Managing the ASC 715 Process
As pension actuaries, among the challenges we face for our larger clients is providing the needed information for compliance with Accounting Standards Codification Section 715 (“ASC 715”) – formerly known as Statement of Financial Accounting Standards Nos. 87/88/158. This section of the Accounting Standards describes the disclosure information for the client’s financial reports as well as the methodology used to complete the required actuarial calculations. Most clients want to complete their financial reports as soon as possible following the end of their fiscal year. As such, it is important to proactively manage the ASC 715 process, preferably beginning the process before the end of the fiscal year.
Not all clients need to have ASC 715 results provided. Typically, clients who are subject to SEC filing requirements, privately-held clients that have loan agreements that require financial statements prepared in accordance with generally accepted accounting principles, and certain non-profit organizations will need the annual (and sometimes quarterly) results. It is important to keep track of which of your clients will need the report as well as keeping track of each client’s typical timing. A good project management tool for tracking is a simple workbook. I have found that there are several key tracking touch-points (each of which will be discussed on a limited basis): reviewing what will be needed, requesting assumptions/data which will be used, receiving the assumptions (including a sign-off from the auditor/audit partner as to the acceptability of the assumptions before calculations are begun), receiving the necessary data, completing the calculations, preparing the report, completing peer review, and transmitting the final results.
It may be useful as various junctures to discuss any implications with the chief financial officer to avoid any “surprises” after results are finalized.
What Will Be Needed?
A quick review of the Plan’s correspondence for the past fiscal year before the end of the fiscal year will provide a good guide for determining whether any special considerations must be addressed. Typically, these will include establishing prior service cost bases and settlement and/or curtailment calculations. These supplemental calculations will likely arise from plan amendments (including a plan freeze), payment of large lump sums, and the purchase of annuities.
This may be the most important step you can do for efficiency and can be done before the end of the fiscal year. While some assumptions are best managed by the actuary (e.g., turnover rates, retirement rates, etc.), assumptions for this disclosure technically are selected by the client because these assumptions are used in the client’s financial statements. These assumptions should be confirmed by the client in writing (with auditor/audit partner, approval before any work begins). Having the auditor concur with the assumptions before doing any work will usually avoid the dreaded re-run on a rush basis because the audit partner disagrees with the underlying assumptions. Key assumptions that must be obtained from the client include: the basis for determining the discount rate (e.g., use of a yield curve, 30-year Treasury rates, any margin to be added/subtracted, or simply a flat rate), the expected long-term rate of return on assets (may be for the current fiscal year or for the next fiscal year), information of future salary growth expectation, and the relevant mortality rates (including mortality projection rates/appropriate projection period).
Mortality rates are now getting more attention from the auditors since the release of the RP2014 mortality tables. This, together with the Actuarial Standards of Practice (“ASOP”) requirement that the actuary consider the appropriateness of future mortality improvement, makes this an easy target for the auditors to question the basis being used for year-end disclosure results. With the recent release of the MP-2015 Mortality Improvement Scale by the Society of Actuaries, visibility is raised even further. If a dramatic change in mortality rates is likely to cause a large change in disclosed liabilities, now may be an opportune time to make sure the chief financial officer is aware of this possibility.
If special mid-fiscal year calculations are needed (e.g., the plan is frozen during the year as opposed to the end of the fiscal year), will the auditors require a re-valuation at that point with potentially different assumptions?
Finally, the request should include any data that will be needed for disclosure. Such data will typically include the contributions made during the fiscal year (including employee contribution if applicable), benefits paid, expenses paid during the fiscal year from plan assets, and the asset value at the end of the fiscal year. Year-end assets exclude any contributions receivable; the contributions shown are contributions made during the year, not for the year. Accordingly, these assets may be different than those shown on the Form 5500. Letting the plan sponsor know before the end of the fiscal year what financial data will be needed will give them an opportunity to accumulate such in advance (to the extent possible). If special mid-year calculations will be needed (e.g., for settlements/curtailments), this is an excellent time to provide the “heads up” to the client as well as to what additional (i.e., non-recurring) data will be needed to complete the report.
Receiving the Assumptions
Once the client returns the assumptions, a quick review is in order. First and foremost, has the client addressed all the issues that were requested in the letter? If settlement/curtailment calculations are needed, has the issue of an interim valuation been addressed? Are the assumptions internally consistent as well as individually consistent? Additionally, are the assumptions supportable (e.g., the client wants to use an expected rate of return that exceeds what you as the actuary can include without a caveat)?
If a caveat to any of the assumptions is needed for ASOP compliance, now is the time to discuss this with the client. It is much better to have a conversation (and hopefully resolution) about assumptions you do not think are reasonable at this stage, rather than issuing a final report with a disclaimer.
Finally, has the client attested to the auditor having accepted the assumptions? This is important to limit the possibility of having to rework the results under time pressure, particularly when all of your other disclosure clients are looking for results as well.
Receiving the Data
There are two components to the data for disclosure: the census data and the financial data. For the first component, census data: if the “roll-forward” method is used for determining year-end liabilities (i.e., the beginning-of-year census is actuarially projected to the end of year), the only census information needed will be the participants for whom lump sum payments were received. Potentially, retirements and deaths occurring during the fiscal year could be recognized but that is part of the valuation process and beyond the scope of this discussion. If the liabilities are not based on the roll-forward methodology but rather a new census is collected, the typically valuation reconciliation procedures come into play, looking for completeness in the data (e.g., reconciliation, proper benefit amounts, correct demographic data, etc.).
If settlement/curtailment calculations are needed, special review of the data must be completed at this juncture. Determining what calculations are needed will determine what data components are critical to completing the disclosure report.
The second component, the financial data, should be reviewed upon receipt for completeness. Again, knowing what is needed (e.g., lump sum payments, contributions, expenses, etc.) will determine whether the data is complete. Because the assets used in the calculation of the net periodic pension cost and the disclosure amounts may be based on a market-related value of assets rather than just the fair value of assets, additional information may be needed and require a full trust accounting.
Completing the Calculations
One typical goal for completing the disclosure report is getting the report done as early after the close of the fiscal year as possible. The report can often be completed in two stages, first the liability calculations and then the financial calculations. When the liability calculations can be completed largely will be determined by the assumptions used and the used of the roll-forward vs. recalculation method. The liabilities may be determined shortly after the end of the fiscal year if a full-yield-curve approach is used or possibly even before the year-end if the discount rate is not expressly tied to year-end rates.
The use of the roll-forward methodology will typically allow for faster determination of year-end liabilities as “new” census data does not need to be collected and reconciled. However, be aware that a change from a recalculation methodology (using new census data) to a roll-forward methodology (or vice versa) may be considered to be a change in accounting methodology, and should be discussed with the auditor in advance, if contemplated. Such a change could result in having to re-complete some prior year results on the alternative basis.
The extent to which the calculations can be completed early will be determined by when the assumptions are selected by the client and communicated back to you. As such, the client should be made aware of the importance of the selection and approval process as well as getting the responses back from the client.
Once the liabilities are calculated and reconciled, final calculations can typically be completed quickly once complete financial data is received.
Again, now may be a time to communicate preliminary liabilities to the client to let the client know how liabilities have changed and what the impact may be on the plan’s funded status.
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Preparing the Report
An ASC 715 disclosure report is more than just a series of numbers. The report is subject to the same ASOP requirements that govern our funding reports. As such, a careful approach to drafting the report must be taken. While ASC 715 states what needs to be disclosed to allow for complete financial statement preparation, we must remember to disclose the additional information to satisfy our actuarial communication requirements. Simply put, we must make sure that we describe the data, the assumptions, the methodology, and the plan provisions.
Remember to be sure to include the financial impact of any changes in material assumptions or events. This could be (i) the impact on year-end liabilities (driven by changes in the discount rate, mortality rates, salary scale, etc.), (ii) the impact on the net periodic pension cost (driven by changes in the long-term rate of return on assets or other assumptions changes since prior year calculation), and/or (iii) the impact of settlement/curtailment accounting.
Finally, the actuary must include his signature and contact information so that if questions arise, the client knows whom to contact.
Not the least of the steps in the process is peer review. Often times we can improve our communications by having “fresh eyes” review what we are saying. We have to remember that while we work in a highly technical arena, the results should be largely understandable by the client for whom the report is prepared.
We made it. The report is complete and prepared. I recommend that the actuary review the report one last time even after a colleague has complete peer review. This gives the actuary one last chance to identify any errors and refine his communications.
We can segment managing the ASC 715 process into a series of discrete steps. If we carefully consider and track each step, final results can be efficiently prepared, with minimal corrections for missteps or incomplete information. A forward-looking project management plan, started before the end of the fiscal year, will result in a disclosure report prepared soon after all information is available.