17-1 1. Payroll and payroll taxes 2. Performance bonuses and postemployment benefits 3. Employer pension plans including the details of defined benefit plans 4. Compute the periodic expense and the impact on other comprehensive income 5. Required disclosures and the accounting treatment for pension settlements and curtailments 6. The differences in accounting for pensions and postretirement benefits other than pensions Chapter 17 Employee Compensation— Payroll, Pensions, and Other Compensation Issues
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Chapter 17 Employee Compensation Payroll, … · Chapter 17 Employee Compensation— Payroll, Pensions, ... Social security and income tax legislation impose five taxes ... Accounting
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17-1
1. Payroll and payroll taxes
2. Performance bonuses and postemployment
benefits
3. Employer pension plans including the details of
defined benefit plans
4. Compute the periodic expense and the impact on
other comprehensive income
5. Required disclosures and the accounting treatment
for pension settlements and curtailments
6. The differences in accounting for pensions and
postretirement benefits other than pensions
Chapter 17 Employee Compensation—
Payroll, Pensions, and Other
Compensation Issues
17-2 17-2
17-3
Payroll and Payroll Taxes
1. Federal old-age, survivors’, and disability (tax to both the
employee and employer)
2. Federal hospital insurance (tax to both employer and
employee)
3. Federal unemployment insurance (tax to employer only)
4. State unemployment insurance tax (tax to employer
only)
5. Individual income tax (tax to employee only but withheld
and paid by employer)
Social security and income tax legislation impose five taxes
based on payrolls:
1. Account for payroll and payroll taxes, and
understand the criteria for recognizing a liability
associated with compensated absences
17-4
Federal Old-Age, Survivors’, and Disability Tax
• The Federal Insurance Contributions Act (FICA) provides for FICA taxes from both employers and employees to provide funds for federal old-age, survivors’, and disability benefits for certain individuals and members of their families.
• The employer is required to withhold FICA taxes from each employee’s wages.
• In 2013, annual wages up to $113,700 were subject to 6.20% for FICA tax.
17-5
• The Federal Insurance Contribution Act
(FICA) also includes a provision for Medicare
tax.
• This tax differs from the tax previously
discussed in that the tax is applied to all
wages earned; there is no upper limit.
• The tax rate for 2013 was 1.45% for both
employer and employee.
Federal Hospital Insurance
17-6
Federal Unemployment Insurance
• The Federal Social Security Act and the
Federal Unemployment Tax Act (FUTA)
provide for the establishment of
unemployment insurance plans.
• Employers with insured workers employed in
each of 20 weeks during a calendar year or
who pay $1,500 or more in wages during a
calendar quarter are affected.
(continued)
17-7
• Tax rate on the first $7,000 of wages earned has
been 6.2% since 1985.
• Employer can apply for a credit limited to 5.4%
for taxes paid on state unemployment tax,
effectively reducing the federal tax to 0.8%
(6.2% – 5.4%).
• No tax is levied on the employee.
• Payment to the federal government is required
quarterly.
Federal Unemployment Insurance
17-8
State Unemployment Insurance
• State unemployment compensation laws
(SUTA) are not the same in all states. In most
states, laws call for tax only on employers, but
a few states tax both employer and employee.
• Although the normal rate on employers may
be 5.4%, states have merit rating or
experience plans providing for lower rates
based on employer’s individual employment
experiences.
17-9
Income Tax
• Federal income taxes on the wages of individuals are
collected in the period in which the wages are paid.
• The “pay-as-you-go” plan requires employers to
withhold income tax from wages paid to their
employees.
• Most states and many local governments also impose
income taxes on the earnings of employees that the
employer must withhold and remit.
• Withholding is required not only of employers engaged
in a trade or business but also of religious and
charitable organizations, educational institutions, social
organizations, and governments of the United States,
the states, the territories, and their agencies,
instrumentalities, and political subdivisions.
17-10
Salaries Expense 16,000
FICA Taxes Payable 1,224
Employees Income Taxes Payable 1,600
Cash 13,176
To record payment of payroll and
related employee withholdings.
Salaries for the month of January for a retail
store are $16,000. The SUTA tax rate is 5.4%.
Withholdings are $1,600 and FICA tax rate is
7.65%. The employer records the payroll as
follows:
Accounting for Payroll Taxes
(continued)
17-11
Payroll Tax Expense 2,216
FICA Taxes Payable 1,224
State Unemployment Taxes Payable 864
Federal Unemployment Taxes
Payable 128
To record payment of payroll and related
employee withholdings.
The employer’s payroll tax entry is as follows:
Accounting for Payroll Taxes
(continued)
17-12
Payroll Tax Expense 583
FICA Taxes Payable 459
State Unemployment Taxes Payable 108
FUTA Payable 16
To accrue the payroll tax liability of the
employer.
The salaries and wages accrued at December 31
were $9,500. Of this amount, $2,000 was subject
to unemployment taxes and $6,000 to FICA tax.
The adjusting entry for the employer’s payroll
taxes would be as follows:
Accounting for Payroll Taxes
17-13
Compensated Absences
Vacations
Holidays
Illnesses
Other personal activities
• Compensated absences include payments
by employers for:
(continued)
• The longer an employee works for a
company, the longer the vacation allowed or
the more liberal the time allowed for
illnesses.
17-14
• At the end of any given period, the firm has a
liability for the earned but unused
compensated absences.
• The estimated amounts earned must be
charged against current revenue and a
liability established for that amount.
• The difficult part comes when estimating how
much should be accrued.
(continued)
Compensated Absences
17-15
The FASB, in ASC paragraphs 710-10-25-1
through 3, requires a liability to be recognized for
compensated absences that:
1. have been earned through services already
rendered
2. vest or can be carried forward to subsequent
years, and
3. are estimable and probable.
Compensated Absences
(continued)
17-16
• S&N Corporation has 20 employees who are paid an average of $700 per week. During 2012, all employees earned a total of 40 vacation weeks but took only 30 weeks of vacation that year.
• They took the remaining 10 weeks of vacation in 2013 when the average rate of pay was $800 per week.
(continued)
Compensated Absences
17-17
Wages Expense 7,000
Vacation Wages Payable 7,000 To record accrued vacation wages
($700 × 10 weeks).
Journal Entry for December 31, 2012 Journal Entry for December 31, 2012
Wages Expense 1,000
Vacation Wages Payable 7,000
Cash 8,000 To record payment at current rates of
previously earned vacation time
($800 × 10 weeks).
Journal Entry for December 31, 2013 Journal Entry for December 31, 2013
Compensated Absences
17-18
Stock-Based Compensation and Bonuses
• In addition to stock options, employees often earn
bonuses based on a company’s performance over
a given period of time.
• This additional compensation should be
recognized in the period in which it is earned.
2. Compute performance bonuses, and
recognize the issues associated with
postemployment benefits
17-19
Stock-Based Compensation and Bonuses
• Photo Graphics, Inc. gives its store managers
a 10% bonus based on individual store
earnings.
• The bonus is to be based on income after
deducting the bonus, but before deducting
income taxes. Income for a particular store is
$100,000 before charging any bonus or
income taxes.
(continued)
17-20
B = 0.10($100,000 – B)
B = $10,000 – 0.10B
B + 0.10B = $10,000
1.10B = $10,000
B = $9,091 (rounded)
PROOF: B = 0.10($100,000 – B)
B = 0.10($100,000 – $9,091)
B = 0.10($90,909)
B = $9,090.90 or $9,091
PROOF: B = 0.10($100,000 – B)
B = 0.10($100,000 – $9,091)
B = 0.10($90,909)
B = $9,090.90 or $9,091
Stock-Based Compensation and Bonuses
17-21
Postemployment Benefits
• Because of downsizing, an employee cannot count on remaining with one employer for his or her entire career.
• Some employees change jobs to facilitate career advancement and to enhance their family’s quality of life.
• It is common for an employee to be terminated.
• Compensation issues following employment but preceding retirement have increased in magnitude.
(continued)
17-22
Stock-Based Compensation and Bonuses
• Examples of the types of benefits granted to terminated employees include: Supplemental unemployment benefits
Severance benefits
Disability-related benefits
Job training and counseling
• And, continuation of benefits such as:
Health care benefits
Life insurance coverage
17-23 17-23
17-24
Accounting for Pensions
Financing retirement years is accomplished by
establishing some type of pension plan that
sets aside funds during an employee’s working
years so that at retirement the funds and
earnings from investment of the funds may be
returned to the employee in lieu of earned
wages.
3. Understand the nature and characteristics
of employer pension plans, including the
details of defined benefit plans
17-25
Accounting for Pensions
In the United States, three major categories of pension plans have emerged:
1. Government plans, primarily Social Security
2. Individual plans, such as individual retirement accounts (IRAs)
3. Employer plans
(continued)
17-26
Postretirement benefits other than pensions
extend benefits beyond the active years of
employment and include such items as:
• Health care
• Life insurance
• Legal services
• Special discounts on items produced or
sold by the employer
• Tuition assistance
Accounting for Pensions
17-27
Funding of Employer Pension Plans
• ERISA requires companies to fund their pension
plans in an orderly manner so that the employee is
protected at retirement.
• Noncontributory pension plans are funded
entirely by the employer.
• Plans where the employee also contributes to the
cost of the plan are referred to as contributory
pension plans.
There are two basic classifications of pension
plans:
1) defined contribution plan
2) defined benefit plan
17-28
• Defined contribution pension plans are relatively
simple in their construction and raise very few
accounting issues for employers.
• The employer pays a periodic contribution amount
into a separate trust fund, which is administered by
an independent third-party trustee.
• When an employee retires, the accumulated value
in the fund is used to determine the pension payout
to the employee.
• The employee’s retirement income therefore
depends on how the fund has been managed. In
effect, the investment risk is borne by the employee.
Defined Contribution Pension Plans
17-29
• Defined benefit pension plans are much
more complex than defined contribution plans.
• Under defined benefit plans, the employee is
guaranteed a specified retirement income
often related to his or her number of years of
employment and average salary over a certain
number of years.
• Because the benefits are defined, the funding
must vary as conditions change.
Defined Benefit Pension Plans
(continued)
17-30 17-30
A pension fund may be viewed essentially as funds
set aside to meet the employer’s future pension
obligation just as funds may be set aside for other
purposes.
17-31
Vesting of Pension Benefits
Vesting occurs when an employee has met
certain specified requirements and is eligible to
receive pension benefits at retirement regardless
of whether or not the employee continues
working for the employer.
17-32
Funding of Defined Benefit Plans
• The periodic amounts to be contributed to a
defined benefit plan by the employer are
directly related to the future benefits
expected to be paid to current employees.
• All funding methods are based on present
values. The additional future benefits earned
by employees each year must be discounted
to their present value, referred to as the
actuarial present value, using the assumed
rate of return on pension plan investments.
17-33
Issues in Accounting for Defined Benefit Plans
A list of issues relating to accounting and
reporting by employers follows:
1. The amount of net periodic pension expense
to be recognized on the income statement
2. The amount of pension liability or asset to be
reported on the balance sheet
3. Accounting for pension settlements,
curtailments, and terminations
4. Disclosures needed to supplement the
amounts reported in the financial statements
17-34
Simple Illustration of Pension Accounting
• Lorien Bach is 35 years old.
• She has worked for Thakkar for 10 years.
• Her salary for 2012 was $40,000.
• Pension payments begin after the employee
turns 65; payments made at the end of the
year.
• The annual payment is equal to 2% of the
highest salary times the number of years with
the company.
• Thakkar knows for certain that Bach will live
exactly 75 years. Her benefits are fully vested.
17-35
• In valuing pension fund liabilities, Thakkar uses a
discount rate of 10%.
• As of January 1, 2013, Thakkar had a pension
fund containing $10,000.
• During 2013, Thakkar made additional
contributions of $1,500.
• The fund earned a return of $1,200 during the
year.
• Thakkar expects to earn an average return of 12%