Actuarial gains and losses under IAS 19

A defined benefit plan’s actuarial gains or losses will be recognized in other comprehensive income under IAS 19.

IAS 19 contemplates four types of employee benefits:

Short-term benefits.

Long-term benefits.

Post-employment benefits.

Termination benefits.

Actuarial calculations are used in post-employment benefits.

Before continuing, it is necessary to understand two essential elements.

On the one hand, what are the post-employment benefits, and on the other hand, the concept of the actuarial calculation.

In general, in most countries, workers must meet a series of requirements to access a pension.

That is, the payment of an economic benefit that workers will receive monthly at the time of their work retirement.

Two factors determine these requirements.

The age or contributions weeks

In general, the contributions made by the workers are administered by a third party.

These types of benefits are known as defined contribution plans.

However, there is another category known as defined benefit plans within post-employment benefits.

In this type of benefits, the workers of an entity contribute a series of resources that the same company manages.

Once they meet the requirements of age or contributions weeks, the entity will be in charge of making the corresponding pension payments.

In this type of benefit, actuarial techniques will be necessary.

An actuarial calculation is A technique that uses, among other matters, statistics, probabilities, and financial mathematics, to project events that are subject to some contingency.

This calculation is characterized by using different financial and non-financial variables.

For example, demographic variables, such as employee turnover and mortality rates, and financial variables, such as future increases in wages and health care costs.

Actuarial calculations are generally performed by a specialist independent of the entity.

This is with the aim that these calculations are free of bias.

Accounting recognition of actuarial gains and losses

The following formula will determine the defined benefit liability:

Defined benefit liability = Present value of contributions – Plan assets.

The above formula has two elements:

On the one hand, the present value of the contributions and, on the other hand, the plan’s assets.

Let’s analyze each one.

Present value of contributions: When an entity receives the result of the actuarial calculation of the contributions made by employees during a given period, the entity must discount this amount to the present value.

This means that an entity must estimate the date on which it will probably disburse these resources resulting from the payment of pensions and discount these amounts at present value.

In relation plan assets, they are the assets used by the entity to finance the payment of future pensions.

In other words, a company may use certain assets such as investments or investment properties  for example to finance these benefits.

Let’s look at the following example:

In year 1, an entity establishes a defined benefit plan for 1000 workers.

At the end of the reporting period, the present value of the actuarial calculation of the contributions made by the workers is equal to 2,000,000.

Regarding the plan’s assets, the company allocates an investment property to finance the payment of these pensions.

The fair value of this asset is equal to 1,600,000.

At the end of year 2, the fair value of the investment property increased to 2,200,000.

Then, for year 1, the entity should recognize a defined benefit liability of 400,000, which is the difference between the present value of contributions less plan assets.

And for year 2, the entity must recognize an asset for the excess of plan assets over the present value of the contributions.