[iampei]

On December 31, Company Inc. amended its overfunded pension plan and recorded prior service cost of $250,000. On that date, Company had an effective tax of 30% and its employees had an average future service period of 25 years. What effect will the plan amendment have on Spacer’s December 31 financial statements?

A) Increase net periodic pension cost

B) Decrease AOCI

C) Increase pension benefit asset

D) Decrease retained earnings

The answer is B: Decrease AOCI. The explanation says “Changes in the funded status of a pension plan due to plan amendment must be reported in OCI in the period incurred. Therefore, at December 31, Company will record prior service cost as a debit to OCI, which will decrease the AOCI balance at December 31:

Dr: OCI $250,000

Dr: Deferred Tax Asset $75,000

Cr: Deferred tax benefit – OCI $75,000

Cr: Pension Benefit Asset $250,000

I don’t get it…

I thought an increase in prior service cost would increase AOCI by $250,000. In year 2, the amortization of the prior service cost would decrease AOCI by $10,000 (250,000/25 years).

We would debit OCI by $250,000 and credit Pension benefit Liability, thus increasing AOCI.

And when we record the amortization of prior service cost, we would Debit Net Periodic Benefit Liability and Credit OCI, thus removing the amortized portion out of AOCI.

Unless we are removing the deferred tax asset from the overfunded pension plan…then I can understand why we would lower AOCI, however Becker’s explanation isn’t really stating that…

Please help me as my exam is on monday…

[mangos]

AOCI is an equity account, so to increase it you would credit it, to decrease it you would debit it.

So if you're recognizing an additional $250k in prior service costs that you will need to amortize later on, you would debit it.

It has the same impact on stockholders equity as revenues and expenses do, WHEN you reverse them.

So if you want to book something that will later on turn out to be an expense, you first CREDIT it to AOCI, so that you can later on DEBIT the expense.

Later on, you'll credit it to remove it from AOCI, and then DEBIT the amortization to recognize it. Again, next year, when you start amortizing it, you'll need a debit to expense it, and the credit has to come from AOCI, getting rid of the previous debit you put in there.

DR AOCI $250k (decrease AOCI)

CR Pension Liability/Asset 250k (increase liability, or decrease asset)

Next Year:

DR Pension Cost 25,000 (250/10)

CR AOCI 25,000

Don't know if this makes too much sense..

FAR (5/07/13): 96

[iampei]

WOW! thank you very much for explaining. After reading your response a couple of times I finally get it. I keep forgetting that AOCI is an equity account. I keep thinking that costs and future expenses would reduce AOCI, not increase it. The way becker worded that kind of confused me.

Thanks!

[iampei]

WOW! thank you very much for explaining. After reading your response a couple of times I finally get it. I keep forgetting that AOCI is an equity account. I keep thinking that costs and future expenses would reduce AOCI, not increase it. The way becker worded that kind of confused me.

Thanks!

[getthiscpadone]

Think of AOCI having a normal credit balance.

Credit AOCI to increase

Debit AOCI to decrease

FAR - 91
BEC - 89
REG - 85
AUD - 8/6/13

[Author]

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