1. Copyright © 2012 McGraw-Hill Australia Pty Ltd PPTs to accompany Deegan, Australian Financial Accounting 7e 12-1 Chapter 12 Accounting for employee benefits

2. Copyright © 2012 McGraw-Hill Australia Pty Ltd PPTs to accompany Deegan, Australian Financial Accounting 7e 12-2 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

3. Copyright © 2012 McGraw-Hill Australia Pty Ltd PPTs to accompany Deegan, Australian Financial Accounting 7e 12-3 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 ‘Employee benefits’ according to AASB 119 (par. 8) –All forms of consideration given by an entity in exchange for service rendered by employees Examples of employee benefits

4. Copyright © 2012 McGraw-Hill Australia Pty Ltd PPTs to accompany Deegan, Australian Financial Accounting 7e 12-4 Overview of employee benefits (cont.) AASB 119 divides employee benefits into categories Short-term employee benefits Other entitlements –Salaries and wages, social security contributions and other employee benefits

5. Copyright © 2012 McGraw-Hill Australia Pty Ltd PPTs to accompany Deegan, Australian Financial Accounting 7e 12-5 Salaries and wages For short-term employee benefits such as salaries and wages payable within 12 months of the end of the reporting period For salaries and wages payable more than 12 months after the end of the reporting period For associated entitlements have not been paid as at the end of the reporting period Salaries and wages as an expense Salaries and wages as an asset Refer to Worked Example 12.1, p. 415—Accounting for salaries and wages

6. Copyright © 2012 McGraw-Hill Australia Pty Ltd PPTs to accompany Deegan, Australian Financial Accounting 7e 12-6 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 end of the reporting period, there is no need to discount the obligation to its present value Refer to Worked Example 12.2, p. 416—Accounting for annual leave

7. Copyright © 2012 McGraw-Hill Australia Pty Ltd PPTs to accompany Deegan, Australian Financial Accounting 7e 12-7 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

8. Copyright © 2012 McGraw-Hill Australia Pty Ltd PPTs to accompany Deegan, Australian Financial Accounting 7e 12-8 Sick leave Necessary to divide sick leave into two types of entitlements: 1.Vesting sick-leave entitlements 2.Non-vesting sick-leave entitlements

9. Copyright © 2012 McGraw-Hill Australia Pty Ltd PPTs to accompany Deegan, Australian Financial Accounting 7e 12-9 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

10. Copyright © 2012 McGraw-Hill Australia Pty Ltd PPTs to accompany Deegan, Australian Financial Accounting 7e 12-10 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 Refer to Worked Example 12.3, p. 417—Accounting for non- vesting sick leave

11. Copyright © 2012 McGraw-Hill Australia Pty Ltd PPTs to accompany Deegan, Australian Financial Accounting 7e 12-11 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 Recognition of long-service leave expense and associated liability Measurement of long-service liabilities Common long-service leave entitlements

12. Copyright © 2012 McGraw-Hill Australia Pty Ltd PPTs to accompany Deegan, Australian Financial Accounting 7e 12-12 Long-service leave (cont.) 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.)

13. Copyright © 2012 McGraw-Hill Australia Pty Ltd PPTs to accompany Deegan, Australian Financial Accounting 7e 12-13 Long-service leave (cont.) 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 end of the reporting period -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 Calculate long-service leave liability Refer to Worked Example 12.4 on pp. 419—Accounting for long- service leave

14. Copyright © 2012 McGraw-Hill Australia Pty Ltd PPTs to accompany Deegan, Australian Financial Accounting 7e 12-14 Superannuation AASB 119 Employee Benefits –superannuation entitlements –other post-employment benefits AAS 25 Financial Reporting by Superannuation Funds –accounting for the plan’s assets, liabilities, revenues, and expenses (covered in Chapter 22) Post-employment benefits (e.g. superannuation) classified as: –Defined contribution plans, or –Defined benefit plan

15. Copyright © 2012 McGraw-Hill Australia Pty Ltd PPTs to accompany Deegan, Australian Financial Accounting 7e 12-15 Superannuation (cont.) Defined 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 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

16. Copyright © 2012 McGraw-Hill Australia Pty Ltd PPTs to accompany Deegan, Australian Financial Accounting 7e 12-16 Superannuation (cont.) Overview of defined contribution plans (cont.) Accounting relatively straightforward (refer to AASB 119) –Contribution recognised as an expense –Associated liability –Measurement of obligations –Contributions outside proceeding 12 months –Disclosure of recognised expense Refer to Worked Example 12.5, p. 422—Accounting for contributions to a defined contribution plan

17. Copyright © 2012 McGraw-Hill Australia Pty Ltd PPTs to accompany Deegan, Australian Financial Accounting 7e 12-17 Superannuation (cont.) 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 Overview of defined benefit plans More complex accounting issues involved than with defined contribution plans Defined benefit superannuation plan established by employer Employers need to determine amount to contribute to fund

18. Copyright © 2012 McGraw-Hill Australia Pty Ltd PPTs to accompany Deegan, Australian Financial Accounting 7e 12-18 Superannuation (cont.) Overview of defined benefit plans (cont.) Employer effectively bears the risks associated with the earnings of the fund Risks of unexpected changes in earnings or whether employer retains associated risks Requirements of AASB 119 –Funding of defined benefits funds –Payment of funded benefits –Actuarial and investment risks –Recognised expenses versus contributions

19. Copyright © 2012 McGraw-Hill Australia Pty Ltd PPTs to accompany Deegan, Australian Financial Accounting 7e 12-19 Superannuation (cont.) 5 steps in accounting for defined benefit plans Step 1—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 period If obligations fall due beyond 12 months after the end of the reporting period then they are required to be discounted to their present value

20. Copyright © 2012 McGraw-Hill Australia Pty Ltd PPTs to accompany Deegan, Australian Financial Accounting 7e 12-20 Superannuation (cont.) 5 steps in accounting for defined benefit plans (cont.) Step 2—Determine the present value of the defined benefit obligation If obligations fall due beyond 12 months after the end of the reporting period 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. 83) Paragraph 83 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’

21. Copyright © 2012 McGraw-Hill Australia Pty Ltd PPTs to accompany Deegan, Australian Financial Accounting 7e 12-21 Superannuation (cont.) 5 steps in accounting for defined benefit plans (cont.) Step 3—Determine the fair value of the plan’s assets Need to assess whether the employer has any outstanding obligation for superannuation at year end 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 Determining the amount recognised in the statement of financial position When no market price is available If the assets have not attained maturity

22. Copyright © 2012 McGraw-Hill Australia Pty Ltd PPTs to accompany Deegan, Australian Financial Accounting 7e 12-22 Superannuation (cont.) 5 steps in accounting for defined benefit plans (cont.) Step 4—Determine the amount of the actuarial gains and losses Actuarial gains and losses must be recognised as part of the income or expense of the period Causes of actuarial gains and losses include: –employee turnover rates, increased salaries and benefits, etc –effect of changes in estimates –effect of changes in the discount rate –differences between the actual return on plan assets and the expected return on plan assets –difference between the expected rate of return on plan assets and the actual rate of return on plan assets –differences between the expected and actual returns on high quality corporate bonds.

23. Copyright © 2012 McGraw-Hill Australia Pty Ltd PPTs to accompany Deegan, Australian Financial Accounting 7e 12-23 Superannuation (cont.) 5 steps in accounting for defined benefit plans (cont.) Step 5—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 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.

24. Copyright © 2012 McGraw-Hill Australia Pty Ltd PPTs to accompany Deegan, Australian Financial Accounting 7e 12-24 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

25. Copyright © 2012 McGraw-Hill Australia Pty Ltd PPTs to accompany Deegan, Australian Financial Accounting 7e 12-25 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

26. Copyright © 2012 McGraw-Hill Australia Pty Ltd PPTs to accompany Deegan, Australian Financial Accounting 7e 12-26 Summary (cont.) Wages and salaries payable within 12 months of the end of the reporting period 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 the end of the reporting period Annual leave liabilities payable within 12 months of the end of the reporting period are to be recognised at the nominal amount of the entitlement. At year end there will generally be a provision for vesting

27. Copyright © 2012 McGraw-Hill Australia Pty Ltd PPTs to accompany Deegan, Australian Financial Accounting 7e 12-27 Summary (cont.) Obligations for employee benefits, inclusive of salaries and wages, that are payable beyond 12 months after the end of the reporting period 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 end of the reporting period 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

28. Copyright © 2012 McGraw-Hill Australia Pty Ltd PPTs to accompany Deegan, Australian Financial Accounting 7e 12-28 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

29. Copyright © 2012 McGraw-Hill Australia Pty Ltd PPTs to accompany Deegan, Australian Financial Accounting 7e 12-29 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 Summary (cont.)

30. Copyright © 2012 McGraw-Hill Australia Pty Ltd PPTs to accompany Deegan, Australian Financial Accounting 7e 12-30 Summary (cont.) 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