FASB Clarifies Accounting Treatment for Market-Based Cash Balance Plans

A potential shift in accounting standards may soon offer greater stability to “well-managed, daily-valued” market-based cash balance pension plans. The change, proposed by the Financial Accounting Standards Board (FASB), aims to address volatility and perceived artificial inflation of liabilities associated with current accounting practices.

Understanding the Proposed Change

Currently, defined benefit plan liabilities are calculated by projecting future benefits and discounting them to present value using AA corporate bond yields. This method, according to October Three Consulting, can create fluctuations that don’t reflect the actual performance of market-based cash balance plans. The FASB is considering a recommendation from its Emerging Issues Task Force to value these plans by setting the discount rate equal to the assumed interest crediting rate.

Did You Know? Almost 60% of all defined benefit plans in the U.S. are now cash balance plans, with approximately 60% of those utilizing a market-based crediting rate – a significant increase from 10% in 2018.

How Market-Based Plans Work

Market-based cash balance plans communicate participant benefits as an account balance, factoring in pay credits and interest earned from an investable market return. This return can be based on the plan’s assets, assets approximating liabilities, or a regulated investment company. Participants also have the option of receiving lump-sum payments.

Why This Matters

Idan Shlesinger, a retirement solutions practice leader at October Three, explains that the current accounting rules can take a “predictable and stable” system and make it “volatile.” The proposed change seeks to simplify the calculation of pension obligations for plan sponsors. October Three has described these plans as an “almost risk-free solution for employers” offering employees potentially higher balances than traditional fixed-rate plans.

Expert Insight: The proposed accounting change represents an effort to align financial reporting with the practical realities of market-based cash balance plans, potentially removing a barrier to their wider adoption by companies seeking a more manageable and predictable pension solution.

Shlesinger believes the existing accounting rules have hindered the adoption of market-based cash balance plans, especially among medium and large corporations. The FASB is currently drafting a proposed Accounting Standards Update, with a 60-day comment period to follow.

What Could Happen Next

If finalized, plan sponsors could apply the new accounting guidance both retroactively and prospectively. This could lead to increased adoption of market-based cash balance plans, as the accounting “noise” is reduced. However, the ultimate impact will depend on the feedback received during the 60-day comment period and the FASB’s final decision.

Frequently Asked Questions

What are market-based cash balance plans?

These plans communicate benefits to participants as an account balance, with interest credited based on the return on investments, potentially including the return on the plan’s assets, assets approximating liabilities, or a regulated investment company.

What is the current issue with accounting for these plans?

Current standards require projecting benefits into the future and discounting them using AA corporate bond yields, which can cause fluctuations and artificial inflation of liabilities, particularly when plan growth exceeds bond yields.

What is the proposed solution?

The FASB is considering valuing these plans by setting the discount rate equal to the assumed interest crediting rate, simplifying the calculation and potentially reducing volatility.

How might these changes affect the future of pension plans for employers and employees?