IAS 19 Employee Benefits classifies post-employment benefit plans into two types: defined contribution plans, where actuarial and investment risk fall, in substance, on the employee, and defined benefit plans, where those risks fall, in substance, on the entity.
What Are Post-Employment Benefits, and How Do They Differ From Short-Term Benefits?
Post-employment benefits, under the Standard, include items such as retirement benefits (eg pensions and lump sum payments on retirement), and other post-employment benefits such as post-employment life insurance and post-employment medical care.
These differ from short-term employee benefits, which the Standard defines as including items such as wages, salaries and social security contributions, paid annual leave and paid sick leave, profit-sharing and bonuses, and non-monetary benefits such as medical care, housing and cars for current employees, provided they are expected to be settled wholly before twelve months after the end of the annual reporting period in which the employees render the related service.
How Is the Type of Plan Classified?
The Standard provides that post-employment benefit plans are classified as either defined contribution plans or defined benefit plans, depending on the economic substance of the plan as derived from its principal terms and conditions.
Defined Contribution Plans: Risk Falls on the Employee
The Standard states that under defined contribution plans, the entity's legal or constructive obligation is limited to the amount that it agrees to contribute to the fund. Thus, the amount of the post-employment benefits received by the employee is determined by the amount of contributions paid by an entity (and perhaps also the employee) to a post-employment benefit plan or to an insurance company, together with investment returns arising from the contributions.
As a result, the Standard provides that actuarial risk (that benefits will be less than expected) and investment risk (that assets invested will be insufficient to meet expected benefits) fall, in substance, on the employee.
Defined Benefit Plans: Risk Falls on the Entity
By contrast, the Standard provides that under defined benefit plans, the entity's obligation is to provide the agreed benefits to current and former employees, and actuarial risk (that benefits will cost more than expected) and investment risk fall, in substance, on the entity. If actuarial or investment experience is worse than expected, the entity's obligation may be increased.
How Are Multi-Employer Plans Classified?
The Standard provides that an entity shall classify a multi-employer plan as a defined contribution plan or a defined benefit plan under the terms of the plan, including any constructive obligation that goes beyond the plan's formal terms.
A Quick Comparison Between the Two Types
- Defined contribution plans: the entity's obligation is limited to the contribution amount; the employee bears the investment and actuarial performance risk.
- Defined benefit plans: the entity's obligation is to deliver an agreed benefit regardless of asset performance; the entity bears the risk of insufficient assets or higher-than-expected benefit costs.
Legal References
- IAS 19 — Employee Benefits, paragraph 26 (items of post-employment benefits)
- IAS 19 — Employee Benefits, paragraph 27 (classification of plans by economic substance)
- IAS 19 — Employee Benefits, paragraph 28 (defined contribution plans and employee-borne risk)
- IAS 19 — Employee Benefits, paragraph 30 (defined benefit plans and entity-borne risk)
- IAS 19 — Employee Benefits, paragraph 9 (definition of short-term employee benefits)
- IAS 19 — Employee Benefits, paragraph 32 (classification of multi-employer plans)
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