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Slower buildup of pension provisions

Le­gis­la­tors re­spon­ded to in­dus­try pres­sure by pas­sing the Act Im­ple­men­ting the Mort­gage Cre­dit Di­rec­tive and Amen­ding Com­mer­cial Ru­les and chan­ged how pen­sion pro­vi­si­ons are va­lued.

The Ger­man Bun­des­tag ad­op­ted the Act Im­ple­men­ting the Mort­gage Cre­dit Di­rec­tive and Amen­ding Com­mer­cial Ru­les (Ge­setz zur Um­set­zung der Wohn­im­mo­bi­li­en­kre­dit­richt­li­nie und zur Ände­rung han­dels­recht­li­cher Vor­schrif­ten) on Fe­bru­ary 18, 2016, fol­lo­wed by the Bun­des­rat on Fe­bru­ary 26, 2016. The Act was publis­hed in the Fe­deral Law Ga­zette on March 16, 2016, and has now en­te­red into force. Its name would seem to in­di­cate that the new le­gis­la­tion will have no im­pact on busi­nes­ses, but that’s not the case. Le­gis­la­tors have at least par­ti­ally re­spon­ded to pres­sure from in­dus­try and the in­dus­trial as­so­cia­ti­ons and have chan­ged the ru­les for va­luing pen­sion pro­vi­si­ons – in com­mer­cial ba­lance sheets at least.

Slower buildup of pension provisions© Thinkstock

The spe­ci­fic is­sue is that the length of the time pe­riod for de­ter­mi­ning the aver­age mar­ket in­te­rest rate used to va­lue re­ti­re­ment pen­sion ob­li­ga­ti­ons has been in­crea­sed from se­ven to ten years. This ta­kes the on­go­ing low le­vel of in­te­rest ra­tes into ac­count. With a re­si­dual term to ma­tu­rity of 15 years for pen­sion ob­li­ga­ti­ons, using the aver­age mar­ket in­te­rest rate over the past se­ven years would re­sult in an aver­age rate of 3.89%. Using the in­te­rest rate for the last ten years re­sults in a rate of 4.30%, which, as a rule of thumb, would li­kely lead to re­por­ting lo­wer pen­sion pro­vi­si­ons of around 6% un­der com­mer­cial law, alt­hough this de­pends on in­di­vi­dual ca­ses. This will al­low com­pa­nies – at least tem­pora­rily – to take some of the down­ward pres­sure off their an­nual fi­nan­cial state­ments, since pen­sion pro­vi­si­ons will not in­crease as fast. Howe­ver, if in­te­rest ra­tes re­main at their cur­rent le­vel, the pro­blem of a lo­wer aver­age in­te­rest rate with a cor­re­spon­din­gly grea­ter in­crease in pen­sion pro­vi­si­ons will soon re­turn.

The new le­gis­la­tion in­clu­des a pay­out block to keep com­pa­nies from being de­pri­ved of the fi­nan­cial re­sour­ces now avail­able to them as a re­sult of for­ming lo­wer pen­sion pro­vi­si­ons. The dif­fe­rence bet­ween the cash va­lue when ap­ply­ing the se­ven-year and ten-year in­te­rest ra­tes must also be cal­cu­la­ted each year and shown in the ba­lance sheet or the no­tes. It is un­clear in that re­gard whe­ther a pro­vi­sion must be for­med for this or whe­ther it must be ca­pi­ta­li­zed as re­qui­red by sec­tion 268 (8) HGB. The cur­rent wording does not state, eit­her, that in the event of a pro­fit/loss trans­fer agree­ment, the amounts sub­ject to the pay­out block are also bar­red for trans­fer, alt­hough that was most li­kely the le­gis­la­tive in­tent. It is to be ho­ped that le­gis­la­tors will cla­rify this.

In con­trast, the new le­gis­la­tion must cle­arly be ap­plied to an­nual and con­so­li­da­ted fi­nan­cial state­ments when the fis­cal year ends af­ter De­cem­ber 31, 2015, so it ap­plies to 2016 fis­cal years that are ca­len­dar years as well as 2015/2016 fis­cal years that dif­fer from the ca­len­dar year. Howe­ver, the Act of­fers the op­tion of elec­ting early use of the ten-year aver­age in­te­rest rate when de­ter­mi­ning pen­sion pro­vi­si­ons for an­nual or con­so­li­da­ted fi­nan­cial state­ments un­der com­mer­cial law for fis­cal years be­gin­ning af­ter De­cem­ber 31, 2014, and ending be­fore Ja­nu­ary 1, 2016. This the­re­fore in­clu­des fis­cal year 2015 if it is the ca­len­dar year, as well as short fis­cal years in 2015. The op­tion does not ap­ply to an­nual fi­nan­cial state­ments for fis­cal years that are not ca­len­dar years. If early ap­pli­ca­tion is cho­sen, the ent­ire set of ru­les must also be ap­plied, in­clu­ding the pay­out block.

Ac­cor­ding to back­ground ma­te­ri­als on the Act, the op­tion to ap­ply the new ru­les will be avail­able in fis­cal year 2015 only to the ex­tent that an­nual fi­nan­cial state­ments have not been au­di­ted and ap­pro­ved. Howe­ver, that li­mi­ta­tion is not re­flec­ted in the wording of the Act, so in our view con­trary pas­sa­ges in the state­ment of le­gis­la­tive in­tent are not li­kely to change any­thing. Me­dium-si­zed and large cor­po­ra­ti­ons that elect early ap­pli­ca­tion of the new ru­les must in­clude a state­ment to that ef­fect in their no­tes.

The new com­mer­cial law pro­vi­si­ons have no ef­fect on the cal­cu­la­tion of pen­sion pro­vi­si­ons for tax pur­po­ses. An in­te­rest rate of 6 per­cent must still be used, which is com­ple­tely out of line with rea­lity gi­ven the cur­rent le­vel of in­te­rest ra­tes. For that re­ason, pen­sion pro­vi­si­ons in tax ba­lance sheets will be much lo­wer and may need to be shown as de­fer­red tax as­sets in the com­mer­cial ba­lance sheet. Once again le­gis­la­tors are turning a deaf ear to in­dus­try’s ju­sti­fied re­quests for more rea­listic ta­xa­tion.

Gi­ven the enor­mity of the re­ti­re­ment pen­sion ob­li­ga­ti­ons that com­pa­nies ope­ra­ting in Ger­many are re­qui­red to re­port in their ba­lance sheets, the change in the re­qui­re­ments un­der com­mer­cial law is still wel­come, even though the so­lu­tion that has been ad­op­ted only par­ti­ally ta­kes into ac­count the ve­he­ment ap­peals by in­dus­try and the trade as­so­cia­ti­ons for an in­crease in the re­le­vant re­fe­rence pe­riod from se­ven to ten years. It re­mains to be seen whe­ther a si­mi­lar dis­cus­sion will be ne­cessary in th­ree years ba­sed on fu­ture in­te­rest trends.

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