of plan assets or the projected benefit obligation, a minimum amount of amortization is required. The excess over 10% is divided by the average remaining service period of active employees and included as a component of net pension costs. Average remaining life expectancies of inactive employees may be used if that is a better measure due to the demographics of the plan participants. ASC 715-30 sets forth a methodology for the deferred recognition of the income statement effects of actuarial changes pertaining to plan assets and obligations.

Net pension costs include only the expected return on plan assets. Any difference between actual and expected returns is deferred through the gain (loss) component of net pension cost. If actual return is greater than expected return, net pension cost is increased to adjust the actual return to the lower expected return. If expected return is greater than actual return, the adjustment results in a decrease to net pension cost to adjust the actual return to the higher expected return. If the unrecognized net gain (loss) is large enough, it is amortized. Conceptually, the expected return represents the best estimate of long-term performance of the plan's investments. In any given year, however, an unusual short-term result may occur given the volatility of financial markets.

The expected long-term rate of return used to calculate the expected return on plan assets is the average rate of return expected to be earned on invested funds to provide for pension benefits included in the PBO. Present rates of return and expected future reinvestment rates of return are considered in arriving at the rate to be used.

To summarize, net periodic pension cost includes a gain (loss) component consisting of both of the following, if applicable:

1. As a minimum, the portion of the unrecognized net gain (loss) from previous periods that exceeds the greater of 10% of the beginning balances of the market-related value of plan assets or the PBO, usually amortized over the average remaining service period of active employees expected to receive benefits.
2. The difference between the expected return and the actual return on plan assets.

An accelerated method of amortization of unrecognized net gain (loss) is acceptable if it is applied consistently to both gains and losses, and if the method is disclosed in the notes to the financial statements. In all cases, at least the minimum amount discussed above must be amortized.

Amortization of Unrecognized Prior Service Cost

Prior service costs are incurred when the sponsor adopts plan amendments that increase plan benefits attributable to services rendered by plan participants in the past. These costs are accounted for as a change in estimate. Prior service costs are measured at the amendment date by the increase in the projected benefit obligation. The remaining service period of every active employee expected to receive benefits is estimated, and an equal amount of prior service cost is assigned to each future period. This is called the years-of-service amortization method.

The foregoing example illustrates the years-of-service amortization method. Consistent use of an accelerated amortization method is also acceptable and must be disclosed if used.

If most of the plan's participants are inactive, remaining life expectancy is used as a basis for amortization instead of estimated remaining service period. If economic benefits will be realized by plan participants over a shorter period than the remaining service period, amortization of costs is accelerated to recognize the costs in the periods that the participants benefit. If an amendment reduces the projected benefit obligation, unrecognized prior service costs are reduced to the extent that they exist and any excess is amortized in the manner described above for benefit increases.

While the vast preponderance of changes to plans increase benefits with credit for prior service, there may be plan amendments that reduce benefits, also with reference to past service. In such instances, under ASC 715, the decreases to the projected benefit obligation are given immediate recognition. The reduction in benefits is to be recognized as a credit (referred to as a prior service credit) to other comprehensive income, which is to be used to offset any remaining prior service cost included in accumulated other comprehensive income (i.e., from previous plan amendments increasing benefits). Any remaining prior service credit is to be amortized as a component of net periodic pension cost on the same basis as the cost of a benefit increase.

Thus, under requirements established by ASC 715, changes in prior service costs (and in certain other components affecting pension and other postretirement benefit costs) arising in a given reporting period, but not included in current period pension or other benefit costs (e.g., due to the above-described amortization requirements) are fully reported in other comprehensive income.

Amortization of Unrecognized Amount at Date of Initial ASC 715-30 Application

ASC 715-30 has been GAAP for more than twenty years, and few plans likely still remain with unamortized transition amounts. The difference between the PBO and the fair value of plan assets minus recognized prepaid or plus accrued pension cost at the beginning of the fiscal year of the initial ASC 715-30 application was to be amortized using the straight-line method over the average remaining active employee service period. If the average remaining service period was less than fifteen years, the employer could elect to use a fifteen-year period. If all or almost all of a plan's participants were inactive, the employer used the inactive participants' average remaining life expectancy.

Summary of net periodic pension cost. The components that were identified in the above examples are summed as follows to determine the amount defined as net periodic pension cost:

One possible source of confusion is the actual return on plan assets ($158) and the unrecognized gain of $36 that net to $122. The actual return on plan assets reduces pension cost because, to the extent that plan assets generate earnings, those earnings help the plan sponsor subsidize the cost of providing the benefits. Thus, the plan sponsor will not have to fund benefits as they become due, to the extent that plan earnings provide the plan with cash to pay those benefits. This reduction, however, is adjusted by increasing pension cost by the difference between actual and expected return of $34 and the amortization of the excess actuarial loss of $2, for a total of $36. The net result is to include the expected return of $124 ($158 – $34) less the amortization of the excess of $2 for a total of $122 ($158 – $36). In recognizing the components of net periodic pension costs, ASC 715-20 requires the disclosure of this expected return of $124 and the loss of $2.

Note that, while the components of periodic pension cost nominally remain the same under ASC 715 as under preamendment ASC 715-30, two of the components have changed in substance. Amortization of prior service cost previously meant the income statement recognition of what had in prior periods been an amount not given any financial statement recognition. Now, however, the prior service cost is included in accumulated other comprehensive income, and then amortized, under the formula set forth by ASC 715-30, to pension cost.

Second, the amortization of gain or loss (which pertains to actuarially driven changes to the projected benefit obligation, as well as to asset valuation adjustments not recognized in current income), which under ASC 715-30 was not given financial statement recognition before the point in time when they were to be included in pension cost, now is associated with an item incorporated in accumulated other comprehensive income.

Thus, under ASC 715 there is display of both prior service costs and actuarial gains or losses immediately upon the occurrence or determination of the item, but there is still deferred recognition in expense via the ASC 715-30-prescribed amortization process, set forth above.

If any transition amount dating from the adoption of ASC 715-30 still exists, that too must be recorded in accumulated other comprehensive income upon adoption of ASC 715, and amortization over any remaining period as originally determined when ASC 715-30 was adopted will continue as prescribed under that standard.

Under ASC 715, there will be both the componentized periodic pension expense and changes to the amounts reported in other comprehensive income, although for nonpublic entities the components of pension cost may be omitted. The suggested informative (i.e., footnote) form of disclosure consists of two tables, and is as follows for a publicly held reporting entity (these amounts, which assume partial funding of other postretirement benefits, are not related to the earlier examples):

Components of net periodic benefit cost and other amounts recognized in other comprehensive income

Other changes in plan assets and benefit obligations recognized in other comprehensive income

Finally, the assumptions used in computing projected and accumulated benefits and expected return on plan assets must be disclosed. For postretirement health benefits, so-called sensitivity data must also be presented, since the amount of this often significant and most commonly unfunded future obligation is highly responsive to changes in health care cost levels. The following tables set forth these key parameters:

Assumptions

Weighted-average assumptions used to determine benefit obligations at December 31

Assumed health care cost trend rates have a significant effect on the amounts reported for the health care plans. A one-percentage-point change in assumed health care cost trend rates (not required for nonpublic reporting entities) would have the following effects:

Display of Funded Status

The most important change wrought by ASC 715 is to move disclosure of the plan's funded status to the face of the statement of financial position proper. By requiring that the amounts of net overfunding and underfunding of benefit plans be included in assets and liabilities, respectively, there will be a very substantial improvement in financial statement users' comprehension of the implications of the defined benefit plans under which the reporting entity is obligated. Previously, this was only revealed in the benefit plan footnotes, where the funded status was reconciled to the amount presented in the statement of financial position itself.

Determination of funded status varies as between defined benefit pension plans and all other defined benefit arrangements (that is, those addressed by ASC 715-60). For the former, ASC 715 states that funded status is measured by the difference between the fair value of plan assets and the projected benefit obligation (explained earlier in this chapter). For the latter, it is the spread between the fair value of plan assets and the accumulated benefit obligation that measures funded status.

ASC 715 requires that the difference between plan assets and the projected benefit obligation be used to gauge the liability to be reported. Projected benefit obligation takes into account expected salary progression, while accumulated benefit obligation does not. For all defined benefit plans, other than those that do not take salary progression into account, a larger liability will now be recognized.

The net obligations associated with underfunded plans (which will likely describe virtually all postretirement benefit plans other than pensions, as well as some pension plans) must be displayed in the statement of financial position. In contrast with the requirement for defined benefit pension plans, for these arrangements the measure is based on the accumulated postretirement benefit obligation, which is the actuarial present value of benefits attributed to employees as of the date of the statement of financial position, which until full eligibility is achieved, will be a lesser amount than the projected benefit obligation.

Reporting When There are Multiple Plans

When the reporting entity has multiple plans, it is not acceptable to display one single net amount of over- or underfunding. Rather, all overfunded plans must be separately aggregated, as must underfunded plans. The amount of overfunding is included in noncurrent assets, with no portion of the overfunding permitted to be displayed as a current asset. On the other hand, total underfunding is allocated between current and noncurrent liabilities, with the current portion computed (on a plan-by-plan basis) as the sum of the actuarial present value of benefits included in the benefit obligation payable over the ensuing twelve months, to the extent that it exceeds the fair value of plan assets.

Conceivably, an employer may have the right to use the assets of an overfunded plan to pay the obligations of another, underfunded plan. Only in such circumstances would it be acceptable to offset the overfunding asset and the underfunding liability. Such a situation would be highly unlikely to occur, however.

To illustrate, if the reporting entity has three postretirement benefit plans, one of which is overfunded and two of which are underfunded, the amount of overfunding must be included in noncurrent assets. The amount of underfunding of the two other plans must be reported in liabilities, but a portion of this total might have to be included in current liabilities. This is illustrated in the following table:

In the table above, note that the overfunded plan results in the reporting of a noncurrent asset, and this is not mitigated by the simultaneous existence of underfunded plans. Also note that underfunded plan #1 has sufficient assets to satisfy the amounts due within one year, and therefore the sponsoring entity's statement of financial position will not report any current liability with respect to this plan. However, plan #2, which is also underfunded, has benefit payments due over the twelve months following the statement of financial position date that exceed the amount of plan assets, and thus the sponsor will have to provide additional funding in the current period. That amount must be reported as a current liability. Finally, observe that the noncurrent obligations pertaining to both underfunded plans are combined into a single statement of financial position amount.

Reporting of Benefit Plan Transactions and Events in Comprehensive Income

ASC 715 requires an employer to recognize all transactions and events affecting the overfunded or underfunded status of a defined benefit postretirement plan in comprehensive income (or changes in unrestricted net assets, if the entity is a not-for-profit enterprise) in the year in which they occur. Previously, many delayed-recognition elements of pension and other postretirement benefit plan expense were “off-the-books,” albeit subject to disclosure in the financial statement notes.

Under ASC 715, the reporting entity must recognize as a component of other comprehensive income the gains or losses and prior service costs or credits arising during that reporting period that are not recognized as components of net periodic benefit cost of the period pursuant to ASC 715-30 and ASC 715-60. For example, if a plan amendment is adopted that credits employees with prior service, this is not reflected immediately in benefit costs, but rather is subject to amortization (i.e., it is to be recognized as part of pension or other postretirement benefit plan cost over an extended period of time). The requirements established by ASC 715 do not alter the piecemeal recognition of expense (that is, smoothing) under current GAAP, but they do make it necessary to record in other comprehensive income, in the year the amendment is effected, the full amount of the prior service cost less what is recognized in pension cost in that period.

In other words, the methodology of expense measurement has not been affected by the issuance of ASC 715, but disclosure on the face of the statement of financial position is now achieved. The effect of recording this debit in comprehensive income is balanced by recording an additional underfunding liability. In accordance with ASC 740, this is treated as a temporary difference, since the liability has a different basis (carrying value) for financial reporting purposes than it does for tax purposes. Hence, it must be tax effected within accumulated other comprehensive income, and a deferred tax asset (in the normal circumstances) will be recorded. The tax asset, in turn, will be subject to the “more likely than not” test for realizability, to determine whether it needs to be reduced or offset fully by an allowance.

Reporting Loans to Participants by Defined Contribution Pension Plans

ASC 962-310 requires that loans to the participants in an entity's defined contribution pension plan be classified as notes receivable. These loans are to be reported separately from plan investments. The proper measurement of these loans is their unpaid principal balances, plus all accrued but unpaid interest. This requirement keeps entities from recording such loans at their fair value. The reason for making this distinction is that U.S. GAAP requires most investments by a pension plan to be recorded at their fair values, which would normally include loans to plan participants. By recording these loans as notes receivable, rather than investments, the fair value recordation requirement no longer applies.

Measurement Date for Year-End Financial Statements

ASC 715 requires that valuations be as of the date of the statement of financial position.

The only exceptions to the foregoing general statement occur in the instance of plans sponsored by consolidated subsidiaries or equity-method investees. This is a practical concession, but given that under U.S. GAAP subsidiaries and investees are permitted to report financial results using year-ends different than the parent's or investor's, the exception is a reasonable and logical one. In those situations, the determinations of the fair values of plan assets and obligations must be as of the subsidiaries' or investees' respective dates of the statements of financial position.

Measurement Date for Interim Financial Statements

Publicly held entities must report quarterly, and private companies may choose to issue interim financial statements that are represented as being in accordance with GAAP. ASC 715 does not impose a requirement to evaluate plan assets and obligations more frequently than on an annual basis. Therefore, unless there has been an interim revaluation conducted—for example, because a plan amendment was adopted, or there had been a settlement or curtailment of a plan—it is prescribed that the funded status as of the most recent year-end be used in interim period reporting, with certain adjustments. The adjustments to be made are for subsequent accruals of service cost, interest, and return on plan assets included in current earnings (excluding, however, any amortization of amounts first recognized in other comprehensive income), subsequent contributions to the plan, and subsequent benefit payments from the plan. However, if there had been a revaluation subsequent to the prior year-end, the most recent valuation data would be used, again updated as just described, for any postvaluation accruals, contributions, and benefit payments.

Annuity and Insurance Contracts

If annuity contracts and other insurance contracts that are equivalent in substance are valid and irrevocable, if they transfer significant risks to an unrelated insurance company (not a captive insurer), and if there is no reasonable doubt as to their payment, they are excluded from plan assets and their benefits are excluded from the accumulated benefit obligation and from the projected benefit obligation. Most other contracts are not considered annuities for ASC 715-30 purposes. If a plan's benefit formula specifies coverage by nonparticipating annuity contracts, the service component of net pension costs is the cost of those contracts. In the case of a participating annuity contract, the cost of the participation right is recognized as an asset and measured annually at its fair value. If fair value is inestimable, the cost is systematically amortized and carried at amortized cost (not to exceed net realizable value). Benefits provided by the formula beyond those provided by annuities are accounted for in the usual ASC 715-30 manner. All other insurance contracts are considered investments and are usually measured at cash surrender value, conversion value, contract value, or some equivalent.

In certain circumstances, annuity benefits are paid by employers after the insurer fails to make required payments. According to ASC 715-30-35, a loss is recognized by an employer at the time the employer assumes the benefit obligation payments to retirees for an insolvent insurance company that held these pension obligations. The loss recognized is the lesser of any gain recognized in the original contract with the insurance company or the amount of benefit obligation payments assumed by the company. Any additional loss not recognized is accounted for as a plan amendment in accordance with ASC 715-30.

Defined Contribution Plans

In the typical defined contribution plan, the contribution is either discretionary or derived from a formula, and that amount is the expense to be reported in the sponsor's financial statements for the year. Benefits are generally paid from the pool of accumulated contributions and are limited to the plan assets available to pay them. If, however, the defined contribution plan has defined benefits, the provision is calculated as required under ASC 715-30.

Multiemployer Pension Plans

A multiemployer plan is one to which two or more unrelated employers contribute, often pursuant to collectively bargained, union-sponsored agreements. It requires that the contribution for the period be recognized as net pension cost and that any contributions due and unpaid be recognized as a liability. Assets of all the employers sponsoring this type of plan are usually commingled and not segregated or restricted. A Board of Trustees usually administers these plans. If there is a withdrawal of an employer from this type of plan and if an obligation to make up any funding deficiency is either probable or reasonably possible, ASC 450 applies.

Some plans are, in substance, a pooling or aggregation of single-employer plans and are ordinarily without collective-bargaining agreements. Contributions are usually based on a specified benefit formula. These plans are not considered multiemployer, and the accounting is based on each employer's respective interest in the plan.

Per ASC 715-80-55-2, the existence of an executed agreement does not require recognition by an employer of a liability beyond currently due and unpaid contributions.

Non-U.S. Pension Arrangements

The terms and conditions that define the amount of benefits and the nature of the obligation determine the substance of a non-U.S. pension arrangement. If they are, in substance, similar to pension plans, ASC 715-30 applies.

Business Combinations

When an entity that sponsors a single-employer defined benefit pension plan is purchased, the purchaser must assign part of the purchase price to an asset if plan assets exceed the projected benefit obligation, or to a liability if the projected benefit obligation exceeds plan assets. The projected benefit obligation includes the effect of any expected plan curtailment or termination as a result of the change in ownership of the sponsor. This assignment eliminates any existing unrecognized components, and any future differences between contributions and net pension cost will affect the asset or liability recognized when the purchase was initially recorded.

Settlements

If the entire projected benefit obligation is settled, any ASC 715-30 unrecognized net gain (loss) plus any remaining unrecognized net asset existing when ASC 715-30 was initially applied are immediately recognized. A pro rata portion is recognized in the case of partial settlement. If the obligation is settled by purchasing participating annuities, the cost of the right of participation is deducted from the gain (but not from the loss) before recognition.

If the total of the interest cost and service cost components of the ASC 715-30 periodic pension cost is greater than or equal to the settlement costs during a given year, the recognition of the above gain (loss) is not required, but is permitted. However, a consistent policy must be followed in this regard. The settlement cost is generally the cash paid, or the cost of nonparticipating annuities purchased, or the cost of participating annuities reduced by the cost of the right of participation.

The foregoing provisions have been amended by ASC 715, necessarily, to state that the maximum gain or loss subject to recognition in earnings when an obligation is settled is the net gain or loss that is remaining in accumulated other comprehensive income, plus any transition asset remaining in accumulated other comprehensive income from the original application of ASC 715-30. The maximum gain or loss, first determined at the date of settlement, is fully reported in earnings only if the entire projected benefit obligation is settled; if it is only partially settled, only a pro rata portion of the maximum gain or loss can be recognized.

Curtailments

A curtailment results in the elimination of future years of service. The pro rata portions of any (1) unrecognized cost of retroactive plan amendments, and (2) remaining unrecognized net obligation existing when ASC 715-30 was initially applied that is associated with the eliminated years of service are immediately recognized as a loss.

If curtailment results in a decrease in the projected benefit obligation, a gain is indicated. An increase in the projected benefit obligation (excluding termination benefits) indicates a loss. This indicated gain (loss) is then netted against the loss from unrecognized prior service cost recognized in accordance with the preceding paragraph. The net result is the curtailment gain or curtailment loss. This gain (loss) is accounted for as provided in ASC 450. A gain is recognized upon actual employee termination or plan suspension. A loss is recognized when both the curtailment is probable and the effects are reasonably estimable.

After the curtailment gain (loss) is calculated, any remaining unrecognized net asset existing when ASC 715-30 was initially applied is transferred from that category and combined with the gain (loss) arising after ASC 715-30 application. It is subsequently treated as a component of the new gain (loss) category.

ASC 715 contains guidance on accounting for curtailments of defined benefit plans. To the extent that prior service costs are included in accumulated other comprehensive income under the new mandates, and this is associated with service years no longer expected to be rendered, this must be recognized currently as a loss. This would occur if prior service cost is being amortized over a term that no longer accurately reflects expected future service by the post-curtailment workforce. Prior service cost, in this context, includes that resulting from plan amendments and also any transition obligation remaining from the initial adoption of ASC 715-30.

Curtailment gain or loss alters the projected benefit obligation. If such a gain exceeds any net loss included in accumulated other comprehensive income, or the entire gain if a net gain exists, it is reported as a curtailment gain. On the other hand, to the extent that such a loss exceeds any net gain included in accumulated other comprehensive income, or the entire loss if a net loss exists, this will be reported as a curtailment loss. Any transition asset remaining in accumulated other comprehensive income is to be treated as a net gain and combined with the net gain or loss arising subsequent to the ASC 715-30 transition.

Termination Benefits

Termination benefits are accounted for in accordance with ASC 450. Special short time period benefits require that a loss and a liability be recognized when the offer is accepted and the amount can be reasonably estimated. Contractual termination benefits require that a loss and a liability be recognized when it is probable that employees will receive the benefits and the amount can be reasonably estimated. The cost of these benefits is the cash paid at termination and the present value of future payments. Termination benefits and curtailments can occur together.

Component Disposal

Gains (losses), as calculated above, that result because of a disposal of a component of the entity are recognized according to the provisions of ASC 360.

Accounting for Postretirement Benefits

The expected postretirement benefit obligation (EPBO) is the actuarial present value (APV) as of a specific date of the benefits expected to be paid to the employee, beneficiaries, and covered dependents. Measurement of the EPBO is based on the following:

1. Expected amount and timing of future benefits
2. Expected future costs
3. Extent of cost sharing (contributions, deductibles, coinsurance provisions, etc.) between employer, employee and others (i.e., the government). The APV of employee contributions reduces the APV of the EPBO. Obligations to return employee contributions, plus interest if applicable, are recognized as a component of EPBO.

The EPBO includes an assumed salary progression for a pay-related plan. Future compensation levels represent the best estimate after considering the individual employees involved, general price levels, seniority, productivity, promotions, indirect effects, and the like.

The APBO is the APV as of a specific date of all future benefits attributable to service by an employee to that date. It represents the portion of the EPBO earned to date. After full eligibility is attained, the APBO equals the EPBO.

The APBO also includes an assumed salary progression for a pay-related plan. Thus, this term is more comparable to the projected benefit obligation (PBO) under ASC 715-30. The accumulated benefit obligation in ASC 715-30 has no counterpart in ASC 715-60.

Net periodic postretirement benefit costs include the following components:

1. Service cost—APV of benefits attributable to the current period (i.e., the portion of the EPBO earned this period)
2. Interest cost—Interest on the APBO
3. Actual return on plan assets
4. Gain or loss
5. Amortization of unrecognized prior service cost
6. Amortization of the transition asset or obligation.

Note that return on plan assets is included in the periodic expense determination, consistent with accounting for defined benefit pension plans. However, in virtually all cases, OPEB plans are unfunded, and thus there will be no asset return. If a trust has been established to fund these benefits, it does not necessarily have to be “bankruptcy proof,” or insulated completely from the claims of general creditors, to qualify as plan assets in accordance with ASC 715-60-55. On the other hand, assets held in a trust that explicitly makes them available to the general creditors in bankruptcy do not qualify as plan assets under ASC 715-60. The funded status of other postretirement defined benefit plans will, under provisions of ASC 715, now be formally reported in the statement of financial position, as described above.

The transition obligation was the unrecognized and unfunded APBO for all of the participants in the plan at the date of adoption of ASC 715-60. This obligation was either (1) recognized immediately as the effect of an accounting change, subject to certain limitations, or (2) elected to be recognized on a delayed basis over future service periods with disclosure of the unrecognized amount. The delayed recognition must have resulted in at least as rapid a recognition as would have been recognized on a pay-as-you-go (cash) basis. Under ASC 715, the transition obligation that was to be given deferred recognition will be included in accumulated other comprehensive income, with a corresponding liability.

Service costs and interest costs are defined and measured in the same manner by both ASC 715-60 and ASC 715-30. However, under ASC 715-60, interest increases the APBO while under ASC 715-30, interest increases the PBO.

Under ASC 715-60, a single method is required to be followed in measuring and recognizing the net periodic cost and the liability involved. That method attributes the EPBO to employee service rendered to the full eligibility date.

Assumptions. ASC 715-60 requires the use of explicit assumptions using the best estimates available of the plan's future experience, solely with regard to the individual assumption under consideration. Plan continuity is to be presumed, unless there is evidence to the contrary. Principal actuarial assumptions include: discount rates, present value factors, retirement age, participation rates (contributory plans), salary progression (pay-related plans), and probability of payment (turnover, dependency status, mortality). Present value factors for health care OPEB include cost trend rates, Medicare reimbursement rates, and per capita claims cost by age.

Current interest rates, as of the measurement date, are used for discount rates in present value calculations. Examples include high-quality, fixed-income investments with similar amounts and timing and interest rates at which the postretirement benefit obligations could be settled. The EPBO, APBO, service cost, and interest cost components use assumed discount rates.

The expected long-term rate of return on plan assets is an assumption about the average rate of return expected on contributions during the period and on existing plan assets. Current returns on plan assets and reinvestment returns are considered in arriving at the rate to be used. Related income taxes, if applicable, reduce the rate. Expected return on plan assets and the fair value of plan assets use this rate in their calculation. Since the Employee Retirement Income Security Act (ERISA) does not require OPEB plans to be funded via the separate trust vehicles used for pension plans, OPEB plans are often unfunded. Thus, there are no “plan assets.” Instead, the sponsor pays benefits directly, as they become due, from general corporate assets.

Effect of the Prescription Drug Benefit on OPEB Computations

The Medicare Prescription Drug, Improvement, and Modernization Act of 2003 introduced a prescription drug benefit under Medicare (Medicare Part D), as well as a federal subsidy to sponsors of retiree health care benefit plans that provide a benefit that is at least actuarially equivalent to Medicare Part D. Under ASC 715-60, the effects of the Act on current period measurements of postretirement benefit costs and the APBO must be accounted for, if defined criteria are met.

The guidance regarding accounting for the subsidiary set forth in ASC 715-60 applies only to sponsors of a single-employer defined benefit postretirement health care plan for which (1) the employers have concluded that prescription drug benefits available under the plan to some or all participants for some or all future years are “actuarially equivalent” to Medicare Part D and thus qualify for the subsidy under the Act, and (2) the expected subsidiaries will offset or reduce the employers' shares of the cost of the underlying postretirement prescription drug coverage on which the subsidies are based. ASC 715-60 also provides guidance for disclosures about the effects of the subsidy for employers that sponsor postretirement health care benefit plans that provide prescription drug coverage but for which the employers have not yet been able to determine actuarial equivalency.

The central question raised has been whether a subsidy is substantively similar to other Medicare benefits that existed when ASC 715-60 was issued—and therefore to be accounted for as a reduction of the APBO and net periodic postretirement benefit cost—or whether the subsidy represents a payment to the employer that is determined by reference to its plan's benefit payments but is not, in and of itself, a direct reduction of postretirement benefit costs. A secondary issue pertains to the timing of accounting recognition of the subsidy.

FASB concluded that the former interpretation is the correct one. That is, measures of the APBO and net periodic postretirement benefit cost on or after the date of enactment are to reflect the effects of the Act. When an employer initially accounts for the subsidy, its effect on the APBO is to be accounted for as an actuarial experience gain. Additionally, the subsidy reduces service cost when it is recognized as a component of net periodic postretirement benefit cost. If the estimated expected subsidy changes, the effect is to be treated as an actuarial experience gain or loss.

Plan amendments will also affect the reporting of OPEB cost and the APBO. If prescription drug benefits currently available under an existing plan are deemed not actuarially equivalent as of the date of enactment of the Act, but the plan is later amended to provide actuarially equivalent benefits, the direct effect of the amendment on the APBO and the effect on the APBO from any resulting subsidy to which the employer is expected to be entitled as a result of the amendment are to be combined, and deemed to be an actuarial experience gain if it reduces APBO. On the other hand, if the combined effect increases the APBO, it is deemed to be prior service cost that is to be accounted for consistent with ASC 715-60.

Additionally, according to ASC 715-60, if a plan that provides prescription drug benefits that previously were deemed actuarially equivalent under the Act is subsequently amended to reduce its prescription drug coverage such that the coverage is not considered actuarially equivalent, any actuarial experience gain related to the subsidy previously recognized is unaffected. The combined net effect on the APBO of (1) the subsequent plan amendment that reduces benefits under the plan and thus disqualifies the benefits as actuarially equivalent, and (2) the elimination of the subsidy is to be accounted for as prior service cost (credit) as of the date the amendment is adopted.

In the periods in which the subsidy affects the employer's accounting for the plan, this will have no effect on any plan-related temporary difference accounted for under ASC 740, because the subsidy is exempt from federal taxation.

There may be a time lag before the employer is able to determine whether the benefits provided by its plan are actuarially equivalent. During the interim period, it is required to disclose: the existence of the Act and the fact that measures of the APBO or net periodic postretirement benefit cost do not reflect any amount associated with the subsidy because the employer is unable to conclude whether the benefits provided by the plan are actuarially equivalent to Medicare Part D under the Act.

In interim and annual financial statements for the first period in which an employer includes the effects of the subsidy in measuring the APBO and the first period in which an employer includes the effects of the subsidy in measuring net periodic postretirement benefit cost, it is required to disclose the following:

1. The reduction in the APBO for the subsidy related to benefits attributed to past service.
2. The effect of the subsidy on the measurement of net periodic postretirement benefit cost for the current period. That effect includes (1) any amortization of the actuarial experience gain in (a) as a component of the net amortization called for by ASC 715-60, (2) the reduction in current period service cost due to the subsidy, and (3) the resulting reduction in interest cost on the APBO as a result of the subsidy.
3. Any other disclosures required by ASC 715-20, specifically disclosure of an explanation of any significant change in the benefit obligation or plan assets not otherwise apparent in the other disclosures required by that standard.

When ASC 715-60 is initially adopted, a remeasurement of the plan's assets and APBO, including the effects of the subsidy, if applicable, as well as the other effects of the Act, is to be made as of the earlier of (1) the plan's measurement date that normally would have followed enactment of the Act, or (2) the end of the employer's interim or annual period that includes the date of the Act's enactment. Alternatively, employers are permitted, but not required, to perform that remeasurement as of the date of enactment. The measurement of the APBO is to be based on the plan provisions in place on the measurement date (i.e., later amendments are not to be anticipated in the computation).