Many business organizations have been concerned with providing for the retirement of employees since the late 1800s. During recent decades, a marked increase in this concern has resulted in the establishment of private pension plans in most large companies and in many medium- and small-sized ones.
The substantial growth of these plans, both in numbers of employees covered and in amounts of retirement benefits, has increased the significance of pension costs in relation to the financial position, results of operations, and cash flows of many companies. In examining the costs of pension plans, a CPA encounters certain terms. The components of pension costs that the terms represent must be dealt with appropriately if generally accepted accounting principles are to be reflected in the financial statements of entities with pension plans.
Answer the following questions in the Discussion Board:
- Define a private pension plan. How does a contributory pension plan differ from a noncontributory plan?
- Differentiate between “accounting for the employer” and “accounting for the pension fund.”
- Explain the terms “funded” and “pension liability” as they relate to:
- The pension fund.
- The employer.
- Discuss the theoretical justification for accrual recognition of pension costs.
- Discuss the relative objectivity of the measurement process of accrual versus cash (pay-as-you-go) accounting for annual pension costs.
- Distinguish among the following as they relate to pension plans.
- Service cost.
- Prior service costs.
- Vested benefits.
Just do response each posted # 1 to 3 down below only?
Professor and Class,
A private pension plan is a personal pension in order to save money for retirement and it is similar to a pension plan through a workplace except it is set up by you and not a company.
The difference between a contributory pension plan and a noncontributory plan is (the contributory) the employee and employer makes contributions to the funds and (the noncontributory) the employer is entirely responsible for making payments to the funds.
Accounting for the employer, is the organization sponsoring the pension plan, it incurs the cost and makes contributions to the pension fund. Accounting for pension fund, is the entity that receives the contributions from the employer, administers the pension assets and makes the benefit payments to the retired employee.
Funded related to pension fund is when the employer makes payments to a funded agency and funded related to the employer, is the entity that provides the funds. Pension liability related to pension fund is the amount of the obligation that the employer contributes to the fund and pension liability related to the employer is if the projected benefit obligation is greater than the plan assets then the employer incurs a pension liability.
The expense recognition principle and the definition of a liability justify accounting for pension cost on accrual basis.
The accrual basis similar to pension accounting necessitates measuring the employer’s obligation to provide future benefits and accrual of the cost during the years that the employee provides service.
Service cost predicts the additional benefits that an employer must pay as a result of the employee’s current year’s service.
Prior service cost is the pension cost related to years of service credited to employees before the start of a defined benefit pension plan.
Vested benefits is compensation rights that exist when an employer has an obligation to make payments to an employee even after termination.
“A pension plan is a retirement plan that requires an employer to make contributions into a pool of funds set aside for a worker’s future benefit. The pool of funds is invested on the employee’s behalf, and the earnings on the investments generate income to the worker upon retirement” (Kagan, 2019). A contributory pension plan is like a 401k plan that most employers use. Both employees and employers can make contributions each payroll into the plan. Typically, some employers who have the contributory pension plan will have a set percentage or dollar amount match of what the employee contributes. For example, if an employee contributes 5% each payroll, the employer will contribute 5%. In a noncontributory pension plan, the contributes originate solely from the employer. In the noncontributory plan, contributes are typically not made every payroll instead of a percentage of the employees’ annual salary is contributed. The employer is the one that will make a contribution to the pension plan. Most employers use an outside company to manage their pension plans. The company hired to manage the pension plans is responsible for maintaining, administering, and issuing payments to retired employees. Pension plans should be a separate and legal accounting entity and prepare and issue financial statements. A foundered pension plan is “defined benefit pension plan is a funded plan that has enough assets to pay its obligations to retirees for the foreseeable future. The fund itself has enough money on hand that is invested responsibly so that the return on investment and the assets of the fund can pay all benefits of the plan in the future. Funded pensions also depend on continuous new contributions to continue paying the retirement benefits for all eligible employees” (Infinity Benefit Solutions, 2019). Pension liability is the amount of money that a company must account for to make future pension plans. “In other words, pension liability is the difference between the total amount due to retirees and the actual amount of money the company has on hand to make those payments. What it’s not—and this is an important distinction—is the total amount that gets paid in future pensions” (Koba, 2013).“With defined-contribution plans, your individual contributions are 100% vested as soon as they reach your account. But if your employer matches those contributions or gives you company stock as part of your benefits package, it may set up a schedule under which a certain percentage is handed over to you each year until you are “fully vested.” Just because retirement contributions are fully vested doesn’t mean you’re allowed to make withdrawals, however” (Kagan, 2019).
a/ Pension plan is set up for beneficiaries to receive benefits at their retirement. Different from a work pension plan that was set up by employers, a private pension plan was set up by an individual for his own benefits. In the contributory pension plan, the employee pays a portion of the cost and the employer also contributes a part of the cost while the noncontributory plans “the employer bears the entire cost”. (Kieso, Weygant & Warfield, 2016, p. 1118).
b/ An employer sponsors the pension plan. Therefore, the employer accounted for the costs incurred for making contributions to the pension fund. In each accounting period, the employer estimates and allocates the costs, and report in the financial statements. These costs include the service cost, interest on the liability, the actual return on plan assets, amortization of prior service cost, and gain/ loss. On the other hand, the trust who handles the pension fund is a separate entity. They receive the contributions from employers and response in keeping records of the funds, investing, computing, and making the benefit payments to the beneficiaries (employees) at their retirement. In addition, they prepare the financial statement for the fund.
c/ To the pension fund, the term funded indicates the net amount between the total liability and the total employer contribution. The term pension liability refers to the amount of money to be accounted for to make future pension payment to the retirees. On the other hand, to the employer, the term funded refers to the contribution or payment made to the funding agency after the accrued expenses (Kieso, Weygant & Warfield, 2016, p. 1118). The term pension liability refers to the unpaid pension expenses the employer owes for the year.
d/ The theoretical justification for accrual recognition of pension costs based on the matching concepts. Pension cost is the amount paid by the employer to the pension fund under the cash-basis. In other words, pension cost is incurred during the time employees worked for the company. Then, the funds are distributed to the employees in equability after they reach their retirement age.
e/ The pay-as-you-go pension plan set up by the employer. However, employees are responsible for paying the entire contribution through payroll deduction. Pay-as-you-go or cash basis accounting determine the actual amount when paid, it does not give a clear picture of the annual cost. On the other hand, the accrual accounting records the pension cost as it incurs. Accrual accounting provides a better view of the annual costs.
d/ The pension service cost is the present value of the retirement benefits earned by employees during the current period based on the company’s pre-set formula. On the other hand, prior service cost is the cost related to the additional benefits from the amendment to a pension plan. “This cost applies to employee services rendered in prior periods.” (Accounting Tools, 2018). Vested benefits are the benefits that an employee entitles to earn after a number of years of service. For example, the company I work for offer the 401k match to eligible employees. However, the employee has to stay at least 2 years enable to earn the match. If they quit before reaching 2 years, the match portion will return to the employer’s account.