UK - Mature pension schemes are being let off lightly by FRS17, one of its architects and a former Accounting Standards Board consultant claims.
John Ralfe said that because FRS17 does not discriminate between pensioners or active or deferred members it boosted the valuations of more mature schemes.
Two key assumptions of FRS17 are that:
- Salary growth only applies to active members.- The discount rate - which puts the future value of the scheme into today's money - applies to all members equally.
Ralfe explained: “If you look at a company which has no pensioners then the level of salary growth they will be assuming will be inflation plus 1-1.5% for all of its members.
He added: “At the other extreme if you have all deferred and pensioner members then you won’t be building any salary growth into the cash flows but you will be let off slightly because you can discount at the AA [including risk for active members] rather than the AAA rate [the gilt rate that excludes risk from current members].”
To be completely consistent, FRS17 rules would have to change to treat deferred and retired members differently from actives.
Ralfe added that recent comments made by Morgan Stanley and SEI Investments were wrong in suggesting that pension fund deficits could be slashed by basing FRS17 on current rather than projected salaries.
He said that if current salaries were used then companies would have to change the discount rate as well. Ralfe noted that these two changes would balance out – but pointed out that companies could not cherry pick.
Ralfe noted: “You can either have higher cash flows that pick up salary growth and a higher discount rate or you can have lower cash flows which don’t pick up salary growth and a lower discount rate.”
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