20 Accounting for Pensions and Postretirement Benefits CONCEPTS FOR ANALYSIS 20
CONCEPTS FOR ANALYSIS
CA20-1 (Pension Terminology and Theory) Many business organizations have been concerned with providing for the retirement of employees since the late 1800s. Increase in this concern resulted in the establishment of private pension plans in most large companies and in many medium- and small-sized ones.
The substantial growth of these plans, both in numbers of employees covered and in amounts of retirement benefits, has increased the significance of pension costs in relation to the financial position, results of operations, and cash flows of many companies. In examining the costs of pension plans, a CPA encounters certain terms. The components of pension costs that the terms represent must be dealt with appropriately if generally accepted accounting principles are to be reflected in the financial statements of entities with pension plans.
Instructions
(a) Define a private pension plan. How does a contributory pension plan differ from a noncontributory plan?
(b) Differentiate between “accounting for the employer” and “accounting for the pension fund.”
(c) Explain the terms “funded” and “pension liability” as they relate to:
(1) The pension fund.
(2) The employer.
(d) (1) Discuss the theoretical justification for accrual recognition of pension costs.
(2) Discuss the relative objectivity of the measurement process of accrual versus cash (pay-as-you-go) accounting for annual pension costs.
(e) Distinguish among the following as they relate to pension plans.
(1) Service cost.
(2) Prior service costs.
(3) Vested benefits.
CA20-2 WRITING (Pension Terminology) The following items appear on Brueggen Company’s financial statements.
1. Under the caption Assets: Pension asset/liability.
2. Under the caption Liabilities: Pension asset/liability.
3. Under the caption Stockholders’ Equity: Prior service cost as a component of Accumulated Other Comprehensive Income.
4. On the income statement: Pension expense.
Instructions
Explain the significance of each of the items above on corporate financial statements. (Note: All items set forth above are not necessarily to be found on the statements of a single company.)
CA20-3 (Basic Terminology) In examining the costs of pension plans, Helen Kaufman, CPA, encounters certain terms. The components of pension costs that the terms represent must be dealt with appropriately if generally accepted accounting principles are to be reflected in the financial statements of entities with pension plans.
Instructions
(a) (1) Discuss the theoretical justification for accrual recognition of pension costs.
(2) Discuss the relative objectivity of the measurement process of accrual versus cash (pay-as-you-go) accounting for annual pension costs.
(b) Explain the following terms as they apply to accounting for pension plans.
(1) Market-related asset value.
(2) Projected benefit obligation.
(3) Corridor approach.
(c) What information should be disclosed about a company’s pension plans in its financial statements and its notes?
(AICPA adapted)
CA20-4 WRITING (Major Pension Concepts) Davis Corporation is a medium-sized manufacturer of paperboard containers and boxes. The corporation sponsors a noncontributory, defined benefit pension plan that covers its 250 employees. Sid Cole has recently been hired as president of Davis Corporation. While reviewing last year’s financial statements with Carol Dilbeck, controller, Cole expressed confusion about several of the items in the footnote to the financial statements relating to the pension plan. In part, the footnote reads as follows...
Instructions
(a) The determination of the net periodic pension expense is a function of five elements. List and briefly describe each of the elements.
(b) Describe the major difference and the major similarity between the accumulated benefit obligation and the projected benefit obligation.
(c) (1) Explain why pension gains and losses are not recognized on the income statement in the period in which they arise.
(2) Briefly describe how pension gains and losses are recognized.
(AICPA adapted)
CA20-5 WRITING (Implications of GAAP Rules on Pensions) Jill Vogel and Pete Dell have to do a class presentation on GAAP rules for reporting pension information. In developing the class presentation, they decided to provide the class with a series of questions related to pensions and then discuss the answers in class. Given that the class has all read the rules related to pension accounting and reporting, they felt this approach would provide a lively discussion. Here are the questions:
1. In an article in Businessweek prior to new rules related to pensions, it was reported that the discount rates used by the largest 200 companies for pension reporting ranged from 5% to 11%. How can such a situation exist, and does GAAP alleviate this problem?
2. An article indicated that when new GAAP rules were issued related to pensions, it caused an increase in the liability for pensions for approximately 20% of companies. Why might this situation occur?
3. A recent article noted that while “smoothing” is not necessarily an accounting virtue, pension accounting has long been recognized as an exception—an area of accounting in which at least some dampening of market swings is appropriate.
This is because pension funds are managed so that their performance is insulated from the extremes of short-term market swings. A pension expense that reflects the volatility of market swings might, for that reason, convey information of little relevance. Are these statements true?
4. Understanding the impact of the changes required in pension reporting requires detailed information about its pension plan(s) and an analysis of the relationship of many factors, particularly the:
(a) Type of plan(s) and any significant amendments.
(b) Plan participants.
(c) Funding status.
(d) Actuarial funding method and assumptions currently used.
What impact does each of these items have on financial statement presentation?
5. An article noted “You also need to decide whether to amortize gains and losses using the corridor method, or to use some other systematic method. Under the corridor approach, only gains and losses in excess of 10% of the greater of the projected benefit obligation or the plan assets would have to be amortized.” What is the corridor method and what is its purpose?
Instructions
What answers do you believe Jill and Pete gave to each of these questions?
CA20-6 WRITING (Gains and Losses, Corridor Amortization) Vickie Plato, accounting clerk in the personnel office of Streisand Corp., has begun to compute pension expense for 2019 but is not sure whether or not she should include the amortization of unrecognized gains/losses. She is currently working with the following beginning-of-the-year present values for the projected benefit obligation and market-related values for the pension plan:…
Instructions
You are the manager in charge of accounting. Write a memo to Vickie Plato, explaining why in some years she must amortize some of the net gains and losses and in other years she does not need to. In order to explain this situation fully, you must compute the amount of net gain or loss that is amortized and charged to pension expense in each of the 4 years listed above. Include an appropriate amortization schedule, referring to it whenever necessary.
CA20-7 ETHICS (Nonvested Employees—An Ethical Dilemma) Thinken Technology recently merged with College Electronix (CE), a computer graphics company. In performing a comprehensive audit of CE’s accounting system, Gerald Ott, internal audit manager for Thinken Technology, discovered that the new subsidiary did not record pension assets and liabilities, subject to GAAP.
The net present value of CE’s pension assets was $15.5 million, the vested benefit obligation was $12.9 million, and the projected benefit obligation was $17.4 million. Ott reported this audit finding to Julie Habbe, the newly appointed controller of CE. A few days later, Habbe called Ott for his advice on what to do. Habbe started her conversation by asking, “Can’t we eliminate the negative income effect of our pension dilemma simply by terminating the employment of nonvested employees before the end of our fiscal year?”
Instructions
How should Ott respond to Habbe’s remark about firing nonvested employees?
