Financial reports of pension schemes

Comments from ACCA to the Pensions Research Accountants Group (PRAG).
16 July 2014.

General comments

ACCA mainly concurs with the content in the proposed SORP, and welcomes the practical approach taken to its structure, and in the supporting explanations given by PRAG.

Comments on specific questions raised in the ED are given below. On the whole, we agree that the proposed SORP meets PRAG’s objectives of not extending reporting and disclosure requirements beyond those required by FRS 102 and best practice.

When considering the ED overall, we gave thought to its interaction with the generally-applicable Standard on which it is based, and in particular:

  • The reproduction of parts of FRS 102 in the ED (such as for the recognition of assets and liabilities – paras 3.6.9–3.6.10). On the one hand, this can be seen as providing helpful context. Alternatively, it might obscure provisions specific to pension schemes in the revised SORP, and discourage preparers from gaining a familiarity with the content of FRS 102.
  • One of the key characteristics of FRS 102 is its brevity in many areas. For example, the requirement to adopt the accruals basis is set out in the short paragraph 2.36 in FRS 102 (with a definition of the basis given in the Glossary to FRS 102). The proposed SORP provides a greater level of guidance (paras 3.6.3 – 3.6.4).

Overall, we concluded that we do not have concerns about the above interaction. Compared to other entities subject to a SORP (such as Housing Associations and charities), pension schemes will have less need to refer to FRS 102 (for example, in respect of grants and leases). Consequently, there is a logic in having a SORP for pension schemes which is more self-contained than other SORPs. Furthermore, the additional guidance does not add unduly to the overall content of the draft SORP, and may be welcomed by preparers and users who find some disadvantages in the brevity of content in FRS 102.

The clarity of the proposed SORP would be enhanced by highlighting its recommended accounting practice. This could be achieved, for example, by showing the words ‘This SORP recommends…’ in bold, and / or starting a new sub-paragraph at this point.

Finally, we encourage PRAG to finalise the revised SORP as soon as is practicable. There is to be a practically full re-statement of comparative figures and disclosures, along with a reconciliation of old to new GAAP (as set out in section 3.3 of the ED).

As most schemes have a 31 March or 5 April year-end, they will now be in the final accounting year before the new UK GAAP applies. Consequently, they will now need to be considering the necessary accounting policy changes, and establishing information for the reporting of comparative figures.

Specific comments

Question 1
With regard to the requirement to report annuities at the amount of the related obligation, what are the implications, and should the ED look to amounts based on the trustee perspective and therefore determinable by the Scheme actuary?

We agree that this change is more appropriate in accounting terms than the currently permissible NIL presentation, in view of the need for consistency with FRS 102 in future.

As a result of the change, reporting schemes will bear the additional costs of valuations, although the impact will be mitigated to some extent by through the exclusion from the exercise of policies which are not considered to be significant.  An additional mitigating factor will be the involvement of the Scheme Actuary. The use of the Actuary will also be consistent with the need to establish values from the perspective of the scheme’s Trustees.

We have doubts that para 3.12.22 of the proposed SORP contains guidance sufficient to achieve consistency between reporting schemes. It is unclear how a scheme should conclude whether a value is ‘insignificant’, in relation to the total value of all annuities, and if this conclusion is reached, how the scheme will then go about assessing whether the costs of valuation outweigh the benefits.

We understand that a Working Party (WP) is to be set up to consider best practice in this area, and would welcome a remit which aims for practicality rather than further prescription. In our view, it would be particularly useful if the WP considers compliance with para 3.12.22 in the context of the following:

  • The materiality levels which scheme Trustees and external auditors determine and apply in practice.
  • The scope for disclosure and trustee valuation of policies deemed to be insignificant (individually or in groups), which would be less burdensome alternatives to recognition and external valuation.

Question 2
Whether it is appropriate (in the context of both practicality and compliance) for risk disclosures to be confined to investment-type risk, especially for pooled investments.

The content of sections 3.15-3.16 indicates that the SORP does not need to attempt to go further than its focus on credit and market risks.

We also agree that the ‘look-through’ approach in section 3.16 of the proposed SORP represents a realistic approach to reporting. Furthermore, this section does leave scope for scheme trustees to make their own decision as to whether this approach is appropriate for explaining the risks concerned.

The scope of risk reporting in the proposed SORP does go further than FRS 102 by covering, for example, investment properties because they are recognised at fair value (para 3.15.5). The proposals in the SORP will consequently require additional information to be obtained, resulting in extra time and costs. We therefore recommend that PRAG considers the feasibility of fewer risk disclosures in respect of the less complex investments, such as property.

Given the proposed risk disclosures for investments, similar disclosures appear to be appropriate in respect of the employer covenant.

Question 3
Does the fair value hierarchy have appropriate sub-categories?

Categories (a) and (b) (quoted prices and recent prices, respectively) apply to distinct groups of assets, and follow the hierarchy set out in FRS 102. As a result, there will be little scope to make changes in the proposed SORP.

Category (c) is a residual tier, which encompasses fair values which are established using observable inputs or otherwise, non-observable inputs. The question arises as to whether the further sub-division, included in the ED at paras 3.12.8 – 3.12.10, but not explicitly in FRS 102, is appropriate for pension schemes. It might be argued that the sub-division is relevant to entities like pension schemes, for which fair-valued investments form a substantial part of total assets. We believe that it would be appropriate for such an entity, which does have material Category (c) investments, to go beyond the categorisation in FRS 102, which is written to cover a wide range of businesses and business models.

We are aware that the fair value hierarchy in FRS 102 is based on that included in the IFRS for SMEs.  In view of the subdivision of Category (c) in the proposed SORP, the hierarchy in IFRS 13 may well be more appropriate for pension schemes (being Level 1 – quoted prices, Level 2 – observable inputs and Level 3 – unobservable inputs).

There are two ways in which amendments can be initiated to make FRS 102, and consequently the Pensions SORP, consistent with the fair value hierarchy in IFRS 13.  Respondents across sectors in the UK and Ireland (since FRS 102 is a general Standard) might support a change by the FRC which results in FRS 102 further deviating from the IFRS for SMEs in respect of the fair value hierarchy. On the other hand, respondents internationally might call for an amendment to the IFRS for SMEs. The latter process will take more time, as FRS 102 would probably then be amended from its next revision date, following the revision to the IFRS for SMEs.

Question 4
Are the example financial statements helpful, including where they show permissible alternatives?

The illustrative financial statements usefully follow the headings set out for the Fund Account and Statement of Net Assets in sections 3.7.1-3.7.2 and 3.9.2 of the ED.

It would be helpful for Appendix 1 to indicate the level of materiality applied in the illustrative financial statements, and how it is applied. For example, a note analysis is given of Administrative expenses (total £36k) but not of Other payments (total £38k). Alternatively, it might be appropriate for the SORP to confirm that in view of the needs of users of the financial statements, it is best practice for an analysis to be included of Administrative expenses, compared to other categories.

With respect to the alternatives shown for Derivatives and Investment Risk, part 6) sub-part 4) of the introductory section of the ED asks specifically about the combined presentation for the notes covering investment risks and analysing derivatives.

The non-combined note (presented first) appears preferable. The analyses in note 13 (sub-sections (i) – (iii)) are then presented alongside the totals for derivatives (which can be readily agreed to the Statement of Net Assets), and alongside the stated objectives and policies for derivatives. If only the one presentation is given in the example financial statements, this will encourage consistency between reporting schemes. However, PRAG may be aware that an alternative presentation needs to be set out, in order to provide flexibility across the entire range of schemes.

Other/minor points:

Notwithstanding that the tax charge of £14k is likely to be immaterial, the explanatory note 8 is unhelpful in its present form, as it just confirms the scheme’s tax-exempt status.

There is a missing note cross-reference (no.15) on the Statement of Net Assets with regard to AVC investments of £316k.

Question 5
Views are requested on the accounting for auto-enrolment, especially the initial contributions.

The employer will become obliged to pay over the initial contribution once the one-month opt-out period ceases. This will be after the date of the deduction from salary, and actually before the legal due date for the remittance to the scheme. However, the simplification in para 3.8.2 may be considered practical, and to represent only a short timing difference, which will not often straddle the end of an annual reporting period.

In addition, for most schemes, the amounts of initial payments under auto-enrolment are unlikely to have a material effect on the financial statements, due to the number of joining employees involved.

In practice, employers may well pay over the initial contribution earlier than the latest date set in law, which will reduce the impact of the timing difference.

Question 6
Whether (as PRAG believes) certain disclosure requirements in law should be appropriately updated.

ACCA agrees that the statutory disclosure requirements set out in Appendix 7 should be removed or amended for the following reasons:

  • The requirements of the draft SORP are more consistent with FRS 102. For example, compared to just a UK / overseas analysis of the various types of investment, the disclosures of risk factors and the fair value hierarchy are considered by many users to be more relevant to their current information needs, by enabling a more detailed assessment to be made of a scheme’s situation.
  • This legally-required information may well cause confusion, due to the extent to which it differs from the requirements in the draft SORP. Consequently, ACCA supports the lobbying of the DWP to tackle the necessary changes at an early stage.

Question 7
Whether the disclosure of any investment constituting over 5% of scheme assets should be retained (in view of other disclosures regarding risks and employer-related investments). If so, should the threshold be applied to pooled investments at the unit level, or by adopting the ‘look through’ approach?

We believe that this disclosure does provide additional relevant information for users of the financial statements, without detract from their understanding of the other information presented in accordance with the draft SORP. The threshold is a proportional one, providing separate information to the nature or levels of risk, and the disclosure is independent of that required, where appropriate, in respect of investments in the employer. Furthermore, it has the advantage of clarity for users.

For pooled investments, the 5% threshold is best applied consistently with the risk disclosures (Question 2 above). This means that, as for risk disclosures, either the ‘look-through’ or unit of investment level approach will be applied, reflecting the trustees’ broader consideration of the scheme’s investment strategy. For example, the scheme may have more than 5% of its assets invested in the one pooled investment provider, but the implications of this might well be best apparent by looking at the extent to which this stake is diversified between the underlying investments.

We also do not believe that the disclosure will be burdensome for schemes.