Extensions to AFRAC 27

In March 2018 and December 2019, AFRAC published revisions to AFRAC Statement 27: Provisions for pension, severance payment, long-service award and comparable long-term obligations under the Austrian Commercial Code.

These cover provisions on the accounting treatment of insurance policies backing pension obligations and outsourced obligations, guidance on the so-called “net method” and on the financial mathematical calculation of provisions for severance payments and long-service awards.

The changes have a significant impact on the measurement of employee benefit provisions. The statement applies to financial years beginning after 31 December 2019.

Insurance policies backing pension obligations

Explanatory notes on paragraphs (48) and (49) of AFRAC Statement 27

“If the benefits receivable under the insurance policy match the obligations arising from the pension commitment (full coverage), the total pension obligation is measured at the value of the insurance policy. Full coverage exists where the entitlements under the pension agreement and the benefits receivable under the insurance policy match in terms of amount and due date for all components or clearly identifiable parts. In this case, offsetting the total pension obligation against the benefits receivable under the insurance policy results in a pension provision of zero. If the insurance contract does not cover the entire obligation arising from the pension commitment, but only certain clearly identifiable risk components, the risks fully covered by the insurance policy are measured at the value of that policy. The uncovered components are considered and recognised separately.”

Recommendation of the Aktuar Vereinigung Österreichs (AVÖ):

Unless a pension commitment is based directly and exclusively on the (guaranteed) benefits under the associated insurance contract, merely assessing whether “full coverage” exists will generally involve considerable effort. In cases of doubt (including where documentation is incomplete), an actuarial valuation of the pension commitment and separate presentation of the insurance policy assets appear appropriate.

Net value method

Explanatory notes on paragraph (39) of AFRAC Statement 27

In the past, severance payment and/or long-service award obligations were generally calculated in practice using the so-called “net method”.

“Applying the ‘net method’ results in a provision that complies with this statement, provided that the derivation of the ‘real interest rate’ from the discount rate and the expected average increases in future payments (expected salary increases, not merely the expected rate of inflation) and all other assumptions and parameters used in the calculation comply with the requirements of this statement. 

However, the ‘real interest rate’ must not be determined by subtracting expected salary increases from the discount rate. It must be calculated using the formula 

shown above.”

Financial mathematical method

Explanatory notes on paragraphs (52) and (70) of AFRAC Statement 27

“The Anti-Gold-Plating-Gesetz 2019 (Federal Law Gazette I No. 46/2019) added the following sentence to section 211(1) of the Austrian Commercial Code (UGB): ‘For provisions for severance payment obligations, long-service award commitments or comparable long-term obligations, the amount may also be determined using a financial mathematical calculation, provided that there are no significant concerns in the individual case….’

“According to the aforementioned explanatory notes on section 211(1) UGB, however, concerns arise in any event where, due to the large number of employees and/or high staff turnover, a financial mathematical valuation does not adequately reflect the risks associated with the amount expected to be paid, and the resulting shortfall is also material….”

“Higher interest rates may further amplify these effects. Experience and comparative calculations show that the effects of biometric factors on the measurement of severance payment provisions are generally minor, unlike their effects on the measurement of pension obligations.  Larger differences between actuarial and financial mathematical calculations may arise when determining provisions for long-service awards, because the actuarial calculation also takes into account, among other things, termination of employment due to disability. For long-service award provisions, this generally means that the actuarial calculation produces a lower provision than the financial mathematical calculation. If suitable and reliable statistical information on the probability of staff turnover, including departures due to early retirement, is available, this must be reflected by allowing for the probability of staff turnover in the financial mathematical calculation. Where no suitable and reliable statistical information is available and staff turnover probabilities therefore cannot be taken into account (see paragraph (83)), determining the long-service award provision using the financial mathematical method nevertheless appears appropriate, at least for a smaller number of eligible employees, having regard to the principle of prudence. Depending on the number of eligible employees, the significance of these provisions to the financial statements as a whole and the potential deviation of the result produced by the approximation method used from that of an actuarial calculation, it may, however, be necessary to perform a verification calculation at regular intervals.”