A. Facts of the Case
1. A corporation is a public sector undertaking incorporated under
the Warehousing Corporations Act, 1962 for the purpose of storage
of agriculture produce, seeds, fertiliser, food grains and other
notified commodities belonging to individuals, co-operative societies
and other institutions. It employs a work force of 6413 employees
as on 31.3.2006. The corporation has been providing to its retired
employees, post-retirement medical benefits since 1994, which
have been revised from time to time. Under the original scheme,
the corporation was making payment for OPD expenses and also
for indoor hospitalisation, based on the claims of the retired
employees. The expenses towards post-retirement medical scheme
were being charged to profit and loss account every year on the
basis of actual payments made, i.e., the corporation has been
following the method of pay-as-you-go. The nominal contributions
received from the employees are credited to the medical expenses
account. This system was followed till the financial year 2004-05.
2. The post-retirement medical scheme was amended in the
financial year 2004-05, and the following changes were brought
out:
(i) The OPD expenditure of Rs.12,000 p.a., which was being
reimbursed in the old scheme will continue to be paid by
the corporation to the retired employees based on their
claims.
(ii) For indoor hospitalisation, it was decided to buy an annual
mediclaim insurance policy from an insurance company
which covers a benefit of Rs. 1,00,000 per annum for
retired employees including their spouses. The corporation
has taken insurance policy to cover the above indoor
hospitalisation expenses on annual basis and is paying
the required insurance premium.
3. The querist has stated that the post-retirement medical scheme
falls under the term ‘defined benefit plan’. The benefit under the
post-retirement medical scheme, will be vested with the existing
employees, only after their retirement, who voluntarily opt for the
scheme by paying the required contribution.
4. The querist has further stated that the corporation had been
providing for liability for gratuity and leave encashment based on
actuarial valuation whereas for post-retirement medical benefits,
the corporation had been following pay-as-you-go basis up to the
financial year 2004-05.
5. As per the querist, the actuary of the corporation advised that
the corporation has not been getting actuarial valuation for postretirement
medical benefits for its employees, the liability for which
is required to be provided for in the books of account as per prerevised
Accounting Standard (AS) 15, ‘Accounting for Retirement
Benefits in the Financial Statements of Employers’, issued by the
Institute of Chartered Accountants of India, and, therefore,
necessary steps should be taken in the matter while finalising the
financial statements/balance sheet as on 31.3.2006.
6. The querist has stated that while finalising the accounts for
the year 2005-06, keeping in view the provisions of pre-revised AS
15 and also the application of Accounting Standard (AS) 15 (revised
2005), ‘Employee Benefits’, which was to become applicable from
1.4.2006, it was thought prudent to go for actuarial valuation in the
year 2005-06 and to provide for the liability towards post-retirement
medical benefits based on actuarial valuation, both for retired
employees who have opted for the scheme and also for employees
existing as on 31.3.2006.
7. Actuarial valuation of the liability towards post-retirement
medical benefit was as under:
Liability upto 31.3.2005 Rs. 88.14 crore
Liability upto 31.3.2006 Rs. 97.78 crore
Incremental liability for the financial
year 2005-06 Rs. 9.64 crore
The liability for the year 2005-06 amounting to Rs. 9.64 crore was
absorbed in the current year whereas the liability upto 31.3.2005,
i.e., Rs. 88.14 crore which was a past service cost of both retired
and existing employees, was decided by the Board of Directors to
be distributed over a period of 5 years w.e.f. 2005-06. Accordingly,
Rs. 17.63 crore was charged to the profit and loss account for the
year 2005-06 and the balance amount of Rs. 70.51 crore was
carried forward as deferred revenue expenditure to be written-off
in the next four years. According to the querist, in the financial
year 2005-06, the pre-revised AS 15 was followed since new AS
15 was applicable w.e.f. 1.4.06.
8. As per the querist, since the liability for the post-retirement
medical benefit was provided for the first time based on the actuarial
valuation, the accounting policy of the corporation in respect of AS
15 was suitably amended and due disclosure was made in the
notes to accounts as under:
Significant Accounting Policy
“No. 15: - The provision for Gratuity, Leave Encashment
and Post Retirement Medical Benefits is made on actuarial
valuation.”
Notes forming part of accounts
“Note No.14: - In respect of Medical Expenses of retired
employees, the Corporation has been charging the same
to revenue in the respective year on “Pay as you go”
basis up to 31.3.2006 in terms of AS-15 (pre-revised),
which is applicable up to 31.3.2006. However, in order to
have more accounting transparency and to implement
the revised AS-15, it has been decided to provide for the
liability for all employees (retired and retiring). The liability
for the year 2005-06 amounting to Rs. 934.99 lakh has
been charged to revenue and Rs. 29.01 lakh has been
capitalised. Further, the differential amount of Rs. 8814
lakh will be amortised in equal instalments over a period
of five years effective 2005-06. The remaining amount of
Rs. 7051.20 lakh has been reflected under Deferred
Revenue Expenditure. The liability has been determined
on actuarial basis.”
9. The querist has stated that the pre-revised AS 15 deals with
past service cost and review of actuarial method used or
assumptions adopted. Paragraphs 22 and 23 of AS 15 (pre-revised)
provide as follows:
“22. Views differ as to how to account for this cost. One view
is that this cost should be recognised as soon as it has been
determined. Others believe that the entitlement giving rise to
past service cost is in return for services to be rendered by
employees in future and therefore this cost ought to be
allocated over the periods during which the services are to be
rendered.
23. In making an actuarial valuation, the actuary may
sometimes effect a change in the actuarial method used or in
the assumptions adopted for determining the retirement benefit
costs. Any alterations in the retirement benefit costs so arising
are charged or credited to the statement of profit and loss for
the year or, alternatively, spread over a period not more than
the expected remaining working lives of the participating
employees. A change in the actuarial method used for
determining the retirement benefit costs constitutes a change
in an accounting policy and is disclosed accordingly.”
10. As per the querist, the revised AS 15 also deals with past
service cost, paragraph 94 of which reads as under: -
“94. In measuring its defined benefit liability under
paragraph 55, an enterprise should recognise past service
cost as an expense on a straight-line basis over the
average period until the benefits become vested. To the
extent that the benefits are already vested immediately
following the introduction of, or changes to, a defined
benefit plan, an enterprise should recognise past service
cost immediately.”
11. The querist has also stated that the average age of the
corporation’s employees is around 50-55 years and the benefits
become vested only when the employees retire. Accordingly, the
corporation took decision to write-off the past service cost over the
average of left-over period of service, i.e., 5 years.
12. As per the querist, the heavy liability of Rs. 88.14 crore for the
period upto 31.3.2005 arose due to increase in number of
employees opting for the scheme as the same became more
lucrative due to increase in indoor treatment benefits which can be
seen from the following table:
Entitlement of medical benefits per annum in rupees :
| Period |
1994 to June 97 (Rs.) |
July 97 to Aug 97 (Rs.) |
Sept. 97 to 2003-04 (Rs.) |
2004-05 onwards (Rs.) |
| Outdoor Treatment |
4000/- |
10000/- |
12000/- |
12000/- |
| Indoor Treatment |
8000/- |
20000/- |
30000/- |
100000/- (Mediclaim Insurance Policy) |
13. During the course of audit of the accounts for the financial
year 2005-06, the auditor took a view that the entire past service
cost should have been charged to the profit and loss account for
the year 2005-06 which was contested by the corporation. Based
on the assurance that the matter will be referred to the Institute of
Chartered Accountants of India for obtaining the opinion, this issue
was dropped from the audit report for the year 2005-06.
B. Query
14. The querist has sought the opinion of the Expert Advisory
Committee on the following issues:
(i) Whether the past service cost of Rs. 88.14 crore which
arose due to actuarial valuation done by the corporation
for the first time in the year 2005-06 should be absorbed
over a period of 5 years, i.e., the average period of
service to be rendered by the employees, since, according
to the querist, no distinction was made in the pre-revised
AS 15 for vested and non-vested benefits.
(ii) Whether unamortised expenditure of past service cost of
Rs.70.51 crore has been rightly treated as deferred
revenue expenditure and carried forward in the balance
sheet as on 31.3.2006. If not, what should be the
accounting treatment of the past year liability on account
of post-retirement medical benefit, and how should the
unamortised expenditure be carried on in the books of
account of the corporation.
C. Points considered by the Committee
15. The Committee while expressing its opinion has considered
only the issues raised in paragraph 14 above and has not touched
upon any other issue arising from the Facts of the Case, such as,
whether or not the post retirement medical scheme falls under
‘defined benefits plan’, accounting policy of the company in respect
of gratuity and leave encashment benefit provided to its employees,
etc.
16. The Committee notes from the Facts of the Case that upto
the financial year 2004-05, the company had not been providing
for its liability under post-retirement medical benefit and was
following pay-as-you-go method for such kind of liabilities. In this
regard, the Committee notes paragraphs 12 and 17 of the extant
AS 15 (issued in 1995) which state as follows:
“12. The cost of retirement benefits to an employer results
from receiving services from the employees who are entitled
to receive such benefits. Consequently, the cost of retirement
benefits is accounted for in the period during which these
services are rendered. Accounting for retirement benefit cost
only when employees retire or receive benefit payments (i.e.,
as per pay-as-you-go method) does not achieve the objective
of allocation of those costs to the periods in which the services
were rendered.”
“17. In respect of gratuity benefit and other defined benefit
schemes, the accounting treatment depends on the type of
arrangement which the employer has chosen to make.
(i) If the employer has chosen to make payment for
retirement benefits out of his own funds, an appropriate
charge to the statement of profit and loss for the year is
made through a provision for the accruing liability. The
accruing liability is calculated according to actuarial
valuation. However, many enterprises which employ only
a few persons do not calculate the accrued liability by
using actuarial methods. They calculate the accrued
liability by reference to some other rational method e.g.
a method based on the assumption that such benefits
are payable to all employees at the end of the accounting
year.
(ii) In case the liability for retirement benefits is funded
through creation of a trust, the cost incurred for the year
is determined actuarially. Many employers undertake such
valuations every year while others undertake them less
frequently, usually once in every three years. If actuarial
valuations are conducted every year, the annual accrual
of retirement benefit cost can be easily determined. If,
however, the actuarial valuations are not conducted
annually, the actuary’s report specifies the contributions
to be made by the employer on annual basis during the
inter-valuation period. This annual contribution (which is
in addition to the contribution that may be required to
finance unfunded past service cost) reflects proper accrual
of retirement benefit cost for each of the years during
the inter-valuation period and is charged to the statement
of profit and loss for each such year. Where the
contribution paid during a year is lower than the amount
required to be contributed during the year to meet the
accrued liability as certified by the actuary, the shortfall
is charged to the statement of profit and loss for the
year. Where the contribution paid during a year is in
excess of the amount required to be contributed during
the year to meet the accrued liability as certified by the
actuary, the excess is treated as a pre-payment.
(iii) In case the liability for retirement benefits is funded
through a scheme administered by an insurer, it is usually
considered necessary to obtain an actuarial certificate or
a confirmation from the insurer that the contribution
payable to the insurer is the appropriate accrual of the
liability for the year. Where the contribution paid during a
year is lower than the amount required to be contributed
during the year to meet the accrued liability as certified
by the actuary or confirmed by the insurer, as the case
may be, the shortfall is charged to the statement of profit
and loss for the year. Where the contribution paid during
a year is in excess of the amount required to be
contributed during the year to meet the accrued liability
as certified by the actuary or confirmed by the insurer,
as the case may be, the excess is treated as a prepayment.”
From the above, the Committee is of the view that the company
was not correct in accounting for such benefits as per ‘pay-as-you-go
method’ and should have provided for such liability in either of
the ways suggested in the above-reproduced paragraph 17 of AS
15. Accordingly, the company should rectify its error by treating
it as ‘prior period item’ in accordance with the provisions of
Accounting Standard (AS) 5, ‘Net Profit or Loss for the Period,
Prior Period Items and Changes in Accounting Policies’, in the
reporting period.
17. The Committee further notes that w.e.f. 2004-05, the company
has also brought certain changes in its post-retirement medical
scheme. In this regard, the Committee notes paragraph 29 of AS
15 (issued 1995) which states as follows:
“29 Any alterations in the retirement benefit costs arising
from -
(a) introduction of a retirement benefit scheme for
existing employees or making of improvements
to an existing scheme, or
(b) changes in the actuarial method used or
assumptions adopted, should be charged or credited to the statement of profit
and loss as they arise in accordance with Accounting
Standard (AS) 5, ‘Prior Period and Extraordinary Items
and Changes in Accounting Policies’2 . Additionally, a
change in the actuarial method used should be treated as
a change in an accounting policy and disclosed in
accordance with Accounting Standard (AS) 5, ‘Prior Period
and Extraordinary Items and Changes in Accounting
Policies’.
18. The Committee notes from the Facts of the Case that the
company was following the pay-as-you-go method for accounting
for post-retirement medical benefits upto the financial year 2004-
05 and not on the basis of actuarial valuation as required under
AS 15 (1995). The Committee also notes from paragraph 7 that
the actuarial valuation of liability towards post-retirement medical
benefits upto 31st March, 2005, was Rs. 88.14 crore. The Committee
notes that this amount is determined based upon the scheme as
modified in the financial year 2004-05. The Committee is of the
view that a past service cost with regard to change in the scheme
would be the difference between the actuarial liability based upon
the pre-revised scheme and the actuarial liability as per the revised
scheme. In other words, the entire amount of Rs. 88.14 crore
does not represent past service cost; it represents the actuarial
liability not provided for in the past and, therefore, requires a
correction of the error. In any case, the past service cost which
should have been determined as stated above should also have
been charged to the profit and loss account as per paragraph 29
of AS 15, reproduced in paragraph 17 above.
19. The Committee is of the view that the provisions of Accounting
Standard 15 (revised 2005), ‘Employee Benefits’, do not apply for
the financial year ending 31st March, 2006. Accordingly, paragraph
94 of revised AS 15 is not relevant.
D. Opinion
20. On the basis of the above, the Committee is of the
following opinion on the issues raised by the querist in paragraph
14 above:
(i) Rs. 88.14 crore cannot be absorbed over a period of 5
years. The same should be charged as a prior period
item as discussed in paragraph 16 and as a past service
cost as discussed in paragraph 18 above.
(ii) In view of the response to (i) above, this issue does not
arise.
1Opinion finalised by the Committee on 9.8.2007.
2AS 5 has been revised in February 1997. The title of revised AS 5 is ‘Net
Profit or Loss for the Period, Prior Period Items and Changes in Accounting
Policies’.
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