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The Actuary The magazine of the Institute & Faculty of Actuaries

Accounting standard FRS17

We are used to three-letter acronyms, but now we have a five-letter acronym, namely FRS17. Who cares? Well, if you are a UK pensions actuary, you probably ought to, because it is going to affect your livelihood in a big way, for a very long time to come.
Jon Spain gives a short and snappy blagger’s guide, setting out the principal problems, and suggesting how actuaries may be enabled to handle new responsibilities.
What is FRS17?
It is a formal UK accounting standard, stemming from FRED 20, with few real changes, promulgated by the Accounting Standards Board on 30 November 2000. This is about reporting all kinds of retirement benefits or medical benefits within the employer’s accounts wherever they arise (geography or corporate structure); there could well be a knock-on effect later on trustees’ accounts but that can be left for a while longer. It is inflexible and it will probably turn out to be of little real value, except to professional advisers, because the alleged audience (users of accounts such as investment analysts) will ignore it.
Frankly, I doubt that this new standard is likely to lead to accounting statements which can really be described as ‘true and fair’.
That’s too succinct can we have a bit more?
Yes, think about the following:
– FRS17 is very much more complex than SSAP24 and will baffle most users;
– apart from the balance sheet and profit and loss statement, there is a new complex entity called the statement of recognised gains and losses (STRGL truly well named) which embraces ‘actuarial experience’;
– everything is linked to spot market values (smoothing over time has been terminated);
– best estimates are sought for timely recognition of operating costs;
– for liabilities, the discount rate is set by reference to AA corporate bonds;
– the inflation assumption will come from comparing index-linked gilts with fixed gilts;
– the projected unit method is to be used for liabilities;
– within limits, any surplus will be shown on the employer’s balance sheet;
– benefit improvements will hit profits immediately, even if financed from surplus;
– the sums will need to be updated every year with ‘actuarial reconciliation’.
Are there any problems?
There are almost too many!
So here is just a selection:
– being linked to market, there could be enormous volatility, which will be highly unpopular with many financial directors;
– it is truly bizarre that the company’s profits will be based on expected outcomes (shown in the P&L) rather than actual outcomes (which are set out in the STRGL);
– it is likely to discourage discretionary benefit improvements because the costs will be shown on the balance sheet;
– it will tend to muddy ownership of any ‘surplus’ (calculated on this special basis) because this is going to be shown on the employer’s balance sheet;
– the expected return is currently far too vague (which may be useful to some);
– at present, UK AA corporate bond statistics are difficult to find;
– the auditors will try to tell the actuaries what to do (they have already started);
– in particular, auditors are seeking materiality comfort which may be unrealistic;
– the deadlines are going to be incredibly tight.
There must be some good news!
Well, yes, there is. The assumptions are owned by the reporting entity directors. While they must seek actuarial advice, they take their own decisions and, perhaps, argue with the auditor. The standard can be implemented over three years, although bringing it in earlier is encouraged. Further, the liabilities can be updated approximately, between full valuations, which will save some time (subject to materiality, of course). Last but not least, there will be loads of seminars to arrange and fees to charge.
How will we handle it?
Professional guidance will be provided and the current draft guidance (EXD43) was issued in April 2001 and discussed on 6 June 2001 at Staple Inn. That was the sole consultation meeting for this exposure draft and it would be fair to say that almost no one applauded the current draft! The main bad points are that it repeats and, even worse, paraphrases elements of FRS17. Unlike the curate’s egg, there are no excellent parts, such as filling in the uncertainties (ie how the crucial ‘expected return’ assumption is to be defined). The Pensions Board currently intends to issue a final guidance note in autumn 2001 and, with luck, the revised version may be of some use.
Whether we like it or not this accounting standard is going to be important to all our clients. Not only will we have to get used to it, we will have to show that we understand what is going on so that we can explain it to our clients, and be able to carry on in practice. o