Chapter 19, Problem 5P

1.

To determine

Compute the amount of pension expense of Company L for 2016 and 2017.

Explanation of Solution

Pension plan: Pension plan is the plan devised by corporations to pay the employees an income after their retirement, in the form of pension.

Compute the amount of pension expense of Company L for 2016 and 2017 as follows:

Particulars	2016	2017
Service cost	$463,000	$475,000
Add: Interest cost on projected benefit obligation	$111,600 (1)	$163,314 (2)
Less: Expected return on plan assets	$0	($62,100) (3)
Add: Amortization of prior service cost	$96,000 (4)	$92,000 (5)
Pension expense	$670,600	$668,214

Table (1)

Working note (1):

Calculate the interest cost on projected benefit obligation for 2016:

$\begin{array}{c}\begin{array}{l}\text{Interest cost on projected }\\ \text{benefit obligation for 2016}\end{array}\}\text{ = }\left(\begin{array}{l}\text{Projected benefit obligation for 2016}\times \\ \text{Discount rate}\end{array}\right)\\ =\$1,240,000\times \frac{9}{100}\\ =\$111,600\end{array}$

Working note (2):

Calculate the interest cost on projected benefit obligation for 2017:

$\begin{array}{c}\begin{array}{l}\text{Interest cost on projected }\\ \text{benefit obligation for 2017}\end{array}\}\text{ = }\left(\begin{array}{l}\text{Projected benefit obligation for 2017}\times \\ \text{Discount rate}\end{array}\right)\\ =\$1,814,600\times \frac{9}{100}\\ =\$163,314\end{array}$

Working note (3):

Calculate the expected return on plant assets:

$\begin{array}{c}\text{Expected return on plan asset = }\left(\begin{array}{l}\text{Plant asset for 2017}\times \\ \text{Expected rate of return}\end{array}\right)\\ =\$690,000\times \frac{9}{100}\\ =\$62,100\end{array}$

Working note (4):

Calculate the amortization of prior service cost for 2016.

$\begin{array}{c}\begin{array}{l}\text{Amortization of prior}\\ \text{service cost for 2016}\end{array}\}=\text{Projected benefit obligation}\times \left[\begin{array}{l}\text{Amortization fraction }\\ \text{for prior service cost}\end{array}\right]\\ =\text{\$1,240,000}\times \frac{48}{620}\\ =\$96,000\end{array}$

Working note (5):

Calculate the amortization of prior service cost for 2017.

$\begin{array}{c}\begin{array}{l}\text{Amortization of prior}\\ \text{service cost for 2017}\end{array}\}=\text{Projected benefit obligation}\times \left[\begin{array}{l}\text{Amortization fraction for}\\ \text{prior service cost for 2017}\end{array}\right]\\ =\text{\$1,240,000}\times \frac{46}{620}\\ =\$92,000\end{array}$

2.

To determine

Prepare necessary journal entries of Company L for 2016 and 2017.

Explanation of Solution

Prepare journal entry to record the beginning liability for prior service cost for 2016:

Date	Accounts Title and Explanation	Post Ref.	Debit ($)	Credit ($)
January 1, 2016	Other comprehensive income: Prior service cost		1,240,000
	Accrued/prepaid pension cost			1,240,000
	(To record the beginning liability for prior service cost for 2016)

Table (2)

• Other comprehensive income: Prior service cost is component of shareholders’ equity, and it decreases the value of shareholders equity. Hence, debit the other comprehensive income: Prior service cost account with $1,240,000.
• Accrued/prepaid pension cost is a liability account and it is increased. Therefore, credit the accrued/prepaid pension cost account with $1,240,000.

Prepare journal entry to record the pension expense for 2016:

In this case, Company L has overfunded the pension contribution by $19,400$\left(\$690,000-\$670,600\right)$, hence debit the accrued/prepaid pension cost account by $19,400.

Date	Accounts Title and Explanation	Post Ref.	Debit ($)	Credit ($)
December 31, 2016	Pension expense		670,600
	Accrued/prepaid pension cost		19,400
	Cash			690,000
	(To record the pension expense and its overfunded by $19,400)

Table (3)

• Pension expense is component of shareholders’ equity, and it decreases the value of shareholders equity. Hence, debit the pension expense with $670,600.
• Accrued/prepaid pension cost is asset account and it is increased. Therefore, debit the accrued/prepaid pension cost account with $19,400.
• Cash is an asset account and it is decreased. Therefore, credit the cash account with $690,000.

Prepare journal entry to record the amortized prior service cost for 2016:

Date	Accounts Title and Explanation	Post Ref.	Debit ($)	Credit ($)
December 31,2016	Accrued/prepaid pension cost		96,000
	Other comprehensive income: Prior service cost			96,000
	(To record the amortization of prior service cost)

Table (4)

• Accrued/prepaid pension cost is an asset account and it is increased. Therefore, debit the accrued/prepaid pension cost account with $96,000.
• Other comprehensive income: Prior service cost is component of shareholders’ equity, and it increases the value of shareholders equity. Hence, credit the other comprehensive income: Prior service cost account with $96,000.

Prepare journal entry to record the pension expense for 2017:

In this case, Company L has underfunded the pension contribution by $8,214$\left(\$668,214-\$660,000\right)$, hence credit the accrued/prepaid pension cost account by $8,214.

Date	Accounts Title and Explanation	Post Ref.	Debit ($)	Credit ($)
December 31,2017	Pension expense		668,214
	Cash			660,000
	Accrued/prepaid pension cost			8,214
	(To record the underfunded pension expense of $24,250)

Table (5)

• Pension expense is component of shareholders’ equity, and it decreases the value of shareholders equity. Hence, debit the pension expense with $668,214.
• Cash is an asset account and it is decreased. Therefore, credit the cash account with $660,000.
• Accrued/prepaid pension cost is liability account and it is increased. Therefore, credit the accrued/prepaid pension cost account with $8,214.

Prepare journal entry to record the amortized prior service cost for 2017:

Date	Accounts Title and Explanation	Post Ref.	Debit ($)	Credit ($)
December 31, 2017	Accrued/prepaid pension cost		92,000
	Other comprehensive income: Prior service cost			92,000
	(To record the amortization of prior service cost)

Table (6)

• Accrued/prepaid pension cost is an asset account and it is increased. Therefore, debit the accrued/prepaid pension cost account with $92,000.
• Other comprehensive income: Prior service cost is component of shareholders’ equity, and it increases the value of shareholders equity. Hence, credit the other comprehensive income: Prior service cost account with $92,000.

3.

To determine

Calculate the total accrued/prepaid pension cost at the end of 2017, and identify whether it is considered as an asset or a liability.

Explanation of Solution

Calculate the total accrued/prepaid pension cost as the end of 2017, and identify whether it is considered as an asset or a liability as follows:

Accrued/prepaid pension cost
December 31, 2016	$19,400	January 1, 2016	$1,240,000
December 31, 2016	$96,000	December 31, 2017	$8,214
December 31, 2017	$92,000
Total	$207,400	Total	1,248,214
		Clos. Bal.	$1,040,814

In this case, the total accrued/prepaid pension cost at the end of 2017 shows the credit balance, hence it is considered as the accrued pension cost liability ($1,040,814).

4.

To determine

Prepare a schedule that portrait the beginning and ending reconciliation amounts of the projected benefit obligation for 2017.

Explanation of Solution

Prepare a schedule that portrait the beginning and ending reconciliation amounts of the projected benefit obligation for 2017 as follows:

Particulars	Amounts ($)
Beginning projected benefit obligation	1,240,000
Add: Service cost	463,000
Interest cost	111,600
Ending projected benefit obligation	1,814,600

Table (7)