GASB’s Exposure Drafts on New Public Pension Accounting Released July 8, 2011: New Rules Eliminate ARC and Disclose Pension Liability on Balance Sheet

The Governmental Accounting Standards Board (GASB) has issued Exposure Drafts relating to pension accounting and financial reporting. There are two Exposure Drafts, one of which would set standards for employers and the other of which would set standards for plans. These documents are the next step (following the Preliminary Views that were released last year) in issuing new accounting statements which would potentially replace Statements No. 25 and No. 27 effective, for most plans, for fiscal years beginning after June 15, 2013. The following chart summarizes the major changes and their potential effect on governmental reporting.

Key Changes
  1. Clearly separates accounting from funding. ARC is no longer defined by GASB.
  2. Discloses the difference between pension liability and market value of assets on employer balance sheet (even for employers in cost-sharing plans).
  3. Dramatically shorter amortization periods for accounting purposes:
    1. Five years for investment gains and losses,
    2. Immediate recognition for plan amendments and other changes affecting inactive liabilities.
  4. Effective for most plans for periods beginning after June 15, 2013.

Elimination of ARC

The Exposure Drafts have made it clear that there is a difference between accounting and funding, and that GASB was uncomfortable with its standards being used as a de facto funding standard. "In this statement, the Board has made clear the separation between its objectives related to establishing standards for the financial reporting of pensions by employers, on the one hand, and public policy matters such as pension contribution policy, on the other. Consistent with this distinction, this Statement does not establish an ARC, or similar measure." (Par. 257) As a result, the annual pension expense will be significantly more volatile than what is likely to be used for funding. If an actuarially calculated employer contribution (ACEC) is determined, the Exposure Drafts require a 10-year schedule comparing actual employer contributions to the ACEC. However, if an ACEC is not calculated, no such disclosure would be required.

New Way of Calculating Pension Expense

The annual pension expense would be determined as follows:

  1. Normal cost for current service, plus
  2. Interest cost on the total pension liability, minus
  3. Expected earnings on plan assets, plus or minus
  4. Amortizations (see changes in unfunded liability below) of experience gains and losses, changes in assumptions, and changes in plan terms, and plus or minus
  5. The recognition over five years of differences between assumed investment returns on plan assets and actual investment returns.

Net (Unfunded) Pension Liability on Balance Sheet

The net pension liability (the unfunded portion of the total pension liability) would be reported on the balance sheet instead of in the notes to financial statements. This would replace the current cumulative difference between the annual pension cost and contributions made (the Net Pension Obligation or NPO). This unfunded liability must be based on the market value of assets so it is likely to exceed the unfunded actuarial liability currently being reported in financial statements.

This change will substantially increase the liabilities reported on the balance sheet for most employers and will greatly increase the volatility of the balance sheet liability.

Beta Testers?

GASB is seeking volunteers to participate in a field test of its proposed pension accounting and financial reporting standards.

Field tests are a part of GASB’s due process activities and help GASB establish effective standards. By volunteering you will be able to go through the exercise of “implementing” the proposed standards as if they were in place, while working directly with GASB staff and providing feedback directly to GASB regarding that process. This information will be considered by the Board in development of the final standards. The input provided could also be used in a question-and-answer Implementation Guide.

If you are interested in participating in the pension field test, or would like additional information, please contact Dean Michael Mead either by email at or by telephone at (203) 956-5294.

Measurement of Total Pension Liability

There would be changes in the way that the total pension liability is determined. This includes the discount rate, the actuarial cost method used, and the recognition of cost of living increases (COLAs).

Discount Rate

Under current standards, the discount rate is selected as the estimated long-term investment return for the plan's assets. The Exposure Drafts largely keep the status quo for selection of the discount rate with one exception. If the current and projected plan assets (with respect to current employees) would not be expected to meet all future plan benefits, then the benefits not covered by projected plan assets would be discounted by a high quality tax-exempt bond index. The latter situation will usually occur in those instances where the employer is making contributions less than the full actuarially determined contribution for current participants.

Actuarial Cost Method

All plans would be required to use the Entry Age Normal (EAN) Method for purposes of liability disclosure on the balance sheet and in the determination of the pension expense. Also, the definition of EAN for purposes of this calculation is based on an individual calculation for each active plan member. Variations of this method that use a new entrant average normal cost rate would not be permitted. For plans not using the specified EAN method, the impact could be substantial.

Measurement of COLAs

Future ad hoc COLAs would be required to be valued in the liabilities when there has been a regular pattern and expectation that these would be granted. Currently, recognition is discretionary.

This change will also increase the liabilities that are reported for some systems.

Changes in Unfunded Actuarial Liability (UAL)

Changes in the unfunded actuarial accrued liability generally come from four sources:

  • Investment gains and losses,
  • Other actuarial gains and losses (i.e., the difference between actual experience and assumed experience),
  • Changes in actuarial assumptions and methods, and
  • Changes in plan benefits.

As noted above, investment gains and losses are recognized in the annual pension expense over a period of 5 years. The Exposure Drafts make a distinction for other changes in the UAL between changes related to active members and changes related to inactive members. The table below summarizes the period over which each of these changes is recognized in pension expense for each employee group.

Amortization Periods for Pension Expense
Change Active Members Inactive Members
Investment gain or loss 5 years 5 years
Actuarial gain or loss Expected working lifetime Immediate
Actuarial assumption or method Expected working lifetime Immediate
Plan benefits Immediate Immediate

For most groups of active employees, the expected working lifetime is usually between 10 and 15 years. Under current rules all changes in the UAL may be amortized over a maximum period of 30 years.

This provision will not only require faster recognition of losses related to liabilities but also faster recognition of changes that reduce costs. Note that gains and losses related to investment experience will now be recognized over a five year period.

Cost Sharing Plans

In a cost sharing plan, the experience of the total plan is shared among all participating employers. There is generally one calculation of liabilities and one calculation of annual pension expense. Currently, employers sharing costs have simplified disclosures compared to other employers. Cost sharing employers do not need to disclose an unfunded actuarial liability, only their obligation to contribute to the plan. Under the Exposure Drafts, the plan will allocate a portion of its net pension liability and changes in that liability (the annual pension expense) to each participating employer, which will then include the allocated net pension liability and the allocated annual pension expense in its financial statements.


The new accounting rules would become effective for fiscal years beginning after June 15, 2013 for most employers. (The effective date would be one year earlier for certain single employer plans with plan assets of one billion dollars or more.) Employers would be required to restate prior financial statements under the new rules if practical, or to reflect the cumulative affects of the new rules in the financial statements.

Changes from the Preliminary Views

The Exposure Drafts largely follow the Preliminary Views that GASB issued last year. The primary differences are in recognition of investment gains and losses and in the immediate recognition of plan amendments affecting active members.

Next Step for Employers

GASB has requested comments on the Exposure Drafts by September 30, 2011, which will be followed by public hearings in October. Employers and retirement systems that wish to comment on the Exposure Drafts should do so before the deadline. After the hearings, GASB is expected to begin work on the final accounting statements which will replace Statements No. 25 and 27. (GASB also is expected to issue Exposure Drafts next year that will propose making parallel changes to the OPEB Statements No. 43 and 45.)

Cheiron is continuing to analyze the potential effect of the Exposure Drafts and plans to issue a more detailed Client Advisory shortly. If you have any questions, or desire an estimate of the impact of these changes on reported liabilities and expenses for your plan, please contact your Cheiron consultant.