Net Interest Cost - IFRS

CFA Level II FRA
#1

Under U.S GAAP, periodic pension costs in the P&L is Service cost + interest cost (discount rate multiplied by beginning PBO) - expected return on plan assets (expected return multiplied by beginning plan assets).

Under IFRS periodic pension cost is service cost + Net Interest Expense (discount rate multiplied by beginning funded status)

Note I am assuming no past service costs or amortization of actuarial gains or losses.

I cannot get my head around net interest expense.

I understand that service costs are what an employee gets for working another year at the firm (in PV terms) and interest cost is the PV of the PBO moving one year into the future. I also understand why US GAAP subtracts the expected return on assets (whatever the plan assets make is something the firm would not have to pay out in the future).

I do not understand why IFRS does not have interest cost and instead uses net interest cost. What is it netting against? Also why doesn’t IFRS net off what the plan assets are expected to make (similar to what US GAAP does).

Any help on this topic is much appreciated.

Thanks.

#2

Under IFRS, the assumption is that the discount rate on the plan obligation is the same as the expected return on plan assets.

Therefore, because interest expense is the net of the growth in the obligation based on the discount rate and the expected return on plan assets – and the rates are the same, say, i – the net interest expense is:

Beginning obligation (i) – Beginning assets (i) = (Beginning obligation – Beginning assets)(i)

#3

Okay,

So where in the formula is interest cost playing into this? (i.e us moving one year forward in time and the PV now becoming larger because of it).

#4

One year forward the pension obligation is bigger because of the interest.

The asset value doesn’t depend on the expected return; assets are bigger or smaller because of the actual return.

OCI depends on the difference between the expected return and the actual return. It’s higher if the actual return exceeds the expected return and lower if the expected return exceeds the actual return.