(Papers) ACET Paper May 2010 "SA4 – Pension and Other Employee Benefits"

Q. 1) A central government public sector undertaking (CPSU) ( Company A ) employing over 41,000 employees is considering to establish a Pension Plan for its employees. The Government of India has for the first time permitted CPSUs to contribute to a Pension Plan for its employees with effect from 1.1.2007 with the following conditions :-

Ceiling of 30% of Basic Pay plus Dearness Allowance towards 4 elements of superannuation benefits – Contributory Provident Fund, Gratuity, Medical & Pension
Pension scheme should be a Defined Contribution (DC) scheme and not a Defined Benefit (DB) scheme
Pension benefit payable only to those superannuating from the company
Minimum 15 years’ service on superannuation is a must in case of pension scheme
Enterprises to develop their own self sustaining schemes
Create own trust & manage funds or operate through an insurance company
Approval of Administrative Ministry
Approval of Income Tax authorities

The CPSU Company A currently has following employee benefit schemes requiring contributions as %age of pay bill (Basic Pay plus DA) as indicated :
Provident Fund = 12% Gratuity = 4.74% approximately
Medical Benefit= 6% approx. (average of last 2 years and increasing one)
Balance of about 7.26% is available for contribution to pension plan..

Company A has proposed a Pension Plan for your review, assessment of company liability and guidance on various points connected with the proposed scheme, as under :-

Pension will be provided to those superannuating on or after 1.1.2007 on completing minimum of 15 years’ service.
Accrual rate - A lump sum corpus on retirement equivalent to 7 days’ final salary (Basic + DA) for each completed year of service. Lump sum corpus will be used for purchase of annuity for the retired employees from an insurance company.
In case of ‘Death while in Service Pension for the Nominee’ – Accrual rate same as for those superannuating at normal retirement age based on pensionable salary as on the date of death. Accrual shall be for the expected service till normal retirement age subject to a maximum of 30 years.
On leaving service before normal retirement age: No pension or transfer value

a) (i) In what respects does the above proposed scheme differ from a normal final salary pension scheme?
(ii) Your working suggests contribution rate of 6.6% of salary bill and contribution for a new entrant at age 25 works out to 1.95% of pensionable salary. List out the circumstances or conditions in which above proposed contribution rate will lead to excess/under provisioning in the fund. Comment on continued viability of the scheme.

(iii) Is the proposed scheme fair and equitable to all employees? If not, explain with reasons.
(iv) The Chief Finance Officer (CFO) of the Company is of the view that the cost of the proposed scheme should be around 2 to 3% of the salary bill. As per him far greater benefits can be paid within 7.26% contribution. Comment on how the CFO would have estimated the cost of the scheme as 2 to 3% and explain with reasons, why your estimated contribution may be 6.6%.

(v) What provisions need to be incorporated in the benefit plan so that under no circumstances employer contribution exceeds 30% of the pensionable salary bill in any year?

(vi) What review process should be put in place to ensure ceiling of 30% of pensionable salary is not breached?
(vii) What possible issues can be raised by Administrative Machinery for approval of the proposed pension plan?
(viii) If Administrative Ministry of the Government don’t admit the proposed scheme as defined contribution (DC) plan, what changes can you suggest in the structure
of the plan to make it compliant as DC plan? Will the modified plan raise any issues of interests of different stakeholders and also of different groups of employees? If so, list out those issues.

(ix) HR manager of the company has asked you whether the company, on the basis of the proposed scheme, can get exemption from Employees Pension Scheme (EPS), 1995. Specify the conditions for exemption from EPS and state with reasons why the company on proposed scheme basis may not get exemption from EPS.

b) The CFO of the company has further approached you to explain:

i) Why are there differences in the recognition of actuarial gain/loss in P&L account as per Indian GAAP AS 15( R ) and International GAAP IAS19? What causes actuarial gain/loss to arise? List out points you shall cover in your response?

ii) What financial implications will be for the company of proposed amendment to Gratuity Act to increase in Ceiling of maximum gratuity from Rs 3,50 lacs to Rs 10 lacs.

c) Company A also has international operations and requires to compile accounts both as per AS15 ( R ) and IAS19. For earned leave encashment liability, it does not maintain any fund. Calculate, for IAS19 reporting requirement, minimum actuarial gain/loss to be recognised in the year’s P&L account and Net cumulative unrecognized gain/loss as on 31.12.2009 based on the following information available from the working of liability:

d) Above Company A is in negotiation to take over a UK based Company B having a well established final salary pension scheme. Company A, the potential purchaser has no previous experience of running a final salary pension scheme. It is only considering to provide defined contribution pension arrangements for its employees in India. Company A has asked you to advise on

i) The different risks that it will be taking with the final salary pension scheme when compared with the defined contribution pension arrangements.
ii) Options available to reduce the risks associated with the final salary pension scheme.