(d) provides disclosure objectives for plan assets, indicating that the disclosures are intended to provide users of the financial statements with an understanding of:
- The plan's investment policies, strategies, and allocation decisions
- The classes of plan assets
- The inputs and valuation techniques used to measure the fair value of plan assets
- The effect of fair value measurements using significant unobservable inputs on changes in plan assets for the period
- Significant concentrations of risk within plan assets
The plan asset disclosures are intended to address users' desires for transparency about the types of assets and associated risks in a reporting entity's defined benefit pension and OPEB plans, and how economic events could have a significant effect on the value of plan assets.
Disclosure about investment policies and strategies
(d)(5) requires a reporting entity to disclose information regarding how investment allocation decisions are made, including factors pertinent to understanding investment policies and strategies. Disclosures should include:
- A narrative description of investment policies and strategies
- Target allocation percentages or a range of percentages considering the classes of plan assets as of the latest balance sheet presented (on a weighted-average basis for reporting entities with more than one plan)
- Other factors pertinent to an understanding of the plan's policies and strategies, such as:
- Investment goals
- Risk management practices
- Permitted and prohibited investments, including whether the use of derivatives is permitted
- The relationship between plan assets and benefit obligations
- A description of the significant investment strategies of investment funds (e.g., hedge funds, mutual funds, private equity funds), if those investment funds represent a major class of plan assets.
Disclosure about classes of plan assets
As discussed in ASC 715-20-50-1
(d)(5)(ii), a reporting entity should disclose the fair value of each class of plan assets as of each annual reporting date for which a balance sheet is presented. Asset classes should be disclosed based on the nature and risks of the assets.
Examples of classes of plan assets include:
- Cash and cash equivalents
- Equity securities (segregated by industry type, reporting entity size, or investment objective)
- Debt securities issued by national, state, and local governments
- Corporate debt securities
- Asset-backed securities
- Structured debt
- Derivatives on a gross basis (segregated by type of underlying risk in the contract, e.g., interest rate risk, foreign exchange risk, credit risk)
- Investment funds (segregated by type of fund)
- Real estate
Plan assets may be invested indirectly in many different asset categories (e.g., a mutual fund may invest in several different types of assets). A reporting entity is not required to allocate such indirect investments into respective asset categories. However, a reporting entity should consider the objectives of the disclosure in determining under which asset class such an investment should be disclosed. Specifically, disclosure of additional asset classes and/or further disaggregation of major categories would be appropriate if that information is expected to be useful in understanding the risks associated with each asset class or the overall expected long-term rate of return on assets.
As discussed in ASC 715-20-50-1
(d)(5)(iii), a reporting entity is also required to provide a narrative description of the basis used to determine the overall expected long-term rate of return on assets. Such narrative should consider the classes of assets described above and include:
- The general approach used
- The extent to which the overall rate of return on assets assumption was based on historical returns
- The extent to which adjustments were made to those historical returns in order to reflect expectations of future returns and how those adjustments were determined.
Question FSP 13-1
Is a reporting entity required to separately disclose its investment strategy for each class of assets in the fair value hierarchy disclosure?
The guidance does not explicitly require a reporting entity to disclose its investment strategy for each class of assets included in the fair value disclosure. Accordingly, investment strategies may be disclosed at the level provided to the portfolio managers provided it is clear how the strategy relates to the classes of plan assets. For example, if a plan's strategy is to invest 50% to 60% in equities, the reporting entity would not be required to break this target allocation into further subclasses (even where the fair value hierarchy disclosure presents several such subclasses of equities).
A reporting entity that applies the practical expedient related to the measurement date of defined benefit plan assets and obligations at the calendar month-end closest to the fiscal year-end date is subject to an additional disclosure requirement (if applicable), as described in ASC 715-20-50-1
Excerpt from ASC 715-20-50-1(d)(5)(ii)
If an employer determines the measurement date of plan assets in accordance with paragraph 715-30-35-63A
and the employer contributes assets to the plan between the measurement date and its fiscal year-end, the employer shall not adjust the fair value of each class of plan assets for the effects of the contribution. Instead, the employer shall disclose the amount of the contribution to permit reconciliation of the total fair value of all the classes of plan assets to the ending balance of the fair value of plan assets.
Disclosure of fair value measurements of plan assets
Disclosures are required to enable users of the reporting entity's financial statements to assess the inputs and valuation techniques used to develop fair value measurements of plan assets. As discussed in ASC 715-20-50-1
(d)(5)(iv), a reporting entity should disclose the following for each class of plan assets as of each annual reporting date for which a balance sheet is presented:
- The level within the fair value hierarchy in which the fair value measurements in their entirety fall, segregating fair value measurements using Level 1, Level 2, and Level 3 inputs. However, if the fair value is measured at net asset value (NAV) using the practical expedient, it should not be reflected in this table, but rather should be included as a reconciling item to the total fair value of plan assets. Investments for which NAV is fair value, and not a practical expedient, must still be included in the fair value table in the appropriate level.
- For Level 3 fair value measurements of plan assets, a reconciliation of the beginning and ending balances, separately presenting changes during the period attributable to:
- Actual return on plan assets, separately identifying the amounts related to assets still held at the reporting date and assets sold during the period
- Purchases, sales, and settlements, net
- Transfers in or out of Level 3
- Information about the valuation technique(s) and inputs used to measure fair value, including a discussion of any changes in valuation techniques and inputs used during the period.
See FV 4.5
for further discussion of inputs to fair value measurement and the fair value hierarchy, including presentation when the inputs used to measure fair value fall within different levels of the fair value hierarchy.
(d)(5)(iv)(02) requires the Level 3 asset reconciliation to include the actual return on plan assets, separately identifying the amount related to assets still held at the reporting date and the amount related to assets sold during the period. Questions have arisen in practice about how to define and measure realized and unrealized gains and losses on plan assets, as well as the appropriate format for presenting this information. The guidance does not specify a particular way to calculate realized and unrealized gains and losses, or the format of the Level 3 reconciliation disclosure. A reporting entity can exercise judgment in determining the manner and format of the disclosure, so long as it satisfies the disclosure objectives of the standard and is applied consistently each period.
In considering the guidance, we believe, for example, that it would be acceptable to separately present the actual return (realized and unrealized) on plan assets still held at the reporting date, and on assets sold during the period within the reconciliation. Alternatively, the actual return (realized and unrealized) may be presented as a single line item in the reconciliation, and the amounts associated with assets still held at the reporting date disclosed in a footnote to the reconciliation.
The disclosure requirements by level are similar to those required by ASC 820
, Fair Value Measurement
(see FSP 20
). However, ASC 715
requires a reporting entity to segregate its Level 3 returns between those related to assets held and sold in lieu of the ASC 820
requirement to segregate gains and losses recognized in earnings from those recognized in other comprehensive income. That requirement does not apply to a reporting entity's disclosures about its pension and OPEB plan assets because the delayed recognition provisions for gains and losses makes it too difficult to determine whether gains or losses on plan assets were included in net income or OCI for the period.
Many reporting entities and plans use information provided by third parties in developing their fair value estimates. While reporting entities may receive information from the plan custodian or trustee regarding asset valuations and the classification of investments in the fair value hierarchy (i.e., whether inputs used to measure fair value are Level 1, 2 or 3), management remains responsible for the accuracy of such determinations. As such, reporting entities should understand the valuation methodologies used by their third party information providers. The AICPA Employee Benefit Plans Audit Quality Center Advisory, Valuing and Reporting Plan Investments, may help management understand its responsibility regarding the valuation and reporting of investments.
Question FSP 13-2
How should a reporting entity determine the level of disaggregation (e.g., the appropriate unit of account) for the fair value hierarchy disclosure?
The guidance indicates that for purposes of the fair value disclosures, the asset classes should be based on the nature, characteristics, and risks of the assets in a reporting entity's plan.
Plan investments often involve complex structures with multiple layers. A reporting entity should determine the unit of account based on the legal structure, which will determine the level of disaggregation for the fair value hierarchy disclosure. In some cases, a plan may utilize a portfolio manager to manage a pool of investments (e.g., stocks and bonds) on its behalf, but the plan legally owns the underlying investments. In these situations, each individual stock and bond (i.e., CUSIP or trade lot) would be its own unit of account.
A plan may invest in an insurance contract that will generate returns based on the performance of underlying or referenced assets (e.g., pooled accounts). In these situations, the reporting entity may determine that the appropriate unit of account is the insurance contract rather than the underlying investment. Alternatively, some insurance contracts require that the underlying assets be maintained in a "separate account" of the insurance reporting entity, and sometimes the plan sponsor has some involvement in investment decisions relating to the separate account. These assets are generally not comingled with assets of the insurer or other plan sponsors, and while the insurer legally owns the assets, they may not be available to its general creditors in bankruptcy. Accordingly, it may be appropriate to look through the separate account to determine the appropriate level of the underlying investment.
Question FSP 13-3
How should investments measured at NAV using the practical expedient, cash, insurance contracts, dividends receivable, and accrued interest be included in the reporting entity’s fair value hierarchy disclosure?
The guidance requires disclosure of the fair value of each class of plan assets and the level within the fair value hierarchy based on the inputs used to develop the fair values. The following provides guidance on specific types of plan assets:
Investments measured at NAV using the practical expedient — Investments whose fair values are measured at NAV using the practical expedient should not be included in the fair value hierarchy table. Such investments should be included as a reconciling item between the fair value hierarchy disclosure and total plan assets. Investments measured at NAV not using the practical expedient should be included in the fair value hierarchy table.
Demand deposits and other cash
— Cash on deposit held by a plan is recorded at the amount on deposit. Since no judgment is required to assess the fair value of cash, and the disclosure example in ASC 715-20-55-17
explicitly includes cash, it could be included in the fair value hierarchy disclosure. It is appropriate to classify the fair value measurement for cash as Level 1 when the amounts are available on demand. It would also be acceptable to exclude cash from the fair value hierarchy disclosure and include it as a reconciling item between the fair value hierarchy disclosure and total plan assets.
Contracts with insurance companies
— ASC 715-30-35-60
states that contracts with insurance companies (other than those that are in substance equivalent to the purchase of annuities) should be accounted for as investments and measured at fair value. The guidance further states that for some contracts, contract value may be the best evidence of fair value. If a contract has a determinable cash surrender value or conversion value, that amount is presumed to be its fair value.
We believe that these alternative measures are practical expedients to the required fair value measurement. This practical expedient does not relieve a reporting entity from the requirement to present such contracts as a component of the applicable major category of plan assets in the fair value disclosure. Accordingly, contracts issued by insurance companies, including those for which cash surrender value or contract value is used to estimate fair value, should be included in the fair value hierarchy disclosure.
Generally, contracts that are recorded at cash surrender value or contract value will be classified as Level 2 or Level 3, depending on the nature of the contract. For example, in some instances, the contract value or cash surrender value is based principally on a referenced pool of investment funds that actively redeems shares and for which prices may be observable, resulting in Level 2 classification. In other instances, the underlying investments may comprise less liquid funds or assets, resulting in Level 3 classification.
Dividends and interest receivable — Dividends and interest receivable included in plan assets are also required to be recorded at fair value. Given the short-term nature of these assets, reporting entities generally assert that the carrying amounts of these items approximate their fair values. A reporting entity that includes these assets in the fair value hierarchy should not classify these assets as Level 1 as there are no quoted prices in active markets. A reporting entity would need to assess the observability of inputs to determine whether the assets should be reported as Level 2 or Level 3. Alternatively, some reporting entities present these items as adjustments to reconcile the fair value hierarchy to the fair value of plan assets.
Question FSP 13-4
What should the Level 3 asset reconciliation start with -- the fair value estimates reported in the prior year financial statements or the revised amounts based on any final valuations received after those financial statements were issued?
Many reporting entities apply a roll forward technique to estimate the year-end fair values of alternative investments (e.g., hedge funds and private equity funds) because valuations are difficult to obtain in a timely manner for year-end reporting. In these instances, reporting entities typically develop a best estimate using asset values at a period earlier than the year-end measurement date and make adjustments to roll forward the asset values to year-end. The year-end estimates are subsequently "trued-up" when the plan receives the final valuations (e.g., in the second quarter), which are used to measure current year benefit cost and disclosed in the plan financial statements filed with Form 5500.
Assuming the reporting entity has concluded that any subsequent changes to the prior year fair value estimates were "changes in estimates" rather than "corrections of errors" (as defined by ASC 250
, Accounting Changes and Error Corrections
), the change in estimate should be reflected as current period activity (e.g., unrealized gain or loss) in the Level 3 asset reconciliation. In that case, the reconciliation should start with the fair value estimates reported in the prior year financial statements.
Question FSP 13-5
How should the Level 3 asset reconciliation present foreign exchange translation and transaction gains and losses?
The effect of foreign currency translation and transaction gains and losses, to the extent they affect the change in the fair value of the Level 3 assets, may be presented as a component of actual return on plan assets for the period, or as a separate line item. If a reporting entity elects to present the foreign exchange amounts as a separate line item in the reconciliation, it is not necessary to disclose the amounts associated with assets sold and assets held at year-end.
Question FSP 13-6
If a pension plan is party to securities lending transactions (i.e., borrower of cash and lender of securities), should the obligation to buy back the securities on loan be included in the fair value disclosures, including the fair value hierarchy disclosure?
Yes. The liability recognized in connection with a securities lending transaction (i.e., to repurchase the securities on loan) is included in the net assets of the plan at fair value. Accordingly, it is appropriate to include the securities lending liability in the fair value disclosures, including the fair value hierarchy disclosure.
Disclosure about significant concentrations of risk
Reporting entities are required to disclose significant concentrations of risk in plan assets. The guidance does not prescribe how a significant concentration should be determined. Each reporting entity should perform a risk assessment of its plan assets to determine whether it has any significant concentrations of risk that require disclosure. Reporting entities should consider concentrations of risk related to asset type, industry, or market.
Other asset disclosures
The guidance requires the following additional asset disclosures:
- If plan assets include securities of the reporting entity or a related party, the amounts and types of securities included in plan assets
- The approximate amount of future annual benefits covered by insurance contracts, including annuity contracts issued by the reporting entity or a related party (upon adoption of ASU 2018-14, this disclosure will no longer be required)
- Any significant transactions between the reporting entity or a related party and the plan during the year (upon adoption of ASU 2018-14, this disclosure will no longer be required)
- If plan assets are expected to be returned to the reporting entity during the next year (or operating cycle, if longer), the amount and timing of any such plan assets (upon adoption of ASU 2018-14, this disclosure will no longer be required)