Question

Kaa & Shere Khan Company has a non-contributory, defined benefit pension plan. Kaa’s incremental borrowing rate is 7%. The accounting period ends 31 December 2016. Pension plan data to be used for accounting purposes in 2016 are as follows:

Fair value of plan assets, Dec 31, 2015                                       $6,258,000

Defined benefit obligation, Dec 31, 2015                                       $7,299,000

Actual return on plan assets for 2016                                            $61,100

Actuarial revaluation dated Dec 31, 2016                                       $(806,900)

(due to mortality assumption changes)

Funding payment at year end 2016                                                $250,000

Benefits paid to retirees in 2016                                                     $105,000

Current service cost for 2016                                                         $233,400  

Required:

1. Calculate the net defined benefit pension liability as of Dec 31, 2015.

2. Calculate the net defined benefit pension liability as of Dec 31, 2016 by calculating the defined benefit obligation and the fair value of plan assets as at Dec 31, 2016.

3. A friend of yours is confused because she cannot find the pension assets or the accrued obligation on Kaa & Shere Khan Company’s most recent financial statements. She asks you to explain.

Answer 1

Pension liability is the difference between the plan obligation and plan assets, when obligation is more than assets.

Net defined benefit pension liability as of Dec. 31, 2015 = Defined benefit obligation as on Dec. 31, 2015 – Fair Value of plan assets as on Dec. 31, 2015

= $7,299,000 - $6,258,000

=$1,041,000

Next, Fair Value of plan assets as on Dec. 31, 2016 is calculated as below:

Fair value of plan assets at the beginning of the year	$6,258,000
Add: Actual return on plan assets	$61,100
Add: Funding payment at year end 2016	$250,000
Less: Benefits paid to retirees	-$105,000
Fair value of plan assets as on Dec. 31, 2016	$6,464,100

Defined benefit obligation as on December 31,2016 is calculated as follows:

Defined benefit obligation at the beginning of the year	$7,299,000
Add: Service cost for 2016	$233,400
Less: Acturial revaluation loss for 2016	-$806,900
Less: Benefits paid to retirees	-$105,000
Defined benefit obligation as on Dec. 31, 2016	$6,620,500

So, Net defined benefit pension liability as of Dec. 31, 2016 = Defined benefit obligation as on December 31,2016 - Fair Value of plan assets as on Dec. 31, 2016

= $6,620,500 - $6,464,100

= $156,400

Pension assets or liability (accrued obligation) appear on the balance sheet of a Company. If the fair value of plan assets exceeds the defined benefit obligation, it is reported on the assets side of balance sheet as pension assets. On the other hand, if the defined benefit obligation exceeds the fair value of plan assets, same is reported on the liabilities side of balance sheet as Pension liability.