The Hindu Business Line : Accounting for employee benefits

An enterprise should recognise the expected cost of profit-sharing and bonus payments only when it has a present obligation to make such payments as a result of past events, and when a reliable estimate of the obligation can be made.

The revised Accounting Standard on Employee Benefits (AS-15), as issued by the Institute of Chartered Accountants of India (ICAI), is mandatory and has been effective from April 1, 2006. This replaces the erstwhile standard known as accounting for retirement benefits in the financial statements of employers. The new standard is in line with International Accounting Standard (IAS-19) on the subject.

Scope of AS-15

While AS-15 applies in its entirely to all enterprises which are listed or to be listed, banks, cooperative banks, financial institutions, insurance companies, business enterprises with turnover exceeding Rs 50 crore in previous year or having borrowings including fixed deposits exceeding Rs 10 crore, or holding and subsidiary companies of any such enterprise, it requires all such enterprises to recognise present and future benefits of employees. The present benefits are to be treated as expenses, whereas future benefits as a liability. Accordingly, AS-15 requires the reporting enterprise to recognise the following:

A liability when an employee has provided service in exchange for employee benefits to be paid in the future; and

An expense when the enterprise consumes the economic benefit arising out of service provided by an employee in exchange for employee benefits.

Employees for the purpose of AS-15 would also cover whole-time directors and other management personnel. Barring benefit plans, AS-15 should be applied by employees. Employee benefit implies all or any form of consideration given to employees in exchange for services rendered, but excludes share-based payments. However, employee benefits would cover the following:

Benefits provided to employees/spouses/children/other dependents settled by payments (or provision of goods or services) by direct payment to them or to their legal heirs/nominees or to others such as trusts, insurance companies, etc.;

Those under formal plans or agreements;

As under legislative requirements or under industry/multi-employer plans;

Benefits by way of informal practices which give rise to an obligation, that is, there is no option but to pay for such benefits;

Short-term employee benefits such as wages, salaries, bonuses and non-monetary benefits (medical care, housing, car, etc);

Post-employment benefits such as gratuity, pension, medical care, insurance, etc.;

Long-term employee benefits such as long service leave, sabbatical leave, disability benefits, deferred compensation; and

Termination benefits.

Short-term benefits are those which fall due wholly within 12 months after the end of the period in which the employees render the related services.

Accounting for short-term employee benefits is based on actuals and is simple, as no actuarial assumption or valuation is needed to measure the cost or obligation. These are taken at par and do not result in any actuarial gain or loss. According to AS-15, when an employee has rendered service to an enterprise during an accounting period, the enterprise should recognise the undiscounted amount of short-term employee benefits expected to be paid in exchange for that service, that is:

As a liability (accrued expense), after deducting any amount already paid. If the amount already paid exceeds the undiscounted amount of the benefits, an enterprise should recognise that excess as an asset (prepaid expense) to the extent that the prepayment will lead to, for example, a reduction in future payments or a cash refund; and

As an expense, unless another Accounting Standard requires or permits the inclusion of the benefits in the cost of an asset.

An enterprise should recognise the expected cost of profit-sharing and bonus payments when, and only when, the enterprise has a present obligation to make such payments as a result of past events and a reliable estimate of the obligation can be made. A present obligation exists when, and only when, the enterprise has no realistic alternative but to make the payments.

AS-15 does not require any specific disclosure about short-term employee benefits.

Different plans

In relation to insured benefits, an enterprise may pay insurance premiums to fund a post-employment benefit plan. The enterprise should treat such a plan as a defined contribution plan unless the enterprise will have (either directly, or indirectly through the plan) an obligation to either pay the employee benefits directly when they fall due, or pay further amounts if the insurer does not pay all future employee benefits relating to employee service in the current and prior periods. If the enterprise retains such an obligation, the enterprise should treat the plan as a defined benefit plan.

In case of defined contribution plans, an enterprise should disclose the amount recognised as an expense.

For defined benefit plans, an enterprise should account not only for its legal obligation under the formal terms of a defined benefit plan, but also for any other obligation that arises from the enterprise's informal practices. Informal practices give rise to an obligation where the enterprise has no realistic alternative but to pay employee benefits. An example of such an obligation is where a change in the enterprise's informal practices would cause unacceptable damage to its relationship with employees (ex-gratia payment).

The amount recognised as a defined benefit liability in balance sheet should be the net total of the following amounts:

a) the present value of the defined benefit obligation at the balance-sheet date;

b) minus any past service cost not yet recognised;

c) minus the fair value at the balance sheet date of plan assets (if any) out of which the obligations are to be settled directly

The amount determined as aforesaid may be negative (that is, an asset). An enterprise should measure the resulting asset at the lower of the amount so determined and the present value of any economic benefits available in the form of refunds from the plan or reductions in future contributions to the plan. The present value of these economic benefits should be determined using the discount rate.

So far as profit and loss (P&L) account is concerned, an enterprise should recognise the net total of the following amounts in the statement of profit and loss, except to the extent that another Accounting Standard requires or permits their inclusion in the cost of an asset: a) current service cost; b) interest cost; c) the expected return on any plan assets and on any reimbursement rights; d) actuarial gains and losses; e) past service cost to the extent an enterprise can recognise it; and f) the effect of any curtailments or settlements.

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