Public companies will be required to transition to International Financial Reporting Standards (IFRS) for fiscal reporting periods starting in 2011. They will need to comply with more than 30 new standards, including those for pension and benefits outlined in International Accounting Standard (IAS) 19. The transition to IAS 19 will require companies to make decisions with respect to four key accounting areas.
1. Pick a transition strategy – Companies can adopt IAS 19 on a “fresh start” basis or by electing “retroactive application.” Each option could have significantly different effects on retained earnings and future expense.
Many organizations currently have significant unrecognized losses for their plans. Under fresh start, these losses “disappear” as a charge to retained earnings. This reduces ongoing plan expense through a lower amortization of losses but comes at the cost of a potentially large reduction in reported equity. Organizations sensitive to equity fluctuations should consider retroactive application, thereby leaving a portion of the unrecognized losses on the balance sheet and out of the adjustment to retained earnings.
2. Choose a method of recognizing gains and losses – An organization will need to choose between recognizing gains and losses on a “deferred recognition basis” (similar to current requirements) or on an “immediate recognition basis” (where gains and losses are recognized directly in equity through other comprehensive income). While recognition through other comprehensive income reduces income volatility, the trade-off is larger annual changes to reported equity.
3. Consider obligations for potential future benefit increases – The accounting requirements for potential future benefit increases or “constructive obligations” are different from current practice. Organizations should revisit past decisions on accounting for informal promises to improve plans.
Including these obligations upon transition to IAS 19 will minimize future expense volatility, as IAS 19 generally requires the cost of improvements that are not already accounted for to be fully recognized in the plan’s expense when they are granted. Recognizing potential future benefit improvements upfront reduces expense spikes but also results in a larger transition charge to retained earnings and higher ongoing expense. Accounting for constructive obligations is one example where HR and finance must collaborate.
4. Select accounting policies wisely – The impact of International Financial Reporting Interpretations Committee Interpretation (IFRIC) 14 on a company’s financial statement requires careful consideration. IFRIC 14 addresses the impact of required minimum funding contributions on the balance sheet asset limit under IAS 19. There are several different interpretations of IFRIC 14 requirements that produce dramatically different effects on a company’s expense and equity. Companies will need to assess the impact of IFRIC 14 under the different interpretations and come to an agreement with their auditors as to how it will be applied.
There are also other tasks to consider:
• prepare management discussion and analysis commentary on IAS 19’s impact for 2009 and 2010 annual reports;
• review loan covenants and incentive plan payouts tied to expense and equity metrics;
• refresh valuations for transition calculations or perform new valuations for additional benefits (captured under IAS 19) not previously accounted for;
• revise disclosure templates; and
• educate audit committees to help them fulfill their obligations under securities regulations.
Organizations preparing their budgets for 2010 and beyond need to understand the financial consequences of the transition. Run the numbers under different transition strategies and accounting policy options. Start thinking about how to communicate the pending financial changes in annual reports and to stakeholders. Consult with advisors who have experience dealing with a very different accounting standard. And stay informed about the future changes to IAS 19 on the horizon.
Loyd Zadorozny is a national partner in Mercer’s retirement business, and Darrin Bull is principal, health and benefits, in Mercer’s Vancouver office.
loyd.zadorozny@mercer.com
darrin.bull@mercer.com
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© Copyright 2009 Rogers Publishing Ltd. This article first appeared in the December 2009 edition of BENEFITS CANADA magazine.