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Chapter 17 Pensions and Other Postretirement Benefits



1. Service Cost
Service cost reflects in increase in the PBO as a result of employee service during the current

2. Interest Cost
Interest accrued on the beginning PBO for the current year.

3. Return on Plan Assets

Expected return on plan assets for the current year. The difference between the actual return
and expected return in included in the calculation of deferred net loss or net gain.

4. Amortization of Prior Service Cost

Prior service cost results from retroactive credit for prior service when plan is adopted or
amended. The increase is cost is amortized over the future service period of the employees
affected, normally the average remaining service life of the active employees.

5. Amortization of Deferred Net Loss or Net Gain

Increases or decreases in PBO as a result of change in underlying assumptions and the
difference between actual and expected return on plan assets. Amortization is only recorded
if the net loss or net gain at the beginning of the year exceeds the greater of 1) 10% of the
PBO, or 2) 10% of plan assets. This excess amount is amortization over the remaining
service period of the active employees.

Recording the Periodic Expense and Periodic Funding

Pension expense is calculated based on accounting estimates and assumptions as described
above. Cash contributions to the pension plan asset trust fund are determined by an actuary with
the objective of providing funding for the future obligations. The difference between pension
expense and cash contributions are recorded as prepaid pension cost (if a debit) or accrued
pension cost (if a credit).

Example: The following information is available for the pension plan of Spencer Company for
the year 2003:

Actual and expected return on plan assets $12,000

Benefits paid to retirees 40,000
Contributions to fund 95,000
Interest/discount rate 0
Prior service cost amortization 8,000
Projected benefit obligation, January 1, 2003 500,000
Service cost 60,000

Pension expense for 2003 will be computed as follows:

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Chapter 17 Pensions and Other Postretirement Benefits

Pension Expense for 2003

Service cost $60,000

Interest cost 50,000
Expected (actual) return on plan assets (12,000)
Amortization of prior service cost 8,000
Total $106,000

The journal entry to record pension expense for the year will be:

Account Debit Credit

Pension expense $106,000
Cash $95,000
Prepaid (accrued) pension cost 11,000
To record pension expense, pension contribution and accrued penstion cost
for the year ended December 31, 2003.

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