AS 15 - Accounting for Retirement Benefits in the
Financial Statements of Employers
Purpose: This statement deals with accounting for retirement
benefits in the financial statements of employers.
Retirement benefits usually consist of:
- Provident Fund
- Superannuation / Pension
- Gratuity
- Leave Encashment Benefit on Retirement
- Post-Retirement Health & Welfare Schemes
- Other Retirement Benefits
However, it is to be noted that this statement does not apply to those retirement
benefits, which cannot be reasonably be estimated, e.g. ad hoc ex-gratia amounts paid to
employees on retirement.
Types of Retirement Benefits
- Provident Fund: This generally involves either remittance of
both employees and employers contribution to a provident fund administered by the
Central Government, or creation of a separate trust to which periodic contributions of
both employees and employers are made
- Superannuation / Pension Benefits: are generally of two types
- Defined Contribution Scheme: Under this scheme, the employer
makes a contribution once a year (or more frequently in some cases) towards a
separately created trust fund or to a scheme administered by an insurer. These
contributions earn interest and the accumulated balance of contributions and
interest is used to pay the retirement benefit to the employee
The benefit available under this scheme has no relationship with the final salary
or number of years of service put in by an employee. In other words, the benefit
payable to the employees solely depends upon the annual contributions by the
employer
- Defined Benefit Scheme: Under this scheme, the benefit
payable to the employee is determined with reference to factors such as a percentage
of final salary, number of years of service and the grade of the employee. The
contribution required to finance such a scheme is actuarially determined and is
generally expressed as a percentage of salary for the entire group of employees
covered by the scheme. For this type of scheme a trust can be created or an
arrangement can be negotiated with an insurer so that the annual contributions,
calculated actuarially, can be made each year. In such a case, benefits to employees
on entitlement would be paid by the trust fund or by the insurer. Alternatively, the
benefit can be paid by the employer as and when an employee leaves
- Gratuity: Gratuity Benefit is in the nature of a defined
benefit scheme wherein payments are made by the employer as and when the employee
leaves. However, trust funds can also be created or arrangements with insurers can be
made so that actuarially computed annual contributions can be made every year
Provident Fund Benefits: Are generally contributory from the point
of view of the employees. However, gratuity schemes are non-contributory. Further,
superannuation schemes can be either contributory or non-contributory
Funding: The main objective of funding a retirement benefit scheme
is to ensure that funds are available to meet future obligations for the payment of
retirement benefits. Further, in determining the periodical amounts to be paid into the
funds, the employer is influenced by factors such as availability of money and tax
benefits
Accounting Treatment
- Defined Contribution Scheme
Defined benefit schemes, especially where benefits are payable on the basis of
remuneration at or near retirement, present significant complications in determination
of the periodic amounts to be charged to the profit and loss account because of the
length of the period over which the benefits are earned. The employer's obligation
under such schemes is generally uncertain and requires assumptions regarding future
conditions and events which are largely out of the employer's control.
Further, due to long-term uncertainties, estimates of earlier years may need to be
adjusted, thereby leading to significant adjustments in relation to current service cost
Since the cost of retirement benefits to an employer arises on receiving services from
the employees who are entitled to receive such benefits, the cost of retirement benefits
should be accounted for in the period during which these services are rendered. Thus,
accounting for retirement benefit cost when the employee leaves, i.e. on cash basis, is
not appropriate
- Gratuity & Other Deferred Benefit Schemes
The accounting treatment depends upon the type and arrangement the employer has chosen
to make:
- Payment from the Employer's Own Funds: In this case a
charge is made to the profit and loss account by providing for the accruing liability
which is determined on an actuarial basis. In the case of enterprises, which are small
in size the actuarial valuation is generally not done. In such case the accrued
liability is calculated with reference to some rational method e.g. a method based on
the assumption that the benefits are payable to all employees at the end of the
accounting year
- Funding of the Benefit through a Trust: In this case, the
employers fund the liability through a trust to which the contributions which are
determined on actuarial principles, are made and invested. Many of the employers
undertake such valuation every year. If, however, the actuarial valuations are not
conducted annually, the actuary's report specifies the contributions to be made by the
employer on annual basis during the inter-valuation period. The annual contribution
(in addition to the contribution that may be required to finance reflects proper
accrual of retirement benefit for each year. If the contribution paid during the year
is lower than the amount required to be contributed to meet the accrued liability as
certified by the actuary, the shortfall is charged to the statement of profit and loss
for the year. On the other hand where the amount contributed during the year exceeds
the amount determined actuarially, then it shall be treated as prepayment
- Funding through Insurance: When the liability for retirement
benefits is funded through a scheme administered by an insurer, it is necessary to
obtain an actuarial certificate or confirmation from the insurer stating that the
contribution payable to the insurer is the proper accrual of the liability for the
year. If the contribution paid during the year is lower than the amount required to
be contributed to meet the accrued liability as certified by the actuary or confirmed
by the insurer, the shortfall is charged to the statement of profit and loss for the
year. On the other hand, if the amount contributed during the year exceeds the amount
determined actuarially, then it shall be treated as pre-payment
Provident Fund and Other Defined Contribution Schemes: The
contribution payable by the employee for the period is charged to the statement of profit
and loss account for the year. Besides the amount of contribution paid, any shortfall of
the amount of the contribution paid compared with the amount payable for that year is also
charged to the profit and loss account of the year. On the other hand, if the contribution
paid is in excess of the amount payable for the year, then the excess is treated as a
pre-payment
Actuarial Principles: The actuarial method selected for determining
accrual of liability and the assumptions made have a significant effect on the expense to
be recorded in each accounting period. Therefore, an actuary chooses a suitable valuation
method in consultation with the employer, makes appropriate assumptions about the variable
elements affecting the computations. The assumption could relate to the expected inflow
from future contributions and from investments, the uncertainty in projecting future
trends of salary, rates of inflation etc.
Past Service Cost and Review of Actuarial Assumptions
- An actuarially determined past service cost arises on:
- Introduction of a scheme for existing employees or
- Making improvements to the existing scheme
Such cost should be charged or credited to the statement of profit and loss as they
arise in accordance with Accounting Standard (AS) 5, 'Prior Period and
Extraordinary Items and Changes in Accounting Policies'
- There can also be a change in the retirement benefit cost on account of changes in
the actuarial methods used or assumptions adopted for determining the retirement benefit
costs. In such case the change in the amount shall be charged or credited to the profit
and loss statement for the year or, alternatively, spread over a period not more than
the expected remaining working lives of the participating employees
- Further, a change in the actuarial method used for determining the retirement
benefit costs constitutes a change in an accounting policy and is disclosed
accordingly
- It is also to be noted that if a retirement benefit scheme for retired employees is
amended (whether due to inflation or for other reasons) to provide additional benefits
to retired employees, any additional costs incurred are charged to the profit and loss
account of the year
Disclosures
- The financial statement should disclose the method by which retirement benefits cost
has been determined
- In case acturial valuation has been carried out it should be clearly mentioned as to
whether it was carried out at the end of the year or in earlier periods
- In case actuarial valuation is not at the end of the period but at an earlier date,
such date should be specified and the method by which the accrual for the period has
been determined should be described, if the same is not based on the report of the
acturary