How to Account for Post-Retirement Benefits

An error occurred trying to load this video.

Try refreshing the page, or contact customer support.

Coming up next: Accounting for Post-Retirement Benefit Expenses

You're on a roll. Keep up the good work!

Take Quiz Watch Next Lesson
 Replay
Your next lesson will play in 10 seconds
  • 0:03 Post Retirement Benefits
  • 0:29 Post-Retirement…
  • 2:06 Increase in APBO
  • 3:06 Calculating Expense…
  • 4:39 Lesson Summary
Save Save Save

Want to watch this again later?

Log in or sign up to add this lesson to a Custom Course.

Log in or Sign up

Timeline
Autoplay
Autoplay
Speed Speed
Lesson Transcript
Instructor: James Walsh

M.B.A. Veteran Business and Economics teacher at a number of community colleges and in the for profit sector.

This lesson will use an example to walk you through the mechanics of accounting for post-retirement benefits. You'll also learn to calculate the accumulated post-retirement benefit obligation.

Post-Retirement Benefits

To attract the best candidates to fill job openings, companies often offer a variety of post-retirement benefits to eligible employees. These can include life and medical insurance, dental plans, vision care, legal services, and tuition reimbursement. Employees become eligible for these benefits after accumulating a specified number of years of service and reaching a certain age.

Post-Retirement Benefit Obligations

The expected post-retirement benefit obligation (EPBO) is the discounted present value of an actuarial estimate of the total amount of benefits expected to be received by plan participants. Estimating how much plan participants will receive is beyond the scope of accounting. It is based on long-term average cost trends in health care, life expectancy tables, and other factors best calculated by actuaries. It's a given in our coming examples. The accumulated post-retirement benefit obligation (APBO) is the portion of the EPBO attributed to employee service to date. Accountants calculate this one.

Let's look at a short example to see how APBO can be calculated. Newco is a company that started operations five years ago. It offered all employees post-retirement benefits after both 25 years of service and reaching the age of 55. Newco actuaries estimate the EPBO for current employees is $80,000. So EPBO at year end of 2017 is $80,000. Service to date is 5 years. Remember, the company has only been in operation for five years, so the longest date of service will be five years. And, service required is 25 years. To calculate the APBO we multiply the EPBO by the service to date divided by the service required:

$80,000 * 5 / 25 = $16,000

So, our APBO is $16,000.

Increases in APBO

The APBO will increase in the following year for two reasons. One, of course, is that every employee will have one more year of service time. The other is that there will be an interest expense since the discounted present value (PV) will change. Let's look at 2018 and use a 5% discount rate.

APBO at Jan 1, 2018 $16,000
Interest cost $800 $16,000 * 0.05 = $800
Service cost $3,200 EPBO of $80,000 at year end 2016 * 1/25 = $3,200
APBO at Dec 30, 2018 $20,000 ($16,000 + $800 + $3,200)

Calculating Expense and Liability

During 2017, Newco expected a return of $1,000 on plan assets. The actual return was $1,200. It also made a contribution to the plan funding of $1,500. It made no changes to the plan benefits during 2017 and no increases in EPBO came from the actuaries. Here is the calculation for 2017 expense:

To unlock this lesson you must be a Study.com Member.
Create your account

Register to view this lesson

Are you a student or a teacher?

Unlock Your Education

See for yourself why 30 million people use Study.com

Become a Study.com member and start learning now.
Become a Member  Back
What teachers are saying about Study.com
Try it risk-free for 30 days

Earning College Credit

Did you know… We have over 200 college courses that prepare you to earn credit by exam that is accepted by over 1,500 colleges and universities. You can test out of the first two years of college and save thousands off your degree. Anyone can earn credit-by-exam regardless of age or education level.

To learn more, visit our Earning Credit Page

Transferring credit to the school of your choice

Not sure what college you want to attend yet? Study.com has thousands of articles about every imaginable degree, area of study and career path that can help you find the school that's right for you.

Create an account to start this course today
Try it risk-free for 30 days!
Create an account
Support