Comparing Australia and the USA - Pension Accounting Standards - Case Study Example

Comparing Australia and USA Student’s Name: Name of Institution: Instructor’s Name: Course Code: Date of Submission: Introduction As they have developed, Pension Accounting Standards in Australia and the USA have been at the centre of political and social debate. Therefore, both the pension accounting framework/standards in the USA, i.e. SFAS 87 Employers’ Accounting for Pensions, 1985, and that of Australia before it integrated with the standards that are international [i.e. AASB 1028 Employee Benefits, 1995] (Gordon & Gallery, 2008) contain detailed rules and accounting concessions that fit in and suit local contexts and needs. Nonetheless, just as differences are inherently expected, there are also similarities between the two standards. In this effort this paper will look at the standards independently, and finally come up with a conclusion on the differences and similarities between the two. However, most of these are implicitly discussed throughout the essay. USA The Financial Accounting Standards Board (FASB) in its agenda included pension topic and release preliminary perceptions on what Employers’ Accounting for Pensions and Other Post-Employment Benefits (1982). These preliminary perceptions took an approach that is of economic substance, which needed the capitalization of pension responsibilities that had been unrecorded initially (Miller, 1987). Initially, the US accounting profession took the principle-based approach to recording economic substance of transactions stipulated in the Preliminary Views. But standard setting has since become such a political process that its requirements have been watered down. As a result, SFAS 87 contains accounting concessions and compromises that can also be found in rules-based methods of setting standards (Daley & Tranter, 1990; Wallison, 2007). The SFAS 87 compromises include what Gordon and Gallery (2008) refer to as ‘corridor’ method (i.e. delayed smoothing and recognition technique aimed at reducing the reporting of huge unexpected pension expenditures) for the amortization of actuarial benefits and losses as well as the acknowledgment of ‘minimum’ accountability. In order to reduce the instability of pension costs caused by instabilities in actuarial profits and losses as a result of market movements, the US standard setters are generally for the ‘corridor’ method (Revsine, et al., 2002; Bennett, et al., 2006). In line with this, paragraph 87 of SFAS 87 allows the acknowledgment of actuarial profits and losses without a 10percent corridor, especially where the unrecognized net cumulative actuarial profits and losses are more than 10 percent of the expected benefit obligation or fair value of assets (Dufresne, 1993; Schipper, 2003). Besides the corridor method, another compromise is the minimum liability, i.e. the excess above accrued benefit responsibility, not including the projection of salary and over the pension asset fair value for every plan. This minimum liability stands for a direct-to-equity modification. In recent years, the increasing number of deficits in the US companies have been raising increasing concern that such deficits may cause minimum liability in the SFAS 87, while reducing the equity of shareholders. According to The Wall Street Journal (2002 cited in Gordon & Gallery, 2008) reports, some companies that had debt covenants that were responsive to pension accounting sought to estimate the consequences of pension liabilities debt levels. Some of these companies (such as Kellogg Co. and Delta Air Lines) cut their debts so as to amend their lending agreements as a means to get rid of the impacts of pension funding. Nonetheless, SFAS requires complete disclosure of pension plan details, e.g. plan assets, recognized/unrecognized accrued gains, as well as recognized/unrecognized pension expenditures. However, these disclosures are quite complex. For instance, Coronado and Sharpe (2003), sought to find out if market participants could interpret comprehensive pension disclosures and integrate them appropriately into a firm’s pricing, especially in the absence of net pension liability/asset in financial statements and complete recognition of financial consequences f pension expenditures. They found that many US firms, by 2001, experienced a 10 percent overvalue in their deficits, which they attributed to errors related to pension caused by complicated pension numbers. These factors in the end created distortions in the market equity values (Coronado &Sharpe, 2003). Australia For many years, requirements for measurement and recognition for costs of DBP in employer books were not part of accounting policies in Australia, i.e. there had been no directives to use accrual accounting for the allocation of pension costs on a regular basis. Also absent was the directive for employers to recognize the net position of pension in the balance sheet. Instead of such requirements, sponsoring corporations were directed to reveal information on their DBP under the 1995 AASB 1028 Accounting for Employee Entitlements (Gordon, 2001). However, in 1991, the ED 53 Accounting for Employee Entitlements, an exposure draft that called for employer superannuation, was issued and put in place. ED 53 adopted a different stance, emphasizing an economic substance approach that proposed the need for the sponsoring employer to recognize the position of net pension in its balance sheet as a pension excess or scarcity, as well as recognize changes in asset/liability balance in the income statement (Gordon, 2001). This approach is in line with economic substance perception that there is a correlation between the employer and the fund, and thus the employer is ethically obliged to abide by the superannuation obligations that arise from the DBP framework. In the same way as the preliminary views in the USA, ED 53 did not limit the definition of liabilities to just include legal liabilities. It also included beneficial and equitable responsibilities and obligations too (Lambert & Gallery, 1996). Equally, ED 53 endorsed the valuation of market pension assets and recognized superannuation expenditures in the net pension liability/asset that might cause volatility in the income statement). However, due to much criticism and objections, the superannuation accounting proposals were withdrawn. The next accounting standard, AASB 1028, did not include such requirements (Gordon, 2001; Lambert & Gallery, 1996). But in 2005, Australia adopted and committed itself to international accounting standards, which saw the re-adoption of the requirements for superannuation measurement and recognition, especially by companies that sponsor DBPs. AASB 119’s classification of pension expense excludes other amounts capitalized as asset, costs of current services, cost of interest, returns expected on plan assets, actuarial benefits or losses, cost of past service, etc. The Actuarial gains and losses, i.e. AGL, are also part of the pension cost, and they arise when actuary’s suppositions are not gotten or the supposition change. The initial draft of AASB 119, which into effect on January 1, 2005 did not maintain smoothing or deferred ways for the handling of AGL as allowed by IAS 19 and SFAS 87. USA and Australia in Relation to the International Accounting Standards Version one of AASB 119, which was released in 2004, July aligns itself with the full economic substance perspectives. Upon study, ,it is clear that the preliminary views in the Australia’s ED 53 and the USA reveal that both are equally steady with the complete economic substance perspective for accounting for interest in DBP by the employer. Clearly, articulation of income statement and balances sheet is interfered with in the sense that the other standards of accounting deviate from the full economic substance perspective. The IAS 19 version prior to IASB ED’s adoption of the initial modified economic substance perspective demanded that one recognize the position of net pension vis-à-vis the sponsor’s balance sheet. The said initial modified economic substance perspective allows some options in the income statement for AGL, which includes deferring AGL by way of corridor method without any continuous adjustments of direct-to-retained earnings (Nobes, 2005). The second modification , i.e. AASB 119 of 2004, December and IAS 19, which succeeded IASB ED allows all 3 AGL alternatives. On the other hand, SFAS 87 is generally viewed as a mixed approach, i.e. it makes compromises even as it deviates from the full economic substance perspective. For example, both the unrecognized AGL and costs for past services, as well as net pension asset are not recorded. At the same time, the minimum liability if SFAS 87 is calculated through a different balance sheet index, i.e. accumulated measure of pension benefit, rather than in terms of profits and loss as projected through the measure of benefit. Even more, minimum liability also means a direct-to-equity modification. This impure SFAS 87 approach entails the utilization of delayed liability and asset accounts above memorandum records in order to align the profit and loss with the balance sheet. On the other furthest end, the legal perspective is narrower in the sense that it does not record and address the position of net pension as it stands in the sponsor’s balance sheet. Also, it does not take into consideration accrual accounting to record and address the continual cost of pension. The full economic substance also cuts managerial judgment by refuting optional treatment of accounting. However, the SFAS 87, AASB 119 of 2004, December can decide to smooth pension shortfalls. The accessibility to alternatives for the handling of AGL also increases decision-making judgment by also increasing elasticity in the choice of accounting. From the perspective of many users of financial statements, the many options of handling accounting do increase uncertainty in relation to the economic consequence of pension transaction. Conclusion Both differences and similarities in the policies of two countries are expected, just as is the case here. Not only do countries still have to take their internal environment into account when formulating crucial policies, but they also have to view the world from a global point of view. We see both cases here, with both countries heading toward international accounting standards, even as they remain domestically relevant. 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