UK: The Effects Of The New Accounting Standard

Last Updated: 23 October 2000

Three major effects are likely to arise from the replacement of SSAP 24 by a new standard for accounting for employers’ pension costs if current plans are adopted. The Financial Reporting Exposure Draft 20 (FRED 20) issued by the Accounting Standards Board in November contains the new proposals.

First, the health of a company’s profit and loss account will be determined in normal circumstances by two factors which do not depend on the actuaries’ discretion - and one further factor that does. Excluding cases when benefit improvements affecting past service have been made or where there is some settlement or curtailment which reduces the employer’s liability, the pension cost shown in the profit and loss account is:

  • the current service cost, plus the interest cost, less the expected return on assets.
The decision to calculate pension fund liabilities using the yield available on AA-rated corporate bonds means that the current service cost and the interest cost will be governed by economic conditions prevailing at the time. The actuary will have no scope to make differing assumptions. On the other hand the expected return on assets will be calculated as simply the market value of the assets multiplied by the actuary’s expected rate of return. In the case of equities, the consultants are advising that it will be important - if profitability is not to be hit - that this expected rate of return should not be unduly conservative.

Secondly, under the new standard, actuarial gains and losses will be recognised in the Statement of Total Recognised Gains and Losses (STRGL) immediately while, currently under SSAP24, they are recognised gradually over the remaining service life of the current employees. Consultants are advising that some very big and volatile numbers will be appearing in the STRGL. Just how will financial analysts who pore over company accounts interpret these figures? As one leading consultancy firm put it: ‘this is the $64,000 question’. There is a growing supposition (or perhaps it is a hope) that the analysts will pay comparatively little attention to large swings since they are not related to the company’s trading experience.

Thirdly, employers may become much more reluctant to make benefit improvements that affect members’ past service rights. Accountants and actuaries define the past service cost as the increase in a scheme’s actuarial liability related to employees’ periods of service before the current accounting period, but, which arises in the current accounting period because of an improvement in benefits. The past service cost will in future generally have to be recognised immediately in the company’s profit and loss account. In contrast, under the current SSAP 24 rules, what has to be recognised is any capital cost not covered by a scheme surplus spread over the working lifetime of the existing employees. Under the new rules, there will be an exception to immediate recognition in the profit and loss account if the improvement is being funded from surplus but only provided that surplus can be regarded as ‘irrecoverable’. The exception would not cover the case where the improvement is being funded from a surplus which could otherwise have been used to fund a reduction in employer contributions. There is a widespread expectation that having to disclose the full cost immediately in the profit and loss account will make employers much more cautious before making any past service improvements.

The Government has refined its proposals to modify the member-nominated trustee and director requirements. The first proposals were contained in the December 1998 paper Strengthening the Pensions Framework. Since then a working group made of DSS officials and representatives of various pensions organisation, the TUC and OPRA developed these proposals. The revised proposals were circulated for comment in October. They have met with a general welcome with the possible exception of pensioner groups who may be disappointed that the Government has dropped the proposal of a reserved place for a pensioner trustee or director in cases of a mature scheme.

The Child Support, Pensions and Social Security Bill now contains provisions to amend the Pensions Act 1995 to implement these changes. Under the revised proposals all trust-based occupational schemes, except those scheme types which continue to be specifically exempted, will be required to have at least one third member-nominated trustees or directors.

There will be two different methods for the nomination and selection of member-nominated trustees or directors – the statutory route and the ‘scheme specific’ route.

The statutory route

The statutory route will mean that the adopted nomination and selection procedures must:

  • provide for there to be at least two member-nominated trustees or directors in schemes with 100 or more members and at least one in schemes with less than 100 members (here member includes, as now, deferred pensioners and pensioners)
  • provide for member-nominated trustees or directors to be in post for between three and six years
  • provide for member-nominated trustees or directors to be free to stand for re-election on expiry of their term of office
  • provide for the trustees to have all the same power
  • explain what happens where vacancies for member-nominated trustees or directors remain unfilled because insufficient nominations have been received.
  • ensure that all active, deferred pensioners and pensioners are free to stand for selection while non-members may stand provided the employer has given in each case its specific approval.
  • ensure active and pensioner members are invited to make nominations but the trustees can choose whether deferred pensioners are included in the nomination process.

Regulations will set out a default selection process, probably based on one member one vote, but will give trustees some flexibility to devise an alternative process. This is likely to include the right to decide whether to include deferred pensioners in the selection process, whether to split the electorate into constituencies, based for example on a geographical area or whether to have a separate pensioner constituency.

It is also possible that the use of selection panels will be permitted but, if so, probably only if the majority of the members of the selection panel are scheme members or their representatives.

If so desired, it will be possible to remove automatically a member-nominated trustee or director from office if that person ceases to be an active member and becomes a deferred pensioner

The scheme specific route

An employer will have the right to propose a scheme specific set of nomination and selection procedures provided that the result is that one third of the trustees are nominated by the members (with two member-nominated trustees or directors in schemes with 100 or more members and at least one in schemes with less than 100 members).

The scheme specific route will have to be tested by a statutory consultation procedure. It is likely that, as at present, the procedures put forward by the employer can be accepted if less than 10% of the members object, or if a simple majority of members voting approve in the event of a ballot. (Here the term ‘members’ includes active and pensioner members and, if the trustees so decide, deferred pensioners.)

The Government proposes tightening up the procedures for conducting the statutory consultation procedures. Specific measures put forward include:

  • requiring the notice to members to be separate from any other communication
  • requiring a standard format or form of words for the notice, including an explanation of what involvement each category of member (active, deferred pensioner and pensioner) has in the process
  • requiring the employer to attach or enclose a reply slip
  • prohibiting the employer from requiring members to give reasons for an objection
  • requiring objections to be sent to the trustees rather than to the employer
  • requiring the trustees or employer to declare the result of the exercise
  • requiring secret returns/ballots and/or independent scrutiny.

The Government’s intention, stated in the consultation paper, is to make the statutory route as attractive as possible to employers, trustees and scheme members alike. Certainly, if the desired nomination and selection procedures can be achieved by going down the statutory route, there would seem little point in opting for a scheme specific approach that involves invoking the statutory consultation procedure.

The information and opinions contained in this article are provided by Hammond Suddards. They should not be applied to any particular set of facts without appropriate legal or other professional advice.

For further information please contact Andrew Ashley-Taylor (Pensions), Catherine McKenna (Pensions) or Jane Marshall (Pensions).

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