by Glenn Cheney
Norwalk, Conn. -- Continuing its efforts to improve accounting for retirement plans, the Financial Accounting Standards Board has taken on a project to devise a proper measurement of benefit obligations and liabilities for cash-balance retirement plans.
Such plans are proliferating as retirement funding falls short at companies across the country. By referencing benefits to hypothetical principal and interest credits, such as short-term Treasury bills, to a participant’s account balance, employers can cut pension liabilities — in the short term.
Trouble is, such plans cut benefits for long-term employees, who logically tend to be older people. By lowering current obligations, cash-balance plans may also give investors a distorted picture of a company’s earnings per share.
“Given that pension funds are underfunded in an acute way, companies are looking for an escape, and cash-balance plans are one of the ways they can do it,” said Tony Tinker, a professor of accountancy at the City University of New York’s Baruch College and a founding member of the Association for Integrity in Accounting. “The cash-balance method is not one that adequately provides for the future. It provides just the minimum necessary for immediate pay-offs and the immediate future. It is not a provision for long-term viability. Companies using cash-balance plans are fooling investors by overstating current income, therefore earnings, [and] therefore earnings per share; and therefore stock prices are bloated, as they are not registering current obligations.”
FASB Statement 87 is the current standard on defined-benefit retirement plans. It requires measurement through actuarial projections of future cash flows that are subsequently discounted back to present value. By default, cash-balance plans are treated as defined-benefit plans and are covered under that statement, though it offers no means of measuring such plans.
“Because the measurement of techniques developed by Statement 87 did not specifically contemplate the cash-balance type of design, questions have arisen regarding the measurement of these obligations,” said FASB project manager Patrick Durbin. “Because of the increasing prevalence of cash-benefit plans and the lack of guidance regarding their measurement, the board decided to add a project to consider the measurement of costs and obligations under these types of plans.”
Depending on the direction the board takes as it develops the project — it has yet to define the scope of the intended standard — corporations may resist any requirements that might effectively reduce apparent corporate earnings by increasing benefits or modifying measurement techniques.
A variety of fronts
Cash-balance plans have brought about widespread controversy. Employees have brought lawsuits against employers whose plans have lessened benefits. The U.S. Treasury is working on a set of regulations, and Congress is considering legislation that conflicts with, if not eliminates, any Treasury rules.
“There’s a fair amount of controversy surrounding cash-balance plans right now,” said Kyle Brown, retirement counsel at Watson Wyatt Worldwide, a human resources consulting firm. “Employers believe they have adopted reasonable plans for good business reasons, and they are defending their plans on a variety of fronts. One is that they believe they should be determining cash-balance liabilities at the same discount rate that is used for other plans.”
In general, corporate employers are advocating the use of a high-grade corporate bond rate as the credit interest rate. Earlier this year, FASB suggested using a U.S. Treasury bond rate. The idea met general resistance, and the board pulled back, recognizing that the issue deserved more serious attention, beginning with the question of defining the nature of a cash-balance plan.
“If FASB wants to develop specific rules, that’s fine, but to come up with a completely different methodology for interest rates for one kind of plan as opposed to all other kinds, well, I’d be interested to see what the rationale would be,” Brown said. “The trademark of the defined-benefit system is the variety and flexibility of design, and the trademark of Statement 87 was the imposition of a uniform pension liability that was applied across the spectrum of plans — and now they may change that.”
Professor Tinker would like to see FASB take action, but he sees an inherent contradiction in any attempt to set rules for a practice that, by definition, conflicts with the principles of solid accounting.
“The espoused principles of accrual accounting show quite clearly that in every accounting period, you base your estimates on what your future obligations are going to be, and you register them as expenses in the present,” Tinker said. “The fact that this is always a treacherous, precarious and uncertain process is no excuse for not trying. Systematically underestimating those obligations is the worst of all possible predictions about the future.”
The Institute of Management Accountants is also glad to see FASB take on the project, but Kim Wallin, chair of the organization and owner of D.K. Wallin Ltd., of Las Vegas, said that the IMA is concerned about the direction the board will take, how it will prescribe calculation of liability, and how it will set the credit interest rate.
“The IMA is very glad that FASB is doing this project, because it is an important issue that we believe will affect more than just cash-balance plans,” Wallin said.
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