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MANG 6031: FINANCIAL ACCOUNTING 2
ADVICE ON THE DEVELOPMENT OF AN ACCOUNTING STANDARD FOR EMPLOYEE BENEFITS OF AQUILEALAND
Employee benefits plans are considered as key factors which motivate employees to work more productively since everyone works and expects to get some rewards. As a result of the growth of employee benefits, especially in the dramatically developing countries like Aquilealand, accounting standards are essential to eliminate accounting and disclosure problems about employee benefits and to provide information users true and fair views. In order to set up accounting standards for employee benefits in Aquilealand, problems relating to classification, disclosure, measurement, multiemployer plans and share based payment should be taken into account. According to accounting concepts which are applied to address these problems, some solutions are suggested for AASB.
Based on accounting standard for employment benefits, it is necessary for classification of dissimilar categories of employment benefit plans. Therefore, it is also the first leading problem of employment benefits. When different types of employment benefits can be clearly categorized, it may eliminate misunderstanding and confusion. Besides, it will assist in the development of rules and standards for employment benefits if a sensible and logical classification framework is established.
Different types of employment benefit should be clearly classified by the classification standard, based on substance over form. For example, the nature of transaction should be especially considered when AASB is formulation the classification standard. The concept of comparability should be applied in the classification standard because it can help both internal and external users can compare different companies and time periods. Therefore, comparability, which is a foundation for standard, should be concerned by AASB. An accounting institution also should put emphasis on the concept of understandability, because it can avoid users misunderstanding.
Accounting standard of employee benefits classification, according to the above basic of concept, the IAS 19 could be applicable recommended for employee benefits plans to use. IAS 19 has been ready to formulate a distinct classification of unlike categories of employee benefits. In this case, specifically, employee benefits could be classified for four different types. There are meaning Short-term employee benefits, Post-employment benefits, Long-term employee benefits and Termination benefits. A more detailed express employee benefits, liking wages, salaries, pensions, life insurance, and other perquisites. Based on IAS 19, the standard of employee benefits should follow its own representative and found for each type necessity. One of the benefits of assuming IAS 19 is the rate of using countries wildly in the world. For this reason, Aquilealand’s companies may compare with worldwide accounting information through using the IAS 19, which also is able to raise the comparability at the same time.
Disclosure requirements about employee benefits are necessary in order to ensure that the information on financial statements is useful for external and internal users. The main accounting qualitative characteristics underlie the disclosure of employee benefits are understandability, relevance and comparability.
Firstly, information disclosed on financial statement should be readily understandable by information users having reasonable knowledge of business activities. The users cannot make decisions well in the absence of understanding about financial information. For example, without the description on how the fair value of share-based transactions is determined, the users cannot know how the companies calculate the expense and liabilities, so that they cannot have right economic decisions. Not only simple aspects but also complex activities should be reported in the way that the experts and non-experts can understand.
Secondly, disclosed data about benefits of workers only useful if it is relevant to the user’s purposes. It means that the information should affect the decisions of users. Therefore, disclosed information about employee benefits should help the external and internal users evaluate the advantages that the workers can take while they work in the company, get a retirement or stop working.
Finally, the presented information should be comparable. Aquilealand has an active stock market, so the comparability of disclosed data is crucial for the investors, bankers because they need to evaluate the companies’ performance through time in order to find out its trends and need to compare informed financial information with financial data of other entities in order to judge on the companies’ financial position. Hence, the accounting policy employed by companies should be consistent for different entities and in similar way throughout an entity over time. In the case of Aquilealand, accounting standards for employee benefits are essential to ensure that the information of expenses and defined benefit plans can be compared to other data in order to help user in investment decisions or trading activities.
Due to the importance of accounting concepts suggested above, AASB should notice on the disclosure of employee benefits on financial statement. Furthermore, AASB should have specific requirements on disclosing data about short-term, long-term and termination employee benefits to eliminate any hidden material data.
2.3. Multiemployer plans
Here comes another situation in the developing country Aquilealand. A new type of contract has been more and more popular in the labor market. It is usually referred to as “multiemployer plan” which means many employers work for more than one companies. Under this circumstance, the benefits, such as pension benefits, health care benefits, need to draw some attention. Although the individual company can also offer similar type of benefits, more complicated and practical questions are towards multiemployer plans- the recognition (who is going to pay) and the measurement- (how much is going to pay). To deal with these questions successfully will enhance the comparability and fairness among both company and employee perspective.
There are two main concepts, which need to be applied in these multiemployer cases.
In terms of the recognition, substance over form concept is very important to decide whether it meets the nature of multiemployer plan and then who will pay the benefits. According to IAS 19, a multiemployer plan can only be recognized where there is no common control relationship between two or more companies. If the employer companies are within in a transaction group, either subsidiaries or associates, it should be simplified and treated as a single employment.
When talking about the amount, matching concept and prudence concept need to be applied in the accounting treatment. These two concepts can help the faithful presentation of the financial reports. To negotiate the amount of payment of benefit between two parties, employees’ benefit should match the contribution he or she made. Same formula which individual company uses to determine the expenses charge for the year under IFRS 2 can also be applied in multiemployer plans. It should make an estimate of future activities to recognize a liability. So prudence concept require there should be no under-valuation of any liability.
2.4. Share based payment
The separation of ownership and management may be more and more common in a rapidly developing market. Companies may use share-based payments, which combines the compensation of employee and the value of company shares to encourage employees to improve their performance. Consequently, the problem associated with share-based payment is that how to measure share-based payments and recognise the occurrence of the transaction of share-based payments, which should be concerned by AASB. Meanwhile, an accounting institution is necessary to provide instructions to require companies to compliance to improve financial statements to be comparable and transparency.
Due to the difference in the nature of transaction, substance over form can be used to address this problem. When employees receive shares from the company, it is part of employee’s rewards. In contrast, even though the company gives shares to shareholders who are also employees in the company, the nature of transaction is a part of the distribution of profits. Therefore, in order to identify the difference between shareholders and employees, the concept of substance of form should be used by corporations. Another important concept considered in this kind of transaction is going concern. It is assumed that the company is likely to operate in the future. Therefore, fair value or market value may be applied to measure the value of share-based payment as well as improve relevant information in financial statements.
When AASB decides to develop an accounting standard for share-based payments, an institution should address this kind of transaction in a more clear way. Based on the concept of substance over form, the transaction costs of share-based payments for employees should be expensed because this kind of transaction is part of the compensation of employee (IFRS, 2004). The method of the measurement of share-based payments can follow IFRS 2. Under IFRS 2, both listed and unlisted company should apply fair value to measure the share-based payments when companies exchange their equity instruments to get services or goods (IFRS, 2004). It is more relevant when quoted market prices are used to measure, which can reflect a current market condition. Nevertheless, when it cannot be reliably measured by fair value in the some cases, IFRS 2 allows companies to adopt the method of intrinsic value to measure (IFRS 2, 2004).
2.5. Measurement of defined benefit plans
Another vital issue which needs to be identified in the accounting standard is the measurement of defined benefit plans. Compared to other kinds of employee benefits, there are many uncertainties in calculating the defined benefit plan cost and these unsure factors will last for a foreseeable period. Therefore, a problem arises that how to measure the present value of the obligation and current service cost properly, providing that these uncertainties exist.
Accordingly, two accounting concepts should be incorporated in dealing with the measurement of defined benefit plans. They are: reliability and prudence respectively.
Firstly, the measurement of defined benefit plans should be reliable for financial information users and investors. A reliable method should be figured out to provide a fundamental basis for the measurement in order to overcome those uncertainties.
From this perspective, Aquilealand Accounting Standard can adopt the actuarial valuation method used by IAS19 Employee benefits. The actuarial method adds up all the separated service periods’ corresponding benefits together as the final cost and attributes benefit to each period of service under the benefit plan’s formula.(IAS 19 Employee benefits,2011) Also, a series of actuarial assumptions are made by using this method to give a best estimate of all the uncertainties in order to offer a more reliable amount of the measurement.(IAS 19 Employee benefits,2011) In terms of Aquilealand, a rapidly developing country, it can avoid any mistakes or inappropriate measurement by applying International Accounting standard’s treatment of measurement for defined benefit plans directly.
Secondly, the prudence concept needs to be incorporated into the measurement of defined benefit plans as there are some uncertain factors. Specifically, a problem needs to be noticed that how the benefit obligation should be measured when there is a vesting period of the benefit and the employee turnover time is not known.
The prudence concept indicates that any expense or liability should be recognized immediately. Applying this concept, the benefit obligation still needs to be measured although it is uncertain that whether the benefit will be paid after the vesting period. The possibility that employees do not stay when the benefit is vested should be taken into consideration in the measurement as well.
As mentioned above, the problems identified regarding to five perspectives of important issue of employee benefit and the suggested solutions to AASB are based on IAS 19 Employee Benefit and IFRS 2 share-based payment. All these accounting standards are set up in the international context, which can help to enhance the comparability and understandability among different countries. In addition, in Aquilealand, a developing country, AASB must adopt these standards according to its own situation.
Alexander, D., Britton, A. and Jorissen, A. (2011) Employee Benefit In: Alexander, D et al, (eds.) International Financial Reporting and Analysis 5th ed. United of Kingdom, Brendan George, p.485-531
International Accounting Standards (2009) Employee benefits
International Accounting Standards Board (2004) IFRS 2: Share-based Payment
International Foundation of Employee Benefit Plans (2014) what is a Multiemployer Plan?
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Jon-Chao Hong, Sung-De Yang, Li-Jung Wang, En-Fu Chiou, Fan-Yin Su, sui-Lan Huang, (1995) "Impact of employee benefits on work motivation and productivity", International Journal of Career Management, Vol. 7 Iss: 6, pp.10 – 14 [Online] Available at: http://www.emeraldinsight.com/journals.htm?articleid=1412425 [Accessed 13 March 2014]