A Simple Explanation of Pension Accounting
Pension accounting is about how a company reports its pension obligations and assets in its financial statements, based on two major standards:
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IFRS (International Financial Reporting Standards)
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US GAAP (United States Generally Accepted Accounting Principles)
✅ 1️⃣ Recognizing the Pension Asset or Liability on the Balance Sheet
Regardless of IFRS or US GAAP, the company compares:
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Present Value of Pension Obligation (PBO) → The estimated value of future pension payments (discounted to present).
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Fair Value of Plan Assets → The current market value of the investments held to fund pensions.
The result:
| Scenario | Accounting Treatment |
|---|---|
| Obligations > Assets (Deficit) | Recognized as a long-term liability (Non-current liability). |
| Assets > Obligations (Surplus) | Recognized as an asset on the balance sheet. |
✅ 2️⃣ How Changes in the Pension Obligation or Asset are Recorded?
Under IFRS:
There are 3 key components:
| Component | What It Means | Where It’s Reported |
|---|---|---|
| 1️⃣ Service Cost | Benefits earned by employees in the current year + past service changes | Income Statement (P&L) |
| 2️⃣ Net Interest | Interest on the net pension liability or asset:Net Pension Liability/Asset × Discount Rate |
Income Statement (P&L) |
| 3️⃣ Remeasurements | Actuarial gains/losses from assumptions or experience, and differences in actual returns | OCI (Other Comprehensive Income), not recycled to P&L later. |
Under US GAAP:
There are 5 components:
| Component | Where It’s Reported |
|---|---|
| 1️⃣ Service Cost | Income Statement (P&L) |
| 2️⃣ Interest Expense | Income Statement (P&L) |
| 3️⃣ Expected Return on Plan Assets | Reduces pension expense in Income Statement (P&L) |
| 4️⃣ Past Service Costs | First in OCI, then amortized over time to P&L |
| 5️⃣ Actuarial Gains and Losses | First in OCI, then amortized over time to P&L (or immediately recognized in P&L if the company chooses). |
✅ Major Differences: IFRS vs. US GAAP
| Item | IFRS | US GAAP |
|---|---|---|
| Net Interest | Single calculation on the net pension amount | Separate: interest on obligations and expected return on assets |
| Remeasurements | OCI only, not recycled to P&L | OCI first, then amortized to P&L (or immediate P&L option) |
| Past Service Cost | Directly to P&L | Initially in OCI, then amortized to P&L |
✅ Quick Example:
A company has:
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Pension Obligation = $1,000,000
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Plan Assets = $800,000
Therefore:
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Net Pension Liability = $200,000 → Reported as a non-current liability.
If the company records actuarial gains of $50,000:
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Under IFRS → Recorded in OCI only (never goes back to P&L).
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Under US GAAP → Recorded in OCI, then amortized into P&L over time.
