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Nexia Ebner Stolz

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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