One Small Step for Pensions

The first phase of FASB's project on pension accounting is intended primarily to improve and simplify financial reporting.
Craig SchneiderDecember 19, 2005

Last Wednesday, the Financial Accounting Standards Board further addressed its widely anticipated project on defined benefit pension and other postretirement plans.

The first phase of the two-phase project is intended primarily to improve financial reporting by requiring that the overfunded or underfunded status of postretirement benefit plans be recognized on the balance sheet rather than in footnotes, the prevailing practice today. “Pensions tend to be complex and the accounting that we’ve had has been complex,” says FASB board member Michael Crooch. “My personal hope is that we’ll be able to simplify the accounting.”

To that end, board members accepted a series of recommendations from the FASB staff on the objectives and scope of Phase 1. They include:

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• Improving the reporting of employers’ obligations for pensions and other postretirement benefits by recognizing the overfunded or underfunded status of defined-benefit post-retirement plans as an asset or a liability. This measure would entail recognizing all previously unrecognized items. (When aggregating multiple plans on the balance sheet, employers will recognize an asset for overfunded plans and a separate liability for underfunded plans, according to a FASB meeting handout.)

• Not changing how plan assets and benefit obligations are measured under FAS 87, Employers’ Accounting for Pensions, and FAS 106, Employers’ Accounting for Postretirement Benefits Other than Pensions. The asset or liability would be measured as the difference between the fair value of plan assets and benefit obligations.

• Not changing the basic approach for measuring the amount of annual net benefit cost that is reported in earnings.

• Implementing Phase 1 improvements as quickly as possible, with the goal of making them effective for years ending after December 15, 2006.

During last Wednesday’s meeting, the only real disagreement among board members related to the treatment of unrecognized prior service costs, from plan amendments that increase benefits, and credits, from plan amendments that reduce benefits. “Some people thought that that [unrecognized costs and credits] ought to be in the second phase rather than the first,” explains Crooch.

FASB board members decided that unrecognized prior service costs should be included in other comprehensive income.

The debate surrounding Phase 2, which is expected to be far more complex, may also be more contentious. The major question: When companies account for pensions and retiree health benefits, will they still be permitted to smooth results over a number of years? Proponents maintain they need an effective method to counter rate volatility; critics argue that the practice inaccurately represents a plan’s financial condition by papering over losses with previous gains.

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