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Accounting Treatment of stressed investments of PF Trust by the company when benefits are guaranteed by the company

Query

Company A Ltd. is a public-sector undertaking is engaged in servicing a wide range of aircraft, helicopters, and aerospace structures. The Company has established Exempted Provident Fund (PF) Trusts for its employees after obtaining necessary exemptions from the Employees' Provident Fund Organisation (EPFO). The Trusts are under obligation to pay interest to their members not lower than the interest declared by the EPFO. The Company shall be liable to make good the loss suffered by the Trusts as a result of any fraud, defalcation, wrong investment decision, and shortfall in earnings.

According to the company, the PF is a Defined Contribution Plan (DCP) of the Company, where the Company contributes 12% of the Basic Pay and Dearness Allowance thereon to the PF Trust. During earlier years, the PF Trusts made investments in certain companies which turned stressed during the past few years. The Company has accounted for the loss in fair value of the plan assets due to the re-measurement of the investments in OCI and any loss towards interest (i.e. the difference between the present value of obligation of EPF Trust and the fair value of plan assets) in profit or loss and relevant disclosures have been made in Notes to Accounts.

During the course of the government audit, the auditor observed the change in the fair value of plan assets is an actual loss and not an actuarial gain/loss due to the re-measurement of the PF liability or change in the fair value of plan assets. Loss in value of investments and interest needs to be made good by the company through actual payment, and this loss needs to be recognised in profit or loss and not through OCI, as OCI is for accounting only notional losses or gains in the PF liability and cannot be used to account for actual losses.

On the basis of the above, A Ltd. sought the opinion of the Expert Advisory Committee (EAC) on the accounting treatment made by the Company for recognising the loss in respect of obligation arising out of re-measurement of the plan, including that of stressed assets through OCI based on the actuarial report is in line with Ind AS 19 or not?

Relevant Para

Ind AS 19: Employee Benefits

• Para 8: Definition of Defined Contribution Plan

"Defined contribution plans are post-employment benefit plans under which an entity pays fixed contributions into a separate entity (a fund) and will have 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.

Defined benefit plans are post-employment benefit plans other than defined contribution plans."

• Para 29: Post-employment benefits: the distinction between defined contribution plans and defined benefit plans

"Examples of cases where an entity's obligation is not limited to the amount that it agrees to contribute to the fund are when the entity has a legal or constructive obligation through:

a) a plan benefit formula that is not linked solely to the amount of contributions and requires the entity to provide further contributions if assets are insufficient to meet the benefits in the plan benefit formula;

b) a guarantee, either indirectly through a plan or directly, of a specified return on contributions; or

c) those informal practices that give rise to a constructive obligation. For example, a constructive obligation may arise where an entity has a history of increasing benefits for former employees to keep pace with inflation even where there is no legal obligation to do so."

• Para 30: Post-employment benefits: the distinction between defined contribution plans and defined benefit plans

"Under defined benefit plans:

a) the entity's obligation is to provide the agreed benefits to current and former employees; and

b) actuarial risk (that benefits will cost more than expected) and investment risk fall, in substance, on the entity. If actuarial or investment experience are worse than expected, the entity's obligation may be increased."

• Para 120: Components of defined benefit cost

"An entity shall recognise the components of defined benefit cost, except to the extent that another Ind AS requires or permits their inclusion in the cost of an asset, as follows:

a) service cost in profit or loss;

b) net interest on the net defined benefit liability (asset) in profit or loss; and

c) re-measurements of the net defined benefit liability (asset) in other comprehensive income"

• Para 127: Re-measurements of the net defined benefit liability (asset)

"Re-measurements of the net defined benefit liability (asset) comprise:

a) actuarial gains and losses;

b) the return on plan assets, excluding amounts included in net interest on the net defined benefit liability (asset); and

c) any change in the effect of the asset ceiling, excluding amounts included in net interest on the net defined benefit liability (asset)"

Expert Advisory Committee (EAC) Opinion

1. In the extant case, the Company's contribution to Exempted PF Trusts is 12% of the Basic Pay and D.A. However, the rate of interest declared by the PF Trusts shall not be less than the rate of interest declared by the Government of India (GoI).

2. If the Board of Trustees are unable to pay interest at the rate declared by the GoI for the reasons that return on investment is less or for any other reason, then deficiency shall be made good by the company. That is company guarantees a specified rate of return on the contributions made and the Company's liability is not restricted to the contribution it makes to the separate fund but also extends to any deficiency.

3. The actuarial risk and investment risk fall on the Company and the PF obligation is covered by para 30(b) of Ind AS 19. Therefore, the PF benefit to the Company's employees meets the definition of a Defined Benefit Plan (DBP). This view is also reinforced by para 29(b) of Ind AS 19.

4. Any change in the value of any asset arises from both the passage of time and from other changes. The change in fair value of plan assets (including stressed investments) due to the passage of time and is represented by the 'net interest on the net defined benefit liability (asset)', should be recognised in profit or loss.

5. The remaining component of change in fair value of plan assets other than due to the passage of time, which is part of the return of plan assets, and is represented by 're-measurements of the net defined benefit liability (asset)' should be recognised in OCI as per the requirements of para 127(b).

6. Thus, while fair value changes of plan assets arising from the passage of time should be recognised in profit or loss, other fair value changes on plan assets should form part of the re-measurement of net defined benefit liability (asset), which should be recognised in OCI.

Conclusion

On the basis of the above, the Expert Advisory Committee (EAC) is of the following opinion on the issues raised by A Ltd.:

1. The accounting treatment made by A Ltd. for recognising the loss in respect of obligation arising out of re-measurement of the plan, including that of stressed assets, would be in line with Ind AS 19 when fair value changes of plan assets arising from the passage of time should be recognised in profit or loss, other fair value changes on plan assets should form part of re-measurement of net defined benefit liability (asset), which should be recognised in OCI.

2. The calculation should be made for entire plan assets without any separate analysis into stressed investments and other investments.

Reference

-  EAC opinion Query 10, Vol. XLII, Part I

-  Opinion finalized on 12.5.2022

-  Ind AS 19

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