Accounting for Employee Benefits Q&A Workshop 4 PDF

CO5123 Workshop Solutions Topic 4 CHAPTER 12 ACCOUNTING FOR EMPLOYEE BENEFITS QUESTIONS 1 (a) A remuneration package is the set of benefits comprising the remuneration of an employee. A remuneration package may include benefits such as cash, a motor vehicle, low-interest loans, the payment of...

CO5123 Workshop Solutions Topic 4 CHAPTER 12 ACCOUNTING FOR EMPLOYEE BENEFITS QUESTIONS 1 (a) A remuneration package is the set of benefits comprising the remuneration of an employee. A remuneration package may include benefits such as cash, a motor vehicle, low-interest loans, the payment of school and club fees, an expense account, an entertainment allowance, long-service leave, sick leave, contributions to a superannuation plan and an employee share option plan. (b) Remuneration packages have become widespread in Australia because they are ‘tax effective’. Where personal income tax rates are greater than the company income tax rate, a fully taxed salary means that the after-tax cost to the employer is greater than the after-tax benefits to the employee. Making part of the remuneration package tax free in the hands of the employee increases the after-tax benefits to the employee with no change in the after-tax cost to the employer. For example, where the company tax rate is 30 cents in the dollar and the average personal tax rate is 45 cents in the dollar, a cash salary of $50 000 provides an after-tax benefit to the employee of ($50 000 [1 – 0.45]) or $27 500 and an after-tax cost to the employer of ($50 000 [1 – 0.30]) or $35 000. If the remuneration package was changed to $40 000 cash and a $10 000 non-taxable component, the after-tax benefit to the employee would be $10 000 + $40 000 (1 – 0.45) or $32 000. The employee has had an after-tax salary increase at no cost to the employer. (c) The fringe benefits tax (FBT) is designed to reduce the tax revenue losses to the government from the non-taxed components of a remuneration package. The employer is taxed instead. FBT reduces the attractiveness of remuneration packages from the employer’s viewpoint. 2 The statement is correct for many employees. Sick leave is a conditional benefit because it is paid only if the employee becomes sick. Superannuation is a benefit, which is deferred until the employee retires. It is usually conditional on the employee being eligible under the superannuation plan. Long-service leave is also both conditional and deferred until a future period. The benefit is paid only if the employee satisfies the conditions of the long- service leave scheme and the employee is not paid until a future period. The presence of both conditional and deferred benefits creates problems for measuring salary expense in the current reporting period. The benefits are earned by the employees in the current reporting period, but the payments are conditional on future events, which are uncertain. 3 If it is assumed that ‘accrued’ means ‘owing’ or ‘due and payable on reporting date’, then this statement is inconsistent with the definitions of liabilities in the Framework (2014) and AASB 119. The statement implies that a liability exists only if it is actually payable at reporting date. This could be regarded as an old-fashioned view. The more modern view is reflected by AASB 119 which requires a ‘present obligation’ arising from a ‘past transaction’ to be recognised in the statement of financial position. Such a liability may not be presently payable. For example, long-service leave earned in a period constitutes a ‘present obligation’ to pay in the future. A successful claim may not be made by an employee on reporting date because the conditions giving rise to the payment may not have been met. For example, the employee may have to provide services to the employer for several more years before being entitled to take the leave. According to the Framework (2014) and AASB 119, however, a liability should be recognised provided that it can be measured reliably and its ultimate payment is probable. 4 AASB 119 specifies that the nominal basis of measurement must be used for short-term employee benefits (para. 9). Paragraph 8 defines short-term employee benefits as ‘employee benefits (other than termination benefits) that are expected to be settled wholly before twelve months after the end of the annual reporting period in which the employees render the related service’. Therefore, the nominal basis or an undiscounted basis should be used. If on the other hand, the employee benefits are expected to be settled after 12 months of the end of the annual reporting period, they are to be measured at a discounted amount. Paragraph 83 of AASB 119 requires that ‘market yields as at the reporting date on high quantity corporate bonds must be used to discount estimated future cash flows. The currency and term of the bonds must, to the extent practicable, be consistent with the currency in which the employee benefit obligations are to be settled and the estimated term of the employee benefit obligations’. This means that: a pre-tax bond rate must be used; the bonds must be those of the nation whose currency will be used to settle the obligation; and the term of the bonds is usually the weighted average of the term to expected settlement. Recent research suggests that Australia has a deep market in such bonds and so the corporate bond rate would be appropriate for discounting benefits in Australian currency. In countries without a deep market for corporate bonds, the market yields (at the reporting date) on government bonds shall be used’ (para. 83). 5 The following explanation is provided in Deloitte (2012), ‘Amendments to AASB 119 – Employee Benefits: The Implications for Employers’, Actuaries and Consultants (p. 4): ‘The inclusion of “expected” and “wholly” in the definition of short-term employee benefits might lead to a change in classification from short-term to long-term employee benefits. For example, for annual leave in Australia it is generally not required (or “expected”) that the accrued annual leave is wholly used (settled) before the end of the next reporting period … The impact of this would be that annual leave classified as long term would need to be discounted allowing for expected salary levels in the future period when the leave is expected to be taken.’ 6 (a) Non-cumulative sick leave is an annual entitlement. If it is not taken, it lapses and a new entitlement begins. Cumulative sick leave allows an employee to carry forward unused sick leave entitlements for use in subsequent periods. (b) Vesting sick leave entitlements give an employee the right to be paid the full amount of the accumulated entitlement, if the employee resigns or retires. Non-vesting sick leave entitlements become claimable only when an employee makes a valid claim for sick leave. Non-vesting accumulated sick leave entitlements are lost by an employee on retirement or resignation. (c) The eventual payment of vesting sick leave entitlements is certain. It will be paid as sick leave or in cash on retirement or resignation. The eventual payment of non-vesting sick leave entitlements is less certain. If sick leave is not taken, it will be lost by the employee on retirement or resignation. There will be some incentive for an employee to use up accumulated sick leave by taking ‘sickies’ as resignation or retirement approaches. With non-vesting sick leave entitlements, the expense and liability calculation should include an estimate based on past experience of the probability that the leave will be taken. With vesting sick leave, the probability of it being taken is 1. The two methods are identical in principle. They simply involve different probability inputs. 7 Sick leave is a short-term compensated absence for the purposes of AASB 119. The standard essentially adopts the conventional practice in recognising accumulating sick leave. For this reason, it seems reasonable and most students would be expected to support the required treatment of sick leave. In particular, AASB 119 requires that a liability is recognised as employees provide service that increases their entitlement to future paid sick leave (para. 13(a), para. 15). The liability is equal to ‘the amount of short-term benefits expected to be paid in exchange for that service’ (para. 11). For vesting sick leave, the amount of the entitlement is equal to 100 per cent of the sick leave accumulated. For non-vesting benefits, past experience should be used to recognise only that portion of the accumulated sick leave expected to be used in the future by employee (para. 16). Sick leave entitlements are usually settled within 12 months after the end of the period in which employees provide the related services. As such, paragraph 11 requires any liability for sick leave entitlements to be measured on a nominal basis at the anticipated pay rates when it is expected that the leave will be taken. 8 (a) Long-service leave allows extended paid leave to employees as a reward for uninterrupted service to the same employer. It is in addition to annual leave. In a few cases, long-service leave is ‘portable’ which means that accumulated long-service leave entitlements may be taken to a new employer. Long-service leave provisions vary between industrial awards. However, they nearly all have similar conditions. The early periods of employment (usually up to five or seven years) provide no long-service entitlement. If employment ceases during this period, the employee receives nothing. During the next period (five or three years depending on the length of the pre-conditional period), long-service leave accumulates from the beginning of employment. While employees cannot take leave during this period, if they resign they are usually entitled to a cash payment. When the second period has expired, the employee continues to accumulate long-service leave and is eligible to take accumulated leave entitlements. On resignation or retirement, there is usually an entitlement to a cash payment for any accumulated leave. (b) The pre-conditional period is the early years of employment when an employee has no entitlement to long-service leave. If the employee resigns or retires during this period, there is no entitlement to long-service leave. The pre-conditional period (usually up to five or seven years) differs between industrial awards. The conditional period follows the pre-conditional period. At the beginning of the conditional period, long-service leave entitlements accruing from the beginning of the pre-conditional period are available. An employee is not entitled to take long-service leave during this period (usually five or three years depending on the length of the pre-conditional period). However, employees are entitled to a cash payment in lieu of long-service leave if they resign or retire during the conditional period. The unconditional period follows the conditional period. During the unconditional period, long-service leave continues to accrue and an employee may take the accumulated leave or the equivalent cash on resignation or retirement. 9 It could be argued that using the wages or salaries payable when the leave is expected to be taken and discounting those amounts to a present value may offset each other so that the net change in the long-service leave liability is negligible. While it is true that the former will increase the liability and the latter will reduce it, there is no assurance that their combined effect will have only a small net effect on the liability. It is much more likely that the liability will be materially changed by applying the method in AASB 119. The statement must, therefore, be viewed with caution. It is possible that the effect on the liability would be small, but this is unlikely. 1 Spring Ltd When an employee purchases at cost goods that the employer produces, the amount of the employee benefit is the cost of the goods sold. The acquisition of $1000 worth of goods by the production manager would be recorded by Spring Ltd as follows: 30 June 2020 Cash at bank Dr $1 000 Employee benefits expense Dr $1 000 Inventory Cr $1 000 Sales revenue Cr $1 000 Where an employee is entitled to low-interest loans, the amount of the employee benefit is the net marginal cost to the employer. If Spring Ltd borrows at a rate of interest of 8% (interest = $8000) but makes a loan to an employee at a rate of interest of 5% (interest = $5000), the general journal entry for the loan of $100 000 would be as follows: Loan receivable Dr $100 000 Cash Cr $100 000 Cash Dr $5 000 Employee benefit expense Dr $3 000 Cash/interest payable Cr $8 000 $5,000 interest received from the employee $100,000 @ 5% , but cost of loan @ 8 % is $100, 000 X 8% = $8,000 Difference is staff expense ($ 8,000-5,000=$3,000) 2 Annual leave is paid at the wage rates current when the leave is taken. If there is a change in wage rates during the reporting period, there should be a change in the liability and the expense. The increased salary means that the cost of Jones’ leave rises to $60 000 × 4/52 × 1.175, or $5423.08, which is $104.29 per week. The annual leave expense and the annual leave payable should be $104.29 per week × 15 weeks, or $1564.35. The following general journal entry adjusts these accounts to reflect the new rate of pay: Annual leave expense Dr $208.65* Annual leave payable Cr $208.65 *(104.29 – 90.38) per week × 15 weeks = $208.65 Or $1,564.35-1,355.70= $208.65 The general journal entry to record the accrual of Jones’ leave entitlement from the time of the salary increase would be as follows: Annual leave expense Dr $104.29 Annual leave payable Cr $104.29 (208.65-104.29) 3 Addison Ltd Employees are entitled to 13 weeks of leave after 15 years of continuous service. Use the corporate bond rate as the discount rate. For example, for the group of employees with 4 years of continuous service, there are 11 years remaining until they are unconditionally entitled to long- service leave. The appropriate discount rate is therefore the yield on corporate bonds with a period to maturity of 11 years – that is, 6.5%. 4 years’ service 4 13  15 × 52 × 940 000 0.35 (1.065 )11 =0.2666*0.25*940,000*.35=21927.85*0.500935 # = 10,984.43 # Pg. 986 0.52678(6 years) + 0.47509 (7 years) /2 = 0.500935 8 years’ service 8 13  15 × 52 × 340 000 0.90 (1.035 )7 = 0.53333*.25*340,000*.90=40,797.75*0.78599 # = 32, 062.95 # Pg. 985 7 years @ 3.5% 12 years’ service 12 13  15 × 52 × 180 000 1.00   (1.03 )3 =0.8*0.25*180,000=36*0.91514 # # = 32,945.04 pg. 985 3years @ 3% 16 years’ service 16 13  15 × 52 × 80 000 × 1 = 21, 333.33   Long-service leave liability as at 30/6/2020 $97 325.75 The journal entry would be as follows: ______________________________________________________________ 30 June 2020 Long-service leave expense Dr $24,966 Provision for long-service leave Cr $24,966 ($97 325 – 72 360 = 24,966) 5 Regg Ltd Vesting sick leave entitlement = $14 000. This amount would be reflected as an outstanding liability of Regg Ltd because there is 100% certainty that this sick leave entitlement will be paid to the employees. Non-vesting entitlements – the amount of the liability is determined by past experience. The average amount of accumulated sick leave is 4 days per employee at 30 June 2020. This is lost if it is not taken during the year ending 30 June 2021. 45 employees: Based on past experience, 45 employees will take no more than 10 days. This is adequately met by next year’s entitlement of 10 working days of sick leave. Thus, the accumulated 4 days of sick leave is not carried forward as an asset for the 45 employees. 15 employees: There are 15 employees who are expected to take 12 days of sick leave during the year ending 30 June 2021, when next year’s entitlement is only 10 working days. As a result, 2 working days of the leave accumulating during the period ended 30 June 2020 will be accrued to meet the expected 12 days of sick leave. That is: 15 employees = 2 days’ sick leave/5 working days × $24 000 weekly payroll = $9 600 (2/5=0.4*24,000) Total provision for sick leave reported in Regg Ltd’s statement of financial position as at 30 June 2020 = $23 600 = $14 000 (vesting) + $9 600 (non-vesting) 11 Alexander Ltd Defined contribution plans are (para. 8): Defined contribution superannuation plans are plans for which an employer pays fixed contributions into a separate entity (a fund) and has no legal or constructive obligation to pay further contributions if the fund does not hold sufficient assets to pay all employee benefits relating to employee service in the current and prior periods (para. 8, AASB 119). For defined contribution plans, AASB 119 requires that only accrued contributions payable as at the reporting date are recognised by an employer as a liability. The shortfall in funding of members’ superannuation benefits does not give rise to a liability in the employer’s financial statements and is ignored. The general journal entry recorded at the end of the financial year to record Alexander Ltd’s post-employment benefit obligation is: Superannuation expense Dr $80 000 Accrued superannuation contributions payable Cr $80 000