Pensions Accounting: Sometime, never… maybe?
On 31 July, the Financial Accounting Standards Board (FASB) issued an Accounting Standards Update (ASU) addressing three aspects of pension-plan accounting. The new rules affect defined benefit, defined contribution and health and welfare benefit plans, and the FASB hopes that the changes will reduce unnecessary complexity in pensions accounting.
In addition to their obvious relevance to pension-plan administrators in the US, if nothing else the changes also provide a convenient starting point for revisiting where the US stands today in relation to more widespread use of International Financial Reporting Standards (IFRS).
Taking the changes in turn, the first one affects what are known in the US as fully benefit-responsive contracts. These are retirement plans where a pensioner receives a contractually specified benefit rather than a benefit linked to market or fair value.
Critics of today’s accounting for this group of plans argue that it is not only burdensome for a pension plan to make a fair value adjustment for fair or market value, but that doing so does not deliver decision-useful information.
The second proposed amendment deals with investment plan disclosures for certain investment classes. The investments affected by this change typically make up a small percentage of plan assets. FASB has explained its actions by noting that the disaggregation requirements under the current disclosure regime are both costly for preparers and unhelpful to users of financial statements.
One problem that practitioners have identified here is that the Form 5500 which preparers must file with the Department of Labor, has not yet been updated. Eric Keener, Aon Hewitt’s chief actuary in the US, explains: “This means that a plan will need to report to the IRS [Internal Revenue Service] on a different basis to the proposed amendment. This practical limitation means the change will not be much help until an amendment is made to the 5500.”
Finally, the ASU introduces a measurement date practical expedient. This allows plans to measure investments and investment-related accounts, such as a liability for a pending trade with a broker, “as of a month-end date that is closest to the plan’s fiscal year-end, when the fiscal period does not coincide with a month-end”.
This change attempts to provide some relief on valuation issues to employee benefit plans whose fiscal year-end does not coincide with a calendar month-end. Plans in this position often struggle to measure investments and investment-related accounts because the valuation information that they receive from third parties relates to a month end.
As for the wider issue of where IFRS stands in the US, the ASU gives us some insight into how the FASB has applied its declared strategic objective of making simplifications or changes to Generally Accepted Accounting Principles (GAAP) that ease the burden on preparers. And as this process of tinkering might suggest, the US is as far from any wide-ranging overhaul of pensions accounting seems as it ever was.
“One thing they have talked about is a formal ASU that could move things more in the direction of IFRS by disaggregating the different components of the pension expense,” adds Keener. “They are thinking in terms of reporting service cost in operating income and the other components in a non-operating line.
“The FASB has also talked about changing the way in which a company can capitalise a proportion of its pension expense – for example, in inventory. It could be that they will only be able to capitalise service cost going forward as an operating expense rather than being able to capitalise everything.
“And beyond those simplifications, there is still a big question around immediate recognition of gains and losses and plan changes. It remains to be seen how far and how fast the FASB will act.”
This policy of treading cautiously is precisely what the FASB mapped out in its formal strategy document. The FASB has signalled that it will “continue to execute its strategy of improving financial reporting through the continued development of GAAP, by actively participating in the development of IFRSs and by enhancing relationships with other national standard setters”.
More tellingly, the statement continues: “In some cases, however, the FASB (or other national standard setters) may conclude that the best interests of its own capital markets outweigh the goal of completely converged accounting standards.”
That thinking is entirely in tune with the latest musings to emerge from the chief accountant of the Securities and Exchange Commission (SEC) Jim Schnurr on the future of IFRS in the US. Addressing the fourteenth annual Baruch College Financial Reporting Conference in New York this May, Schnurr said: “There is virtually no support to have the SEC mandate IFRS for all registrants.”
More damningly, he added that “there is little support for the SEC to provide an option allowing [US listed] companies to prepare their financial statements under IFRS”.
But more positively, the SEC chief accountant believes that “there does seem to be continued support for the objective of a single set of high-quality globally accepted accounting standards”.
One route to that objective could be to allow, but not require, US entities to provide supplementary IFRS-based information, an option mulled by Schnurr back in December 2014.
Schnurr told the Baruch College audience: “I continue to discuss the alternative with the Commissioners and am optimistic that I will be able to provide more clarity on the path forward in the next few months.”
Some, however, might see even the suggestion of an alternative set of numbers as a curiously retrograde and divisive step. One thing that has scuppered full US adoption of IFRS by US domestic entities – at least in the immediate future – is the two boards’ inability to reach agreement on financial asset impairment.
And given that some US constituents complain that a more lax IFRS impairment requirement will flatter the results of their competitors, it is hard to see where the benefit lies in presenting both US GAAP and IFRS impairment numbers side by side.
Moreover, one of the IFRS Foundation’s undoubted achievements was its success in persuading the SEC to drop the costly US GAAP reconciliation requirement for foreign issuers. It remains for supporters of the approach to articulate why US issuers would today impose a similar requirement on themselves.