Copyright 2010 McGraw-Hill Australia Pty Ltd PPTs to accompany Deegan, Australian Financial Accounting 6e 13-1 Chapter 13 Accounting for employee benefits

. Copyright 2010 McGraw-Hill Australia Pty Ltd PPTs to accompany Deegan, Australian Financial Accounting 6e 13-1

Chapter 13

Accounting for employee benefits


Objectives of this lecture

• Understand the various forms of benefits that employees can receive from their employers

• Be able to account for the various forms of employee benefits

• Understand whether particular employee entitlement obligations should be recorded at their nominal value or at their discounted present value

• Be able to provide the necessary disclosures in conformity with AASB 119 Employee Entitlements


Overview of employee benefits• Employment agreement with employer results in employees

receiving various benefits (entitlements) in return for services

• Accounting for employee benefits governed by AASB 119

• ‘Employee’ not actually defined in standard, but refers to:

– a natural person appointed or engaged under a contract of service, whether on a full-time, part-time, permanent, casual or temporary basis

• ‘Employee benefits’ according to AASB 119 (par. 7)

– All forms of consideration given by an entity in exchange for service rendered by employees


Overview of employee benefits (cont.)

Examples of employee benefits• Employee benefits can relate to such items as:

– wages and salaries– annual leave– sick leave– long-service leave– superannuation– share entitlements– bonuses– other entitlements



• AASB 119 divides employee benefits into categories– Short-term employee benefits– Post-employment benefits– Termination benefits– Other long-term employee benefits (e.g. superannuation)

• Short-term employee benefits– Wages, salaries, social security contributions– Annual leave and sick leave to the extent that they are

paid within 12 months of the period in which the employee renders the services

– Benefits measured on an undiscounted basis—present values not used

– Refer to AASB 119 (par. 10)



Other entitlements • Salaries and wages, social security contributions,

and other employee benefits (e.g. termination payments, post-employment benefits and other long-term employment benefits) that do not fall due wholly within 12 months of the end of the period in which the employee renders service– Related obligations to be discounted to present value– Discount rate used to be determined by reference to

market yields at the reporting date on high quality corporate bonds


Salaries and wages

• For short-term employee benefits such as salaries and wages payable within 12 months of the end of the reporting period no requirement to discount any outstanding obligations to present value

• For salaries and wages payable more than 12 months after the end of the reporting period any outstanding obligation should be discounted to its present value

• Liabilities arise only where the services have already been rendered by the employee but the associated entitlements have not been paid as at the reporting date


Salaries and wages (cont.)

• Salaries and wages may be treated as an expense in the same period in which the obligation to make the payment is recorded

• May be carried forward as an asset in certain circumstances (e.g. when labour cost relates to inventories)

• Initially recorded as work in progress, transferred to finished goods and then expensed as part of cost of goods sold

• Cost of employee benefits can also be included in cost of property, plant and equipment (refer to AASB 116 Property, Plant and Equipment, par. 17)


Salaries and wages (cont.)Salaries and wages expenses may include:

– wages and salaries– PAYG tax– medical benefits

Salaries and wages—Accounting entry at reporting date

Dr Wages and salaries expense

Cr PAYG tax payable

Cr Medical benefits payable

Cr Wages and salaries payable


Salaries and wages (cont.)Salaries and wages—Entry paid after reporting date

Dr Salaries and wages expense (incurred since reporting date)

Dr Salaries and wages payable (owing at reporting date)

Cr PAYG tax payable

Cr Medical benefits payable (both incurred since reporting date)

Cr Cash (payment to employees)


Salaries and wages (cont.)

Salaries and wages—Remittance to tax office and medical fund

Dr PAYG tax payable

Dr Medical benefits payable

Cr Cash

Refer to Worked Example 13.1 on page 417—Accounting for salaries and wages


Worked Example 13.1—Accounting for salaries and wages

Thruster Ltd employs its staff on a five-day work week, with employees being paid on Fridays. The weekly salaries expense is $10 000 and employees are paid in arrears. That is, when the employees are paid, the salaries paid are for work performed in the preceding week. Thruster Ltd retains $3000 per week to pay the Australian Taxation Office for PAYG tax on behalf of the employees. This is paid on the following Monday of each week. It also retains $500 per week to pay staff premiums to the Oceanic Medical Benefits Fund.

If we assume that the reporting date falls on a Thursday, what would the accounting entry at reporting date be to recognise four days’ salary and wages expense?


Worked Example 13.1—Solution

Dr Wages and salaries expense 8 000

Cr PAYG tax payable 2 400

Cr Oceanic MBF payable 400

Cr Wages and salaries payable 5 200

When the wages are ultimately paid to employees on Friday, the entry would be:

Dr Wages and salaries expense 2 000

Dr Wages and salaries payables 5 200

Cr PAYG tax payable 600

Cr Oceanic MBF payable 100

Cr Cash 6 500


Worked Example 13.1—Solution (cont.)

When the amounts are paid to the Australian Taxation Office (ATO) and the medical fund on Monday, the entry would be:

Dr PAYG tax payable 3 000

Dr Oceanic MBF payable 500

Cr Cash3 500


Annual leave• Typical in Australia for employees to be granted four

weeks’ annual leave entitlement each year• May also receive annual leave loading (17.5%)• To the extent that the obligation is payable within 12

months of the reporting date, there is no need to discount the obligation to its present value


Annual leave (cont.)Accounting for annual leave • To recognise annual leave obligation throughout the year

Dr Annual leave expenseCr Provision for annual leave

• When annual leave takenDr Provision for annual leave

Cr PAYG tax payableCr Cash at bank

Refer to Worked Example 13.2 on pp. 418—Accounting for annual leave


On-costs

‘On-costs’ also to be considered when calculating employer’s obligations for employee benefits

‘On-costs’ include:– Payroll tax– Workers’ compensation insurance– Superannuation contributions


Sick leave

• Necessary to divide sick leave into two types of entitlements:1. Vesting sick-leave entitlements

2. Non-vesting sick-leave entitlements


Vesting sick leave

• Accounting for vesting sick-leave entitlements– ‘Vesting’—employee has a right to receive the calculated

amount in cash, even if the employee leaves the employer

– Accounted for in the same manner as annual leave


Non-vesting sick leave • Accounting for non-vesting sick-leave entitlements

– Only paid upon a valid claim for sick leave by the employee

– Only that part which has accumulated through past service and which is expected to be taken should be recognised as a liability and then only when it is capable of being reliably measured


Non-vesting sick leave (cont.)

• Accounting for non-vesting sick-leave entitlements (cont.)– Journal entry each week (based on past experience)

Dr Sick-leave expense

Cr Provision for sick leave

\


Non-vesting sick leave (cont.)• Accounting for non-vesting sick-leave entitlements

(cont.)– If employees are sick, their entitlements are charged to

sick leave instead of salaries and wages:Dr Provision for sick leave (wages during sick leave)Dr Salaries and wages (wages for rest of period)

Cr PAYG tax payableCr Cash at bank


Long-service leave• Employees within Australia typically receive an

entitlement to take an extended amount of leave after working for an employer for a specific number of years

• Although no long-service leave may actually be paid in a given year, the employer must recognise an expense and an associated liability

• Long-service liabilities must be accrued and the liability measured at its present value to the extent that the obligation is payable beyond 12 months after reporting date

• Guidance to be found in AASB 119 Australian Guidance (pars G4 to G8)


Long-service leave (cont.)

• Three common long-service leave entitlement categories (in terms of par. G4)

1. Preconditional period

2. Conditional period

3. Unconditional period



• Many judgments required in determining long-service leave liability

• Consideration given to such factors as:- probability employee will stay until such time as they

have an LSL entitlement

- salary being earned at the time of receiving the LSL entitlement (inflation, promotion prospects, etc.)



• Recall- AASB 119 requires estimated future cash flows to be

discounted to present value when measuring benefits to be paid beyond 12 months from the reporting date

• Discount rate for entitlements– To be based on rates generated by high quality bonds– Bond rates selected must generally match the expected

timing of the long-service leave entitlements



Calculating long-service leave liability• Need to calculate:

– projected salary current salary × (1 + inflation rate)n

– accumulated LSL benefit years of employment / total no. of periods required to

be served before leave can be taken × weeks of LSL entitlement available after conditional period has been served / 52 × projected salary



Calculating long-service leave liability (cont.)– Present value of LSL obligation

accumulated LSL benefit/(1 + appropriate bond rate)n

– Probability that LSL will be paid determined by reference to prior experience within

the organisation and industry


Long-service leave (cont.)Accounting entries for long-service leave • Entry to recognise the LSL expense

Dr Long-service leave expenseCr Provision for long-service leave

– Provision broken up into current and non-current portion

• Entry when LSL is subsequently takenDr Provision for long-service leave

Cr Cash at bank

Refer to Worked Example 13.4 on pp. 421—Accounting for long-service leave


Long-service leave (LSL)—Lecture illustration

• Torquay Ltd has five employees

• Torquay Ltd’s employees are entitled to 13 weeks’ LSL after 15 years of continuous service

• Employees who cease employment with Torquay Ltd after 10 years’ service are entitled to a pro-rata payment of accumulated LSL


Long-service leave (LSL)—Lecture illustration (cont.)

Employee name Years of service at

30 June 2011

Current salary at

30 June 2011

(salaries are expected to increase

by 10% p.a.)

Megan 1 $35 000

Mike 2 $45 000

Mack 8 $55 000

Melissa 8 $95 000

Mary 9 $75 000


An examination of past employment records reveals the following:

Years of completed

Service

Probability of employee completing the 10 years of service and qualifying for pro-rata LSL benefits

1 5%

2 10%

8 85%

9 95%



Interest rates on high quality corporate bonds at 30 June 2011 are as follows:

Years to maturity of corporate bond

Interest rate on corporate bonds at 30 June 2011

1 6.5%

2 7.0%

8 9.0%

9 9.5%



• The balance in the provision for LSL brought forward from 30 June 2010 is $19 700

• Calculate the LSL liability of Isis Ltd at 30 June 2011, and prepare the journal entry to adjust the balance of the provision for LSL on 30 June 2011


LSL—Lecture illustration Projected future salaries

Employee Projected future salary when LSL vests, (i.e. when employee qualifies for pro-rata LSL benefits)

Megan $35 000 x (1.05)9 = $54 296

Mike $45 000 x (1.05)8 = $66 485

Mack $55 000 x (1.05)2 = $60 638

Melissa $95 000 x (1.05)2 = $104 738

Mary $75 000 x (1.05)1 = $78 750


LSL—Lecture illustrationAccumulated LSL benefits

Employee Accumulated LSL benefits at 30 June 2011

(resulting from past service up to 30 June 2011)

Megan $54 296 x 13/52 x 1/15 = $905

Mike $66 485 x 13/52 x 2/15 = $2 216

Mack $60 638 x 13/52 x 8/15 = $8 085

Melissa $104 738 x 13/52 x 8/15 = $13 965

Mary $78 750 x 13/52 x 9/15 = $11 813


LSL—Lecture illustration PV of accumulated LSL benefits

Employee PV of accumulated LSL benefits at 30 June 2011 (discounted using corporate bond rates 30 June 2011)

Megan $905 x (1.095)-9 = $400

Mike $2216 x (1.09)-8 = $1 112

Mack $8085 x (1.07)-2 = $7 062

Melissa $13 965 x (1.07)-2 = $12 198

Mary $11 813 x (1.065)-1 = $11 092


LSL—Lecture illustration LSL liability

Employee LSL liability at 30 June 2011 (reflecting probability of employee qualifying for LSL benefits)

Megan $400 x 0.05 = $20

Mike $1112 x 0.1 = $111

Mack $7062 x 0.85 = $6 002

Melissa $12 198 x 0.85 = $10 368

Mary $11 092 x 0.95 = $10 537

Total LSL liability at 30 June 2011 $27 038


LSL—Lecture illustration 30 June 2011—Journal entry

Dr LSL expense $7 338

Cr Provision for LSL $7 338

[$27 038 (required balance on 30 June 2011) - $19 700 (existing balance)]


Superannuation• AASB 119 addresses how a reporting entity is to account for

the superannuation entitlements of its employees, as well as other post-employment benefits such as post-employment life insurance and post-employment health care

• AAS 25 Financial Reporting by Superannuation Funds outlines how a superannuation plan itself should account for the plan’s assets, liabilities, revenues, and expenses (covered in Chapter 23)

• Focus in this chapter on contributions of employers and not how superannuation funds account for their resources

• Where an entity provides post-employment benefits (e.g. superannuation) considered to be ‘post-employment benefit plan’


Superannuation (cont.)Post-employment benefit plans classified as either:• defined contribution plans• defined benefit plansDefined contribution plan• A superannuation benefit scheme under which amounts to

be paid as retirement benefits are determined by contributions made to the fund together with investment earnings on those contributions

Defined benefit plan• A superannuation benefit scheme under which amounts to

be paid as retirement benefits are paid from an aggregated fund by reference to a member’s annual salary or are paid as a specified amount regardless of contributions made by the employee


Superannuation (cont.)

Overview of defined contribution plans• Employer’s contribution to a plan is set at a specified amount• Employee’s final payout depends on factors such as

earnings generated by contributions• Employer therefore does not specify final payment to

employee • Refer to AASB 119 (par. 23)


Superannuation (cont.)Overview of defined contribution plans (cont.)

• Accounting relatively straightforward (refer to AASB 119, par. 44)– Contribution recognised as an expense (unless part of cost

of inventory or property, plant and equipment)

– Associated liability limited to amount of obligation unpaid by employer at end of year

– Obligations are measured on an undiscounted basis, except where they do not fall due wholly within 12 months after the end of the period in which the employees render the related service (under AASB 119, par. 43)

.

Superannuation (cont.)Overview of defined contribution plans (cont.)–Where contributions to a defined contribution plan do not fall wholly within 12 months after the end of the period in which the employees render the related service, they are to be discounted using the discount rate specified in paragraph 78 (under AASB 119, par. 45)–Entity to disclose the amount recognised as an expense for defined contribution plans (under AASB 119, par. 46)

Refer to Worked Example 13.5 on page 424—Accounting for contributions to a defined contribution plan

Copyright 2010 McGraw-Hill Australia Pty Ltd PPTs to accompany Deegan, Australian Financial Accounting 6e 13-44



Accounting for employer’s obligation to a defined contribution superannuation plan

Dr Employee benefits cost—superannuation

Cr Employee benefits payable

When amount paid

Dr Employee benefits payable

Cr Cash at bank


Superannuation (cont.)Overview of defined benefit plans• More complex accounting issues involved than with defined

contribution plans• Defined benefit superannuation plan established by

employer to, for example, provide employees with a pension of 40% of their final salary after reaching age of 60

• Employers need to determine amount to contribute to fund so as to ensure obligation is met taking into account:– projected final salary, earnings rates of the fund, costs

associated with managing fund, probability employee will stay until retirement



Overview of defined benefit plans (cont.)• Employer effectively bears the risks associated with the

earnings of the fund, as compared with a defined contribution plan where employer pays a set amount and employee receives whatever the plan has earned

• Large proportion of AASB 119 dedicated to defined benefit plans

• Need to know whether the fund (possibly externally managed) accepts the risks of unexpected changes in earnings or whether employer retains associated risks


Superannuation (cont.)Overview of defined benefit plans (cont.)Refer to AASB 119 (par. 49)• Defined benefit plans may be unfunded, or they may be

wholly or partly funded by contributions by an entity, and sometimes its employees, to an entity or fund that is legally separate from the entity and from which the employee benefits are paid

• The payment of funded benefits when they fall due depends not only on the financial position and the investment performance of the fund but also on an entity’s ability (and willingness) to make good any shortfall in the fund’s assets

• Therefore, the entity is, in substance, underwriting the actuarial and investment risks associated with the plan

• Consequently, the expense recognised for a defined benefit plan is not necessarily the amount of contributions for the period


Superannuation (cont.)Steps in accounting for defined benefit plans(a) Estimate of benefits that an employee has earned• Assumes knowledge of formula used to determine benefits

to be provided to the employer• Obligations of the entity require consideration of whether:

- benefits have vested in the employee (ultimate payment of the benefit earned in the current period is not conditional on satisfying any further service requirements)—probability of payment then 100%

- benefits have not vested—use of probabilities of satisfying service required and will reduce the expense recognised by entity in current periodIf obligations fall due beyond 12 months after reporting date they are required to be discounted to their present value


Superannuation (cont.)Steps in accounting for defined benefit plans (cont.)(b) Determine the present value of the defined benefit

obligation• If obligations fall due beyond 12 months after reporting

date they are required to be discounted to their present value

• Discount rate to be used (funded and non-funded) to be determined by reference to market yields at the reporting date on high quality corporate bonds (AASB 119, par. 78)

• Par. 78 also provides that ‘in countries where there is no deep market in such bonds, the market yields (at reporting date) on government bonds shall be used. The currency and term of the corporate bonds or government bonds shall be consistent with the currency and estimated term of the post-employment benefit obligation’


Superannuation (cont.)Steps in accounting for defined benefit plans (cont.)(c) Determine the fair value of the plan’s assets• Need to assess whether the employer has any outstanding

obligation for superannuation at year end by comparing the closing obligation for superannuation entitlements (refer to (b)) with the fair value of the plan’s assets

• If fair value of plan’s assets matches expected payout to employees then no further liabilities exist

• If fair value exceeds the obligation then an asset would exist



Steps in accounting for defined benefit plans (cont.)(c) Determine the fair value of the plan’s assets (cont.)Fair value of plan’s assets (AASB 119, par. 102)• Fair value of any plan assets is deducted in determining

the amount recognised in the statement of financial position

• When no market price is available, the fair value of the plan is estimated, i.e. discounting expected future cash flows using a discount rate that reflects both the risk associated with the plan assets and maturity or expected disposal date of those assets

• If the assets have not attained maturity, the expected period until the settlement of the related obligation


Superannuation (cont.)Steps in accounting for defined benefit plans (cont.)(d) Determine the amount of the actuarial gains and losses

(cont.)

When determining accounting entries to be made in relation to the defined benefit liability of an entity, actuarial gains and losses must be recognised as part of the income or expense of the period

AASB 110 (par. 94)

Actuarial gains and losses may result from increases or decreases in either the present value of a defined benefit obligation or the fair value of any related plan assets


Superannuation (cont.)Steps in accounting for defined benefit plans (cont.)

(d) Determine the amount of the actuarial gains and losses (cont.)

Causes of actuarial gains and losses include:• unexpected high or low rates of employee turnover, early

retirement or mortality or of increases in salaries, benefits (if the formal or constructive terms of a plan provide for inflationary benefit increases) or medical costs

• the effect of changes in estimates of future employee turnover, early retirement or mortality or of increases in salaries, benefits (if formal or constructive terms of a plan provide for inflationary benefit increases) or medical costs

• the effect of changes in the discount rate, and• differences between the actual return on plan assets and

the expected return on plan assets (refer to pars 105–107)


Superannuation (cont.)Steps in accounting for defined benefit plans (cont.)(d) Determine the amount of the actuarial gains and losses

(cont.)AASB 119 (par. 105)• Expected return on the plan’s assets is one component of

the expense recognised in the statement of comprehensive income

• The difference between the expected rate of return on plan assets and the actual rate of return on plan assets is an actuarial gain or loss

• Differences between the expected and actual returns on high quality corporate bonds will lead to actuarial gains and losses



Steps in accounting for defined benefit plans (cont.)

Determination of the closing liability for each period

• Need to assess the difference between the present value of the obligation to the employees and the fair value of the plan’s assets that are available to meet the obligation to the employees



Steps in accounting for defined benefit plans (cont.)• Determining the total expenses to be recognised in relation to

the defined benefit plan often involves consideration of:- current service costs- interest costs- expected return on assets- net actuarial gain or loss

• Disclosure requirements- Outlined in AASB 119 (par. 120)


Accrued employee benefits and corporate collapses • The mere act of making an accrual does not guarantee cash

reserves available to make payment should the employer become insolvent

• Under law employees have some preferential access to payment– Amount available is affected by:

existence of secured creditors amount of assets available

• Calls for establishment of central funds to protect claims of employees


Summary• Purpose of the lecture to discuss accounting for employee

benefits (entitlements), including application of the relevant accounting standard, AASB 119 Employee Benefits

• Examples of benefits include:– wages and salaries– annual leave– sick leave– long-service leave– superannuation– share entitlements– bonuses


Summary (cont.)• Wages and salaries payable within 12 months of reporting date

are to be recorded at their nominal amount, and liabilities are to be recognised where salaries have been incurred but employees have not been fully paid at reporting date

• Annual leave liabilities payable within 12 months of reporting date are to be recognised at the nominal amount of the entitlement. At year end there will generally be a provision for vesting

• Obligations for employee benefits, inclusive of salaries and wages, that are payable beyond 12 months after reporting date are to be recorded at their present value

• The discount rate to be used to determine present values is determined by reference to market yields at the reporting date on high quality corporate bonds. The currency and term of the bonds are to be consistent with the currency and estimated term of the post-employment benefit obligations


Summary (cont.)• Sick leave is to be divided into vesting and non-vesting

entitlements. For accounting purposes, vesting sick leave can be treated in the same manner as annual leave. With non-vesting sick leave, only the part of the entitlement that is accumulated through past service and that is expected to be taken should be recognised as a liability within the financial statements

• Long-service leave (LSL) entitlements are to be accrued and the liability is to be measured at its present value. The determination of the obligation and the expense for LSL will require various assumptions, including assumptions about future pay levels, promotion prospects, inflation rates and the likelihood of LSL entitlements ultimately vesting. Failure to recognise LSL obligations can lead to a significant understatement of recorded liabilities

• Post-employment benefit plans are classified as either defined contribution plans or defined benefit plans. Accounting treatments for defined benefit plans are a great deal more complex than the requirements relating to defined contribution plans

Documents

Copyright 2010 McGraw-Hill Australia Pty Ltd PPTs to accompany Deegan, Australian Financial Accounting 6e 13-1 Chapter 13 Accounting for employee benefits