05 October 2021
Historically, a sponsoring employer of a defined benefit pension scheme will have recognised a pension scheme liability in their financial statements. Defined benefit pension schemes are now starting to return to a surplus position under an actuarial valuation basis.
Whilst the movement to a net pension scheme surplus under accounting standards is good news for corporate entities historically recording large pension scheme deficits, the accounting for a pension scheme in a net asset position is complex under both IFRS and UK GAAP.
Recognition of a net pension scheme asset
Under both IFRS and FRS 102, a defined benefit pension asset should only be recognised to the extent that the entity is able to recover the surplus, either through reduced contributions in the future or through refunds from the plan.
Entities should review the terms and conditions of the plan and consider statutory requirements in the jurisdiction of the plan, determine the availability of a refund or reduction in future contributions to a defined benefit pension scheme. The availability of the economic benefit is not solely based on whether it is realisable at the end of the reporting period, it is available if it can be realised during the life of the plan or when plan liabilities are settled. The assessment of the availability of a refund or reduction in future contributions is complex and entities should seek professional advice.
Additional considerations for IFRS reporters
IFRS reporters have additional considerations relating to minimum funding requirements (MFR’s) and the interaction between the net surplus and the asset ceiling. The asset ceiling is the present value of economic benefits available in the form of refunds from the plan or reductions in future contributions of the plan.
Defined benefit pension schemes have historically been in a deficit position on both an actuarial and funding basis, resulting in entities entering into minimum funding requirements (“MFR’s”), often referred to as a schedule of contributions. These stipulate a minimum amount or level of contributions to be made by the entity to the plan over a given period, to cover existing shortfalls and/or future service. The existence of an MFR will typically limit an entity’s ability to reduce future contributions or obtain a refund from the plan.
The determination of the economic benefit available as a right to a refund or reduction in future contributions is a complex assessment under IFRS. The structure of the MFR will need to be understood to identify whether the contributions are in respect of an existing shortfall and/or future service. Where an MFR which includes contributions in respect of an existing shortfall, those contributions are unlikely to be fully recoverable once paid. Furthermore, an additional liability is recognised, increasing the pension scheme liability, and decreasing the pension scheme assets.
Determination of a refund
The availability of a refund from a defined benefit scheme plan is based on the entity having an unconditional right to a refund during the life of the plan, with or without settlement of liabilities, or on full settlement of the plan.
The measurement of the economic benefit available as a refund is after associated costs. Where the availability of the refund is based on full settlement of the plan liabilities, the economic benefit should be determined after the costs associated with the settling plan liabilities and making the refund.
Reduction in contributions
If there is no minimum funding requirement for contributions relating to future service, the economic benefit available as a reduction in future contributions is the future service cost to the entity for each period over the shorter of the expected life of the plan and the expected life of the entity. The future service cost to the entity excludes amounts that will be borne by employees.
If there is an MFR in place, the measurement of the economic benefit available as a reduction in future contributions is determined based on the reduction in contributions compared to the future service costs if there was no MFR.
The measurement of the economic benefit available as a refund is after associated costs, including tax if the refund is subject to a tax. The entity may also be required to pay income tax on the realisation of a surplus and recognise an associated deferred tax liability.
If the economic benefit of the asset includes a reduction in future contributions, then there will be associated deferred tax to be recognised in the financial statements.
How RSM can help?
If your defined benefit pension scheme is a net asset position under an actuarial basis, the accounting, tax and legal requirements relating to recognition of a pension scheme asset are complex.