[Federal Register Volume 65, Number 194 (Thursday, October 5, 2000)]
[Proposed Rules]
[Pages 59503-59548]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 00-24801]



[[Page 59503]]

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Part II





Office of Management and Budget





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Office of Federal Procurement Policy



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48 CFR Part 9904



Cost Accounting Standards Board; Accounting for the Costs of Post-
Retirement Benefit Plans Sponsored by Government Contractors; Proposed 
Rule

Federal Register / Vol. 65 , No. 194 / Thursday, October 5, 2000 / 
Proposed Rules

[[Page 59504]]


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OFFICE OF MANAGEMENT AND BUDGET

Office of Federal Procurement Policy

48 CFR Part 9904


Cost Accounting Standards Board; Accounting for the Costs of 
Post-Retirement Benefit Plans Sponsored by Government Contractors

AGENCY: Cost Accounting Standards Board, Office of Federal Procurement 
Policy, OMB.

ACTION: Advance notice of proposed rulemaking.

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SUMMARY: The Office of Federal Procurement Policy, Cost Accounting 
Standards Board (CASB), invites public comments on a proposed Cost 
Accounting Standard (CAS) on the costs of post-retirement benefit plans 
to be recognized as contract cost under Government cost-based contracts 
and subcontracts. This is a new Standard that would directly address 
the costs of post-retirement benefit plans for the first time in 
detail. The proposed Standard provides criteria for measuring the costs 
of post-retirement benefit plans, assigning the measured costs to cost 
accounting periods, and allocating the assigned costs to segments of an 
organization. The allocation of a segment's assigned post-retirement 
benefit costs to contracts and subcontracts is addressed in other 
existing Standards. The proposed Standard also provides for the 
adjustment of post-retirement benefit costs for the effect of a 
curtailment of a post-retirement benefit plan, a settlement of a post-
retirement benefit obligation, a granting of termination benefits, a 
termination of a post-retirement benefit plan, or a segment closing.

DATES: Comments must be in writing and must be received by December 19, 
2000.

ADDRESSES: Comments regarding this Advance Notice of Proposed 
Rulemaking should be addressed to Mr. Eric Shipley, Project Director, 
Cost Accounting Standards Board, Office of Federal Procurement Policy, 
725 17th Street, NW, Room 9013, Washington, DC 20503, Attn: CASB Docket 
No. 96-02A. Please include an electronic copy of your comments in a 
format readable by MS Word.

FOR FURTHER INFORMATION CONTACT: Eric Shipley, Project Director, 
(telephone: 410-786-6381 or e-mail: EShipley@hcfa.gov) or Rein Abel, 
Director of Research, Cost Accounting Standards Board (telephone: 202-
395-3254).

SUPPLEMENTARY INFORMATION:

A. Regulatory Process

    The Cost Accounting Standards Board's rules, regulations and 
Standards are codified at 48 CFR Chapter 99. Section 26(g)(1) of the 
Office of Federal Procurement Policy Act, 41 U.S.C. 422(g)(1), requires 
that the Board, prior to the establishment of any new or revised Cost 
Accounting Standard, complete a prescribed rulemaking process. The 
process generally consists of the following four steps:
    1. Consult with interested persons concerning the advantages, 
disadvantages and improvements anticipated in the pricing and 
administration of Government contracts as a result of the adoption of a 
proposed Standard (e.g., promulgation of a Staff Discussion Paper.)
    2. Promulgate an Advance Notice of Proposed Rulemaking (ANPRM).
    3. Promulgate a Notice of Proposed Rulemaking (NPRM).
    4. Promulgate a Final Rule.
    This ANPRM is issued by the Board in accordance with the 
requirements of 41 U.S.C. 422(g)(1)(B) and (C) and is step two of the 
four-step process.

B. Background and Summary

Prior Promulgations

    Post-retirement benefit plans have existed for many years, 
sometimes as an adjunct to a company's pension plan, but they generally 
received little attention until the Financial Accounting Standards 
Board (FASB) decided to examine the potential liabilities and costs of 
these plans and ultimately issued Statement No. 106, ``Employers' 
Accounting for Post-Retirement Benefits Other Than Pensions,'' (SFAS 
106) in December of 1990. The adoption of SFAS 106 had the effect of 
exposing the substantial unfunded liabilities associated with post-
retirement benefit plans.
    The Cost Accounting Standards Board has received numerous public 
comments recommending that it establish a case concerning the 
measurement, assignment, and allocation of the costs of post-retirement 
benefit plans. These letters came from Federal Government agencies, 
Government contractors, law firms, trade associations and other 
respondents. The Board recognized the need to establish a case 
addressing contract cost accounting issues related to post-retirement 
benefit plans, but because of the similarities between post-retirement 
benefit plans and more traditional pension plans, it was decided to 
defer commencement of this case until the pension case was completed. 
The pension case was completed when the amendments to Cost Accounting 
Standards 9904.412 and 9904.413 were published as a final rule on March 
30, 1995 (60 FR 16534). At its February 24, 1995 meeting, the CAS Board 
directed the staff to begin work on a Staff Discussion Paper addressing 
the accounting treatment of costs of post-retirement benefit plans.
    As part of the development of the Staff Discussion Paper, the staff 
solicited preliminary comments from certain interested and 
knowledgeable organizations and individuals from both the procuring 
agencies and contractor communities. The staff also sought comments 
from organizations and individuals from the accounting, actuarial, and 
legal professions. The staff asked for assistance in identifying 
existing guidance and operational practices that should be 
investigated. These comments provided important information and ideas 
that were incorporated into the Staff Discussion Paper.
    The Board made available on September 20, 1996, (61 FR 49533), a 
Staff Discussion Paper, Post-Retirement Benefit Plans Other Than 
Pension Plans Sponsored by Government Contractors, identifying the cost 
accounting issues related to post-retirement benefit plans. The Staff 
Discussion Paper identified major topics for consideration by the Board 
in its deliberations concerning the possible promulgation of an 
Interpretation, an amendment to existing Standards, or a new Standard 
regarding post-retirement benefit costs. The Staff Discussion Paper 
neither advocated nor assumed any position regarding the accounting 
treatment of post-retirement benefit costs. Rather, the Staff 
Discussion Paper explored many different approaches in depth so that 
the Board would have an opportunity to fully consider alternative 
treatments for costs of post-retirement benefit plans.
    As the Board and its staff analyzed the comments and other 
information submitted for consideration, it became apparent that many 
commenters had strongly held opposing positions regarding the firmness 
of the SFAS 106 liability and the role, if any, that funding should 
play. To better understand these opposing positions, and hopefully to 
be able to reconcile these positions, on January 12, 1999 the Board 
sent a letter to all the respondents to the Staff Discussion Paper. 
This letter was also made widely available for public comment on 
February 18, 1999 (64 FR 8141).

[[Page 59505]]

Public Comments

    The Board received eighteen (18) sets of public comments in 
response to the Staff Discussion Paper. These comments came from 
contractors, Government agencies, professional associations, actuarial 
firms, and individuals. These public comments are briefly summarized as 
follows:

    Most respondents did not favor the promulgation of a new 
Standard and believed that the Board could adequately address post-
retirement benefit costs through amendments to CAS 9904.412 and 
9904.413. A few respondents expressed the belief that the 
measurement, assignment, and allocation of post-retirement benefit 
costs were complex and technical subjects and recommended that the 
Board address post-retirement benefit costs in a comprehensive 
manner.
    The respondents almost universally agreed that accrual 
accounting following the provisions of SFAS 106 was the most 
appropriate basis for measuring and assigning the costs of a post-
retirement benefit plan that created a firm liability. They stated 
that the pay-as-you-go cost method (cash basis accounting) was 
appropriate if there was not a firm; i.e., compellable, liability to 
provide the promised benefits. However, there was no general 
agreement as to the criteria for ascertaining the firmness of a 
plan's liability; especially as to whether funding of the cost 
should serve as a criterion. There was agreement that if funding was 
to be a prerequisite for accrual accounting, then any rule or 
amendments should provide sufficient flexibility in the choice of 
accounting methods to permit contractors to align their cost 
accounting practice with their funding opportunities.
    Respondents recommended that the Board address special events 
such as a curtailment of benefits or the termination of the post-
retirement benefit plan. Many commenters suggested that a funding 
requirement may not be necessary if the Board provided adequate 
safeguards in case of a plan termination or segment closing. Some 
respondents asked that the segment closing provisions for post-
retirement benefit costs be explicitly coordinated with the segment 
closing provisions of paragraph 9904.413-50(c)(12) regarding 
pensions.

    The Board also received ten (10) sets of comments in response to 
the Board's letter of January 12, 1999 which can be summarized as 
follows:

    The comments from contractors and other industry representatives 
reiterated their belief that funding was not necessary to 
substantiate the liability. Several of these respondents opined that 
funding did not improve the firmness of the liability. Instead, 
these respondents expressed the belief that the terms of the post-
retirement benefit plan determined the firmness of the liability.
    Most commenters, including the Office of the Under Secretary of 
Defense (OUSD), argued that funding was an allowability; i.e., 
procurement policy issue, and not an accounting issue. The other two 
Government respondents expressed a strong belief that funding 
demonstrated the contractor's intent to continue the post-retirement 
benefit plan and to be financially prepared to provide the promised 
benefits.

    The Board also reviewed proposed amendments to CAS 9904.412 and 
9904.413 addressing post-retirement benefit costs which were 
voluntarily submitted by the Council of Defense and Space Industry 
Associations (CODSIA), as well as comments submitted by the American 
Bar Association's (ABA) Public Contract Law Section regarding CODSIA's 
proposal.
    The Board reviewed information from the Towers Perrin surveys of 
``SFAS 87 [Statement 87 of the Financial Accounting Standards Board] 
and SFAS 106 Annual Report Footnote Data'' for years 1995, 1996, 1997, 
and 1998 which was extracted from the corporate financial statements of 
the ``Fortune Top 100'' companies. The Board notes three (3) major 
observations that one can generally conclude from this survey 
information that influenced the development of this proposed Standard.
    1. For pensions, the plan assets generally equaled or exceeded the 
liability for projected benefits, as measured by the SFAS 87 projected 
benefit obligation. On the other hand, only slightly over one-half (\1/
2\) \1\ of the companies included in the survey reported any plan 
assets for their post-retirement benefits plans. For companies that did 
report plan assets, for 1998 the average plan assets only covered 
around one-third (\1/3\) of the average SFAS 106 accumulated post-
retirement benefit obligation.
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    \1\ 82 companies reported pension plan assets in their SFAS 87 
footnotes and 45 companies reported post-retirement benefit plan 
assets in their SFAS 106 footnotes.
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    2. While the average SFAS 106 accumulated post-retirement benefit 
obligation for these Fortune 100 companies is less than one-third \2\ 
of the average SFAS 87 projected benefit obligation for pensions, at 
$2,312.5 million for 1998, the average post-retirement benefit 
obligation is still quite large.
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    \2\ The average Projected Benefit Obligation reported in the 
SFAS 87 footnotes was $7,170.6 million.
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    3. The 1998 average net periodic cost for post-retirement benefit 
plans ($150.7 million) exceeds the average net periodic cost for 
pension plans ($58.4 million).
    This proposed Standard is based upon the continuing research 
performed by the staff of the Cost Accounting Standards Board and the 
public comments received in response to the Staff Discussion Paper and 
the Board's January 12, 1999 letter.
    The various comments and proposals are discussed in greater detail 
under Section E, Public Comments. The Board and its staff would like to 
thank all the organizations and individuals who provided comments and 
information in response to the Staff Discussion Paper and the Board's 
January 12, 1999 letter.

Conclusions

    While accounting for post-retirement benefits has some similarities 
with pension accounting, the Board has concluded that post-retirement 
benefit costs should be treated distinctly from pension costs. The 
Board proposes to address the accounting treatment of post-retirement 
benefit costs through the promulgation of a new Cost Accounting 
Standard rather than through an Interpretation of or an amendment to an 
existing Standard or Standards. Post-retirement benefits, pensions, and 
insurance are each intrinsically complex and technical subjects. The 
Board has determined that it would be extremely difficult, if not 
impossible, to effectively and efficiently interleave coverage for 
post-retirement benefit costs into either the pension or insurance 
Standards.
    The Board believes that accrual accounting is the appropriate 
method for determining the costs of post-retirement benefit plans that 
create a sufficiently firm liability for contract cost recognition. The 
Board has concluded that SFAS 106 with some modifications and 
restrictions provides adequate and appropriate accounting guidance 
regarding the measurement and period assignment of post-retirement 
benefit costs when accrual accounting is utilized. In order to 
implement a definite determination of a firm liability, the Board 
decided that the annual accrual of the post-retirement benefit cost 
must be compared to the nonforfeitable portion of the accumulated post-
retirement benefit obligation. Post-retirement benefit plans that do 
not create a firm liability for contract costing purposes must be 
accounted for using the pay-as-you-go cost method.
    The Board has also determined that specific guidance is required 
regarding the allocation of post-retirement benefit cost to segments. 
Specifically, the Board believes criteria are necessary regarding when 
the post-retirement benefit costs of a segment should be based on a 
general allocation or a separate calculation. Furthermore, because the 
current and future costs of post-retirement benefit plans are dependent 
upon the costs accrued in prior periods and the funding of such prior 
accruals, the Board finds it necessary to provide for the accounting 
treatment for assets

[[Page 59506]]

and for the accumulation and reporting of unfunded accruals at the 
segment level.
    The Board has concluded that the SFAS 106 provisions on benefit 
curtailments, liability settlements, and the granting of special 
termination benefits are inadequate for contract costing purposes and 
additional guidance is needed. The Board further concluded that 
specific guidance is needed to address the appropriate contract cost 
accounting when a segment, as defined by paragraph 9904.403-30(a)(4), 
is abandoned, sold, or otherwise closed.

Benefits

    The Board's proposal will eliminate the existing confusion as to 
which Standard, if any, addresses the contract cost accounting for 
post-retirement benefits. There have been various opinions and theories 
as to the proper basis for contract cost accounting for post-retirement 
benefit plans. Various parties have advocated using either the pension 
Standards, CAS 9904.412 and 9904.413, or the insurance Standard, Cost 
Accounting Standard 9904.416. Others have expressed a belief that no 
existing Cost Accounting Standard addresses such costs. Many parties 
have argued that Generally Accepted Accounting Principles (GAAP) as 
evidenced by SFAS 106 should govern the accounting of post-retirement 
benefit costs, and in fact, paragraph 31.205-6(o) of the Federal 
Acquisition Regulation (FAR 31.205-6(o)) specifies SFAS 106 as the 
basis for accrual accounting. A few have even suggested that the tax 
accounting rules for Internal Revenue Code (IRC) section 501(c) (26 
U.S.C. 501(c)) trusts might be an appropriate basis. The Board proposes 
to clarify the accounting treatment of post-retirement benefit costs 
for Government contract costing purposes by specifying SFAS 106 as the 
basis for measurement and period assignment when the proposed criteria 
for accrual accounting are satisfied.
    The Board acknowledges that the accounting for post-retirement 
benefit costs is a complex subject. When accrual accounting is used, 
the reliance on the methods and techniques of SFAS 106 for measurement 
and period assignment eases the burden of complying with this proposed 
Standard because contractors will be able to use much of the same data 
and methods used for financial accounting purposes. If use of the pay-
as-you-go cost method is required, the determination of costs will be 
based on actual payments of benefits. Therefore, there should be 
minimal additional cost associated with complying with the Standard for 
the plan as a whole, although certain additional effort may be 
necessary to comply with the proposed provisions regarding the 
accounting for costs of segments. Furthermore, the proposed criteria 
regarding when to use accrual accounting or the pay-as-you-go cost 
method will eliminate disputes and will increase uniformity among 
contractors.
    In the Board's judgement, a Standard is needed to increase 
consistency of results between accounting periods. Various provisions 
of SFAS 106 permit contractors to select between full immediate 
recognition, amortization, and in the case of annual gains and losses, 
delayed recognition of the various components of post-retirement 
benefit cost. The Standard being proposed today generally limits the 
contractor's cost recognition to the amortization method. Besides 
enhancing uniformity between accounting periods, dampening volatility 
through amortization will increase predictability when cost data is 
used to price contracts covering future periods.
    The provisions of SFAS 106 and GAAP generally do not address the 
allocation of costs to segments of the contractor. The additional 
guidance being proposed addresses this point. While SFAS 106 addresses 
how major changes in the post-retirement benefit plan; i.e., benefit 
curtailments, liability settlements, and granting special termination 
benefits, are to be reported within the results of operations for 
financial reporting purpose, SFAS 106 does not address how such results 
are allocated to cost objectives. This proposal provides guidance on 
how the costs resulting from such major changes in post-retirement 
benefit plans are to be allocated and recognized for Government 
contract costing purposes. This proposed Standard also provides for a 
final settlement based on the proposed measure of the firm liability 
when the contracting relationship between the Government and a segment 
ends; this is not addressed by SFAS 106.
    The proposed Standard also delineates how post-retirement benefit 
assets and liabilities are to be accounted for when a segment is 
divided or combined with another segment as part of an internal 
reorganization, corporate merger, or when part of the segment is sold 
or ownership is transferred. This delineation will enable the parties 
to the sale or transfer to better determine the value of the segment's 
post-retirement benefit plan assets and liabilities maintained for 
Government contracting purposes.
    In summary, the Board believes that the consistency with financial 
accounting, specificity as to which benefits are recognized on an 
accrual or cash accounting basis, and the guidance on allocation of 
cost to segments will enhance the cost proposal, price negotiation, 
contract administration and audit processes. The benefits of such 
enhancements should be substantial and should greatly outweigh any 
added costs.

Summary Description of Proposed Standard

    The proposed Standard is divided into six subsections which address 
(a) the recognition and identification of post-retirement benefit 
costs, (b) the measurement and period assignment of post-retirement 
benefit costs, (c) the allocation of post-retirement benefit costs to 
segments, (d) the allocation of post-retirement benefit costs from 
segments to the intermediate and final cost objectives of a segment, 
(e) the adjustment of the contractor's records when there is a 
curtailment, settlement, or granting of special termination benefits, 
and (f) the adjustment of contract pricing when a segment is closed. 
Once it is determined under subsection (a) whether the cost of a 
particular post-retirement benefit plan is to be accounted for using 
accrual accounting or the pay-as-you-go cost method, the other sections 
present the relevant provisions in the following order of 
applicability: all plans, plans using the pay-as-you-go cost method, 
defined-contribution plans using accrual accounting, and finally, 
defined-benefit plans using accrual accounting. In this way, 
readability and the ability to reference is enhanced. For example, 
contractors using the more straightforward pay-as-you-go cost method do 
not need to search the entire subsection for applicable guidance.
1. Definitions
    Proposed subsection 9904.419-30(a) includes several new definitions 
of terms that are unique to post-retirement benefit plans. These new 
definitions include modified SFAS 106 definitions and selected 
unmodified SFAS 106 definitions that are frequently used in the 
proposed Standard. Terms that are applicable to post-retirement 
benefits plans, but which have previously been defined for pensions, 
have been modified (usually substituting ``post-retirement benefit'' 
for ``pension'') in subsection 9904.419-30(b) for purposes of this 
proposed rule. Subsection (c) incorporates all other SFAS 106 
definitions into the proposed Standard.

[[Page 59507]]

2. Recognition of Post-Retirement Benefit Costs
    (a) Criteria for accrual accounting. For SFAS 106 purposes, the 
post-retirement benefit promise arises from the written documents or 
established practices that comprise the ``substantive plan.'' 
Subsection 9904.419-40(a) sets forth criteria for determining when the 
liability for the post-retirement benefit is sufficiently estimable, 
contractually obligated (compellable), and reasonably foreseeable to 
warrant accrual accounting for government contract accounting purposes. 
The proposed criteria require that the promise of future benefits be: 
(i) Documented in writing, (ii) communicated to employees, (iii) 
nonforfeitable once earned, and (iv) legally enforceable.
    The proposed Standard's requirement that the benefit promise be 
formalized in writing is consistent with similar CAS provisions 
regarding pension, insurance, and deferred compensation costs. The 
pension and insurance Standards require that costs of employee benefits 
contingent on post-retirement events, such as mortality and inflation, 
be actuarially determined and funded. This proposed Standard, like Cost 
Accounting Standard 9904.415, which addresses the accounting for costs 
of deferred compensation, does not require funding but instead requires 
that the contractor have a duty to pay the benefit earned by the 
employee which the contractor cannot unilaterally avoid. As with the 
pension and insurance Standards, if the post-retirement benefit plan 
fails to meet the specified criteria for accrual accounting, then the 
contractor must use the pay-as-you-go cost method.
    (b) Identification of the post-retirement benefit plan. Some 
companies that have chosen to fund all or a portion of their post-
retirement liability use a combination of investment vehicles to 
achieve tax-efficient funding of post-retirement benefits. Companies 
sometimes find they must sponsor somewhat different retiree insurance 
plans for different plants, states, or classes of employees in order to 
provide an overall general post-retirement benefit promise. Thus, their 
post-retirement benefit program is frequently not a single benefit 
plan, but several different benefit promises to different groups of 
employees.
    To accommodate such pragmatic concerns associated with sponsoring 
and administering a post-retirement benefit program, the proposal being 
published today permits contractors to combine different investment 
vehicles and trust arrangements when identifying the assets of a post-
retirement benefit plan. Similarly, the proposed Standard also provides 
that different benefits provided to the same group of employees, or the 
same benefit provided to different groups of employees may be 
aggregated for Government contract accounting purposes. Conversely, 
different benefits within a single overall plan may be accounted for 
separately.
    Consistent with the position taken by the FASB, the proposed 
paragraph 9904.419-50(a)(7) explicitly covers separate accounts for 
medical benefits that are a part of a qualified pension plan and trust 
(IRC section 401(h) accounts) in this proposed Standard on post-
retirement benefits. These medical benefit accounts, which are 
established, accounted for, and funded distinctly from the retirement 
income benefit of a qualified pension plan, are not an ``integral part 
of a pension plan.''
3. Measurement and Assignment of Post-Retirement Benefit Costs
    (a) Pay-as-you-go cost method. The proposed Standard provides that 
for plans using the pay-as-you-go cost method, the assignable cost is 
measured by an amount equal to the payments made to or on behalf of the 
plan beneficiaries, providers, and insurers for benefits incurred 
during the current period, except that any amount paid to settle or 
terminally fund a liability for current and future benefits must be 
amortized over fifteen (15) years. Because the fifteen-year period 
represents an approximation to the life expectancy of a newly retired 
employee, this provision is consistent with paragraph 52 of SFAS 106 
which requires the cost to be spread over the life expectancy of the 
retirees if the obligation is primarily attributable to such retirees. 
The proposed Standard is also consistent with the analogous provisions 
for pensions and insurance which are found at 9904.412-40(b)(3)(ii) and 
9904.416-50(a)(1)(v)(C), respectively. The proposed transition 
provisions permit the continued use of the terminal funding method 
(without amortization) for contractors who have an established practice 
of terminal funding prior to this proposed Standard becoming 
applicable.
    When describing the post-retirement benefit payments considered 
under the pay-as-you-go cost method, the proposed Standard augments the 
CAS 9904.412 definition of the ``pay-as-you-go cost method'' by adding 
the phrase ``or on behalf of'' because post-retirement benefit payments 
are often made directly to third parties, e.g., health care providers. 
The proposed Standard also refers to the ``net amount'' of the benefit 
paid to indicate that the cost is based on the contractor's share of 
the post-retirement benefit after considering refunds, co-payments, 
deductibles, and amounts payable by unrelated third parties, such as 
Medicare and Medicaid. This use of ``net amount'' is consistent with 
the SFAS 106 provisions relating to ``incurred claim cost (by age)'' 
and ``net incurred claim cost (by age).'' This concept is also 
consistent with subparagraphs 9904.416-50(a)(1)(i) and (a)(1)(vi) of 
the insurance Standard, CAS 9904.416.
    (b) Accrual accounting for defined-contribution plans. For defined-
contribution plans using accrual accounting, the proposed Standard 
follows paragraph 104 of SFAS 106 and measures the assignable cost as 
the annual amount paid to or otherwise distributed to individual 
participant accounts. However, in contrast to paragraph 105 of SFAS 
106, the proposed Standard does not permit the pre-retirement accrual 
of contributions expected to be made after retirement. Rather, 
contributions made after retirement are recognized in the period when 
the contribution is required under the terms of the plan. This proposed 
provision, paragraph 9904.419-40(b)(3), is generally consistent with 
paragraph 9904.412-40(a)(2) of the pension Standard.
    (c) Accrual accounting for defined-benefit plans. For post-
retirement benefit plans that meet the proposed prerequisites for 
accrual accounting, the Standard being proposed today accepts the 
actuarial cost method and actuarial assumptions used by the contractor 
for financial accounting purposes under SFAS 106. The assignable cost 
is based on the same six (6) components used by SFAS 106, namely: 
service cost, interest cost, actual return on assets, amortization of 
prior service costs, amortization of gains and losses, and recognition 
of the transition obligation.\3\ However, the Board proposes to modify 
or restrict the SFAS 106 measurement and assignment of some components 
as explained below. Therefore, the values of these components used for 
contract costing purposes may differ from the values used for financial 
accounting purposes. Because the proposed measurement and assignment 
methods and techniques follow SFAS 106 rather than CAS 9904.412, there 
is no floor placed on the measurement and assignment of the period 
cost; e.g., the

[[Page 59508]]

assignable post-retirement benefit cost could be a negative amount.
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    \3\ Throughout this preamble, the term ``transition obligation'' 
is used to refer to either a transition obligation or a transition 
asset.
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    Because contractors may wish to maintain the right to curtail or 
terminate the benefits for employees who have not yet reached full 
eligibility, the Board has decided that it would be inappropriate for 
Government contract costing purposes for the accumulated value of 
accruals, whether funded or unfunded, to exceed the unavoidable 
liability for post-retirement benefits. The proposed rules include a 
ceiling on the accrual cost recognition equal to the benefits paid 
during the period plus the unfunded portion of the accumulated post-
retirement benefit obligation for benefits that cannot be forfeited.\4\ 
The Board notes that the greater the portion of forfeitable benefits 
included in the accumulated post-retirement benefit obligation, the 
more restrictive will be the effect of the ceiling.
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    \4\ Hereafter, the accumulated post-retirement benefit 
obligation for benefits that cannot be forfeited is referred to as 
the ``nonforfeitable post-retirement benefit obligation.''
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    (i) Service cost, amortization of prior service costs, and interest 
components. The Board proposes to accept the SFAS 106 provisions 
regarding the measurement and assignment of the service cost and the 
amortization of prior service cost components of post-retirement 
benefit cost but restricts that measurement to the written terms of the 
post-retirement benefit plan rather than the ``substantive plan.'' 
Otherwise, there are no modifications or restrictions to the SFAS 106 
measurement and assignment provisions for these three components of 
post-retirement benefit cost.
    (ii) Return on assets component and associated asset values. The 
Board proposes to accept the same measurement of the fair value of 
assets and the market-related value of assets used for financial 
accounting. The terminology of the proposed Standard follows that of 
SFAS 106 and differs from that used for pensions in CAS 9904.412 and 
9904.413. The CAS 9904.412 term ``market value of plan assets'' is 
analogous to the term ``fair value of plan assets'' as used in SFAS 106 
and this proposed Standard. The term ``actuarial value of assets'' used 
in the Employees' Retirement Income Security Act of 1974 (ERISA) and 
CAS 9904.412 is defined similarly to the ``market-related value of plan 
assets'' as used by SFAS 106 and this proposed Standard. For pensions 
the actuarial value of assets not only affects the recognition of gains 
and losses, but also is used to determine the unfunded actuarial 
liability. However, the market-related value of plan assets is only 
used to measure the annual asset gain or loss under SFAS 106 and this 
proposal. In SFAS 106 and in this proposed Standard, the fair value of 
assets is used to determine the unfunded accumulated post-retirement 
benefit obligation.
    SFAS 106 is not concerned with the sources of any net accumulated 
accrued (unfunded) or prepaid post-retirement benefit cost. By 
contrast, the Board proposes that the contractor record and track each 
portion of unfunded accrual and prepayment credit. Consistent with CAS 
9904.412, the accumulated values of unfunded accruals and prepayment 
credits are carried forward and adjusted for interest. The accumulated 
value of unfunded accruals is treated as if it were a plan asset and 
the accumulated value of prepayment credits is treated as a reduction 
to assets. The proposed Standard requires that the actual return on 
assets component be increased by an interest equivalent on the 
accumulated value of unfunded accruals to reflect that assets would 
have generated earnings had the full accrual amount been funded. 
Similarly, the actual return on assets component is reduced by an 
interest equivalent on the accumulated value of prepayment credits to 
reflect the additional earnings generated by any funding in excess of 
the annual accrual.
    The Board has decided that the interest rate determined by the 
Secretary of the Treasury pursuant to Public Law 92-41, 85 Stat. 97, 
shall be used to measure the interest equivalent on the accumulated 
values of unfunded accruals and prepayment credits. The Board notes 
that for unfunded plans, there are no assets (no investments) and the 
contractor does not need to make an assumption concerning the long-term 
expected rate of return. In other cases, the amount of plan assets may 
be so small that reliance on this assumption may be inappropriate for 
Government contracting purposes. Also, use of the Treasury rate is 
consistent with the other Standards.
    (iii) Annual gain or loss component. In order to more closely 
assign costs to cost accounting periods in which they arise, the 
proposed Standard requires the amortization over the average remaining 
service period of active participants \5\ of the full amount of the 
annual gain or loss for a cost accounting period, that is, gains and 
losses other than gains and losses attributable to curtailments, 
settlements, or special termination benefits. While SFAS 106 permits 
such amortization, SFAS 106 only requires amortization of that part of 
the cumulative net gain or loss that falls outside a corridor defined 
by 10% of the greater of the accumulated post-retirement benefit 
obligation or the market-related value of plan assets. Under SFAS 106, 
recognition of any gain or loss within that corridor may be delayed 
indefinitely. Such delayed recognition is not permitted by this 
proposed Standard.
---------------------------------------------------------------------------

    \5\ If the plan population is composed primarily of retirees, 
the gain or loss is spread over the life expectancies of the 
retirees. (See paragraphs 52 and 112 of SFAS 106.)
---------------------------------------------------------------------------

    (iv) Amortization of the transition obligation component. This 
proposed Standard restricts the measurement and period assignment of 
the transition obligation to the delayed recognition method described 
in paragraphs 112 and 113 of SFAS 106. The proposed Standard provides 
that when a contractor first becomes subject to the proposed Standard, 
the contractor will base its period costs on the annual amortization 
installment for the unrecognized portion of the transition obligation 
already established for financial accounting purposes. The proposed 
transition provisions address the recognition of any portion of the 
SFAS 106 transition obligation that was recognized for financial 
statement purposes during prior periods for those contractors that used 
the pay-as-you-go cost method for Government contract costing purposes.
    (d) Post-retirement benefits provided through insurance contracts. 
If the contractor provides all or a portion of the post-retirement 
benefit by purchasing insurance, the Board proposes that the contract 
accounting cost be determined by the net premium paid for such 
insurance and that the measurement, assignment to cost accounting 
periods, and allocation of such premium be subject to the provisions of 
CAS 416. However, if the insurance is acquired from a captive insurer, 
then the cost of the post-retirement benefit remains subject to the 
provisions of this proposed Standard. Because the SFAS 106 definition 
of ``captive insurer'' differs from the term as used in the FAR, a 
potential for disputes exists. In addition, the proposed definition 
clarifies that affiliates, related organizations and entities that are 
``owned by or under the control of'' the contractor are also included 
so that the proposed Standard incorporates the phrase found at FAR 
31.201-19(c) which is already in use for Government contracting 
purposes. Consistent with SFAS 106, this proposed Standard permits 
benefits provided by purchased insurance to be accounted for separately 
from any portion of a plan's benefits that are not

[[Page 59509]]

provided through such insurance. The Board notes that this treatment 
contrasts with the analogous provision in the pension Standard, 
paragraph 9904.412-50(a)(6), which specifies the accounting for so-
called ``split-funded'' plans.
4. Allocation of Post-Retirement Benefit Costs to Segments
    The proposed Standard applies to all post-retirement benefit plans 
regardless of whether accrual accounting or the pay-as-you-go cost 
method is used. It embraces the general precepts of paragraph 9904.403-
40(b)(4) dealing with the allocation of central payments and accruals 
to segments. However, this proposed Standard provides specific criteria 
regarding the allocation of post-retirement benefit costs to 
intermediate home offices and segments.\6\ The contractor must allocate 
a portion of the total post-retirement plan cost to each segment, 
including home offices, either by use of an appropriate allocation base 
(i.e., indirect allocation) or, if certain conditions exist, by use of 
post-retirement benefit costs separately computed (i.e., direct 
allocation) at the segment level.
---------------------------------------------------------------------------

    \6\ Throughout the discussions of allocations to segments and to 
intermediate and final cost objectives, the term ``segment'' is used 
to refer to a segment, home office, or intermediate home office.
---------------------------------------------------------------------------

    Consistent with the pension and insurance Standards, the Board 
proposes that the total post-retirement benefit plan cost be allocated 
to intermediate home offices and segments based upon the factors used 
to determine the costs. For plans that are accounted for using the pay-
as-you-go cost method, the cost is to be allocated only to segments and 
intermediate home offices that can be identified with the post-
retirement benefit plan (e.g., those segments having inactive 
participants who are eligible to receive benefits under that plan). For 
defined-benefit plans using accrual accounting, the proposed Standard 
requires that both active and inactive plan participants of the segment 
or intermediate home office be included in the allocation base because 
five of the six components of post-retirement benefit cost are 
dependent upon the obligation for both groups.\7\
---------------------------------------------------------------------------

    \7\ The service cost component is only determined for active 
plan participants who are still in the attribution period, i.e., 
prior to the date of full eligibility. A service cost is not 
developed for inactive plan participants.
---------------------------------------------------------------------------

    The criteria requiring separate calculation are similar to those 
found in CAS 9904.413 for pension costs of segments. If actual benefits 
are disproportionately paid to participants of certain segments, the 
proposed Standard requires a separate calculation of the cost for the 
segment instead of an allocation, even for costs determined under the 
pay-as-you-go cost method. An additional criterion for separate 
calculation that looks at the ``cost of benefits'' reflects the fact 
that post-retirement benefit costs may vary significantly due to 
differences in state laws, geographical location, or insurance market.
    Unless the post-retirement benefit cost allocable to a segment is 
separately calculated, the same set of actuarial assumptions is used to 
determine the cost for all segments. Similar to CAS 9904.413, if costs 
are separately calculated, only those assumptions relating to the 
demographic differences of a segment's employees are permitted to be 
different than the assumptions used for other segments. For example, 
the use of a different turnover assumption to reflect the unique 
termination of employment experience of one segment does not permit the 
contractor to use a different pre-retirement mortality assumption 
without evidence that the segment's mortality is materially different 
from the average mortality assumed for the plan as a whole.
    For defined-benefit plans using accrual accounting the proposed 
Standard requires that the tracking of assets and funding at the 
segment level be maintained if costs are separately calculated for the 
segment. This provision increases the visibility and verifiability of 
post-retirement benefit costs that are separately calculated for a 
segment.
    This proposed Standard also requires that the market-related value 
of plan assets be allocated each year in proportion to the fair vale of 
plan assets allocated to the segments. This provision ensures that the 
sum of the market-related value of plan assets for all segments equals 
the total plan's market-related value of assets.
    The proposed provisions regarding transfers of plan participants 
between segments reflect the fact that the accumulated post-retirement 
benefit obligation is determined by and must follow the plan 
participants. Therefore, both the assets that funded the obligation and 
the unfunded portion of the accumulated post-retirement benefit 
obligation follow the participants, so that future contract costs 
better follow the performance of future contracts. The Board notes that 
the exception for immaterial transfers might create a small gain or 
loss because assets and other values are not transferred.
5. Allocation to Intermediate and Final Cost Objectives of the Segment
    Once the post-retirement benefit cost has been measured, assigned 
to a period, and initially allocated to segments and home offices, the 
Board believes that Cost Accounting Standard 9904.403 adequately 
addresses the reallocation from home offices to segments and that Cost 
Accounting Standard 9904.410 and Cost Accounting Standard 9904.418 
fully and adequately address the intra-segment allocation of cost to 
intermediate and final cost objectives.
6. Adjustments for Curtailments, Settlements, and Special Termination 
Benefits
    (a) Defined-contribution plans using accrual accounting. While a 
defined-contribution plan is on-going, any nonvested account balances 
that are forfeited by participants who terminate employment during a 
cost accounting period are typically either reallocated to the other 
participants or used to reduce the contribution (deposit) required 
under the terms of the plan. The Board presumes that such forfeiture 
credits are fairly evenly distributed among periods and therefore no 
undue volatility occurs. However, when a defined-contribution plan is 
terminated, the forfeiture of nonvested account balances could cause an 
inordinately large and non-recurrent credit. In fact, the values of the 
non-vested account balances could revert to the contractor. To prevent 
the disruption to the budgeting process for cost type contracts and the 
forward pricing process for cost-based fixed price contracts, the Board 
proposes that forfeiture credits due to a termination of a defined-
contribution plan using accrual accounting be amortized over 10 years 
so that the credit can flow to costs included in both cost type 
contracts and the forward pricing of other negotiated cost-based 
contracts.
    The Board also proposes that this provision will apply to 
forfeitures that occur whenever the plan participants' rights to become 
vested are eliminated because the right to earn future vesting or 
retirement eligibility service is curtailed or terminated by plan 
amendment or other unilateral action of the contractor.
    The pension Standards do not contain a similar provision because 
qualified pension plans are subject to the vesting requirements of 
ERISA. However, many post-retirement benefit plans are not subject to 
similar vesting standards and the Board believes these provisions are 
necessary to address the significant

[[Page 59510]]

amount of nonvested account balances that might be forfeited.
    (b) Defined-benefit plans using accrual accounting. Consistent with 
the Board's intention to accept the accounting provisions of SFAS 106 
where practicable, the proposed Standard begins by accepting the SFAS 
106 measurement of the adjustment for gains and losses due to benefit 
curtailments, benefit settlements, and granting of special termination 
benefits. SFAS 106 provides that any gain or loss not offset against 
the unrecognized gain or loss, unrecognized transition obligation, or 
unrecognized prior service cost, as appropriate under SFAS 106, will be 
immediately recognized in income. To require an analogous immediate 
recognition for Government contract costing purposes could disrupt the 
budgeting of cost type contracts as well as the forward-pricing process 
for cost-based fixed price contracts. Regardless of whether or not the 
post-retirement plan is terminated, the proposed Standard requires that 
an adjustment be recorded and that the adjustment for the curtailment, 
settlement, or termination benefit gain or loss be amortized over a 
period of 10 years.
7. Adjustments for Segment Closings.
    The Board proposes to adopt the CAS 9904.413 definition of segment 
closing which encompasses three situations: (i) The ownership of the 
segment changes by sale or transfer, (ii) the segment discontinues 
operations or is abandoned, and (iii) the contractor is no longer 
performing or actively seeking government contract work at that 
segment. Based on comments regarding the amendments to the pension 
rule, the Board has modified the CAS 9904.413 definition of segment 
closing to explicitly state that segment mergers or splits within the 
contractor's on-going operations are not considered to be a segment 
closing for purposes of this proposed Standard.
    (a) Pay-as-you-go cost method. When a segment is closed for any of 
the reasons described above, this proposed Standard does not provide 
for any adjustment to current or previously determined post-retirement 
benefit costs for plans that use the pay-as-you-go cost method. The 
post-retirement benefit costs attributable to current and prior periods 
were previously determined by the net amount paid to or on behalf of 
retired employees or their beneficiaries for post-retirement benefits 
incurred during those periods. The measurement of these prior actual 
expenditures is unaltered by the segment closing. These previously 
determined costs include any amortization installments assigned to such 
prior periods for net amounts paid to irrevocably settle an obligation 
for post-retirement benefits.
    The proposed segment closing provisions also require that any 
inactive participants left ``homeless'' (that is, inactive participants 
that are no longer associated with an operational segment) when a 
segment is sold or abandoned must be moved to the intermediate or 
corporate home office to which the closed segment had directly 
reported. In the future the pay-as-you-go costs for these transferred 
inactive participants will be included in the post-retirement benefit 
costs allocated by the closed segment's immediate home office (the 
proximate home office to which the segment had reported.) Likewise the 
amortization of lump sums and other settlements for these inactives 
will continue unabated after being transferred to the closed segment's 
immediate home office. Any Government contracts performed in other 
segments reporting to that home office will receive an allocated 
portion of the post-retirement benefit costs attributable to the 
transferred inactive participants.
    (b) Defined-contribution plans using accrual accounting. When a 
segment is closed for any of the reasons described above, the Board 
proposes that the contractor measure an immediate period adjustment to 
recognize any unrecognized portions of any credits for forfeited 
nonvested account balances due to plan termination or curtailment of 
vesting or retirement eligibility service. Essentially, this provision 
aborts the amortization of these credits because there will be no 
Government contracts in future periods to absorb a share of the credit.
    (c) Defined-benefit plans using accrual accounting. When a segment 
is closed for any of the reasons described above, the Board proposes 
that the contractor measure an immediate period adjustment based upon 
the unavoidable liability for post-retirement benefits. The adjustment 
is measured as the difference between the nonforfeitable post-
retirement benefit obligation and the sum of the plans assets plus the 
accumulated value of unfunded accruals (net of any prepayment credits.)
    Basing the segment closing adjustment on the nonforfeitable post-
retirement benefit obligation may appear to be a fundamental conceptual 
departure from both the original and amended CAS 9904.412 and 9904.413. 
The benefit liability for pension plans generally is subject to the 
stringent controls of ERISA. For post-retirement benefit plans, the 
nonforfeitable post-retirement benefit obligation provides the nearest 
analogue to the ERISA protected liability.
    In addition to the above proposed general rules for segment 
closings, the following points should be noted:
    (i) Massive layoff gains. The Board notes that when a segment 
closes, often there is a sizable termination of employees which was one 
of the original Board's concerns that eventually led to the original 
9904.413-50(c)(12) segment closing provision. For post-retirement 
benefit plans, the effects of any ``abnormal forfeitures'' or massive 
layoff gain will dramatically reduce the liability such that the 
remaining accumulated post-retirement benefit obligation will 
approximate or equal the nonforfeitable post-retirement benefit 
obligation.
    (ii) Sale or other transfer of ownership of a segment. When a 
segment is sold or transferred, the active participants of the segment 
immediately before the sale is effective can be: (i) Transferred with 
the segment and become active employees of the buyer, (ii) transferred 
as active employees to other operational segments of the seller, or 
(iii) terminated and become inactive participants of the seller. When 
analyzing the proposed provision concerning the sale or transfer of a 
segment, the reader should carefully consider the plan participants' 
status in the post-retirement benefit plans of each party to the sale. 
If both parties to the sale sponsor post-retirement benefit plans, the 
segment's employees can be both inactive participants in the seller's 
post-retirement benefit plan and active participants in the buyer's 
plan.
    If only a portion of the operations of a segment is acquired, the 
proposed Standard provides that the selling contractor first divide the 
accounting records for the segment into two groups based upon the 
liability for participants being retained and transferred. Then the 
segment closing adjustment will be determined using the accounting 
records for the participants being transferred to the buyer or 
transferee. This proposed Standard also provides that, when a segment 
is divided into two or more segments as part of a reorganization, the 
assets shall be divided in proportion to the accumulated post-
retirement benefit obligation. This provision is more specific than the 
similar coverage found at 9904.413-50(c)(v) for pension plans.
    If no active employees are retained in the segment, the 
unrecognized transition obligation, prior service cost, gains and 
losses attributed to the remaining inactive participants are moved up 
to the next immediate home office along with the associated fair

[[Page 59511]]

value of plan assets, accumulated value of unfunded accruals and 
accumulated value of prepayment credits. All amortizations continue 
unabated. This amortization of these unrecognized amounts parallels the 
treatment of the liability for future payments to remaining inactives 
under the pay-as-you-go method.
    Unless a segment is sold to a successor-in-interest, the adjustment 
will be determined using the values of assets and accumulated benefit 
obligations immediately prior to the sale. If the segment is sold to a 
successor-in-interest, this proposed Standard provides that the segment 
accounting will continue at the successor contractor based on the 
segment accounting up to the time of the sale, taking into account any 
division of the segment's assets and obligations.
    (iii) Government's share of segment closing adjustment. The 
Government's share of the segment closing adjustment shall reflect the 
Government's historical participation in post-retirement benefit cost 
from the time this proposed Standard first becomes applicable. The 
intent of this provision is for the cognizant Federal agency official 
and the contractor to generally determine the Government's historical 
share of post-retirement benefit costs that were allocated to cost type 
and negotiated cost-based fixed price contracts. The proposed 
transition provisions extend this period of participation for 
contractors who employed accrual accounting for Government contract 
costing in accordance with SFAS 106 prior to this proposed Standard 
becoming applicable. In such cases, the Government's participation 
shall be measured from the date that SFAS 106 accruals used for 
financial statement purposes were first used for Government contract 
costing purposes. The proposed Standard also permits the parties to 
negotiate a delayed recognition of the segment closing adjustment 
through an amortization process. This proposed provision provides more 
flexibility for the parties to determine the appropriate proportion 
than paragraph 9904.413-50(c)(vii) of the pension Standard.
8. Illustrations
    Generally the illustrations show the accumulated post-retirement 
benefit obligation and other liabilities or losses as debit balances 
and the fair value of assets and other asset equivalent values and 
gains as credit balances. However, for consistency with financial 
accounting presentation, when the illustrations include SFAS 106 
disclosures, the accumulated post-retirement benefit obligations are 
shown as credit balances and fair values of assets and other asset 
equivalent values are shown as debit balances.
    Because health and life benefits account for about 98% of all post-
retirement benefit plan obligations, there are no illustrations or 
special provisions for post-retirement benefits other than health and 
life benefits. This lack of text or illustrations regarding other types 
of post-retirement benefits does not imply nor indicate that the 
obligations for such benefits, if material, are excluded from coverage 
under this proposed Standard.
9. Transition Provisions
    One of the issues raised in discussions about post-retirement 
benefit costs concerns inactive plan participants who may have worked 
for a strictly commercial segment or a government segment that was sold 
or abandoned at some time in the past. It has been argued that the 
post-retirement benefit costs associated with these so-called 
``homeless'' inactives should be explicitly excluded from the post-
retirement benefit costs allocated to current and future Government 
contracts. However, often it is impossible to ascertain whether these 
``homeless'' inactives were formerly employed in an abandoned or sold 
segment or if they are ``homeless'' because of incomplete human 
resource records. Rather than require a herculean and possibly futile 
effort to identify where these inactive participants had been employed, 
the Board proposes that the retained liability for these ``homeless'' 
inactive participants be assigned to an intermediate home office or 
corporate office in accordance with the contractor's past practice. The 
costs associated with these inactive participants will be treated as a 
general cost of doing business for such home office and allocated in 
accordance with CAS 9904.403.
    Some contractors may not have established a specific practice or 
method for assigning the ``homeless'' participants to a corporate or 
intermediate home office. In that case, the Board envisions several 
acceptable methods of making such an assignment to home offices. These 
include, but are not limited to:

    (i) Assigning all ``homeless'' to the corporate home office if 
the post-retirement plan covers employees in all units that report 
to the corporate home office;
    (ii) Assigning the ``homeless'' to the immediate home office 
that had responsibility for the closed or abandoned segment;
    (iii) If the closed or abandoned segment(s) were primarily 
associated with a portion of the contractor's current business, 
assigning the ``homeless'' to a home office which allocates the 
post-retirement benefit cost as a residual expense to segments 
currently performing work for that portion of the contractor's 
business; or,
    (iv) Those ``homeless'' participants for whom employment records 
are unavailable, or who worked in a multiplicity of the contractor's 
operations could be assigned to the corporate home office.

In any of these cases, the Board accepts the fact that the costs 
associated with these ``homeless'' will bear no relationship to its 
current activities and the cost would be allocated to intermediate home 
offices and segments as an residual expense.
    The proposed transition provisions address how a contractor's prior 
accounting practices are to be reconciled with the accounting 
provisions of the proposed rule. Some contractors who were using 
accrual accounting prior to becoming subject to the proposed rule will 
continue to use accrual accounting if the criteria for accrual 
accounting are satisfied. Likewise, other contractors who had been 
using the pay-as-you-go method will continue to use the pay-as-you-go 
method if those criteria are not satisfied. However, special provisions 
are needed whenever a contractor must change its previously disclosed 
accounting practice for post-retirement benefit costs.
    If a contractor changes from the pay-as-you-go cost method to 
accrual accounting for contract costing purposes, the transition 
section of the proposed Standard provides for the establishment of a 
supplemental transition obligation so that prior SFAS 106 accruals 
measured during prior periods when the contractor had cost-based 
Government contracts can be assigned to periods after the contractor 
becomes subject to the proposed Standard. Once established, the 
supplemental transition obligation is accorded the same treatment as 
the SFAS 106 transition obligation. The prior accruals included in the 
supplemental transition obligation are based on the delayed recognition 
of the transition obligation regardless of how the transition 
obligation was recognized for financial accounting purposes. As an 
alternative to establishing a supplemental transition obligation, the 
proposed Standard permits these contractors to use a so-called ``fresh 
start'' approach provided the contractor has continually been 
performing government cost-based contracts since adopting SFAS 106.

[[Page 59512]]

    If a contractor switches from accrual accounting to the pay-as-you-
go cost method, this proposed Standard requires that the accumulated 
value of prior unfunded accruals measured during periods when the 
contractor had cost type or cost-based fixed price Government contracts 
be carried forward. Like the analogous provision in the amendments to 
the pension Standard, CAS 9904.412, benefit payments must be charged 
against the accumulated value of unfunded accruals before pay-as-you-go 
costs can be measured, assigned to cost accounting periods, and 
allocated to cost objectives.
    If the contractor has an established practice of using terminal 
funding for its post-retirement benefit costs, that contractor may 
continue the use of the terminal funding method. A switch from terminal 
funding to pay-as-you-go accounting is permitted if the criteria for 
accrual accounting are not met. Any payments previously considered as 
terminal funding and allocated to cost objectives would not be subject 
to the fifteen-year amortization requirement. If the criteria for 
accrual accounting are met and the contractor switches from terminal 
funding to accrual accounting, then any prior SFAS 106 accruals that 
exceeded amounts paid for terminal funding may be treated as a 
supplemental transition obligation

C. Paperwork Reduction Act

    The Paperwork Reduction Act, Public Law 96-511, does not apply to 
this proposed rule, because this rule imposes no paperwork burden on 
offerors, affected contractors and subcontractors, or members of the 
public which requires the approval of OMB under 44 U.S.C. 3501, et seq. 
The records required by this proposed rule are those normally 
maintained by contractors who claim reimbursement of post-retirement 
benefit costs under government contracts.

D. Executive Order 12866 and the Regulatory Flexibility Act

    Because most contractors must measure and report their post-
retirement benefit liabilities and expenses in order to comply with the 
requirements of SFAS 106 for financial accounting purposes, the 
economic impact of this final rule on contractors and subcontractors is 
expected to be minor. As a result, the Board has determined that this 
rule will not result in the promulgation of a ``major rule'' under the 
provisions of Executive Order 12866, and that a regulatory impact 
analysis will not be required. Furthermore, this proposed rule does not 
have a significant effect on a substantial number of small entities 
because small businesses are exempt from the application of the Cost 
Accounting Standards. Therefore, this rule does not require a 
regulatory flexibility analysis under the Regulatory Flexibility Act of 
1980.

E. Public Comments

    Public Comments: This proposed Standard is based upon responses to 
the Staff Discussion Paper made available for public comment on 
September 20, 1996, 61 FR 49533. Eighteen (18) sets of public comments 
were received from contractors, Government agencies, professional 
associations, actuarial firms, law firms, public accounting firms, and 
individuals. The proposed Standard is also based upon the ten (10) sets 
of responses to the Board's letter of January 12, 1999 which was also 
made available for public comment on February 18, 1999, 64 FR 8141. The 
comments received and the Board's actions taken in response thereto are 
summarized below:
1. Need for a Cost Accounting Standard
    Comment: The industry associations and some contractors expressed 
the belief that a Standard might not be needed because GAAP, as 
articulated by SFAS 106 and augmented by CAS 9904.403, 9904.412, 
9904.413, and 9904.418, provide full and adequate guidance on the 
measurement, assignment to periods, and allocation of post-retirement 
benefit costs. Some commenters expressed the notion that the 
promulgation of a Cost Accounting Standard on any subject already 
addressed by a FASB Statement would be superfluous. But, many 
respondents noted subject areas where SFAS 106 was either inadequate or 
inappropriate for contract cost accounting purposes and suggested that 
some CASB guidance would be helpful.
    Both contractor and Government commenters generally preferred 
amendments to the pension Standards, CAS 9904.412 and 9904.413, and 
possibly the insurance Standard, CAS 9904.416, rather than the 
promulgation of a new Standard. The commenters unanimously agreed that 
a Board Interpretation would be insufficient to address the new and 
complex issues concerning post-retirement benefit costs. Several 
commenters opined that substantive action should be taken by the Board. 
SDP Technologies wrote: ``While many technical questions need to be 
resolved, SDP urges the CASB to pursue this effort and develop a 
comprehensive solution.'' And, TRW stated, ``the level of detail and 
range of issues posed in the Discussion Paper highlight the numerous 
accounting, legal, and practical considerations that must be 
addressed.'' The OUSD generally concurred when it stated: ``While it is 
generally preferable to amend existing Standards, a new Standard may be 
necessary if amendments of existing Standards cannot be accomplished 
without unreasonably complicating existing Standards.''
    In its letter of August 4, 1997, CODSIA submitted a straightforward 
and simple proposal to illustrate how the Board might address post-
retirement benefit costs by amending CAS 9904.412 and CAS 9904.413. 
CODSIA did not support the development of a separate Cost Accounting 
Standard on post-retirement benefits on the grounds that it would not 
be an economical and efficient way to address this issue. The Board 
also received a letter from the ABA discussing some of the shortcomings 
of the CODSIA proposal, but which generally favored CODSIA's approach 
of amending the pension Standards.
    Response: The Board recognizes the concerns expressed regarding the 
promulgation of a new Standard. These concerns appear to be driven by 
fears that a new Standard might be conceptually different from the 
current pension and insurance Standards. However, the Board has 
determined that amending CAS 9904.412, 9904.413, and 9904.416 would be 
extremely cumbersome and would add unnecessary complexity. The Board 
notes that the FASB did not merely extend Statements 87 and 88 (SFAS 87 
and 88) to post-retirement benefits, but promulgated a separate 
Statement, SFAS 106, building upon the concepts and structures of SFAS 
87 and 88. The Board believes that the most manageable approach to 
providing substantive measurement, assignment, and allocation criteria 
is the promulgation of a new and separate Standard addressing the costs 
of post-retirement benefits. The Board does not see any reason to 
unnecessarily muddy the water for the sake of arbitrarily avoiding the 
promulgation of another Standard.
    The Board believes it is appropriate to promulgate a separate Cost 
Accounting Standard on a subject matter that the FASB has addressed for 
financial accounting purposes. The Board notes the CASB Concepts 
Statement (57 FR 31039) which states:

    The Board will give careful consideration to the pronouncements 
affecting financial and tax reporting and, in the development of 
Cost Accounting Standards, it will take those pronouncements into 
account to the extent it can do so in accomplishing its objectives.

[[Page 59513]]

The nature of the Board's authority and its mission, however, is 
such that it must retain and exercise full responsibility for 
meeting its objectives.

In this regard the Board must specifically consider what elements 
constitute a proper measure of post-retirement benefit costs for 
contract cost accounting purposes.
    The Board agrees that SFAS 106 should be used as the baseline for 
the development of any promulgation regarding post-retirement benefit 
costs. However, the Board believes that SFAS 106, augmented by existing 
Standards, does not provide adequate guidance on contract cost 
accounting for post-retirement benefit costs. The Board proposes to 
generally accept the terminology, measurement, assignment, and 
adjustment provisions of SFAS 106. Modifications and restrictions are 
made only where necessary for Government contract cost accounting 
purposes. Thus, the Standard being proposed today does modify, augment, 
and restrict SFAS 106 provisions that are either inadequate or 
inappropriate for contract cost accounting. This proposed Standard also 
augments SFAS 106 and existing Standards by addressing the allocation 
of costs to segments, segment closing adjustments, and the transition 
from current contract cost accounting practices to this new Cost 
Accounting Standard for post-retirement benefit costs.
    The essence of the CODSIA proposal to amend CAS 9904.412 was simply 
to add a sentence to subsection 9904.412-40(b) stating that for 
administrative convenience, the contractor may, at its option, utilize 
the methodology provided in SFAS 106 to measure the costs of 
postretirement medical and life insurance costs. The CODSIA approach 
would permit very different alternative accounting practices for the 
same category of cost without any justification for having a choice of 
accounting methods. Such an approach would be contradictory to the 
Board's goal of uniformity. The Board does not believe that post-
retirement benefit costs should be subjected to the pension rules of 
CAS 9904.412 and 9904.413 that were originally designed and recently 
amended to coordinate with the vagaries of the tax code. Furthermore, 
the subject matter and the terminology employed in the current CAS 
9904.412 and 9904.413, as compared with SFAS 106, are so different that 
any attempt to treat them together in a single amended CAS 9904.412 and 
9904.413 would produce an unwieldy document that would be difficult to 
comprehend or implement.
    Thus, the Board has concluded that the promulgation of a new 
Standard is necessary to adequately and clearly address the cost 
accounting (measurement, period assignment, and allocation) issues 
unique to post-retirement benefit costs of Government contracts. Having 
a separate and distinct Standard will make it clear to users and 
practitioners where the CAS Standards and GAAP are in agreement and 
where the Standards and GAAP diverge. Promulgating a new and separate 
Standard will reduce the administrative burden of trying to apply a 
single pronouncement for two different purposes; to wit, financial 
reporting and contract cost determination.
2. Relationship to Existing Standards
    Comment: Generally the respondents agreed that tax consequences 
should not be considered in the determination of contract cost. The 
Aerospace Industries Association (AIA) did suggest that if funding were 
required as a condition of using accrual accounting, the tax 
consequences might have to be considered ``because funding and tax 
considerations are irretrievably interwoven.'' The AIA also noted that 
if the Board ``permits accrual accounting without a funding 
requirement, tax consequences are generally irrelevant.'' The industry 
associations and most contractors believed that CAS 9904.412 and 
9904.413, possibly augmented by CAS 9904.416, should form the baseline 
if there were to be a funding requirement. While some industry 
commenters felt that the Board should consider tax-rate complementary 
funding, others expressed their belief that tax-rate complementary 
funding for nonqualified pension plans in CAS 9904.412 is overly 
complicated. While Government respondents opposed the use of such tax-
rate complementary funding, the OUSD did express its belief that ``tax 
consequences should be considered only to the extent the contractor is 
unable to fund the entire amount of the accrued cost to a tax 
deductible funding vehicle.''
    Some industry commenters expressed their belief that if funding 
were to be required for cost recognition, then an ``assignable cost 
limitation'' would be reasonable, especially if spread-gain actuarial 
cost methods were permitted. The AIA noted, ``the original CAS Board 
limited the application of spread gain methods by imposing an 
assignable cost limitation (see old CAS 412.50(b)(2)).'' Government 
respondents believed there should be an assignable cost limitation 
defined similarly to the one used for pensions regardless of whether 
funding would be required as a prerequisite for accrual accounting.
    The Government respondents did not favor any explicit linkage 
between segment closing adjustments for pension and post-retirement 
benefit plans. Industry respondents asked that the Board provide that 
any pension surplus measured under 9904.413-50(c)(12) be explicitly 
offset against any unfunded post-retirement benefit obligation when a 
segment closes. Texas Instruments stated:

    Conceivably, the same business interruption event that triggers 
an adjustment to PRB costs will also trigger a similar adjustment to 
pension costs. Therefore, both these determinations should be 
connected.

    The Department of Defense commenters expressed an interest in 
amending CAS 9904.416 to reflect the differences between life 
insurance, medical insurance, and property and casualty insurance. 
These respondents noted that each of these types of insurance requires 
unique actuarial approaches and are generally unrelated to each other. 
They also recommended that the Board review workers' compensation 
coverage, which includes health, disability and liability provisions. 
The comments from industry generally stated that they had no major 
concerns or problems with CAS 9904.416.
    Response: When developing these proposed modifications to SFAS 106, 
the Board sought to maintain consistency where practicable with the 
analogous provisions of (a) CAS 9904.412 and 9904.413 on pensions, (b) 
CAS 9904.415 on deferred compensation plans, and (c) CAS 9904.416 on 
insurance costs. However, this proposed Standard addresses the 
accounting issues of measurement and period assignment of post-
retirement benefit costs and does not address tax-deductibility 
concerns. The recent amendments to CAS 9904.412 and 9904.413 were 
exceptional in the incorporation of tax-implications into a Standard. 
The Board recognizes that tax accounting rules can produce volatility 
and that such tax rules primarily affect the timing of cost 
recognition. The Board notes that pension accounting and practices, 
unlike those for post-retirement benefits, evolved in an environment in 
which funding was not only permitted, but dominated by tax law and 
Internal Revenue Service (IRS) and Department of Labor regulations 
regarding the determination of the benefits and the actual funding and 
administration of pension plans.
    In this proposed Standard, the determination of the cost for a 
period when accrual accounting is used generally follows SFAS 106 with 
some

[[Page 59514]]

restrictions and modifications. SFAS 106 imposes no minimum or maximum 
limits, such as the assignable cost limitation, on the determination of 
the net periodic post-retirement benefit cost, and neither does this 
proposed Standard.\8\
---------------------------------------------------------------------------

    \8\ As discussed elsewhere, the proposed Standard does compare 
and limit the net periodic post-retirement benefit cost so that the 
accumulated value of plan assets and unfunded accruals do not exceed 
the unavoidable liability, i.e., the nonforfeitable post-retirement 
benefit obligation.
---------------------------------------------------------------------------

    The proposed Standard does not address the offsetting of a post-
retirement benefit segment closing adjustment against any pension 
segment closing adjustment. The Board believes that CAS 9904.413 
determines the plan termination and segment closing adjustment for 
pension plans and this proposed Standard would determine the adjustment 
for post-retirement benefit plans. How either adjustment is actually 
transacted or effected is best determined by the contracting parties. 
This proposed Standard and CAS 9904.413 neither require nor preclude 
the aggregation of these adjustments with each other or other issues 
for resolution and settlement purposes.
    This proposed Standard addresses many issues similar to those 
considered in the March 30, 1995 amendments to CAS 9904.412 and 
9904.413. The fact that any of these issues are treated differently in 
this proposed Standard on post-retirement benefit costs does not 
necessarily imply that changes will be made to the pension Standards, 
nor does it preclude such possibility.
    The Board notes the comments from the Department of Defense 
regarding a general review of CAS 9904.416, but believes that 
addressing post-retirement benefits as defined by SFAS 106 is a 
substantial task in its own right. To expand this case to include a 
comprehensive review of CAS 9904.416 would make the case unmanageable. 
The Board proposes that the provisions of CAS 9904.416 relating to 
prefunding of retiree benefits be replaced by this Standard. Otherwise 
the Board has concluded that any general review of CAS 9904.416 is 
outside the scope of this project.
3. Funding as a Prerequisite for Accrual Accounting
    Comment: The perception that any post-retirement benefit liability 
recognized in the financial statements might be a ``soft'' liability 
led some respondents, especially Government respondents, to express the 
belief that funding must be used as a tool in assessing the firmness of 
these liabilities.
    In general, industry commenters argued funding does not necessarily 
substantiate the liability. They expressed their belief that funding 
may be an important business consideration, but such considerations 
generally deal with cash flow consequences and income tax 
considerations. They recommended that any criteria established as a 
prerequisite for accrual accounting should address the existence of the 
liability rather than the existence of funding. They also believed that 
funding is an allowability issue, not an accounting issue.
    The ABA noted that for financial accounting purposes the threshold 
for recognition is met by a probability that an obligation exists. The 
ABA did suggest there may be situations when the funding of the annual 
accrual might serve a legitimate purpose. The ABA wrote in part:

    We do, however, agree that contractors should not be permitted 
to accrue costs without funding them in cases where the payment 
cannot be compelled. In such cases, no valid liability has been 
incurred unless the liability is funded. Additionally, if 
circumstances indicate that a contractor is likely to default on its 
PRB obligations, accrual without funding should not be allowed.

    The NDIA also acknowledged that while funding could be one means to 
substantiate (validate) the obligation, there were disadvantages to 
using funding for contract cost measurement and assignment.

    It is clear that funding validates a liability. It is also clear 
that funding does not match cost with products. It is also clear 
that the use of funding (or any other cash payment) as a determinant 
of cost incurrence decreases uniformity and consistency in 
accounting.

    Industry representatives pointed out the reason for including a 
funding requirement in the pension Standards and the inappropriateness 
of a funding requirement for post-retirement benefits costs. The AIA 
made the point as follows:

    Public policy, as articulated in the tax code, has long 
encouraged pension plan sponsors to fund their programs at an 
adequate level. While industry does not agree that funding has any 
place in the Cost Accounting Standards, the addition of a funding 
requirement in the recent changes to CAS 412, as well as explicit 
recognition of tax deductible limits, did not create tension between 
public policies as expressed in the Internal Revenue Code and the 
Cost Accounting Standards. ``In contrast, however, Congress has 
intentionally discouraged prefunding of post-retirement medical 
benefits. It would be inconsistent for the Cost Accounting Standards 
Board to in essence force contractors to fund these post-retirement 
benefit costs.

    On the other hand, in its response to the Staff Discussion Paper, 
the OUSD articulated the concern of some members of the Government 
procurement community that any potential risk that the liability might 
not be liquidated is unacceptable. The OUSD unequivocally stated:

    Yes, funding is necessary to substantiate accrual of costs. The 
level of funding necessary is 100 percent of the maximum amount of 
possible funding in accordance with the contractor's funding 
vehicle. Permitting funding at less than 100 percent of the cost 
accrual results in a potential risk that the liabilities for which 
the Government has paid its fair share might never be liquidated. A 
100 percent funding requirement assures the Government that the 
money will be available when the liability must be paid. If there 
are valid reasons to accrue the liabilities, the accruals should be 
fully funded. Permitting less than 100 percent funding effectively 
results in the Government providing a long-term interest free loan 
to contractors. Permitting funding at less than 100 percent of the 
cost accrual would require that earnings on the unfunded amounts be 
imputed each year to preclude increased costs to the Government 
resulting from lost earnings on the unfunded amounts.

    Government respondents stated there are no appropriate alternatives 
to a requirement that the cost accrual be fully (100%) funded. 
Generally, industry respondents stated that the Board did not need to 
consider any alternatives to a funding requirement because funding was 
unnecessary to substantiate the cost accrual. Boeing concurred with the 
belief that funding does not necessarily substantiate the liability, 
but suggested that more restrictive measures of accrual accounting or 
cash basis accounting might be used where the contractual rights to a 
benefit are lacking. Boeing commented that:

    The accounting must be based upon the likelihood that the 
contractor will liquidate the liability. If the likelihood is in 
some doubt or remote then the costs should be recognized on more 
limited accrual basis, i.e., terminal funding or those vested, or if 
not appropriate on a cash basis. Otherwise the costs must be 
recognized on an accrual basis over the period of time the benefit 
is earned.

    The responses to the Board's January 12, 1999 letter did focus and 
advance the discussions regarding the role of funding. Most industry 
representatives continued to argue that funding neither enhances nor 
proves the firmness of the liability for post-retirement benefits. Some 
industry commenters expressed the belief that once established, a 
contractor's promise to provide post-retirement benefits could not 
easily be avoided and therefore, a funding

[[Page 59515]]

requirement might be superfluous. Industry commenters again argued that 
funding was merely a cash-flow or financial management decision and as 
such, was an inappropriate consideration for an accounting standard. 
These respondents did believe that funding would be a proper 
consideration for an allowability rule which addresses procurement 
policy concerns.
    Comments from the Department of Defense Inspector General (DOD IG) 
and the Department of Energy reiterated the position that full (100%) 
funding of post-retirement benefit costs should be included in the 
criteria for accrual accounting. The OUSD maintained its opinion that 
post-retirement benefit costs must be funded, but agreed with the 
industry comments that funding should be addressed as an allowability 
constraint and not within the allocability criteria of an accounting 
standard.
    Response: In Standards promulgated by the original CAS Board 
dealing with pension and insurance costs, in most instances the 
applicable Standards require that pension and retiree insurance costs 
be funded. Therefore, the Board believes that to maintain consistency 
with the promulgations of the original CAS Board and amendments 
promulgated by the current Board, the Board had to consider the role of 
funding as a prerequisite for the use of accrual accounting for the 
costs of post-retirement benefits. The Board considered a criterion for 
accrual accounting based on the contractor's documented commitment to 
fund at least the government segments' post-retirement benefit costs. 
But, after reviewing the merits of assessing the liability's firmness 
using funding as opposed to the terms of the post-retirement benefit 
plan, the Board decided to propose criteria concerning the contractor's 
ability to unilaterally reduce or eliminate benefits.
    The original pension Standard, CAS 412, and the March 30, 1995 
amendments were developed in an environment wherein the large majority 
of pension costs arose from qualified pension plans subject to ERISA. 
For qualified pensions plans there was less concern with whether the 
pension obligation would be systematically funded as costs are accrued 
for benefits earned by employees working on Government contracts. Tax 
accounting, financial accounting and contract cost accounting for 
pensions mostly differ in the pattern in which tax deductible accruals 
(contributions), financial accounting expense accruals and the contract 
cost accruals are ascribed to accounting periods.
    Generally CAS 412 did not have to establish the contractor's 
commitment to fund its tax-qualified pension plan as a prerequisite for 
accrual accounting, the funding requirement was already imposed by 
ERISA. Even as far back as 1968 paragraph 42 of APB-8 stated: ``This 
Opinion [APB 8] is written primarily in terms of pension plans that are 
funded.'' Conversely, for post-retirement benefits, financial 
accounting uses ``pure'' accrual accounting while tax accounting for 
post-retirement benefits is generally limited to cash basis accounting. 
Thus post-retirement benefits are shown on an accrual basis for the 
more conservative financial accounting purposes (which tend to maximize 
liability recognition), but are usually operated on a pay-as-you-go 
basis.
    Despite assertions by some respondents, the original Board did 
believe that funding played a legitimate role in determining whether 
the liability for a pension or post-retirement benefit was sufficiently 
firm for contract cost recognition. In the May 15, 1978 preamble to the 
Notice of Proposed Rulemaking for CAS 416 (43 FR 20806), the original 
Board addressed the funding issue when it proposed subparagraph 
416.50(a)(1)(v) (which was unchanged when published in the final rule):

    ``One respondent objected to the requirement that costs which 
represent additions to a `retired lives' reserve be evidenced by 
payments to an insurer or trustee. Retired lives benefits are 
analogous to pension costs in that a contract cost is to be 
recognized in the present but payment of the benefit is to take 
place in the relatively distant future. In most such programs, the 
employer reserves the right to discontinue the program at any time, 
and benefits are limited to those which can be provided by amounts 
already funded. If an amount is to be recognized currently as a cost 
of a retired lives program, there should be some evidence that a 
contractor has, in fact, incurred a liability which he cannot 
subsequently avoid by a unilateral decision.
    ``Some respondents suggested the deletion of the requirement 
that the contractor have no right of recapture of the fund as long 
as any active or retired participant in the program remains alive. 
Under some fully prefunded programs, a substantial portion of the 
fund is to provide for liability to active employees. Without the 
cited provision, it would be possible for the contractor, at any 
time, to terminate the program as to employees who had not yet 
retired, thereby creating a surplus in the fund and obtaining a 
windfall.''

    And in Section (1) ``RELATIONSHIP TO THE EMPLOYEE RETIREMENT INCOME 
SECURITY ACT OF 1974 AND TO GENERALLY ACCEPTED ACCOUNTING PRINCIPLES'' 
of the September 24, 1975 preamble to the promulgation of CAS 412 as a 
final rule (40 FR 43873), the original Board stated:

    APB-8 provides criteria for accounting for the cost of pension 
plans for financial accounting purposes. The Board believes that 
certain of these criteria are not appropriate for Government 
contract costing purposes. For example, a fundamental concept of 
APB-8 is that the annual pension cost to be charged to expense for 
financial accounting purposes is not necessarily determined by the 
funding of a pension-plan. The Board believes that a requirement of 
law for annual minimum funding of pension costs on an irrevocable 
basis, is strong evidence that an obligation for at least such 
period.

    The Board went on to state:

    In developing the accompanying Cost Accounting Standard, the 
Board has attempted to stay within the general constraints of APB-8 
and the funding provisions of ERISA.

    Later, in Section (11) ``ASSIGNMENT OF PENSION COST'' of the 
September 24, 1975 Preamble, the Board writes:

    ``Certain commentators expressed their disagreement with the 
sections of the Federal Register proposal dealing with the 
assignment of pension costs among cost accounting periods. The 
concept set forth in the proposal related in the assignment of costs 
to the validity of the liability for such costs. Commentators 
referred to the concept set forth in APB-8 that the accrual of 
pension expenses and the funding of pensions are not necessarily 
related. They stated that cost should be assigned to cost accounting 
periods irrespective of whether or when funded.
    ``The Board believes that assigning pension costs to cost 
accounting periods on a cash basis is inappropriate from an 
accounting viewpoint and could lead to the improper assignment of 
pension costs among periods. The Board believes also that the 
concept which states that funding is unrelated to pension accruals 
is not appropriate for contract costing because, under such a 
concept, pension costs could be assigned to cost accounting periods 
and never be funded; yet such costs would be reimbursed by the 
Government. (Emphasis added)
    ``The underlying concept of the Standard is that when a valid 
liability exists, the corresponding costs may be accrued 
irrespective of when the liability is liquidated. If the liability 
(to the pension fund or, for pay-as-you-go plans, to retirees) is 
not valid, it cannot be accrued; in order for it to be allocated to 
cost objectives of the current period, it must be liquidated 
(funded) in that period or within a reasonable period of time 
thereafter. In order to clarify its intent with regard to the 
allocation of pension costs to cost objectives of individual cost 
accounting periods, the Board has revised the wording of 412.40(c) 
of the Standard.''

    Clearly, the original Board believed that funding was a proper 
accounting

[[Page 59516]]

consideration in promulgating a Cost Accounting Standard. This Board 
agrees and recognizes that in any case, funding is one method for 
validating the liability.
    The Board also considered adopting the tax-rate complementary 
funding requirement applicable to nonqualified pension plans. While 
negating the tax consequences of funding such plans, tax-rate 
complementary funding adds administrative burden and complexity. Since 
the amendments to the pension Standards were published in March 1995, 
it appears that very few, if any, contractors have elected to use the 
``tax-complement'' approach. Furthermore, unlike pensions, the funding 
of post-retirement benefits is not driven by tax law. The Board has 
concluded that it is inappropriate to develop provisions of this 
proposed rule based on tax law.
    Looking to other accounting standards, an alternative to imposing a 
funding requirement might be to follow the approach that the National 
Association of Insurance Commissioners (NAIC) uses for the statutory 
accounting policy for ``Employer's Accounting for Post-retirement 
Benefits Other Than Pensions'' wherein the obligation is determined for 
recognizing only benefits for which plan participants are currently 
eligible. However, the responses to the Staff Discussion Paper, 
``Accounting for Unfunded Pension Costs,'' published on June 17, 1991 
(56 FR 27780), argued that such recognition would neither have the 
simplicity and ease of cash basis accounting nor the matching of costs 
with activities achieved by accrual accounting. These same comments and 
criticisms would apply to such an approach for post-retirement benefit 
costs. The Board disagrees and believes that such a restrictive 
approach does have merit and can address the issue of whether a firm 
liability exists. Therefore, the Standard being proposed today imposes 
a cap on the net periodic post-retirement benefit cost for a period 
which is based on the firm liability for benefits payable to vested and 
fully-eligible participants.
    There is much confusion, misinformation, and perhaps 
disinformation, concerning funding as a prerequisite for accrual 
accounting. The Board believes the question of whether accrual 
accounting or cash basis accounting should be used to measure, assign 
and allocate costs to Government contracts is an accounting question 
within the purview of the Cost Accounting Standards Board. The 
establishment of criteria concerning when alternative accounting 
approaches (cash versus accrual) should apply is also an accounting 
question that the CAS Board can and should address. (See CASB Statement 
of Objectives, Policies and Concepts published May 1992, after SFAS 87 
and 106 were promulgated.) The Board disagrees that requiring funding 
of the period cost developed under an accrual accounting method 
converts the funded accrual to cash basis accounting because the 
primary measurement and assignment is still based on accrual 
accounting. Although this proposal does not impose a funding 
requirement, the Board reiterates its belief that funding can be an 
appropriate criterion to ascertain the contractor's commitment to 
ultimately provide a promised benefit.
4. Criteria for Assessing the Firmness of the Post-Retirement Benefit 
Liability
    Comment: The Staff Discussion Paper asked if the post-retirement 
benefit liability was reasonably foreseeable and could be reasonably 
estimated. The response from the National Defense Industrial 
Association (NDIA) was representative of the comments from both 
industry and the government when NDIA stated: ``If it can be determined 
that there is a valid obligation to pay, determining an annual estimate 
of the cost of that liability is feasible.'' Several commenters 
concurred with AIA who noted that the FASB had ``considered this issue 
at length, and concluded that these amounts could be reasonably 
estimated (see paragraphs 159 through 163 of SFAS 106).'' Towers-
Perrin, an actuarial consulting firm, stated that it performs nearly 
600 SFAS 106 postretirement benefit plan valuations for nearly 600 
clients each year.
    Most commenters who addressed the SFAS 106 definition of the 
``substantive plan'' stated the definition might be inadequate for 
contract cost accounting purposes. There appeared to be a general 
consensus that in order for a post-retirement benefit to be 
recognizable, criteria similar to that found in CAS 412 requiring that 
the plan be in writing and communicated to the employees, and that the 
benefits be materially nonforfeitable should be applied.
    However, comments from the industry associations questioned the 
usefulness of requiring that the post-retirement benefit plan be 
written as adequate evidence of a firm liability. NDIA argued that the 
SFAS 106 concept of established practice coupled with employee 
communication might be more appropriate: ``A written document enhances 
the likelihood that there is a valid obligation. However, employee 
notification of future benefits, coupled with a history of payment of 
benefits, also seems to be substantial evidence of an intent to pay.'' 
AIA agreed with NDIA: ``A formal document does not make the liability 
any more compellable than informal documentation or an established 
practice. A formal document may enhance the auditing of the liability 
but it doesn't necessarily enhance the validity of the liability.''
    Funding as a precondition to the use of accrual accounting remains 
controversial and was discussed in the previous subsection (3). Other 
than a funding requirement, no commenters suggested any additional or 
alternative criteria that might be used to assess the firmness of the 
post-retirement benefit obligation.
    The Staff Discussion Paper also inquired whether the firmness of 
the liability could be enhanced by not projecting benefit levels. None 
of the commenters found any utility to placing such a restriction on 
the recognition of the post-retirement benefit liability.
    Response: The Board agrees that the liability for a plan that meets 
the criteria for accrual accounting set forth in this proposed Standard 
can be reasonably estimated. However, the Board does not believe that a 
liability is a firm liability simply because it can be estimated. The 
financial effect of many contingencies can be estimated, but the 
estimated value associated with these contingencies may not rise to the 
level of a firm liability for contract costing purposes without meeting 
other criteria.
    The SFAS 106 definition is intended to identify any potential 
liability for financial accounting disclosure purposes. For contract 
cost accounting purposes, the Board believes there must be a greater 
expectation that the benefits will ultimately be paid to the employees. 
The Board concludes that, at a minimum, when accrual accounting is used 
for contract cost accounting, the benefits must be described in a 
formal written document, the right to the benefits must be communicated 
to the plan participants, and the benefit must be materially 
nonforfeitable once eligibility is attained. The formal document 
provides the vehicle by which employees can legally enforce payment of 
the promised benefits. Furthermore, with the numerous changes that 
corporations have been making to their post-retirement benefit plans to 
reduce or eliminate benefits or shift the cost to the employees, the 
Board believes that only benefits currently provided by the written 
document and which the contractor cannot unilaterally negate or 
otherwise eliminate form a firm liability that should be recognized on 
an accrual basis.

[[Page 59517]]

    The Board notes that, unlike pension benefits, employees' rights to 
promised post-retirement benefits often do not vest until the employee 
approaches retirement eligibility, e.g., age 50 and 20 years of 
employment. Because of this substantial delay in vesting, a contractor 
can have a formal, ironclad contractual promise that is communicated to 
its employees, but still be able to discontinue the plan leaving only 
those employees who are currently eligible or close to eligibility with 
rights to post-retirement benefits. This Board, like its predecessor, 
is concerned that the contractor could reap a substantial gain 
attributable to the liability released by nonvested participants. The 
recent court decision in Sprague v. General Motors Corporation, (Nos. 
94-1896, 94-1897, 94-1898, 94-1937, U.S. Court of Appeals, 6th Circuit, 
January 7, 1998) throws into question the usefulness of relying on 
established practice, documentation, and communication collectively or 
individually. Even when the post-retirement benefits are provided 
pursuant to a collectively bargained agreement, a Circuit Court 
recently found that the commitment to provide post-retirement benefits 
does not survive beyond the current bargaining agreement (Joyce, 
Charles v. Curtiss-Wright Corporation (1999, CA2, 1999 WL 152535). The 
Board is aware that a similar systemic weakness in the promise of 
pension benefits to the employees of Studebaker Corporation was a major 
impetus for the enactment of ERISA in 1974.
    The Board examined how the earning of post-retirement benefits is 
attributed to cost accounting periods by the actuarial cost method 
employed by SFAS 106. The Board also considered the ERISA and DOL rules 
which require that pension benefits, once earned, cannot be reduced by 
the plan sponsor. For accrual accounting, this proposed Standard 
similarly requires that the portion of the post-retirement benefit for 
which the employee has achieved eligibility cannot be eliminated or 
reduced by the unilateral action of the contractor.
    Because the Board does not accept the SFAS 106 substantive plan as 
the basis for the recognizable liability and has chosen not to use 
funding to substantiate the cost, the proposed rule relies on the 
nonforfeitable portion of the accumulated post-retirement benefit 
obligation as the measure of the valid, that is, compellable, 
liability. To accomplish this, the proposed rule imposes a limitation 
on the post-retirement benefit cost measured for a period. The proposed 
limitation is measured as the benefits paid during the period plus the 
unfunded amount of nonforfeitable accumulated post-retirement benefit 
obligation. The amount of valuation assets is the fair value of plan 
assets plus the accumulated value of unfunded accruals minus the 
accumulated value of prepayment credits. The proposed rule further 
requires that the measurement of nonforfeitable accumulated post-
retirement benefit obligation include nonforfeitable benefits that 
would be earned during the year.\9\
---------------------------------------------------------------------------

    \9\ Including the additional nonforfeitable post-retirement 
benefit obligation accrued during the year is analogous to, but more 
straight-forward than, measuring and adding a nonforfeitable annual 
service cost.
---------------------------------------------------------------------------

5. Identification of the Post-Retirement Benefit Plan
    Comment: Industry and Government commenters alike argued that the 
Board should permit the use of different accounting methods for 
different benefits because a post-retirement benefit plan often is not 
a single-purpose, homogeneous plan. As the AIA expressed it:

    One area of difference between pensions and post-retirement 
benefits concerns the definition of a single ``plan.'' While the 
contracting parties must be clear as to the underlying benefits that 
are reflected in contract costs, and how amounts funded or accrued 
relate to those individual cost elements, industry feels strongly 
that the CAS Board should not require contractors to restructure 
their plans from an ERISA perspective in order to achieve effective 
cost allocation. In other words, form should not be elevated over 
substance with regard to plan structure.

    The OUSD summed it up this way:

    If separate plans are used to provide different types of post-
retirement benefits, different accounting methods should be 
permitted. Different accounting methods also should be permitted for 
different benefits provided through the same plan, but only if 
separate records are maintained. Different accounting methods 
generally should not be permitted for different groups within the 
same plan population (e.g., union versus non-union). However, if 
contractors are permitted to use cash accounting for current retired 
employees and accrual accounting for active employees, the treatment 
of post-retirement benefit costs for future retirees must be on an 
accrual basis. Since the post-retirement benefit liability would 
have already been accrued during the period of active employment, 
there is no additional liability to be recognized when active 
employees retire.

    Most commenters felt that immaterial benefits, e.g., legal 
services, retiree discounts, etc., could be accounted for by the 
contractor in any reasonable manner. They stated that, as with any item 
of cost, the CAS should only address costs that are material.
    Response: The Board agrees. The Board is aware that it is often 
necessary for a company to use a combination of investment vehicles, 
e.g., a Voluntary Employee Benefit Association (VEBA) trust combined 
with an IRC Sec. 401(h) trust, to achieve tax-favorable funding of 
post-retirement benefits. Similarly, slightly different retiree 
insurance plans may be required in different plants, locations, or 
states to provide an overall general post-retirement benefit promise. 
Thus, the post-retirement benefit plan is frequently not a single 
benefit plan, but several different benefit promises to different 
groups of employees.
    The proposed Standard permits the contractor to parse its overall 
post-retirement benefit plan or its plan population into several 
separately identified plans for purposes of contract cost accounting. 
Once so established, such division of the plan or population must be 
consistently maintained and often will require disclosure on the DS-1 
Statement. For administrative ease, the proposed Standard also allows 
the contractor to aggregate different plans or populations for which 
the same contract cost accounting method is used.
    Costs of post-retirement benefits that are immaterial may be 
accounted for separately on a consistent basis. This proposed Standard 
does not address post-retirement benefit costs that are immaterial.
6. Cash Basis Accounting (Pay-as-You-Go Cost Method and Terminal 
Funding)
    Comments: Many commenters expressed their belief that cash basis 
(pay-as-you-go) accounting is appropriate whenever the post-retirement 
benefit liability is not firm. Some commenters expressed a desire for 
cash basis accounting to be permitted even when the criteria for 
accrual accounting are satisfied so that contractors could maintain the 
flexibility to coordinate their contract cost accounting with their 
financial management decisions regarding the funding of the liability. 
Other commenters asked that cash basis accounting be permitted as an 
alternative if a funding requirement were to be imposed as a 
prerequisite to accrual accounting.
    The commenters who addressed terminal funding stated that while 
terminal funding was not an acceptable accounting method, the Board 
should permit contractors to continue use of the terminal funding 
method.
    Response: The Board generally agrees. Therefore, this proposal 
provides that if the post-retirement benefit plan does

[[Page 59518]]

not satisfy the criteria for accrual accounting, then cash basis 
accounting is the only appropriate cost accounting method. However, 
this proposed Standard requires that if the plan does meet the proposed 
criteria for accrual accounting, then the contractor must use accrual 
accounting.
    The Board agrees that terminal funding is not a generally 
acceptable accounting method and may introduce excessive volatility 
into costs. This proposal does not permit contractors to use the 
terminal funding method, although the transition provisions permit a 
contractor who has an established practice of using terminal funding to 
continue such practice.
    As discussed later, if the plan fails the criteria for accrual 
accounting, the Board believes it is inappropriate to recognize any 
unfunded liability that may exist when a segment closes.
7. Accounting for the Funding of Post-Retirement Benefit Plans
    Comment: The commenters generally agreed that any portion of the 
accrued cost for the period that is not funded should be accounted for 
in some manner. The commenters suggested that the provisions of CAS 
9904.412 regarding unfunded accruals could serve as appropriate 
guidance. The NDIA suggested that some restrictions might be placed on 
the interest equivalent used to update the accumulated value of the 
unfunded accruals. The OUSD recommended that the accumulated value of 
the unfunded accruals be reduced appropriately when post-retirement 
benefits are paid.
    Response: The Board agrees with these comments. For plans using the 
pay-as-you-go cost method, funding is accomplished by payments made 
directly to the participant or else to a third party to provide service 
or insurance for the participant. The cost of defined-contribution 
plans using accrual accounting is measured by the net distribution to 
individual participant accounts of the amount deposited to the funding 
agency or paid to cover the administrative expenses of the plan. 
Interest expenses or other costs of borrowing are excluded from post-
retirement benefit costs. For defined-benefit plans using accrual 
accounting, deposits to the funding agencies plus benefits paid to or 
on behalf of participants comprise the funding. When accrual accounting 
is used, the Board believes that contractors who pay benefits directly 
from corporate resources should be accorded the same treatment as 
contractors who would make a deposit to a funding agency and then 
almost immediately use that funded deposit to pay benefits.
    Depending on its financial management decisions, a contractor's 
actual funding may be more or less than its assigned post-retirement 
benefit cost, therefore the proposed measurement and assignment section 
includes provisions to account for unfunded accruals and prepayment 
credits. The Board proposes that any portion of the period accrual that 
is not funded shall be accounted for and accumulated with interest as 
an accumulated value of unfunded accruals. Generally the accumulated 
value of unfunded accruals would be treated the same as a plan asset.
    This proposed Standard specifically provides that prepayment 
credits are not allocated to segments until used to fund the post-
retirement benefit cost in a future period. When a portion of the 
prepayment credit is used to fund post-retirement benefit cost, that 
portion will be allocated as part of the total funding for that cost 
accounting period. This means that the paragraph 9904.419-40(b)(5)(iii) 
balance tests would not include the prepayment credit when applied at 
the segment level.
    Consistent with the pension Standard, CAS 9904.413, a contractor 
may choose to allocate funding to those segments, including home 
offices, that allocate costs to contracts subject to this Standard 
before allocating any funding to other segments. This proposed 
provision gives contractors flexibility to comply with any funding 
requirement that might be imposed by procurement allowability rules. 
Post-retirement benefit plans, like nonqualified pension plans, are not 
subject to plan-wide minimum funding requirements so that funding the 
Government segments first could create a situation where those segments 
are fully funded while the commercial segments are unfunded. The Board 
is concerned that because all participants generally would have a claim 
to any assets of the plan, the Government could, in fact, be 
subsidizing the obligations of commercial operations and therefore 
funding must then be applied to those segments once the Government 
segment(s) is funded. Note that in Illustration 9904.419-60(d)(6), the 
contribution in excess of the minimum required to fund the cost of the 
Government segments was allocated toward the funding of the commercial 
segments rather than as a prepayment credit for the Government 
segments.
    If the criteria for accrual accounting are satisfied, this proposed 
Standard provides that the full post-retirement benefit cost be 
allocated to segments based on either a separate calculation of costs 
or general allocation using an appropriate base, e.g., headcount or 
salaries, etc. Once the post-retirement benefit cost is allocated to 
segments and intermediate home offices, this proposal provides that the 
cost be allocated to intermediate and final cost objectives in the same 
manner as other personal service compensation costs of that segment or 
home office.
8. Accounting for the Assets of Post-Retirement Benefit Plans
    Comment: Both Government and industry respondents found IRC Section 
401(h) accounts within a qualified pension trust, VEBA trusts, and 
secular trusts to be acceptable trust arrangements. Industry 
respondents believed that ``rabbi'' trusts would be acceptable funding 
agencies for post-retirement benefit plans just as they are acceptable 
for nonqualified pension plans under CAS 9904.412. The AIA advised the 
Board that ``any Standards should permit the use of these and other new 
arrangements as they emerge.'' Government respondents expressed their 
belief that any trust arrangement must not be subject to the claims of 
creditors and therefore objected to ``rabbi'' trusts. The DOD IG 
stated:

    CAS 9904.416.50(a)(1)(v)(B) requires that there be no right of 
recovery from a trust by the trustor as long as any active or 
retired participant in the program remains alive unless the 
interests of such remaining participants are satisfied through 
reinsurance or otherwise. This provision has served to adequately 
restrain contractors from attempting to cost contingent liabilities 
in current costing periods.

    Some industry respondents believed there was no accounting 
difference between treating IRC Section 401(h) separate accounts as the 
assets of a post-retirement benefit plan or the assets of an ancillary 
benefit that is an integral part of the pension plan. On the other 
hand, the OUSD said:

    Separate 401(h) accounts should be considered part of the post-
retirement benefit plan assets because the assets are segregated in 
a trust and they are restricted by the IRC to be used solely for 
post-retirement benefits. This is consistent with the description of 
post-retirement benefit plan assets contained in paragraph 63 of 
SFAS 106.

    Commenters noted many insurance arrangements, e.g., restricted 
insurance reserves, separate investment accounts, trust owned life 
insurance (TOLI) arrangements, that might qualify as funding agencies. 
While they agreed that all insurance arrangement should be considered, 
they also agreed that access to the assets must be restricted. In this 
regard, the commenters

[[Page 59519]]

expressed a belief that a corporate owned life insurance (COLI) 
arrangement should not be considered a funding vehicle because a COLI 
is an unrestricted investment of the company and not the post-
retirement benefit plan. The Government respondents believe insurance 
arrangements must be subject to the same criteria as trusts. The OUSD 
echoed their concern about ``rabbi'' trusts and stated, ``Insurance 
arrangements should be permitted to the extent the assets are protected 
from general creditors and cannot be used at the contractor's 
discretion.''
    The commenters agreed that several funding agencies could be 
combined to form the assets of a post-retirement benefit plan. No one 
believed that any particular type of funding agency should be given 
preference or priority.
    Response: This proposed Standard on post-retirement benefit costs 
adopts the CAS 9904.412 definition of funding agency. Any investment 
vehicle or arrangement and any insurance product or reserve that 
satisfies that definition can be recognized as an asset of the post-
retirement benefit plan. Several individual arrangements, such as a 
VEBA trust, a TOLI arrangement, and an IRC section 401(h) subaccount 
could be aggregated together to form the plan assets. The Board 
expresses no preference for one arrangement over another.
    The Board is not concerned about the use of ``rabbi'' trusts. If a 
``rabbi'' trust meets the funding agency definition, the plan 
participants' and beneficiaries' rights are superior to that of the 
contractor. Because the procuring agencies are responsible for ensuring 
that their contractors are financially viable, the Board does not 
perceive any undue risk to the Government that should affect this 
proposed accounting Standard.
9. Measurement and Assignment Under the Accrual Accounting Method
    Comment: The commenters were in general agreement that accrual 
accounting is the most desirable accounting method for determining the 
costs of post-retirement benefit plans that meet the criteria for 
establishing a firm liability. They uniformly observed that accrual 
accounting affords the best matching of post-retirement benefit costs 
with the contract activity.
    None of the commenters favored limiting the measurement and period 
assignment of post-retirement costs to a single accounting method. In 
addition to the firmness of the liability, the commenters expressed 
their belief that the choice of the appropriate cost accounting method 
would depend on the nature of the post-retirement benefit plan, the 
financial management of the plan, and factors affecting a particular 
industry and employee population. As AIA observed:

    CAS consistency and uniformity is referring to identical 
treatment under like circumstances. In this area, it is highly 
unlikely there will be like circumstance. Contractors are different, 
plans are different, IRS rules are changing and the health care 
environment is extremely dynamic. A ``one size fits all'' uniformity 
is not appropriate for measuring, assigning or allocating this type 
of cost.

    Similarly, TRW stated:

    Due to the different characteristics of post-retirement benefit 
obligations (for example, the magnitude of the obligation or the 
ability to fund in a tax-effective manner), a contractor should be 
free to determine which method is most appropriate.

    Response: The Board generally agrees that accrual accounting does 
provide the best matching of costs associated with a firm liability 
with contract activities. Therefore, for a post-retirement benefit plan 
that meets the criteria set-forth in this proposed Standard the 
contractor must use accrual accounting. Post-retirement benefit plans 
that do not meet the proposed criteria must use cash basis accounting.
10. Actuarial Cost Methods and Assumptions
    Comment: Looking to SFAS 106 as the primary model, some respondents 
have implicitly advocated the use of a single method; that is, the unit 
credit cost method. Other commenters, concerned with matching costing 
and funding to the greatest degree possible, advised the Board to 
permit any generally accepted actuarial cost method, including spread-
gain methods. Discussing why spread-gain methods should be permitted, 
TRW suggested:

    Spread-gain methods should be allowed because they frequently 
are the basis for determining deductible contributions to 401(k) 
[Sic] accounts and VEBAs. If only immediate gain methods are 
permitted, many contractors will find it difficult if not 
impossible, to match permitted funding with the expense accrual.

Echoing TRW's comment, the AIA recommended ``flexibility to follow tax 
rules is critical if funding is to be a prerequisite for cost 
allowability.'' The AIA went on to suggest that ``changes in the 
techniques used from one year to the next should not be treated as 
accounting changes.''
    Respondents also commented that the Board should consider 
addressing actuarial assumptions, especially those used for discount 
rates and medical cost inflation rates. They were concerned that the 
SFAS 106 emphasis on current period results, rather than long-term 
expectations, would cause volatility in annual costs. Several 
commenters recommended that the assumptions be subject to the same 
``best-estimate,'' long-range expectation criteria as the actuarial 
assumptions used for pension costs. The ABA was adamant that the Board 
should ``refrain from mandating actuarial assumptions.'' None of the 
commenters felt that any certification by the plan's actuary or any 
sensitivity analysis was necessary.
    Some commenters held the view that changes in actuarial assumptions 
should not be treated as a change in cost accounting practice. Other 
commenters stated that if the basis for actuarial assumptions is 
changed, rather than the numeric values of assumptions themselves, such 
changes would appear to meet the criteria of CAS 9903.302 as a change 
to a cost accounting practice. One commenter added that the Standards 
need not include guidance already provided for in the regulations.
    Response: As part of its acceptance of SFAS 106 for the measurement 
of post-retirement benefit obligations and costs, the Board accepts the 
SFAS 106 provisions regarding actuarial assumptions. The Board does 
remain somewhat concerned that currently post-retirement benefit plans 
are generally unfunded or significantly underfunded. Furthermore, there 
are no insurance products available to settle the liability for health 
care benefits. Therefore assumptions regarding expected discount rates 
cannot be based on the results of actual fund yields nor are there any 
insurance contracts from which discount rates can be extracted.
    The Board notes that the amended CAS 9904.412 prohibits the use of 
spread-gain methods. Furthermore, when CAS 9904.412 was promulgated, 
the original Board was concerned that spread-gain methods did not 
separately identify gains and losses and explicitly imposed a form of 
assignable cost limitation on costs determined under a spread-gain 
actuarial cost method.
    The Board concurs that post-retirement benefit costs are not 
sufficiently distinct from pensions and insurance to warrant any 
special actuarial certification. The Board also notes that when an 
actuary performs a post-retirement benefit valuation or advises 
contractors concerning their plans, the actuary is personally subject 
to the professional standards promulgated by Actuarial Standards Board. 
The Board has concluded that no special certification requirements are 
necessary.

[[Page 59520]]

    The Board proposes to expand the provisions of CAS 9904.416 that 
require the accrual cost of prefunded retiree insurance plans be 
``actuarially determined'' and move these provisions to this proposed 
Standard. By accepting SFAS 106 as the basis for the actuarial 
determination of the accrual accounting costs for defined-benefit post-
retirement plans, the Board is accepting the unit credit actuarial cost 
method as described in SFAS 106. The proposed Standard does not 
preclude the contractor from using a spread-gain actuarial cost method 
to determine the annual contribution to a tax-qualified funding agency, 
but the contract cost determination is limited to the unit credit cost 
method as described in SFAS 106.
    What constitutes a change in cost accounting practice should be 
determined in accordance with the provisions of CAS 9903.302. Those 
provisions describe cost accounting practices as ``* * * any disclosed 
or established accounting method or technique which is used for 
allocation of cost to cost objectives, assignment of cost to cost 
accounting periods, or measurement of cost.'' Additional guidance 
regarding the disclosure of cost accounting practices applicable to 
post-retirement benefit plans is provided in Part VII of the Disclosure 
Statement (Form CASB DS-1 (Rev 2/96)). The DS-1 guidance makes clear 
that any disclosure only applies to the basis for setting and updating 
significant actuarial assumptions. Such disclosure does not apply to 
the current numerical values of the actuarial assumptions which may 
change in response to experience. On the other hand, a change in the 
basis used for determining actuarial assumptions would constitute a 
change in cost accounting practice that should be addressed on a case-
by-case basis under the provisions of CAS 9903.302. Additional 
provisions in this proposed Standard are not deemed necessary.
    The Board proposes to place a restriction on the health care trend 
rate assumption. The proposed limit is implemented by imposing a cap on 
the health care trend rate equal to the long-term expected rate of 
return. Of all the actuarial assumptions, the health care trend rate is 
one of the most volatile and difficult to estimate. Moreover, many 
economists and other experts do not believe that health care 
expenditure can continue to increase as a percentage of Gross Domestic 
Product. Therefore, the Board believes that this restriction will not 
only reduce volatility, but will introduce a long-term reasonability 
\10\ limit on this problematic assumption. The Board does note that 
increases in the projected and accumulated post-retirement benefit 
obligations that are attributable to a period of high health care cost 
increases will be measured and recognized as an actuarial loss.
---------------------------------------------------------------------------

    \10\ The Board has generally accepted the SFAS 106 guidance on 
actuarial assumptions which places more emphasis on current 
conditions rather than long-term expectations. However, in this 
instance, placing a long-term expectation on the health care trend 
rate which can exert such a leveraging effect on post-retirement 
benefit costs seems appropriate.
---------------------------------------------------------------------------

11. Accounting for the Transition Obligation
    Comment: Both industry and Government commenters agreed that if a 
firm liability exists, then the transition obligation portion of the 
total liability is a firm liability and should be included in any 
accrual accounting provisions promulgated by the Board. The commenters 
noted that both the original and amended CAS 9904.412 identify the 
initial unfunded liability, which is analogous to the SFAS 106 
transition obligation, as one of the portions of unfunded actuarial 
liability to be recognized and amortized. Similarly, CAS 9904.416 
recognized and amortized the actuarial present value of benefits for 
employees already retired when contractors switched from the pay-as-
you-go cost method to the terminal funding method. The commenters 
generally agreed that immediate recognition of the transition 
obligation would be disruptive to contract cost accounting. The 
commenters recommended that the transition obligation be amortized over 
either a period of 10 to 30 years as required by CAS 9904.412 or else 
over the average future working lives of the participants as required 
by SFAS 106.
    One commenter argued for some mechanism to reflect the contractor's 
historical level of cost-based contracts as a means of achieving equity 
for both parties if there had been a major increase or decrease in the 
contractor's cost-based Government work over the last ten (10) years. 
Another commenter suggested that the contractor and the cognizant 
Federal agency official should be given the latitude to negotiate such 
an equitable arrangement. Other commenters opined that attempting to 
reflect past levels of Government participation in costs assigned to 
future periods would be exceedingly complicated and would impose an 
administrative burden for both parties.
    Response: Consistent with the conceptual approaches of CAS 
9904.412, SFAS 87 and SFAS 106, the Board agrees that if the post-
retirement benefit plan meets the criteria for accrual accounting, the 
transition obligation should be recognized in accordance with SFAS 106. 
However, immediate recognition of the transition obligation, as 
permitted by SFAS 106, would be unmanageable and disruptive to the 
budgeting process for cost type contracts and the forward-pricing 
process for negotiated fixed price contracts. The Board proposes to 
limit recognition of the transition obligation to the delayed 
recognition method of paragraphs 112 and 113 of SFAS 106.
    Neither CAS 9904.412 nor CAS 9904.416 includes any provision to 
reflect past levels of Government contracting prior to the initial 
recognition of the prior service liability. Furthermore, the Board 
views the granting of prior service benefits, which creates the 
transition obligation, as an inducement or compensation for current and 
future employment. Accordingly the transition obligation component is 
to be allocated to the final cost objectives of the period in the same 
manner as the other five post-retirement benefit components.
12. Accounting for Annual Gains and Losses
    Comment: The commenters generally recommended that annual gains and 
losses (also referred to as experience gains and losses) should be 
amortized. Industry representatives preferred the gain and loss 
provisions of SFAS 106, while the Government representatives preferred 
the 15-year amortization period used in CAS 9904.413 and CAS 9904.416. 
The commenters agreed that immaterial gains and losses could be 
recognized immediately.
    Response: As with the other components of post-retirement benefit 
costs, determination of the annual gain and loss component will follow 
the provisions of SFAS 106. However, the annual gain and loss measures 
the experience of a specific cost accounting period and the Board 
believes that it is inappropriate to inordinately delay contract cost 
recognition. Therefore, the proposed Standard requires that the full 
amount of the annual (experience) gain and loss for a cost accounting 
period be amortized, not just the portion in excess of the corridor 
established by SFAS 106. The proposed Standard permits the full current 
period recognition of any immaterial annual gain and loss. Once the 
contractor has established its policy for recognizing annual gains and 
losses, the proposed Standard requires the contractor to consistently 
follow that amortization policy in the future as part of its cost 
accounting practice. Similar

[[Page 59521]]

to the provisions of paragraph 9904.412-50(a)(3), the established 
policy regarding the recognition of annual gains and losses can be 
dependent upon the size and nature of the gain or loss.
13. Recognition of Other Changes in the Accumulated Post-Retirement 
Benefit Obligation
    Comment: Industry representatives recommended that any gain or loss 
due to a change in actuarial assumptions or a change in actuarial cost 
method need not be separately recognized from other causes of the 
annual gain or loss in accordance with SFAS 106, while the Government 
representatives suggested the gain and loss amortization rules of CAS 
9904.412 should be followed. Similar recommendations were made 
regarding a change in the benefit provisions of the post-retirement 
benefit plan.
    The commenters agreed that the SFAS 106 market-related value of 
assets should be used to determine the annual gain or loss. They noted 
that the market-related value of assets, like the somewhat analogous 
actuarial value of assets for pensions, helps smooth gains and losses 
from period to period. The commenters also acknowledged that the 
actuarial cost method, including the method of determining the market-
related value of assets, is part of the contractor's cost accounting 
practice.
    Response: Gains and losses due to changes in the actuarial 
assumptions, the actuarial cost method, or the benefit provisions of 
the plan are to be determined in accordance with SFAS 106. The Board 
notes that although the actuarial cost method is prescribed by SFAS 
106, substantive changes in the manner in which the actuarial cost 
method is applied, such as a change in the attribution pattern or in 
the method of determining the market-related value of assets, would 
constitute a change in cost accounting practice.
    The annual gain and loss includes the effect of actual experience 
deviating from expected changes in assets and demographics. Under SFAS 
106 and this proposed Standard, this component also includes the 
effects of changes in actuarial assumptions. The Board notes that in 
CAS 9904.412 the cost effects of changes in actuarial assumptions are 
determined and amortized separately from the effects of annual 
experience. This higher level of visibility allows the contractor and 
the Government to assess the continuing reasonableness of the 
assumptions in the aggregate. However, because the Board proposes to 
accept and rely on the assumptions used for SFAS 106, this higher 
visibility would not seem to serve any function in this proposed 
Standard and no separate identification of the effect of a change in 
actuarial assumptions is required.
14. Allocation of Post-Retirement Benefit Costs to Segments
    Comment: Industry respondents generally expressed a belief that CAS 
9904.403 provides sufficient guidance on allocating post-retirement 
benefit costs to segments. Government respondents suggested that 
allocation guidance similar to that contained in paragraph 9904.413-
50(c)(1) might be needed. The commenters agreed that the allocation 
method would not necessarily be dependent on the accounting method 
employed. They did acknowledge that the causal-beneficial relationship 
between the employees of a segment and the benefits provided to those 
employees by the post-retirement benefit plan should be a factor in 
determining the proper allocation basis.
    Response: The Board agrees and this proposed Standard on post-
retirement benefit costs contains provisions analogous to those found 
in CAS 9904.413. The Board believes that the guidance provided in this 
proposed Standard regarding the allocation of post-retirement benefits 
costs to segments is compatible with the allocation process applicable 
to central payments or accruals as outlined in paragraph 9904.403-
40(b)(4). The Board notes that post-retirement health care costs often 
will be appropriately allocated on a head-count basis as opposed to 
most pension costs which are related to benefits that are salary-
related. The Board proposes that the costs of plans using the pay-as-
you-go cost method be allocated to segments and home offices having 
participants and beneficiaries eligible to receive benefits so that the 
cost is allocated to the segments where the benefits had been earned, 
i.e., a new start-up commercial segment will not absorb costs of 
participants who had retired from a historically Government segment.
    The Board concluded that consistent with its decision to accept the 
measurement and assignment provisions of SFAS 106 and to permit 
contractors to use the data produced for financial accounting purposes, 
this proposal will in some instances permit a contractor to apply a 
general allocation of the total plan cost to segments in spite of the 
inherent, but immaterial, inaccuracy.
15. Separate Calculation of Post-Retirement Costs of Segments
    Comment: The respondents generally agreed that separate computation 
of cost at the segment level should be required whenever demographic, 
benefit, or experience differences cause material differences in the 
post-retirement benefit cost of the segment. Government respondents 
pointed out that such guidance is already a part of the pension and 
insurance standards, notably at paragraphs 9904.413-50(c)(2) and 
9904.416-50(b)(1) and (2). Texas Instruments observed:

    Differences in demographics or other factors may support a 
separate calculation of post-retirement costs at the segment level. 
In addition, such a segmented approach may be useful in recognizing 
acquired groups of employees as well as variations in union 
contracts, benefit levels, etc. In many cases, however, continued 
use of composite methodology would remain appropriate.

    Although separate computations by corporate division are fairly 
commonplace, the commenters supported requiring separate computation 
only when the post-retirement benefit cost for a segment would be 
materially affected. AIA made the point as follows:

    ``We also feel that the following excerpt from the prefatory 
comments to the old CAS 413 remains appropriate:
    `The Board believes that, in most cases, it will be obvious to 
the contracting parties whether the presence of one or more of these 
conditions for a segment will materially affect the pension cost for 
that segment * * * The Board emphasizes that separate calculations 
are not routinely required, even though no two segments are likely 
to be identical with respect to the actuarial factors set forth in 
the Standard.' ''

    The respondents did support the creation of special segments for 
retired or other inactive plan participants. They suggested that 
paragraph 9904.413-50(c)(9) would serve as an appropriate model. AIA 
noted that ``this method, which has been present in CAS 413 for nearly 
20 years, has been of considerable aid in facilitating allocation of 
pension cost.''
    Response: The Board generally agrees. The proposed Standard adopts 
the separate calculation requirements of CAS 9904.413. Looking to CAS 
9904.413 for consistency and guidance, the proposed Standard does 
require separate computations whenever certain conditions exist or 
certain events occur that can be expected to cause a material 
difference between a general allocation and a separate calculation of 
post-retirement benefit cost.
    The Board considered requiring that post-retirement benefit costs 
always be

[[Page 59522]]

individually calculated for each segment. There would have been an 
exemption permitting costs to be determined for the plan as a whole and 
then allocated across the segments if such composite computation and 
general allocation did not produce materially different results as 
compared to the cost separately calculated for the segment. When CAS 
9904.413 was written in the 1970's, actuarial valuations involved 
extensive and expensive manual computations. Now that actuaries use 
high-speed computers to do the basic annual valuation computations, it 
is standard practice for an employer to have valuation results produced 
for subgroups of employees by division or subsidiary, often using 
differing sets of assumptions by location when warranted. The primary 
advantage of separately calculating post-retirement benefit costs would 
be achieving the most accurate determination of the benefit obligation 
and cost for the particular employees of a segment. However, the Board 
found no material advantage to requiring separate calculations if there 
were no material effect on contract cost determination.
    The Board also considered a general requirement that costs be 
separately calculated whenever such a separate calculation would yield 
a materially different result from a general allocation of costs. But 
this requirement could cause a contractor to produce the separate 
calculation in order to assess if a material difference would occur. 
Therefore, the Board found no particular advantage to such a 
requirement.
    This proposed Standard does not provide for nor permit the use of 
inactive segments. Instead, consistent with the general concept that 
costs associated with retired and terminated employees should be 
regarded as a general cost of doing business, each nonactive 
participant must be assigned to the appropriate segment, an 
intermediate home office, or corporate home office.
    When the pension Standard, CAS 9904.413, was developed, a common 
practice for pension plans funded or operated through insurance company 
products, such as, deposit administration contracts or immediate 
participation guarantee contracts, was to either purchase annuities as 
participants retired or to move the participants to a separate account 
or ``retired life reserve'' which effectively annuitized the 
participants' benefits. To alleviate the administrative expense 
associated with tracking retirees by the segment from which they 
retired, CAS 9904.413 emulated this concept of a retired life reserve 
by permitting retirees, and other terminated participants, to be 
transferred to an inactive segment. The advent of computer-based 
participant data systems has eliminated most of the administrative work 
associated with tracking plan participants and such a provision is no 
longer needed. The Board also is aware that the creation of a non-
operational segment is contrary to the 9904.403-30(a) definition of a 
``segment'' and has frequently caused confusion for contractors and 
auditors.
16. Accounting for the Assets Allocated to Segments
    Comment: Industry commenters generally expressed that if funding 
were to be required, then the Board should include a provision allowing 
Government segments to be funded first. They noted that with the lack 
of tax-advantaged funding, such a provision might enable a contractor 
to fully fund the portion of post-retirement benefit cost allocated to 
Government segments. The NDIA noted, ``if contractors could recover 
through Government contracts funds set aside for post-retirement 
benefits, there would be some incentive to fund.'' The AIA felt such a 
provision was of particular importance to a contractor who performed 
primarily commercial work. The AIA wrote: ``In addition, if contractors 
that are primarily commercial are not permitted to fund only their 
segments performing government work, those contractors will be placed 
at a relative disadvantage compared to contractors that are devoted 
exclusively to government contracting.'' The DOD IG concurred stating:

    For the benefit of covered employees, it is most desirable to 
fund all segments. However, for contract costing purposes, it is 
acceptable to fund only those segments performing work under 
Government contracts.

    Generally industry respondents opined that memorandum records could 
provide sufficient evidence of such segmented funding. The DOD IG 
cautioned:

    Our experience in reviewing CAS 9904.413-50(c)(7) records on 
business combinations is that memorandum records are adequate only 
if they are subject to close scrutiny and complete audits by the 
Government.

    Many respondents believed that trust and plan documents could be 
drafted so that the Government and commercial segments could be 
effectively covered by separate plans. But they were concerned that 
such legal separation of the segments would require extra effort, could 
create employee relations problems, and might run afoul of 
nondiscrimination rules.
    Concerning transfers between funded and unfunded segments, the 
respondents generally agreed that rules could be drafted, but it might 
be extremely difficult to draft rules that would be equitable and would 
not be overly complicated. The OUSD suggested that instead of 
transferring assets and liabilities with participants, ``any liability 
resulting from prior service should remain with the segment from which 
the employee is transferred.''
    The commenters also believed that the methods of CAS 9904.413 
regarding the initial allocation of assets to the segment and the 
subsequent annual update would provide ample guidance for post-
retirement benefits plans.
    Response: The proposed Standard adopts the CAS 9904.413 provisions 
regarding the initial allocation and subsequent update of assets for 
contractors that use accrual accounting and separately calculate post-
retirement benefit cost for segments.
    While the proposed Standard does not impose a funding requirement, 
this proposal permits contractors to fulfill any funding requirement 
that might continue to be imposed by procurement regulations regarding 
allowability for only those segments and home offices that allocate 
costs to Government contracts. This provision will enable many, if not 
most, contractors to align the funding of their post-retirement benefit 
costs with the segments that generate income from cost-based Government 
contracts.
    Commercial segments that are not funded would record a memorandum 
record and account for their costs as an accumulated value of unfunded 
accruals. When plan participants transfer between segments, this 
accumulated value of unfunded accruals would be treated the same as 
plan assets. The requirement to separately account for the assets of 
each segment will enable this provision to function in a fairly simple 
and straightforward manner.
    The Board also proposes explicit guidance on how assets and 
liabilities are treated when segments are split or combined. Regarding 
transfers, the Board believes that the unamortized portion of an 
employee's accumulated post-retirement benefit obligation is 
compensation for future service and should follow the employee. 
Accordingly, the proposed Standard provides that plan assets, the 
accumulated value of unfunded accruals, and the accumulated value of 
prepayment credits shall be transferred

[[Page 59523]]

in proportion to the employee's accumulated post-retirement benefit 
obligation.
17. Accounting for Curtailments, Settlements, and Special Termination 
Benefits
    Comment: Industry commenters generally agreed that because a 
benefit curtailment or liability settlement does not disrupt the 
contractual relationship between the parties, there was no need for a 
special immediate period adjustment. Most commenters felt that 
curtailments and settlements should be accounted for as gains or 
losses.
    The OUSD expressed a belief that accounting treatment similar to 
that contained in paragraph 9904.413-50(c)(12) should be provided for 
the effects of a post-retirement benefit curtailment, liability 
settlement, or plan termination whenever accrual accounting had been 
used. The OUSD also recommended that the unamortized portion of the 
initial unfunded liability, i.e., the transition obligation, be 
excluded from the determination of the adjustment. Like industry, the 
OUSD believed that the Board should permit the plan termination or 
benefit curtailment adjustment to be amortized if the contractual 
relationship continued.
    Industry commenters expressed their belief that the Government can 
protect its interests when a post-retirement benefit plan is terminated 
through provisions similar to the pension plan terminations or segment 
closing adjustments of CAS 9904.413. They believe that such a provision 
could provide the Government adequate protection so that a funding 
prerequisite for accrual accounting might not be necessary. And, they 
stressed that the Government should recognize its responsibility in 
regard to underfunded plans. As the NDIA explained:

    Industry commenters generally emphasized that the Government has 
a responsibility to share in any underfunding as well as any surplus 
when accrual accounting had been used. Some industry commenters 
indicated a belief that the Government should share in the 
underfunding of post-retirement benefit plans that had been 
accounted for using the pay-as-you-go cost method.

    Both industry and Government respondents agreed that the 
contracting parties are in the best situation to determine whether the 
adjustment should be effected in the cost accounting period when the 
plan termination occurs or amortized over several periods with an 
interest adjustment. Some commenters opined that the option to spread 
the adjustment should reflect whether or not there is a continuing 
contractual relationship. The OUSD felt that the choice to immediately 
adjust or amortize should be at the Government's option. Similarly, TRW 
believes that the cognizant Federal agency official is in the best 
position to determine whether immediate adjustment or amortization is 
appropriate.
    Response: The Board proposes that any benefit curtailment, 
liability settlement, or special termination benefit gain (or loss) be 
measured and first used to offset against unrecognized losses (or 
gains) in accordance with SFAS 106. While SFAS 106 would then recognize 
any remaining gain or loss as current period income or expense, the 
proposed Standard provides that the residual gain or loss be amortized 
over 10 years as long as the contractual relationship continues. If the 
segment is closed, any unamortized portion of any curtailment, 
settlement, or special termination benefit gain or loss is subsumed in 
the segment closing adjustment.
    In this proposed Standard, the Board is presuming that the 
possibility of any inequity because of a change in the level of 
government contracting over the ten year amortization period is an 
acceptable risk when compared to the disruption that would be caused by 
a repricing of contracts. An additional inequity might occur because 
the effect of the curtailment, settlement, or termination benefits 
would not be reflected in currently priced cost-based fixed price 
contracts during the first few periods of the ten year amortization 
period. As this case has progressed, the Board's concern about not 
repricing has increased because of the magnitude of the recent benefit 
curtailments of some post-retirement benefit plans.
    The Board believes that since SFAS 106 requires full current period 
recognition of curtailments, settlements, and termination benefits 
gains and losses, it is appropriate to accelerate the normal 15-year 
amortization period used for annual gains and losses to 10 years for 
any unrecognized curtailment, settlement, or special termination gain 
or loss.
    If a plan is terminated, much of the unrecognized transition 
obligation and prior service cost, including any prior service cost 
from recent plan amendments and benefit improvements, will be 
eliminated by the coincident benefit curtailment, particularly the 
post-retirement benefit obligation attributable to nonvested benefits. 
Accordingly, unlike the pension Standard, the proposed Standard does 
not include a 60-month phase-in of plan amendments. Any remaining 
unamortized prior service cost and transition obligation would continue 
to serve as an inducement or compensation, albeit diminished, for 
future service.
18. Segment Closing Adjustment for Defined-Benefit Plans Using Accrual 
Accounting
    Comment: Industry commenters expressed the view that the Government 
can protect its interests when a segment is closed through an 
adjustment similar to that found at paragraph 9904.413-50(c)(12). 
Industry commenters emphasized the Government's responsibility to share 
in any underfunding as well as in any surplus. The OUSD agreed that 
provisions similar to those found at paragraph 9904.413-50(c)(12) 
regarding pensions would be appropriate to address segment closings 
when the accrual accounting method had been employed.
    Response: The proposed segment closing provisions are similar to 
the CAS 9904.413 segment closing provisions. This proposed Standard 
explicitly states that internal reorganizations do not constitute a 
segment closing. The proposed Standard measures an amount to be 
immediately recognized by an adjustment to contracts. However, this 
proposal provides that the contracting parties can determine the 
details on how the actual adjustment will be effected based upon the 
size of the adjustment and the contracting circumstances.
    The Board proposes to measure the segment closing adjustment as the 
difference between the nonforfeitable post-retirement benefit 
obligation and the accumulated value of plan assets and unfunded 
accruals. These measures may result in either a credit or a charge to 
the Government. As previously discussed, the nonforfeitable post-
retirement benefit obligation measures the firm or unavoidable 
liability.\11\
---------------------------------------------------------------------------

    \11\ The actuarial liability determined under the accrued 
benefit cost method which is used to determine the paragraph 
9904.412-50(c)(12) segment closing for pensions is analogous to the 
nonforfeitable post-retirement benefit obligation in that it 
measures the firm liability for benefits earned by participants as 
of the date of the event (segment closing).
---------------------------------------------------------------------------

    There has been some confusion about the CAS 9904.413 segment 
closing provisions when a segment is sold to a successor-in-interest 
and assets and liabilities are transferred from the seller to the 
buyer. The concept articulated in CAS 9904.413 and followed in this 
proposed Standard is that no adjustment is necessary to the extent that 
the contract cost accounting for the benefits

[[Page 59524]]

continues unaltered. This proposed Standard makes it clear that the 
contract cost accounting records used to determine the segment closing 
adjustment when there is a sale to a successor-in-interest are the same 
records that have been used up to the point of sale. The proposed 
Standard also describes how a segment's assets and liabilities shall be 
divided when part of the segment's liability is retained or the segment 
is otherwise split or merged as part of the sale, transfer, or other 
reorganization.
19. Segment Closing Under the Pay-as-You-Go Cost Method
    Comment: Some industry respondents stated that regardless of 
whether the Cost Accounting Standards did or did not permit a 
contractor to use accrual accounting, the prior period post-retirement 
benefit costs were incurred to produce goods and services for the 
Government. They believed that any decision to not recognize the 
unfunded accumulated post-retirement benefit obligation would be a 
procurement allowability decision and not a cost accounting decision. 
Other industry commenters argued that the Remington Arms decision (Army 
Contract Adjustment Board (ACAB) Decision No. 1238 (1991)) made it 
clear that whenever the Government had benefitted from the contractor's 
use of the pay-as-you-go cost method in the past, the Government should 
bear responsibility for its share of the unfunded accumulated benefit 
obligation as a matter of equity and fairness. Texas Instruments did 
note that the Remington Arms case was based on the fact that the 
Government not only benefitted, but was complicit in the contractor's 
decision to use the pay-as-you-go cost method. SDP Technologies 
expanded the concept of complicity to include the Government's arguable 
influence on companies and segments that perform primarily Government 
work.

    The Remington Arms case properly established the basic policy, 
i.e., the Government has a special responsibility when it is the 
sole beneficiary of a company's operations. The responsibility is 
not limited to GOCO facilities but applies equally to situations 
where companies have been dedicated to supplying the Government, 
particularly under single source contracts where the Government has 
a substantial influence on which costs can be recovered.

    In response to the Staff Discussion Paper issue on using a phase-in 
approach for Government responsibility for the unfunded post-retirement 
benefit obligation when a contractor had used the pay-as-you-go cost 
method in the past, the AIA made an argument for considering a phase-
out of the Government's responsibility.

    ``In the near-term, a segment closing adjustment should apply to 
all situations. Industry's use of pay-as-you-go accounting has 
yielded considerable savings to the Government over the years; 
considering the unfunded amounts as an adjustment to previously 
determined postretirement benefit costs is highly appropriate, as it 
merely puts the Government in the same position it would have been 
in had accrual accounting been used in past years.''
* * * * *
    ``Over the long-run, however, there is a valid question as to 
whether or not contractors that account for their postretirement 
benefits cost on a pay-as-you-go basis should be entitled to a 
segment closing adjustment. By using pay-as-you-go accounting, these 
contractors will be relatively more competitive than other 
contractors that use accrual accounting (assuming that all else is 
equal, which is rarely true). Thus, the pay-as-you-go basis 
contractors might win contracts in the near-term due to their lower 
prices but might ultimately bill the same amount to the Government. 
This result hardly seems fair.
    ``To avoid this situation, the CAS Board could require 
contractors to make an election between pay-as-you-go accounting and 
accrual accounting with the explicit understanding that those 
contractors selecting pay-as-you-go accounting would not be able to 
claim a future segment closing adjustment. In this manner, decisions 
can be made by contractor management with a full understanding of 
the ultimate implications.''

    Government respondents did not feel the Government should bear any 
responsibility for the unfunded accumulated post-retirement benefit 
obligation when the contractor had been using the pay-as-you-go cost 
method in the past. The DOD IG pointed out that ``the CASB-1 discloses 
the accounting practice under which the Government and contractor 
mutually agree to do business and the Government was not in any 
position to force the contractor to fund any PRBs.'' The OUSD commented 
that because Government regulations have permitted contractors to 
choose between accrual and cash basis accounting for such costs, the 
Government has no responsibility for the contractor's unilateral 
business decision.
    Response: The segment closing adjustment measured under this 
proposal does not provide for the recognition of any accumulated post-
retirement benefit obligation or nonforfeitable post-retirement benefit 
obligation for contractors that are required to use the pay-as-you-go 
cost method because their plan fails to meet the criteria for accrual 
accounting. For contractors that do use accrual accounting, this 
proposal measures the adjustment using the nonforfeitable post-
retirement benefit obligation. While the contractor had the ability to 
use any appropriate accounting method, including accrual accounting, 
the general practice was to use the pay-as-you-go cost method prior to 
the adoption of SFAS 106. Once this proposed Standard becomes 
applicable, the contractor will be required to methodically assign and 
allocate the costs associated with its transition obligation to 
Government contracts for post-retirement benefit plans that meet the 
criteria for accrual accounting.
    The Board understands that under the pay-as-you-go (cash basis 
accounting) cost method the Government may have received some benefit 
from lower contract costs in the past. However, the contractor may have 
benefitted from achieving a more competitive price by electing to use 
cash basis accounting. Furthermore, to impose the full responsibility 
on the Government for costs not accrued under cost-based contracts 
ignores the fact that both contractors and the accounting profession at 
large were content to use the pay-as-you-go cost method in the past.
    The Board finds no accounting justification for imposing a current 
period cost adjustment which arises from the contractor's previous 
decision to use cash basis accounting or terminal funding. The Board 
does note that a legal question, not an accounting question, of equity 
may be involved in the very special situation of GOCO facilities, such 
as that addressed in the Remington Arms decision, where the Government 
was found to be involved in the selection of the accounting method.

20. Determination of the Government's Share of the Segment Closing 
Adjustment
    Comment: In its comments, the NDIA discusses how extraordinary 
events and segment closings require recognition in the financial 
results of operations for an accounting period and how the same type of 
adjustments might be appropriate for Government contract cost 
accounting purposes. The ABA agreed that a segment closing adjustment 
would be appropriate but expressed concern about how the Government's 
share is determined and effected when they wrote:

    * * * In our earlier submission we counseled against reopening 
the prices of fixed price type contracts, or cost type contracts in 
years that are closed. Limiting the adjustment mechanism to costs 
only is consistent with sound procurement policy

[[Page 59525]]

and will secure to the government and the contractor equally the 
benefit of their bargain. Moreover, the OFPP Act Amendments of 1988 
do not provide the CAS Board with authority to adjust contract 
prices, other than the equitable adjustment mechanism for cost 
accounting practice changes or noncompliances that result in 
increased costs to the government. See Public Law 100-679, section 
26(h)(1), 41 U.S.C. 422(h)(1). For this reason, we believe that CAS 
413-50(c)(12), as amended March 30, 1995, is subject to challenge as 
exceeding the Board's statutory authority

    Response: The Board proposes that this Standard, like CAS 9904.413, 
consider all prior cost-based contracts that become subject to this 
proposed Standard when determining the Government's share of any over-
or under-funding of the past post-retirement benefit costs. The 
proposed Standard does not reopen any contracts nor adjust any prior 
period costs, but instead captures the Government's share of the gain 
or loss amounts that would have been excluded from or included in the 
prior period cost accruals used to price contracts had the segment 
closing been anticipated.
    The Board notes that in addition to paragraph 9904.413-50(c)(12) 
regarding pensions, the original Board recognized the need for 
exceptional accounting treatment when an usually large or non-routine 
depreciation gain or loss occurs. Paragraph 9904.409-50(j)(3) provides:

    The contracting parties may account for gains and losses arising 
from mass or extraordinary dispositions in a manner which will 
result in treatment equitable to all parties.

F. Additional Public Comments

    Interested persons are invited to participate by submitting data, 
views or arguments with respect to this ANPRM. All comments must be in 
writing and submitted to the address indicated in the ADDRESSES 
section.
    When reviewing this proposed Cost Accounting Standard, the Board 
asks that respondents consider and provide comments regarding the 
questions discussed below. When responding, commenters are asked to 
discuss the basis for their conclusions.
1. Definition of Nonforfeitable
    The Board notes that under many post-retirement benefit plans, 
employees are often not granted a vested right to post-retirement 
benefits until they attain retirement or full eligibility age. The 
proposed definition of the term ``nonforfeitable,'' similar to that in 
the pension Standard, includes an exception for benefits forfeited 
because an employee terminates employment prior to attaining 
eligibility for benefits. Given the extended delay in attaining 
eligibility rights to a post-retirement benefit under most plans, the 
Board is interested in any comments regarding the appropriateness of 
this exception for post-retirement benefit costs.
2. Recognition of Post-Retirement Benefit Costs
    (a) Alternative or additional criteria for determining what creates 
a firm liability: As discussed in subsection F.3, the Board believes 
that the SFAS 106 recognition of the obligation for the ``substantive 
plan'' is inappropriate for Government contract cost accounting. In 
fact, the Board has included a limitation on the annual cost accrual 
because of its concern that the existence of a written description of 
the plan which is communicated to the plan participants may not ensure 
that there is a contractual and enforceable, that is, compellable, 
obligation to pay the promised benefits. The Board is interested in any 
alternative or additional criteria that might serve to ascertain the 
firmness of the post-retirement benefit liability.
    (b) Firmness of the liability and the role of funding: The Board 
realizes that many contractors will desire to retain the right to 
terminate their post-retirement benefit plan or take other actions to 
reduce or eliminate benefits attributable to prior service. While 
acknowledging the limitation of tax-advantaged funding vehicles for 
retiree health benefits, the Board asks respondents to this proposed 
Standard to consider whether funding could provide an appropriate and 
effective alternative or whether additional criteria should be 
considered.
3. Measurement and Assignment of Post-Retirement Benefit Costs
    (a) Actuarial assumptions: The Board remains concerned that the 
volatility of health care trends, coupled with the SFAS 106 emphasis on 
current market conditions, could create an unacceptable degree of 
uncertainty in the estimates of the liability for future post-
retirement benefits, especially for retiree health care benefits. This 
volatility or uncertainty could adversely affect the forward pricing 
process which relies on CAS compliant cost data. The Board invites 
further comments regarding whether actuarial assumptions used for 
contract costing purposes should each be based on ``best-estimate,'' 
long-term expectations rather than relying on the SFAS 106 guidance. 
The Board also asks that contractors, actuaries, or Government 
officials submit any historical data they may have regarding the 
volatility of post-retirement benefit costs.
    (b) Reporting on sources of annual gains and losses: As discussed 
under subsections F.12 and F.13, greater visibility of cost 
measurements may be obtained by requiring that annual gains and losses 
be reported by source, that is, separate identification of gains and 
losses from asset performance, population and demographic changes, 
assumption changes, and cost method changes. The Board asks for 
comments on whether visibility and oversight would be enhanced by a 
disclosure of each such portion of the annual gain or loss.
    (c) Amortization of gains and losses: The Board notes that the 
proposed rule requires full recognition of gains and losses on an 
amortized basis. This differs from SFAS 106 which requires amortization 
of cumulative gains and losses that exceed a corridor of the greater of 
10% of the projected post-retirement benefit obligation or the fair 
value of assets. SFAS 106 does permit full recognition of gains and 
losses on an amortized basis. This proposed provision is intended to 
keep cost recognition more closely associated with the accounting 
period in which the gain or loss occurred. The Board would be 
interested in views regarding the use of the SFAS 106 amortization 
corridor for Government contract costing purposes.
    (d) Limiting medical inflation assumption: The Board seeks comments 
concerning whether a limit should be placed on the health care trend 
rate. Commenters are asked to consider what limit, e.g., the long-term 
expected rate of return, the Treasury rate, is appropriate for 
Government contract costing purposes. The Board is also interested in 
any information concerning the degree of volatility and uncertainty in 
the medical inflation assumption.
    (e) Terminal funding method: Notwithstanding the Board's response 
in E.6 that terminal funding is an unacceptable cost method under GAAP, 
the Board would like comments regarding how prevalent the use of the 
terminal funding method is among contractors. Commenters should also 
address whether a contractor should be permitted to elect to use the 
terminal funding method either at the time this proposed rule would 
first be applicable or even be permitted to later elect to use the 
terminal funding method.
    (f) Amortization of lump sum settlements and single premium 
payments: For plans accounted for under the pay-as-you-go cost method, 
the proposed Standard is consistent with subparagraph 9904.412-

[[Page 59526]]

40(b)(3)(iii) and paragraph 9904.412-50(b)(1). The proposed Standard 
requires that when a portion of the liability is liquidated prior to 
the periods in which benefit payments are expected to occur, such lump 
sum settlement or single premium payment shall be amortized. The Board 
further notes that such amortization is consistent with paragraph 52 of 
SFAS 106 requiring that costs of plans primarily attributable to 
retirees shall be attributed to the future life-expectancy of the 
retirees. Commenters are asked to provide any rationale for recognizing 
these single period settlements on an immediate basis rather than an 
amortized basis, especially if the contractor has not been using 
terminal funding for its post-retirement benefit plan.
    (g) Long-term expected rate of return: The Board favored using the 
interest rate as determined by the Secretary of the Treasury pursuant 
to Public Law 92-41, 85 Stat. 97. to measure the interest equivalent on 
the accumulated value of unfunded accruals and accumulated value of 
prepayment credits. The Board is interested in comments regarding the 
appropriateness of the Treasury rate and whether commenters believe 
some other rate may be more appropriate.
4. Allocation of Post-Retirement Benefit Costs to Segments
    (a) Criteria for separate calculation of post-retirement benefit 
costs: This proposal includes similar criteria to that found in CAS 
9904.413 for determining when separate calculations are necessary. The 
Board seeks comments regarding whether there are additional conditions 
or events that may materially affect the determination of post-
retirement benefit costs at the segment level which should require a 
separate calculation of post-retirement benefit costs for a segment.
    (b) Separate calculation as the only measurement for segment costs: 
Because of the availability of computers and the availability of 
sophisticated actuarial valuation software, requiring separately 
calculated costs by segment no longer imposes the administrative burden 
that it would have in 1977. The Board asks for comments regarding a 
requirement that costs always be separately calculated for segments 
unless it can be reasonably demonstrated that a general allocation 
would provide materially similar results.
5. Allocation to Intermediate and Final Cost Objectives
    Because the determination of certain adjustments will require an 
assessment of the Government's historical participation in post-
retirement benefit costs, the Board considered including a record-
keeping requirement regarding allocations of post-retirement benefit 
costs to contracts subject to this Standard. The Board is interested in 
whether contractor or Government representatives have experience or 
concerns about the necessary data being readily available regarding the 
Government's historical participation absent such a requirement.
6. Adjustments for Curtailments, Settlements, and Special Termination 
Benefits
    The Board would appreciate any comments regarding any alternatives 
to the proposed ten-year amortization period that should be considered.
7. Adjustments for Segment Closings
    (a) Government's responsibility for future salary increases and 
health care trends: The preamble to the March 30, 1995 amendments to 
CAS 9904.413 noted that existing and past Government contracts of the 
closed segment neither cause nor benefit from future salary increases. 
The Board is interested in any comments regarding whether the effect of 
such future salary levels should be excluded from the determination of 
a segment closing adjustment for post-retirement benefit costs.
    (b) Previous use of the pay-as-you-go cost method: As proposed, 
this Standard would provide for the recognition of the unfunded 
nonforfeitable post-retirement benefit obligation for contractors using 
accrual accounting that had been using the pay-as-you-go cost method 
before this Standard was applicable. The Board seeks any comments 
regarding whether there should be a phase-in of such recognition.
    (c) ``Homeless'' inactives retained by a seller: After a segment is 
sold, the seller may retain ``inactive'' plan participants that were 
formerly associated with the sold segment. Consequently, the seller 
(transferor) can no longer allocate accrued post-retirement benefit 
costs generated by these inactive participants to the sold segment for 
allocation to that segment's intermediate and final cost objectives. 
Accordingly, the Board considered allocating the assets to the inactive 
participants retained by the seller (transferor) before any assets are 
allocated to the active participants who go to the buyer (transferee). 
The Board is interested if there is any rationale for giving inactive 
participants such preferential funding when a segment is sold or 
ownership is otherwise transferred.
    (d) Recognition of retained liability: The Board is aware that some 
hold the belief that when a segment is sold or ownership is otherwise 
transferred, the selling price or transfer agreement explicitly or 
implicitly reflects compensation to the seller for any future post-
retirement benefit obligations retained by the seller. Conversely, the 
belief holds that there is an implicit credit to the buyer for any 
post-retirement benefit obligations assumed by the buyer. Based on this 
belief, it has been suggested that Government contractors utilizing the 
pay-as-you-go method to account for post-retirement benefit costs 
should separately identify any retained participants of the disposed 
segment. In such cases, the post-retirement benefit payments made for 
these inactive participants would not be included/recognized, after the 
sale or transfer, as allocable costs with respect to the seller's 
ongoing cost-based Government contracts.
    The Board has not included such a provision in the Standard being 
proposed today, but is interested in any data or information that 
commenters can provide on alternative treatments of the liability and 
future payments for retained participants, for Government contract 
costing purposes in connection with a sale or ownership transfer.
8. Illustrations
    The Board is interested in comments regarding whether displaying 
the accumulated post-retirement benefit obligation routinely as a 
debit, except when illustrating SFAS 106 disclosures, creates 
confusion.

List of Subjects in 48 CFR 9904

    Government Procurement, Cost Accounting Standards.

Richard C. Loeb,
Executive Secretary, Cost Accounting Standards Board.
    It is proposed to amend part 9904 as follows:

PART 9904--COST ACCOUNTING STANDARDS

    1. The authority citation for Part 9904 continues to read as 
follows:

    Authority: Public Law 100-679, 102 Stat 4056, 41 U.S.C. 422.

    2. Section 9904.416-50 is amended by revising paragraph (a)(1)(v) 
to read as follows:


9904.416-50  Techniques for application.

    (a) * * *
    (1) * * *
    (v) If an objective of an insurance program is to provide insurance

[[Page 59527]]

coverage on retired persons, then such program is subject to Cost 
Accounting Standard 9904.419 except as provided in 9904.419-40(b)(2).
* * * * *


9904.416-60  [Amended]

    3. Section 9904.416-60 is amended by removing and reserving 
paragraphs (c), (d) and (e).
    4. Sections 9904.419, 9904.419-20, 9904.419-30, 9904.419-40, 
9904.419-50, 9904.419-60, 9904.419-62, 9904.419-63, 9904.419-64 are 
added to read as set forth below.
    5. Section 9904.419-10 and 9904.419-61 are added and reserved to 
read as follows:


9904.419  Cost accounting standard for measurement, assignment, 
allocation, and adjustment of post-retirement benefit cost.


9904.419-10  [Reserved]


9904.419-20  Purpose.

    (a) The purpose of this Standard is to provide criteria for 
measuring the costs of post-retirement benefit plans, assigning the 
measured costs to cost accounting periods, and allocating the assigned 
costs to segments of an organization. This Standard also provides the 
basis on which segments shall allocate assigned post-retirement benefit 
costs to their intermediate and final cost objectives. The provisions 
of this Cost Accounting Standard should enhance uniformity and 
consistency in accounting for post-retirement benefit costs and thereby 
increase the probability that those costs are allocated to segments and 
to cost objectives within segments in a uniform and consistent manner.
    (b) This Standard provides for the adjustment of post-retirement 
benefit costs for the effect of a curtailment of a post-retirement 
benefit plan, a settlement of a post-retirement benefit obligation, a 
granting of termination benefits, a termination of a post-retirement 
benefit plan, or a segment closing.
    (c) This Standard is applicable to the cost of all post-retirement 
benefit plans except for costs of pension plans and deferred 
compensation which are covered in other Cost Accounting Standards.


9904.419-30  Definitions.

    (a) The following are definitions of terms which are prominent in 
this Standard. Other terms defined elsewhere in this chapter 99 shall 
have the meaning ascribed to them in those definitions unless paragraph 
(b) or (c) of this subsection requires otherwise.
    (1) Accumulated value of unfunded accruals means the value, as of 
the measurement date, of post-retirement benefit costs that have been 
accrued but not funded, adjusted for imputed earnings and for benefits 
paid by the contractor.
    (2) Business unit means any segment of an organization, or an 
entire business organization which is not divided into segments.
    (3) Captive insurer means an insurance company that does business 
primarily with related entities. Related entities include, but are not 
limited to, companies that are owned by or under the control of the 
contractor, including affiliates, parents, subsidiaries, or controlling 
entities.
    (4) Fair value means the amount that a plan could reasonably expect 
to receive for an investment in a current sale between a willing buyer 
and a willing seller, that is, other than a forced or liquidation sale.
    (5) Funded post-retirement benefit cost means the portion of post-
retirement benefit cost for a current or prior cost accounting period 
that has been paid to a funding agency.
    (6) Market-related value of plan assets means a balance used to 
calculate the expected return on plan assets. Market-related value can 
be either fair value or a calculated value that recognizes changes in 
fair value in a systematic and rational manner over not more than five 
years. Different methods of calculating market-related value may be 
used for different classes of plan assets, but the manner of 
determining market-related value shall be applied consistently from 
year to year for each class of plan asset.
    (7) Nonforfeitable post-retirement benefit obligation means the 
accumulated post-retirement benefit obligation for benefits, or that 
portion of benefits, for which the participant's eligibility to receive 
a present or future post-retirement benefit is no longer contingent on 
remaining in the service of the employer or attaining a specified age. 
The excess, if any, of the nonforfeitable post-retirement benefit 
obligation, including benefit eligibility as of the last day of the 
plan year, over the valuation assets is the unfunded nonforfeitable 
post-retirement benefit obligation. Any accumulated post-retirement 
benefit obligation in excess of the nonforfeitable post-retirement 
benefit obligation is the forfeitable post-retirement benefit 
obligation.
    (8) Pension plan means a deferred compensation plan established and 
maintained by one or more employers to provide systematically for the 
payment of benefits to plan participants after their retirement, 
provided that the benefits are paid for life or are payable for life at 
the option of the employees. Additional benefits such as permanent and 
total disability and death payments, and survivorship payments to 
beneficiaries of deceased employees may be an integral part of a 
pension plan.
    (9) Post-retirement benefit plan means an arrangement that is 
mutually understood by an employer and its employees, whereby an 
employer undertakes to provide its employees with post-retirement 
benefits after they retire in exchange for their services over a 
specified period of time, upon attaining a specified age while in 
service, or a combination of both. A post-retirement benefit plan may 
be written or it may be implied by a well-defined, although perhaps 
unwritten, practice of paying post-retirement benefits or by oral 
representations made to current or former employees.
    (10) Post-retirement benefit plan participant means any employee or 
former employee of an employer, or any member or former member of an 
employee organization, who is or may become eligible to receive a 
benefit from a post-retirement benefit plan which covers employees of 
such employer or members of such organization who have satisfied the 
plan's participation requirements, or whose beneficiaries are receiving 
or may be eligible to receive any such benefit. A participant whose 
employment status with the employer has not been terminated is an 
active post-retirement benefit plan participant.
    (11) Post-retirement benefit plan termination means an event in 
which the post-retirement benefit plan ceases to exist and all benefits 
are settled by the purchase of insurance contracts or by other means. 
The plan may or may not be replaced by another plan.
    (12) Post-retirement benefits means all forms of benefits, other 
than retirement income, provided by an employer to retirees. Those 
benefits may be defined in terms of specified benefits, such as health 
care, tuition assistance, or legal services, that are provided to 
retirees as the need for those benefits arises, such as certain health 
care benefits, or they may be defined in terms of monetary amounts that 
become payable on the occurrence of a specified event, such as life 
insurance benefits not provided through a pension plan. Benefits 
provided in whole or in part by funds that are separately accounted for 
within the trust fund of a qualified pension plan shall be considered 
post-retirement benefits subject to this Standard.
    (13) Segment means one of two or more divisions, product 
departments, plants, or other subdivisions of an organization reporting 
directly to a home office, usually identified with responsibility for 
profit and/or

[[Page 59528]]

producing a product or service. The term includes Government-owned 
contractor-operated (GOCO) facilities, and joint ventures and 
subsidiaries (domestic and foreign) in which the organization has a 
majority ownership. The term also includes those joint ventures and 
subsidiaries (domestic and foreign) in which the organization has less 
than a majority ownership, but over which it exercises control.
    (14) Successor-in-interest means an entity that assumes all 
obligations under the government contract or contracts of a contractor 
through a novation agreement. A novation agreement is one that is 
executed by a contractor (transferor), a successor-in-interest 
(transferee), and the Government, by which the transferor guarantees 
performance of the contract, the transferee assumes all obligations 
under the contract, and the Government recognizes the transfer of the 
contract and related assets.
    (15) Unfunded accumulated post-retirement benefit obligation means 
the accumulated post-retirement benefit obligation in excess of the 
valuation assets. The excess of the valuation assets over the 
accumulated post-retirement benefit obligation is an actuarial post-
retirement benefit surplus and is treated as a negative unfunded 
accumulated post-retirement benefit obligation.
    (16) Valuation assets means the total value of assets used to 
determine post-retirement benefit cost. Valuation assets are the sum of 
the fair value of assets plus the accumulated value of unfunded 
accruals reduced by the accumulated value of prepayment credits.
    (b) The following modifications of terms defined elsewhere in this 
Chapter 99 are applicable to this Standard:
    (1) Actuarial cost method means a technique which uses assumptions 
to measure the present value of future post-retirement benefits and 
post-retirement benefit plan administrative expenses, and which assigns 
the cost of such benefits and expenses to cost accounting periods. The 
actuarial cost method includes the asset valuation method used to 
determine the market-related value of plan assets.
    (2) Funding agency means an organization or individual which 
provides facilities to receive and accumulate assets to be used either 
for the payment of benefits under a post-retirement benefit plan, or 
for the purchase of such benefits, provided such accumulated assets 
form a part of a post-retirement benefit plan established for the 
exclusive benefit of the plan participants and their beneficiaries.
    (3) Nonforfeitable means a right to a post-retirement benefit, 
either immediate or deferred, which arises from an employee's service, 
which is unconditional, and which is legally enforceable against the 
post-retirement benefit plan or the contractor. Rights to benefits that 
do not satisfy this definition are considered forfeitable. A right to a 
post-retirement benefit is not considered forfeitable solely because it 
may be affected by the employee's or beneficiary's death or disability. 
Nor is a right considered forfeitable because it can be affected by the 
unilateral actions of the employee.
    (4) Pay-as-you-go cost method means a method of recognizing post-
retirement benefit cost only when post-retirement benefits are paid to 
or on behalf of retired employees or their beneficiaries.
    (5) Prepayment credit means the amount funded in excess of the 
post-retirement benefit cost assigned to a cost accounting period that 
is carried forward for future recognition.
    (ii) The accumulated value of prepayment credits means the value, 
as of the measurement date, of the prepayment credits adjusted for 
imputed earnings and decreased for amounts used to fund post-retirement 
benefit costs or obligations, whether assignable or not.
    (6) Segment closing means that a segment or business unit has been 
sold or ownership has been otherwise transferred, discontinued 
operations, or discontinued doing or actively seeking Government 
business under contracts subject to this Standard. Segment mergers or 
splits within the contractor's operations shall not be considered a 
segment closing for purposes of this Standard.
    (c) Other terms used prominently in this Standard have the same 
meanings as in Statement of Financial Accounting Standards No. 106 
``Employers'' Accounting for Post-retirement Benefits Other Than 
Pensions' (SFAS 106), including subsequent amendments.


9904.419-40  Fundamental requirements.

    (a) Recognition of post-retirement benefit costs. The commitment to 
provide post-retirement benefits in future periods shall be evidenced 
by a post-retirement benefit plan.
    (1) The cost of a post-retirement benefit plan shall be accounted 
for using accrual accounting provided that:
    (i) The right to a post-retirement benefit is communicated in 
writing to the participants, including notice of the right to legally 
enforce payment of such benefit.
    (ii) The participant has an irrevocable right to any portion of a 
benefit for which the participant has attained eligibility.
    (iii) If the contractor reserves rights to terminate or otherwise 
cancel, eliminate, or reduce the rights of employees to any portion of 
post-retirement benefits for which an employee has become eligible, the 
post-retirement benefit plan shall fail to meet the criteria set forth 
in paragraph (a)(1)(ii) of this section.
    (iv) For defined-contribution post-retirement plans, the cost for a 
cost accounting period is the contribution required by the written 
provisions of the post-retirement benefit plan.
    (v) For defined-benefit post-retirement plans, the cost for a cost 
accounting period is actuarially determined based upon the written 
provisions of the post-retirement benefit plan.
    (2) The cost of any post-retirement benefit plan that fails to meet 
the criteria set forth in 9904.419-40(a)(1) shall be accounted for 
using the pay-as-you-go cost method.
    (b) Measurement and assignment of post-retirement benefit cost.
    (1) Except for costs assigned to future periods by 9904.419-
40(b)(5)(iii), the amount of post-retirement benefit cost determined 
for a cost accounting period is assignable only to that period.
    (2) To the extent that insurance contracts are purchased during the 
period to cover post-retirement benefits attributed to service in the 
current period:
    (i) The cost of those benefits shall be accounted for in accordance 
with Cost Accounting Standard 9904.416, Accounting for Insurance Costs.
    (ii) However, if the insurance is purchased from a captive insurer, 
the post-retirement benefit cost shall be determined in accordance with 
this Standard.
    (iii) The costs of benefits attributed to current service in excess 
of benefits provided by such insurance contracts purchased during the 
current period shall be accounted for according to the provisions of 
this Standard applicable to plans not involving insurance contracts.
    (iv) For purposes of 9904.419-40(b)(3)(ii) and 9904.419-
50(e)(2)(i), the cost of purchasing contracts to irrevocably settle all 
obligations for post-retirement benefit obligations to a plan 
participant or participants shall be treated the same as any other 
settlement payment.
    (3) For plans accounted for under the pay-as-you-go cost method, 
the components of post-retirement benefit cost for a cost accounting 
period are the contractor's share of:
    (i) The net amount paid to or on behalf of retired employees or 
their

[[Page 59529]]

beneficiaries for post-retirement benefits incurred during that period, 
and
    (ii) An amortization installment, including an interest equivalent 
on the unamortized settlement amount, attributable to the net amount 
paid to irrevocably settle an obligation for post-retirement benefits 
of current and future cost accounting periods.
    (4) For defined-contribution plans using accrual accounting, the 
post-retirement benefit cost for a cost accounting period is the net 
contribution required to be made to participants' accounts for that 
period, after taking into account dividends and other credits, where 
applicable.
    (5) For defined-benefit plans using accrual accounting:
    (i) The components of post-retirement benefit cost for a cost 
accounting period are:
    (A) Service cost,
    (B) Interest cost,
    (C) Actual return on the fair value of plan assets, adjusted for 
interest equivalents on the accumulated value of unfunded accruals or 
prepayment credits,
    (D) Amortization of unrecognized prior service cost, if any,
    (E) The amortization of the unrecognized gain or loss as provided 
for in this Standard, and
    (F) Amortization of any unrecognized transition obligation or 
asset.
    (ii) The post-retirement benefit cost of a cost accounting period 
shall be determined by use of the same methods, assumptions, and asset 
values used for financial reporting purposes in accordance with SFAS 
106, as amended, unless specified otherwise in this Standard.
    (iii) The post-retirement benefit costs assigned to a period shall 
not exceed the assignable post-retirement benefit cost limitation. Any 
amount in excess of the assignable post-retirement benefit cost 
limitation shall be recognized in future periods as an actuarial loss 
in accordance with 9904.419-50(b)(2)(vii). The assignable post-
retirement benefit cost limitation is measured as the sum of:
    (A) The amount of benefits paid by the contractor for the cost 
accounting period, and,
    (B) The unfunded nonforfeitable post-retirement benefit obligation, 
if any.
    (iv) The post-retirement benefit cost of a cost accounting period 
is assignable only if the unfunded accumulated post-retirement benefit 
obligation equals the sum of the unrecognized net gain or loss 
(including any unrecognized amount determined in accordance with 
9904.419-50(e)(2)(i)), unrecognized prior service cost, and the 
unrecognized transition obligation or transition asset.
    (c) Post-retirement benefit cost of segments.
    (1) Post-retirement benefit costs shall be directly or indirectly 
allocated to each segment having participants identified with the post-
retirement benefit plan who generate cost under the cost accounting 
method in use. If a post-retirement benefit plan has plan participants 
in a home office, the home office shall be treated as a segment for 
purposes of allocating the cost of the post-retirement benefit plan.
    (2) A separate calculation (direct allocation) of post-retirement 
benefit costs for a segment is required when any of the conditions set 
forth in 9904.419-50(c)(2) is present. When such conditions are not 
present, indirect allocations may be made by calculating a composite 
post-retirement benefit cost for two or more segments and allocating 
this cost to these segments.
    (3) For defined-benefit plans using accrual accounting:
    (i) Except where use of a different assumption or assumptions is 
required by 9904.419-50(c)(2)(iii), the same assumptions shall be used 
for all segments covered by a plan.
    (ii) Contractors shall separately account for the assets and 
accumulated value of unfunded accruals of each segment whenever post-
retirement benefit costs are separately calculated for the segment.
    (d) Allocation of post-retirement benefit cost to cost objectives. 
The post-retirement benefit costs for a segment are allocable to that 
segment's intermediate and final cost objectives.
    (e) Adjustments for curtailments, settlements, and termination 
benefits. In the event that a contractor curtails a post-retirement 
benefit plan, settles a post-retirement benefit obligation, or grants 
termination benefits:
    (1) For plans accounted for under the pay-as-you-go cost method, no 
adjustment attributable to previously determined post-retirement 
benefit costs is permitted to be recorded. Existing contract prices or 
costs shall not be adjusted.
    (2) For defined-contribution plans using accrual accounting, if the 
post-retirement benefit plan is terminated or the right to earn future 
vesting or retirement eligibility service is curtailed, the contractor 
must separately determine the financial effect of such event and record 
an adjustment for each affected segment. The adjustment shall be 
amortized over the current and future periods. Existing contract prices 
or costs shall not be adjusted.
    (3) For defined-benefit plans using accrual accounting, the 
contractor must separately recognize the financial effect of such event 
by recording an adjustment for each affected segment. The adjustment 
shall be amortized over the current and future periods. Existing 
contract prices or costs shall not be adjusted.
    (f) Adjustments for segment closings. If a segment is closed, the 
contractor shall determine the effect of such segment closing on the 
post-retirement benefit costs of each affected segment.
    (1) For plans accounted for under the pay-as-you-go cost method, no 
segment closing adjustment attributable to previously determined post-
retirement benefit costs is permitted.
    (2) For defined-contribution plans using accrual accounting, the 
contractor shall determine a segment closing amount which represents an 
adjustment to previously determined post-retirement benefit costs that 
were recognized as incurred costs at the closed segment. The recorded 
amount shall give full recognition to any unrecognized portion of any 
credit for plan termination or curtailment of vesting or retirement 
eligibility service. Recovery or payment of the Government's share of 
such amount shall be made as an adjustment to contract price or cost or 
by other suitable techniques.
    (3) For defined-benefit plans using accrual accounting, the 
contractor shall determine a segment closing amount which represents an 
adjustment to previously determined post-retirement benefit costs that 
were recognized as incurred costs at the closed segment. The recorded 
amount shall give full recognition to the nonforfeitable post-
retirement benefit obligation and valuations assets, except to the 
extent the nonforfeitable post-retirement benefit obligation and 
valuations assets have been assumed by a successor-in-interest to the 
contracts of the closed segment. To the extent that the accumulated 
post-retirement benefit obligation, nonforfeitable post-retirement 
benefit obligation, valuations assets and associated unrecognized 
amounts have been so transferred, the effect of such transfer will be 
recognized in future accounting periods by the successor-in-interest. 
Recovery or payment of the Government's share of the segment closing 
amount shall be made as an adjustment to contract price or cost or by 
other suitable techniques.


9904.419-50  Techniques for Application.

    (a) Recognition of post-retirement benefit costs.

[[Page 59530]]

    (1) Post-retirement benefit costs shall be determined separately 
for each post-retirement benefit plan by applying the provisions of 
this Standard to each such plan. Post-retirement benefit costs may be 
determined on an aggregate basis for two or more separate plans if 
those plans use the same cost accounting method, that is, accrual 
accounting or the pay-as-you-go method, and either:
    (i) Those plans provide different benefits to the same group of 
plan participants, or
    (ii) Those plans provide benefits that are similar in definition 
and amount to different groups of plan participants.
    (2) If a post-retirement benefit plan provides two or more 
separately identifiable categories of benefits, e.g., healthcare 
benefits and life insurance benefits, the contractor may treat each 
benefit as a separately identifiable post-retirement benefit plan. The 
costs of each such post-retirement benefit plan may be separately 
determined and accounted for.
    (3) If a post-retirement benefit plan provides benefits to two or 
more mutually exclusive classes of plan participants, e.g., those 
eligible for retirement before a specified date and those eligible 
after such date, the contractor may treat each such mutually exclusive 
class as a separately identifiable post-retirement benefit plan. The 
costs of post-retirement benefit plan may be separately determined and 
accounted for.
    (4) If the substance of a post-retirement benefit plan having 
characteristics of both a defined-benefit post-retirement plan and a 
defined-contribution post-retirement plan is to provide a defined 
benefit, the costs of such plan shall be determined and accounted for 
in accordance with the provisions of this Standard applicable to 
defined-benefit post-retirement plans. Conversely, if the substance of 
a post-retirement benefit plan having characteristics of both a 
defined-benefit plan and a defined-contribution plan is to provide 
benefits determined by defined contributions, the costs of such plan 
shall be determined and accounted for in accordance with the provisions 
of this Standard applicable to defined-contribution post-retirement 
plans.
    (5) A multiemployer post-retirement benefit plan established 
pursuant to the terms of a collective bargaining agreement shall be 
considered to be a defined-contribution post-retirement plan for 
purposes of this Standard.
    (6) A post-retirement benefit plan applicable to a Federally-funded 
Research and Development Center (FFRDC) that is part of a State post-
retirement benefit plan shall be considered to be a defined-
contribution post-retirement plan for purposes of this Standard.
    (7) Post-retirement benefits provided in whole or in part by funds 
that are separately accounted for within the trust fund of a qualified 
pension plan shall be accounted for as post-retirement benefits subject 
to this Standard.
    (b) Measurement and assignment of post-retirement benefit cost.
    (1) For plans accounted for under the pay-as-you-go cost method, 
any amount paid to irrevocably settle an obligation for post-retirement 
benefits payable in current and future cost accounting periods shall be 
amortized over a period of fifteen years in equal annual installments. 
Such amortization shall include an interest equivalent each period 
equal to the rate determined by the Secretary of the Treasury pursuant 
to Public Law 92-41, 85 Stat. 97 at the time of the settlement. If the 
amount paid to settle the obligation is not material, the full amount 
of the settlement may be assigned to the current period.
    (2) For plans using accrual accounting:
    (i) Post-retirement benefit cost shall be determined based on 
current active and inactive plan participants. This provision shall not 
preclude use of an assumption concerning future reemployments.
    (ii) Post-retirement benefit cost shall be determined based on the 
written provisions of the post-retirement benefit plan. This shall not 
preclude contractors from making salary projections for plans whose 
benefits are based on salaries and wages, nor from considering benefit 
revisions for plans which provide that such revisions must be made.
    (iii) The assumed health care trend rate may not exceed the assumed 
expected long-term rate of return on plan assets. If no assumption is 
made concerning the expected long-term rate of return on plan assets, 
the health care trend rate assumption shall not exceed the interest 
rate as determined by the Secretary of the Treasury pursuant to Public 
Law 92-41, 85 Stat. 97.
    (iv) The actual return on the fair value of plan assets component 
of post-retirement benefit cost shall be increased by an interest 
equivalent on the accumulated value of unfunded accruals determined 
using the interest rate as determined by the Secretary of the Treasury 
pursuant to Public Law 92-41, 85 Stat. 97.
    (v) The actual return on the fair value of plan assets component of 
post-retirement benefit cost shall be decreased by an interest 
equivalent on the accumulated value of prepayment credits determined 
using the interest rate as determined by the Secretary of the Treasury 
pursuant to Public Law 92-41, 85 Stat. 97.
    (vi) The fair value and market-related value of plan assets shall 
not be adjusted for any fee, reserve charge, or other investment charge 
for withdrawals from or termination of an investment or insurance 
contract, trust agreement, or other funding arrangement, unless such 
fee is determined in an arm's length transaction, and actually is 
incurred and paid.
    (vii) The gain or loss component of post-retirement benefit cost 
(excluding plan asset gains and losses not yet reflected in the market-
related value of plan assets) that is determined for a cost accounting 
period shall be recognized as follows:
    (A) The contractor shall amortize each gain or loss over the 
average remaining service period of active plan participants. If all or 
almost all of a plan's participants are inactive, the average remaining 
life expectancy of the inactive participants shall be used instead of 
the average remaining service period. If the gain or loss is not 
material, the entire gain or loss may be included as a component of the 
current or ensuing period's post-retirement benefit cost.
    (B) Except as provided in 9904.419-50(e)(2)(i), the contractor 
shall establish and consistently follow a policy for amortizing gains 
and losses. Any amortization policy shall include criteria for 
selecting specific amortization periods and may give consideration to 
factors such as the size and nature of the gain or loss. Once the 
amortization period for a gain or loss is selected, the amortization 
process shall continue to completion unless full recognition is 
required by 9904.419-50(f)(3)(i).
    (viii) Any tax assessed pursuant to a law or regulation because of 
excess, inadequate, or delayed funding of a post-retirement benefit 
plan shall be excluded from the assigned post-retirement benefit cost 
and from the tax expense reflected in the actual return on the fair 
value of plan assets component of post-retirement benefit costs.
    (c) Post-retirement benefit cost of segments.
    (1) Contractors who calculate a composite post-retirement benefit 
cost covering plan participants in two or more segments shall allocate 
such composite costs to segments as follows:
    (i) For plans accounted for under the pay-as-you-go cost method, 
the contractor shall allocate post-retirement benefit costs to a 
segment to the extent that such costs can be identified with

[[Page 59531]]

that segment. Any post-retirement benefit costs remaining after such 
allocation shall be categorized as a residual expense of the home 
office or home offices most immediately identified with the post-
retirement benefit plan. The allocation of post-retirement benefit 
costs shall give consideration to any refund, rebate, or other credit, 
that is disproportionately attributable to individual segments.
    (ii) For plans using accrual accounting, contractors shall 
indirectly allocate or separately calculate post-retirement benefit 
costs for each segment having active or inactive participants of the 
post-retirement benefit plan. Any allocation base selected shall be 
representative of the factors used to calculate the post-retirement 
benefit cost, such as headcount or salary.
    (2) For plans using accrual accounting, post-retirement benefit 
costs shall be separately calculated for a segment (including an 
aggregation of segments) whenever any of the following conditions exist 
for that segment, provided that such condition(s) materially affect the 
amount of post-retirement benefit cost allocated to the segment:
    (i) The cost of benefits, level of benefits, eligibility for 
benefits, or plan demographics are materially different for the segment 
than for the average of all segments; or
    (ii) There is a refund, credit, or other gain or loss from one or 
more sources that is disproportionately attributable to the segment. If 
such refund, credit, gain or loss is expected to be non-recurring, 
separate calculations are not required unless required by other 
conditions of this paragraph. In that case, there shall be a special 
direct allocation of only the non-recurring amount which shall be 
accounted for and amortized at the segment level.
    (iii) For defined-benefit plans, any appropriate assumption or 
assumptions are materially different for the segment than for the 
average of all segments.
    (iv) For defined-benefit plans, a contractor follows a practice of 
funding post-retirement benefit costs disproportionately for segments 
subject to this Standard.
    (v) For defined-benefit plans,
    (A) If the post-retirement benefit plan for a segment becomes 
merged with the plan of another segment, or the post-retirement benefit 
plan is divided into two or more post-retirement benefit plans, and in 
either case,
    (B) The ratios of valuation assets to the accumulated post-
retirement benefit obligation for each of the merged or separated plans 
are materially different from one another after applying the benefits 
in effect after the post-retirement benefit plan merger or post-
retirement benefit plan division.
    (3) For plans using accrual accounting, notwithstanding the 
provisions of paragraph (c)(2) of this subsection, contractors may 
elect to calculate post-retirement benefit costs separately for each 
segment having participants in a post-retirement benefit plan.
    (4) For segments whose post-retirement benefit costs are calculated 
separately pursuant to paragraphs (c)(2) or (3) of this subsection, 
such calculations shall be prospective only; post-retirement benefit 
costs shall not be redetermined for prior years.
    (5) Funding of post-retirement benefit cost for a cost accounting 
period shall be considered to have taken place within such period if it 
is accomplished by the corporate tax filing date for such period, 
including any permissible extensions thereto.
    (6) For defined-benefit plans using accrual accounting, whenever 
pension cost for a segment is calculated separately pursuant to 
paragraphs (c)(2) or (3) of this subsection:
    (i) When post-retirement benefit costs are first separately 
calculated for a segment, there shall be an initial allocation of a 
share in the undivided fair value of plan assets and the undivided 
accumulated value of unfunded accruals to segments. This division shall 
be made in accordance with 9904.419-50(c)(6)(viii) based upon the 
nonforfeitable post-retirement benefit obligation and nonforfeitable 
post-retirement benefit obligation, except as otherwise provided for in 
this subparagraph. Prior to this initial allocation of assets, the 
accumulated value of prepayment credits, if any, shall be deducted from 
the undivided fair value of plan assets and separately identified.
    (A) If a contractor has separately identified the fair value of 
plan assets in accordance with 9904.419-64(f), such fair value of plan 
assets and all other values previously allocated to those segments as 
of the date of such determination shall not be changed.
    (B) If a contractor has been determining the accrual for post-
retirement benefit costs on a composite basis and allocating such costs 
to segments, the initial allocation of the valuation assets shall 
reflect such prior cost determinations and allocations made pursuant to 
this Standard. If the necessary data are readily determinable, the fair 
value of plan assets to be allocated to each segment shall be the 
amount contributed by, or on behalf of, the segment, increased by 
income received on such assets, and decreased by benefits and expenses 
paid from such assets.
    (C) If the necessary data are not readily determinable for certain 
prior periods, the fair value of plan assets net of any separately 
identified accumulated value of prepayment credits shall be allocated 
to segments based on the ratio of the accumulated post-retirement 
benefit obligation of each segment to that of the plan as a whole. The 
accumulated value of unfunded accruals shall be allocated to segments 
in the same proportions as such net fair value of plan assets.
    (D) Thereafter, the fair value of plan assets allocable to each 
segment shall be brought forward as described in paragraph (c)(6)(iii) 
of this subsection. The accumulated value of unfunded accruals 
allocated to each segment shall be brought forward in accordance with 
paragraph (c)(6)(v) of this subsection and the definition at 9904.419-
30(a)(1).
    (ii) When post-retirement benefit costs are first separately 
calculated for a segment, there shall be an initial allocation of the 
undivided values of unrecognized prior service cost, unrecognized 
transition obligation, and unrecognized gains and losses (including any 
gains or losses from curtailments, settlements, or granting termination 
benefits). Such values shall be allocated to the segment based on the 
ratio of the unfunded accumulated post-retirement benefit obligation of 
the segment to that of the plan as a whole. These unrecognized amounts 
shall be brought forward in accordance with the separately calculated 
post-retirement benefit cost of the segment.
    (iii) After the initial allocation of the fair value of plan 
assets, the contractor shall maintain a record of the portion of 
subsequent contributions, income, benefit payments, and expenses 
attributable to segments and paid from the plan assets.
    (A) Amounts deposited to a funding agency shall be apportioned to 
segments in proportion to the post-retirement benefit costs allocated 
to or separately calculated for the individual segments. However, if a 
contractor consistently follows a practice of separately calculating 
post-retirement benefit costs for segments, the contractor may first 
apportion amounts funded to segments in proportion to the post-
retirement benefit cost of such segments subject to this Standard. Any 
portion of the amount deposited remaining after apportioning funding to 
segments whose costs are subject to this Standard, shall then be 
apportioned to other segments. No prepayment credit shall be

[[Page 59532]]

measured until the post-retirement benefit cost of all segments is 
funded.
    (B) Income and expenses shall include a portion of any investment 
gains and losses attributable to the plan assets. Income and expenses 
attributable to plan assets shall be allocated to segments in the same 
proportion that the average value of plan assets allocated to each 
segment bears to the average value of total plan assets for the period 
for which income and expenses are being allocated.
    (iv) Once the fair value of plan assets has been determined for 
segments in accordance with paragraphs (c)(6)(i) or (iii) of this 
subsection each year, the market-related value of plan assets shall be 
allocated to each segment in the same proportion as the fair value of 
plan assets.
    (v) Any portion of post-retirement benefit cost of a segment for a 
cost accounting period that is not funded within such period shall be 
accounted for as an unfunded accrual and carried forward to future 
accounting periods. The contractor may elect to fund portions of, and 
thereby reduce, the accumulated value of unfunded accruals. Such 
funding shall not be recognized for purposes of paragraph (c)(5) of 
this subsection.
    (vi) Amounts funded in excess of the total post-retirement benefit 
cost of a segment for a cost accounting period shall be accounted for 
as a prepayment credit and carried forward to future accounting 
periods. The accumulated value of prepayment credits shall be reduced 
for portions of the accumulated value of prepayment credits used to 
fund post-retirement benefit costs or to fund portions of the 
accumulated value of unfunded accruals.
    (vii) Any benefit payments to or on behalf of a segment's plan 
participants which are made by the contractor from a source other than 
the plan assets shall be treated as funding in accordance with 
paragraph (c)(5) of this subsection. The accumulated value of unfunded 
accruals shall be reduced by any such benefit payments that exceed the 
assigned post-retirement benefit cost for cost accounting period.
    (viii) (A) If plan participants transfer among segments or if a 
segment is split into two or more segments, the contractor shall 
transfer fair value of plan assets, accumulated value of unfunded 
accruals, and accumulated value of prepayment credits as follows:
    (1) The contractor shall first allocate fair value of plan assets, 
accumulated value of unfunded accruals, and accumulated value of 
prepayment credits to the nonforfeitable post-retirement benefit 
obligation based on the ratio of the nonforfeitable post-retirement 
benefit obligation to the valuation assets. Such ratio shall not exceed 
one (1). Allocate any remaining fair value of plan assets, accumulated 
value of unfunded accruals, and accumulated value of prepayment credits 
to the forfeitable post-retirement benefit obligation.
    (2) The contractor shall then transfer fair value of plan assets, 
accumulated value of unfunded accruals, and accumulated value of 
prepayment credits allocated to the nonforfeitable post-retirement 
benefit obligation in proportion to the nonforfeitable post-retirement 
benefit obligation transferred.
    (3) Finally, the contractor shall transfer fair value of plan 
assets, accumulated value of unfunded accruals, and accumulated value 
of prepayment credits allocated to the forfeitable post-retirement 
benefit obligation in proportion to the forfeitable post-retirement 
benefit obligation transferred.
    (B) In addition, a portion of each unrecognized prior service cost, 
unrecognized transition obligation, and unrecognized gain or loss 
(including any gains or losses from curtailments, settlements, or 
granting termination benefits) shall be transferred in proportion to 
the unfunded accumulated post-retirement obligation transferred. The 
contractor may follow a consistent practice which deems that all 
transfers occur at the end of the period. The undivided market-related 
value of plan assets shall be allocated in proportion to the fair value 
of plan assets of each segment after the transfer. Contractors need not 
transfer assets and other values if the net amount of transfers is 
immaterial.
    (d) Allocation of post-retirement benefit cost to cost objectives. 
The allocation of post-retirement benefit cost of segments to 
intermediate and final cost objectives shall be made in accordance with 
applicable Standards.
    (e) Adjustments for curtailments, settlements, and termination 
benefits.
    (1) For defined-contribution plans using accrual accounting, in the 
event a contractor terminates a post-retirement benefit plan or 
curtails vesting or retirement eligibility service, then the contractor 
shall determine the amount of nonvested account balances subject to 
forfeiture. Such amount shall be determined as of the date of such plan 
termination or curtailment of vesting or retirement eligibility 
service. The amount of the credit shall be amortized and assigned over 
a period of ten (10) years beginning with the period in which the event 
occurs.
    (2) For defined-benefit plans using accrual accounting:
    (i) In the event a contractor curtails a post-retirement benefit 
plan, settles a post-retirement benefit obligation, or grants 
termination benefits, then the contractor shall measure the gain or 
loss caused by such event separately from the annual gain or loss 
determined for purposes of 9904.419-50(b)(2)(vii). In measuring such 
amount, the contractor shall apply the methods and techniques 
prescribed in SFAS 106. Any such gain or loss remaining after 
offsetting any portion of unrecognized prior service costs, prior gains 
and losses, or transition obligation shall be amortized and assigned 
over a period of ten (10) years beginning with the period in which the 
event occurs.
    (ii) If a post-retirement benefit plan is terminated, the 
contracting parties may agree to establish a single plan termination 
amount by aggregating the net sum of any unrecognized gain or loss 
adjustments for curtailments, settlements, or granting of termination 
benefits determined in accordance with this subsection plus any 
remaining unrecognized net gain or loss determined in accordance with 
9904.419-50(b)(2)(vii). Such plan termination amount shall be amortized 
and assigned over a period of ten (10) years beginning with the period 
in which the plan termination occurred.
    (iii) If the contractor has not already allocated the fair value of 
plan assets and other relevant values to the segment, such an 
allocation shall be made in accordance with the requirements of 
9904.419-50(c)(6)(i) and (ii).
    (f) Adjustments for segment closings. If a segment is closed, the 
contractor shall determine a segment closing amount which represents an 
adjustment to previously determined post-retirement benefit costs as 
follows:
    (1) For plans accounted for under the pay-as-you-go cost method:
    (i) The contractor shall not adjust previously determined post-
retirement benefit costs. Contract price or cost adjustments are not 
permitted.
    (ii) If the segment discontinues operations, is sold, or ownership 
is otherwise transferred, all remaining inactive plan participants 
shall be transferred to the closed segment's immediate home office.
    (2) For defined-contribution plans using accrual accounting, the 
segment closing amount shall be measured as the unrecognized portion of 
the plan termination or curtailment of vesting or retirement 
eligibility service credit determined in accordance with 9904.419-
50(e)(1).

[[Page 59533]]

    (3) For defined-benefit plans using accrual accounting:
    (i) The segment closing amount shall be measured as the difference 
between the nonforfeitable post-retirement benefit obligation and the 
valuation assets.
    (ii) The contractor's methods and assumptions used to determine the 
segment closing amount shall be consistent with those used in the 
measurement of post-retirement benefit costs prior to the segment 
closing.
    (iii) If the segment discontinues operations, all remaining 
inactive plan participants shall be transferred to the closed segment's 
immediate home office, along with the accumulated post-retirement 
benefit obligation, fair value of plan assets and all other values 
attributable to such transferred inactive participants.
    (iv) If the segment is sold, or ownership is otherwise transferred, 
and the contractor retains some or all of the accumulated post-
retirement benefit obligation, the fair value of plan assets and all 
other values shall be split between the contractor and the buyer in 
accordance with 9904.419-50(c)(6)(viii) based upon the accumulated 
post-retirement benefit obligation retained by the contractor and the 
balance of the accumulated post-retirement benefit obligation which is 
transferred to the buyer. The accumulated post-retirement benefit 
obligation, fair value of plan assets and all other values retained by 
the contractor shall be transferred to the closed segment's immediate 
home office.
    (v) If the segment is sold or ownership is otherwise transferred 
and such sale or transfer of ownership is to a successor-in-interest 
then:
    (A) If the entire accumulated post-retirement benefit obligation, 
fair value of plan assets, accumulated value of unfunded accruals, and 
accumulated value of prepayment credits are transferred to the 
successor contractor, there shall be no adjustment to previously 
determined post-retirement benefit costs.
    (B) If the contractor retains some or all of the accumulated post-
retirement benefit obligation, the accumulated post-retirement benefit 
obligation and all other values shall be allocated between the 
contractor and the successor-in-interest in accordance with paragraph 
(f)(3)(iv) of this section. The segment closing amount shall be 
determined based on such retained values.
    (C) The contractor's methods and assumptions are deemed to be 
adopted by the successor-in-interest so that the effect of the 
segment's transferred assets and liabilities is carried forward and 
recognized in the accounting for post-retirement benefit cost at the 
successor contractor. Any changes in methods or assumptions shall be 
deemed to occur immediately after such transfer.
    (vi) Once determined, any adjustment credit shall be first used to 
reduce the accumulated value of unfunded accruals. After the 
accumulated value of unfunded accruals has been reduced, any remaining 
adjustment amount shall be accounted for as a prepayment credit. Any 
adjustment charge shall be accounted for as an unfunded accrual to the 
extent that funds are not added to the fair value of assets.
    (4) The Government's share of the segment closing amount (charge or 
credit) shall be the product of the total segment closing amount 
determined in accordance with paragraphs (f)(2) or (3) of this 
subsection and a fraction. The numerator of such fraction shall be the 
sum of the post-retirement benefit plan costs allocated to all 
contracts and subcontracts (including Foreign Military Sales) subject 
to this Standard during a period of years representative of the 
Government's participation in the post-retirement benefit plan costs on 
an accrual basis. The denominator of such fraction shall be the total 
post-retirement benefit plan costs assigned to cost accounting periods 
during the same period. The contracting parties shall recognize the 
Government's share of the segment closing amount that is applicable to 
the segment's contracts that are subject to this Standard by adjusting 
contract prices, target costs or cost ceilings, or, by any other 
suitable technique acceptable to the cognizant Federal agency official.
    (5) For purposes of this subsection and paragraph (e) of this 
section, if the date of the event is not readily determinable, or if 
its use can result in an inequitable calculation, the contracting 
parties shall agree on an appropriate date.


9904.419-60  Illustrations.

    These illustrations presume that the contractor's post-retirement 
benefit plan, cost methods, and actuarial assumptions meet the 
requirements of this Standard except as noted in the particular 
illustration.
    (a) Recognition of post-retirement benefit costs. 
    (1) The written terms of Contractor A's defined-contribution post-
retirement plan require that the contractor make contributions of a 
specified percentage of each employee's base salary to individual 
accounts held by an organization that satisfies the 9904.419-30(b)(2) 
definition of a funding agency. Upon retirement each employee's 
accumulated account balance is annuitized and used to pay a portion of 
the annual premium on the retiree's ``Medigap'' health insurance policy 
purchased from an non-captive insurance carrier. Pursuant to 9904.419-
40(a)(1)(iv), the contractor determines the cost of its defined-
contribution plan for each cost accounting period as the sum of the 
required net contributions deposited into the individual participants' 
accounts held by the funding agency.
    (2) Contractor B sponsors a defined-benefit retiree health plan 
which historically has been amended every three (3) years to increase 
the amounts of the annual deductible and copayment. This post-
retirement benefit plan meets the criteria for accrual accounting set 
forth in 9904.419-40(a)(1). Pursuant to 9904.419-40(a)(1)(v), the 
contractor must actuarially determine the cost of its post-retirement 
benefit plan for the current period based upon the deductible and 
copayment amounts specified in the current written plan document. 
Pursuant to 9904.419-50(b)(2)(ii), the actuarial gain attributable to 
any future amendment increasing the deductible and copayment can not be 
recognized until such amendment is adopted.
    (3) Contractor C has historically paid a percentage of the health 
insurance premiums for its retirees. Each year the contractor has 
renewed its intent to continue this program for the upcoming year in a 
letter to its retirees. Although active employees are occasionally 
informally told of this program, especially as they prepare to retire, 
the program is not mentioned in the employee handbook nor any other 
employee communication. However, the letter was not sent to all plan 
participants, did not include a notice of the right to legally enforce 
payment of the benefit, and did not provide an irrevocable right to the 
benefit once participants had attained eligibility. In accordance with 
9904.419-40(a)(2), the cost of this post-retirement health plan must be 
accounted for using the pay-as-you-go cost method because the criteria 
set forth at 9904.419-40(a)(1)(i) and (ii) were not met.
    (4) Contractor D sponsors a retiree life insurance program that 
provides a death benefit equal to 35% of an employee's final earnings, 
subject to a minimum death benefit of $10,000. This defined-benefit 
post-retirement plan meets the criteria set forth in 9904.419-40(a)(1). 
The contractor pays an annual premium to an non-captive insurer to 
provide a $10,000 participating life insurance

[[Page 59534]]

policy for all employees at retirement. Pursuant to 9904.416-
50(a)(1)(i) of Cost Accounting Standard 9904.416, the contractor's 
established practice is to adjust the annual insurance premium for any 
refunds, dividends, additional assessments, or other credits or 
charges, in the cost accounting period in which such credit or charge 
is received or receivable. The cost for the projected benefit that 
exceeds $10,000 must be accounted for as a defined-benefit plan using 
accrual accounting in accordance with 9904.419-40(b)(2)(iii). Pursuant 
to 9904.419-40(b)(2), the cost for a cost accounting period is the 
premium paid to provide the basic $10,000 death benefit, adjusted in 
accordance to 9904.416-50(a)(1)(i), plus the annual amount determined 
in accordance with the accrual accounting provisions of this Standard 
relating to defined-benefit post-retirement benefit plans. If the 
insurance had been obtained from a captive insurer as defined by 
9904.419-30(a)(3), the entire cost of the plan would have been subject 
to this Standard in accordance with 9904.419-40(b)(2)(ii).
    (5) Contractor E sponsors two post-retirement benefit plans which 
each have a separate plan document. One plan provides retiree health 
benefits for all employees of the contractor. The other plan provides 
retiree dental and vision benefits for the same employees. Neither plan 
meets the criteria specified at 9904.419-40(a)(1) and therefore, are 
required to be accounted for using the pay-as-you-go method in 
accordance with 9904.419-50(a)(2). Pursuant to 9904.419-50(a)(1)(i), 
the contractor may elect to determine the cost of the two plans on an 
aggregate basis.
    (6) Contractor F sponsors two defined-benefit post-retirement plans 
which each have a separate plan document. One plan provides health 
benefits to all retired salaried employees. The other plan provides the 
same health benefits to all retired bargaining unit employees. Because 
both plans satisfy the criteria of 9904.419-50(a)(1), both are required 
to use accrual accounting. Pursuant to 9904.419-50(a)(1)(ii), the 
contractor may elect to determine the cost of the two plans on an 
aggregate basis.
    (7) Contractor G sponsors a single post-retirement benefit plan 
that provides health benefits and life insurance benefits. The 
contractor has retained the right to terminate the health benefits for 
all but those employees who are retired or have attained eligibility 
for benefits. The contractor pays level annual premiums to an non-
captive insurance carrier designed to provide paid-up participating 
life insurance contracts by the time an employee reaches retirement and 
the employees have an irrevocable right to the current value of the 
insurance contracts. The contractor's established practice is to adjust 
the annual participating insurance premium by the amount of estimated 
refunds and dividends in accordance with 9904.416-50(a)(1)(vi) of Cost 
Accounting Standard 9904.416, and therefore such adjusted level annual 
premiums satisfy the requirements of 9904.419-40(b)(2)(i). Because the 
plan satisfies the criteria set forth at 9904.419-40(a)(1), the 
contractor must account for the cost of the benefits not provided 
through insurance contracts using accrual accounting as required by 
9904.419-50(b)(2)(iii). Alternatively, 9904.419-40(a)(2) permits the 
contractor to separately identify and account for the cost of the life 
insurance benefit as if it were a separate post-retirement benefit 
plan.
    (8) Contractor H has a single defined-benefit post-retirement plan. 
The plan provides one set of benefits to retirees and employees who 
were eligible to retire on or before December 31, 1995 (the ``protected 
group''). Under the terms of the post-retirement benefit plan, the 
contractor has no right to reduce these benefits. Employees eligible 
for retirement on or after January 1, 1996 are provided a less generous 
set of benefits and the contractor retains the right to terminate the 
plan or reduce benefits even after eligibility is attained. Because the 
plan does not fully satisfy the criteria set forth at 9904.419-
40(a)(1), the pay-as-you-go method must be used to account for the cost 
of the plan. Pursuant to 9904.419-50(a)(3), the contractor may identify 
the benefits provided to the two groups as being provided by separate 
post-retirement benefit plans. In that case, because the costs for the 
``protected group'' plan meet the requirements of 9904.419-40(a)(1), 
the ``protected group'' plan must be actuarially determined and 
accounted for using accrual accounting. In accordance with 9904.419-
40(a)(2), the contractor must account for the benefits of the plan for 
the post-1995 retirees using the pay-as-you-go cost method because that 
separately identified plan fails the criteria of 9904.419-40(a)(1).
    (9) Contractor I sponsors a post-retirement benefit plan that 
provides a life insurance benefit of two-times final salary for all 
employees. The program also provides that the contractor will deposit 
1% of each employee's pay into individual accounts held by a funding 
agency. At retirement, the accumulated value of the individual account 
is used to purchase a paid-up life insurance policy. If the funds in 
the individual account is insufficient to purchase the full life 
insurance benefit, the contractor pays the additional cost directly 
from general corporate resources. This program has features of both a 
defined-benefit and a defined-contribution post-retirement plan. Since 
the substance of the plan is to provide a defined-benefit life 
insurance of two-times final salary, then pursuant to 9904.419-
50(a)(4), the annual cost must be determined in accordance with the 
provisions of this Standard relating to defined-benefit post-retirement 
plans.
    (b) Measurement and assignment of post-retirement benefit cost.
    (1) Contractor J uses the pay-as-you-go cost method to determine 
the cost of its retiree life insurance program. During the current 
period, the contractor paid $200,000 in death benefits directly to the 
named beneficiaries of deceased plan participants which is the pay-as-
you-go cost for current benefits in accordance with 9904.419-
40(b)(3)(i). On the first day of the current period, the contractor 
also paid $180,000 in premiums to purchase paid-up insurance policies 
from an non-captive insurer for certain employees as they retired 
during the current year. The prevailing rate determined by the 
Secretary of the Treasury pursuant to Public Law 92-41, 85 Stat. 97 for 
the current period is 7.25%. Pursuant to 9904.419-40(b)(2)(iv) and 
9904.419-40(b)(3)(ii) and 9904.419-50(b)(1), the contractor determines 
the current period cost of the paid-up insurance policies as $18,719, 
which is the annual amount required to amortize the $180,000 in fifteen 
(15) equal annual payments at 7.25%. The contractor determines the 
total cost for the current period as $218,719 ($200,000 + $18,719).
    (2) Contractor K sponsors a defined-contribution post-retirement 
plan which satisfies the criteria set forth at 9904.419-40(a)(1). The 
plan is funded through a dedicated trust that qualifies as a funding 
agency. The plan document provides that each year the contractor will 
credit to the individual accounts of the plan participants an amount 
equal to 5% of each employee's base salary less that employee's share 
of any nonvested account balances forfeited by terminating employees. 
The annual contribution amount so determined constitutes the post-
retirement benefit cost in accordance with 9904.419-40(b)(4). Any 
amount not funded by a deposit to the funding agency must be identified 
as an unfunded accrual in accordance with 9904.419-50(c)(6)(v).
    (3) Conversely, assume that the plan sponsored by Contractor K in 
illustration 9904.419-60(b)(2) fails the

[[Page 59535]]

criteria set-forth at 9904.419-40(a)(1). Also assume that the 
contractor maintains memorandum records of the participants' account 
balances, rather than fund this defined-contribution plan. At 
retirement the contractor pays the employees the value of account 
balances recorded in these memorandum records as a lump sum settlement 
of the account balance. In this case the contractor shall use the pay-
as-you-go cost method in accordance with 9904.419-40(a)(2). In 
accordance with 9904.419-40(b)(3), the cost shall be based upon the 
lump sum settlements paid to the plan participants and amortized in 
accordance with 9904.419-40(b)(3)(ii). If prior to becoming subject to 
this Standard, the contractor had accounted for the costs of its post-
retirement benefit plan using terminal funding, the contractor could 
continue to use terminal funding as its cost accounting practice as 
permitted by 9904.419-64(d). In that case, no amortization would be 
required.
    (4) Contractor L sponsors a post-retirement benefit plan for its 
collective bargaining employees which satisfy the requirements of 
9904.419-40(a)(1). The contractor uses the projected unit credit 
actuarial cost method and a discount rate of 7.5% to determine the net 
periodic post-retirement benefit cost for SFAS 106 purposes, and 
therefore, 9904.419-50(a)(1)(i) requires that the contractor use the 
projected unit credit actuarial cost method and 7.5% discount rate 
assumption for contract cost accounting purposes. The contractor funds 
the plan through a combination of an Internal Revenue Code (IRC) 
section 401(h) account, whose assets are separately accounted for 
within a qualified defined-benefit pension trust, plus an IRC section 
501(c)(9) voluntary employee benefit trust, otherwise known as a VEBA. 
The contractor determines the annual deposit for the IRC 401(h) account 
using the aggregate actuarial cost method, and for the VEBA using the 
projected unit credit actuarial cost method. Both of these deposit 
determinations are based on an assumption of 7% for the discount rate. 
The deposits to the IRC 401(h) account and the VEBA are used to 
determine the funded portion of the post-retirement benefit cost for 
purposes of 9904.419-50(c)(5), but not the contract cost. To the extent 
that the deposits in any cost accounting period differ from the post-
retirement benefit cost determined pursuant to this Standard, the 
shortfall or excess shall be identified as either an unfunded accrual 
or a prepayment credit in accordance with 9904.419-50(c)(6)(v) and 
(vi), respectively.
    (5)(i) The actuarial valuation report prepared for SFAS 106 
purposes gives the following information reconciling the funded status 
of the defined-benefit post-retirement plan sponsored by Contractor M:

------------------------------------------------------------------------
                                                         Value as of  12/
                                                                31
------------------------------------------------------------------------
Accumulated post-retirement benefit obligation.........       ($257,000)
Fair value of plan assets..............................          69,000
                                                        ----------------
Funded status..........................................        (188,000)
Unrecognized net gain..................................         (44,000)
Unrecognized prior service cost........................          33,000
Unrecognized transition obligation.....................         195,000
                                                        ----------------
Net pre-paid (accrued) post-retirement benefit cost....          (4,000)
                                                        ================
------------------------------------------------------------------------

    (ii) The terms of the plans satisfy the requirements of 9904.419-
40(a)(1). Three years ago the contractor did not fund all of its 
assigned post-retirement benefit cost for the period and has separately 
identified and maintained an accumulated value of unfunded accruals 
which is currently valued at $6,000 in accordance with definition 
9904.419-30(a)(1) and 9904.419-50(c)(6)(v). Two years ago, the 
contractor funded an amount greater than its assigned post-retirement 
benefit cost for the period and has separately identified and accounted 
for the excess as the accumulated value of prepayment credits which is 
currently valued at $2,000 in accordance with definition 9904.419-
30(b)(5) and 9904.419-50(c)(6)(vi). During all other years the 
contractor exactly funded its post-retirement benefit cost. In 
accordance with the definition at 9904.419-30(a)(15), the contractor 
determines the unfunded accumulated post-retirement benefit obligation 
for contract cost accounting purposes as $184,000, which is the 
$257,000 accumulated post-retirement benefit obligation less the sum of 
$69,000 of fair value of plan assets and $6,000 of accumulated unfunded 
accruals plus the $2,000 accumulated value of prepayment credits. The 
contractor determines that the sum of the unrecognized net gain, 
unrecognized prior service cost and unrecognized transition obligation 
is $184,000 ($(44,000) + $33,000 + $195,000). Pursuant to 9904.419-
40(b)(5)(iv), the cost determined for the current period is assignable 
to the period because the unfunded accumulated post-retirement benefit 
obligation equals the sum of the unrecognized amounts as shown below:

------------------------------------------------------------------------
                                                         Value as of  12/
                                                                31
------------------------------------------------------------------------
Accumulated post-retirement benefit obligation:
    Retirees receiving benefits........................         $82,000
    Actives--Currently eligible for benefits...........          19,000
                                                        ----------------
    Nonforfeitable post-retirement benefit obligation..         101,000
    Actives--Not yet eligible for benefits.............         156,000
                                                        ----------------
        Total..........................................         257,000
Valuation Assets:
    Fair value of plan assets..........................         (69,000)

[[Page 59536]]

 
    Accumulated value of unfunded accruals.............          (6,000)
    Accumulated value of prepayment credits............           2,000
                                                        ----------------
        Total..........................................         (73,000)
                                                        ----------------
Unfunded accumulated post-retirement benefit obligation         184,000
                                                        ================
Unrecognized net gain..................................         (44,000)
Unrecognized prior service cost........................          33,000
Unrecognized transition obligation.....................         195,000
                                                        ----------------
Sum of unrecognized amounts............................         184,000
                                                        ================
Result of 9904.419-40(b)(5)(iv) balance test...........          Passes
------------------------------------------------------------------------

    (6) Contractor M in illustration 9904.419-60(b)(5) determines that 
during the following year the actual return on the fair value of plan 
assets of $69,000 is $7,200 for SFAS 106 purposes. The current interest 
rate determined by the Secretary of the Treasury pursuant to Public Law 
92-41, 85 Stat. 97 is 9.5%. Pursuant to 9904.419-50(b)(2)(iv), the 
contractor increases the $7,200 actual return on the fair value of plan 
assets by the interest imputed on the accumulated value of unfunded 
accruals which is 9.5% of $6,000 or $570. Pursuant to 9904.419-
50(b)(2)(v), the contractor reduces the actual return on the fair value 
of plan assets by the interest imputed on the accumulated value of 
prepayment credits which is 9.5% of $2,000 or $190. For contract cost 
purposes, the contractor determines the actual return on the fair value 
of plan assets as $7,580 ($7,200 + $570-$190).
    (7) Assume that Contractor M in Illustration 9904.419-60(b)(5) 
determines that the sum of the components of post-retirement benefit 
cost, as described in 9904.419-40(b)(5), is $55,000. The contractor 
also pays $15,000 for benefits incurred by current retirees during the 
period which can be considered funding in accordance with 9904.419-
50(c)(6)(vii). Furthermore, as shown in Illustration 9904.419-60(b)(5), 
the nonforfeitable post-retirement benefit obligation, as defined at 
9904.419-30(a)(7), is $101,000. Therefore, the unfunded nonforfeitable 
post-retirement benefit obligation is $28,000 (nonforfeitable post-
retirement benefit obligation of $101,000 minus valuation assets of 
$73,000.) In accordance with 9904.419-40(b)(5)(iii) the amount of post-
retirement benefit cost assignable to the current period is limited to 
$43,000 ($15,000 benefit payments plus $28,000 unfunded post-retirement 
benefit obligation.) Furthermore, the $12,000 of post-retirement 
benefit cost that is not assignable to the current period ($55,000-
43,000) shall be recognized in future periods as an experience loss.
    (8) Assume that Contractor M in illustration 9904.419-60(b)(7) 
makes a deposit of $26,000 into a dedicated trust fund that satisfies 
the definition of a funding agency found at 9904.419-30(b)(2). Section 
9904.419-50(c)(6)(vi) permits the $2,000 accumulated value of 
prepayment credits to be applied toward the $43,000 cost so that the 
full current period cost is funded for purposes of 9904.419-0(c)(6)(v). 
Therefore, the total amount available towards funding the cost assigned 
to the current period is $43,000 ($26,000 deposit + $15,000 benefit 
payments + $2,000 prepayment credit). The accumulated value of 
prepayment credits must be reduced by the amount applied towards the 
current year's cost in accordance with 9904.419-50(c)(6)(v) and 
definition 9904.419-30(b)(3).
    (9) If in illustration 9904.419-60(b)(7), Contractor M had only 
deposited $23,000 into the dedicated trust fund, the total amount 
available towards funding the cost assigned to the current period would 
be $40,000 ($23,000 + $15,000 + $2,000). The accumulated value of 
unfunded accruals would increase by $3,000 to $9,000 in accordance with 
9904.419-50(c)(6)(v) and definition 9904.419-30(a)(1).
    (10) If in illustration 9904.419-60(b)(7), Contractor M had 
deposited $28,750 into the dedicated trust fund, the total amount 
available towards funding the cost assigned to the current period would 
be $45,750 ($28,750 + $15,000 + $2,000). The accumulated value of 
prepayment credits would increase by a net of $750 ($2,750 excess 
funding less $2,000 prepayment used) to $2,750 in accordance with 
9904.419-50(c)(6)(vi)and definition 9904.419-30(b)(5).
    (c) Post-retirement benefit cost of segments.
    (1) Contractor N sponsors a retiree medical plan that covers 
employees who retired before January 1, 1997. All active employees and 
subsequent retirees are covered in a separate post-retirement benefit 
plan. The contractor determines the costs of the pre-1997 plan using 
the pay-as-you-go cost method. The plan covers retired participants 
from 12 segments. The contractor maintains a record of how many years 
each retiree worked in each segment which is used to allocate the total 
cost to segments. This method is acceptable under 9904.419-50(c)(1)(i).
    (2) Contractor N in illustration 9904.419-60(c)(1) maintains a 
record of the segment where each retiree was last employed and, in 
accordance with 9904.419-50(c)(1)(i), uses these records to allocate 
the total post-retirement benefit cost to segments. Assume that two of 
the twelve segments associated with current retirees ceased to exist 
because the segments either discontinued operations or were abandoned. 
Pursuant to 9904.419-50(f)(1)(ii), the inactive participants of the two 
defunct segments have been moved to their immediate home office to 
which the segment had reported. The cost associated with these inactive 
participants must be allocated to the immediate home office for those 
segments and then allocated as a residual cost of that home office 
following the methodology of Cost Accounting Standard 9904.403.
    (3) Assume Contractor N's in illustration 9904.419-60(c)(2) merges 
together two of the 12 segments. After the merger, the contractor uses 
the combined records of the two segments and treats the retirees as if 
they were last employed in the newly merged segment. And, in accordance 
with 9904.419-50(c)(1)(i), uses these records to allocate the total 
post-retirement benefit cost to segments. This method is acceptable 
under 9904.419-50(c)(1)(i).

[[Page 59537]]

    (4) Contractor O sponsors a post-retirement benefit plan providing 
medical and life insurance benefits for its active employees. The 
accrual accounting cost of the medical benefit is actuarially 
determined by each participant's age and gender. The actuarially 
determined cost of the life insurance benefit is based upon the 
employee's expected final salary and age group. As permitted by 
9904.419-50(a)(2), the contractor determines the costs of the medical 
and life benefits as if they were provided through two separate plans. 
Pursuant to 9904.419-40(c)(1), each home office that has plan 
participants is treated as a segment. None of the conditions set forth 
in 9904.419-50(c)(2) exists so the contractor calculates a composite 
post-retirement benefit cost for each benefit. In accordance with 
9904.419-40(c)(2), the contractor indirectly allocates the costs of 
each benefit to segments. In accordance with 9904.419-50(c)(1)(ii), the 
cost of the medical benefit is allocated using the number of active 
plan participants in each segment, including home offices. The cost of 
the life insurance benefit, which is dependent upon each participant's 
final salary, is allocated to each segment, including home offices, 
using the salaries of active plan participants.
    (5) Contractor P uses the pay-as-you-go cost method for its post-
retirement medical program for employees of several segments each of 
which is in a different state. While the benefits are similar, the 
payments vary significantly by type of contract and geographical 
region. Pursuant to 9904.419-50(c)(1)(i) the contractor must allocate 
the post-retirement benefit cost for each segment based upon the 
benefit payments that are identifiable with each of the segments. 
Furthermore, any material gain or loss attributable to the plan 
participants of a particular segment, must also be directly allocated 
to that segment only in accordance with 9904.419-50(c)(1)(i).
    (6) Contractor Q uses accrual accounting to calculate the composite 
costs for each of two different defined-benefit plans. Only one of the 
two plans covers the employees of any one segment. Pursuant to 
9904.419-40(c)(1), the composite cost of each distinct plan is 
allocated only to those segments having participants in that plan. In 
the past Plan I has covered the employees of Segment G. As part of an 
internal reorganization, the post-retirement benefit plans were amended 
so that benefits for employees of Segment G will now be provided 
through Plan II. For government contract cost accounting purposes, the 
assets that move with Segment G from Plan I to Plan II are the assets 
initially allocated to Segment G in accordance with 9904.419-
50(c)(6)(i). The ratio of accumulated post-retirement benefit 
obligation to the valuation assets, as defined at 9904.419-30(a)(16), 
for segment G is X%, which materially differs from such ratio for the 
other segments covered by Plan II. In accordance with 9904.419-
50(c)(2)(v), the contractor will have to begin separately calculating 
post-retirement benefit costs for Segment G. The contractor may 
continue to determine post-retirement benefit costs for the original 
Plan II segments in the aggregate as long as none of the conditions of 
9904.419-50(c)(2) exists for any of these segments.
    (7) Assume Contractor R has five segments directed by one home 
office. One segment, Segment A, does a majority (85%) of its work under 
Government contracts. Segment B provides support services to the other 
four segments. The other three segments, Segments C, D, and E perform 
only commercial-type work. The post-retirement benefit plans meets the 
criteria set forth at 9904.419-40(a)(1) and the contractor uses accrual 
accounting to separately calculate post-retirement benefit costs for 
the home office and each of the five segments in accordance with 
9904.419-40(c)(1) and 9904.419-50(c)(1)(ii). Pursuant to 9904.419-
50(c)(6)(iii)(A), the contractor may ascribe funding to the costs 
allocated to the home office, Segment A, and Segment B before ascribing 
any funding to the three commercial segments. The separate accounting 
records of each segment which are maintained in accordance with 
9904.419-50(c)(6)(iii) must reflect that the funding was first 
apportioned to the home office, Segment A and Segment B which allocate 
post-retirement benefit costs to contracts subject to this Standard.
    (8)(i) Contractor R in Illustration 9904.419-60(c)(7) transfers 50 
active plan participants in its defined-benefit plan from Segment A to 
Segment D as part of adjusting its staffing to match its workload. The 
accumulated post-retirement benefit obligation for these 50 
participants is $250,000 of which $50,000 is attributable to active 
participants who are fully eligible for benefits and $200,000 is 
attributable to active participants who are not currently eligible for 
benefits. The segment accounting for Segments A and D immediately 
before the transfer is:

----------------------------------------------------------------------------------------------------------------
                                                                                   Segment A        Segment D
----------------------------------------------------------------------------------------------------------------
Accumulated post-retirement benefit obligation:
    Retirees receiving benefits...............................................        $750,000          225,000
    Actives--Currently eligible...............................................         250,000          175,000
                                                                               ---------------------------------
    Nonforfeitable post-retirement benefit obligation.........................       1,000,000          400,000
    Actives--Not yet eligible.................................................       2,000,000        1,600,000
                                                                               ---------------------------------
        Total.................................................................       3,000,000        2,000,000
Valuation Assets:
    Fair value of plan assets 1...............................................      (1,000,000)
    Accumulated value of unfunded accruals....................................        (200,000)        (750,000)
    Accumulated value of prepayment credits 2.................................
                                                                               ---------------------------------
        Total.................................................................      (1,200,000)        (750,000)
Unfunded accumulated post-retirement benefit obligation.......................       1,800,000        1,250,000
                                                                               =================================
Unrecognized transition obligation............................................       2,000,000        1,400,000
Unrecognized prior service cost...............................................         100,000           50,000
Unrecognized (gain) or loss...................................................        (300,000)        (200,000)
                                                                               ---------------------------------
Sum of unrecognized amounts...................................................       1,800,000        1,250,000
                                                                               =================================

[[Page 59538]]

 
Results of 9904.419-40(b)(5)(iv) balance test.................................          Passes          Passes
----------------------------------------------------------------------------------------------------------------
1 In accordance with 9904.419-50(c)(6)(i), the fair value of plan assets allocated to segments excludes the
  accumulated value of prepayment credits.
2 In accordance with 9904.419-50(c)(6)(i), the accumulated value of prepayment credits were separately
  identified and were not allocated to segments.

    (ii) The contractor must first allocate fair value of plan assets, 
accumulated value of unfunded accruals, and accumulated value of 
prepayment credits to the nonforfeitable post-retirement benefit 
obligation in accordance with 9904.419-50(c)(6)(viii)(A). The ratio of 
the nonforfeitable post-retirement benefit obligation to the sum of the 
fair value of plan assets, accumulated value of unfunded accruals, and 
accumulated value of prepayment credits is 0.833333 ($1,000,000 divided 
by $1,200,000). Therefore the contractor allocates $833,333 (83.3333% 
of $1,000,000) of the fair value of plan assets, $166,667 (83.3333% of 
$200,000) of accumulated value of unfunded accruals. (In accordance 
9904.419-50(c)(6)(i), the accumulated value of prepayment credits were 
separately identified and were not allocated to segments.) The balance 
of the fair value of plan assets ($166,667) and accumulated value of 
unfunded accruals ($33,333) are allocated to the forfeitable post-
retirement benefit obligation.
    (iii) Then, because 5% ($50,000 of $1,000,000) of the 
nonforfeitable post-retirement benefit obligation was transferred to 
Segment D, the contractor transfers $41,667 (5% of $833,333) of the 
fair value of plan assets and $8,333 (5% of $166,667) of accumulated 
value of unfunded accruals allocated to the nonforfeitable post-
retirement benefit obligation to Segment D in accordance with 9904.419-
50(c)(6)(viii)(B).
    (iv) Finally, because 10% ($200,000 of $2,000,000) of the 
forfeitable post-retirement benefit obligation was transferred to 
Segment D, $16,667 (10% of $166,667) of the fair value of plan assets 
and $3,333 (10% of $33,333) of accumulated value of unfunded accruals 
allocated to the forfeitable post-retirement benefit obligation is 
transferred to segment D in accordance with 9904.419-50(c)(6)(viii)(C).
    (v) The unfunded nonforfeitable post-retirement benefit obligation 
transferred to Segment D is $180,000, which is 10% of the original 
unfunded accumulated post-retirement benefit obligation for Segment A. 
The contractor transfers 10% of the unrecognized transition obligation, 
unrecognized prior service cost, and unrecognized gains and losses from 
Segment A to Segment D in accordance with 9904.419-50(c)(6)(viii).
    (vi) The segment accounting for Segment A for the transfer is shown 
below:

----------------------------------------------------------------------------------------------------------------
                                                                                   Segment A
                                                              --------------------------------------------------
                                                                                  Transfer to
                                                               Before transfer     segment D      After transfer
----------------------------------------------------------------------------------------------------------------
Accumulated post-retirement benefit obligation:
    Retirees receiving benefits..............................        $750,000   ...............        $750,000
    Actives--Currently eligible..............................         250,000         $(50,000)         200,000
                                                              --------------------------------------------------
    Nonforfeitable post-retirement benefit obligation........       1,000,000          (50,000)         950,000
    Actives--Not yet eligible................................       2,000,000         (200,000)       1,800,000
                                                              --------------------------------------------------
        Total................................................       3,000,000         (250,000)       2,750,000
Valuation Assets:
    Fair value of plan assets................................      (1,000,000)          58,334         (941,666)
    Accumulated value of unfunded accruals...................        (200,000)          11,666         (188,334)
    Accumulated value prepayment credits.....................  ...............  ...............  ...............
                                                              --------------------------------------------------
        Total................................................      (1,200,000)          70,000       (1,130,000)
Unfunded accumulated post-retirement benefit obligation......       1,800,000         (180,000)       1,620,000
                                                              ==================================================
Unrecognized transition obligation...........................       2,000,000         (200,000)       1,800,000
Unrecognized prior service cost..............................         100,000          (10,000)          90,000
Unrecognized (gain) or loss..................................        (300,000)          30,000         (270,000)
                                                              --------------------------------------------------
Sum of unrecognized amounts..................................       1,800,000         (180,000)       1,620,000
                                                              ==================================================
Results of 9904.419-40(b)(5)(iv) balance test................          Passes           Passes           Passes
----------------------------------------------------------------------------------------------------------------

    (vii) And the segment accounting for Segment D for the transfer is:

----------------------------------------------------------------------------------------------------------------
                                                                                   Segment D
                                                              --------------------------------------------------
                                                                                 Transfer from
                                                               Before transfer     segment A      After transfer
----------------------------------------------------------------------------------------------------------------
Accumulated post-retirement benefit obligation:
    Retirees receiving benefits..............................        $225,000   ...............        $225,000

[[Page 59539]]

 
    Actives--Currently eligible..............................         175,000          $50,000          225,000
                                                              --------------------------------------------------
    Nonforfeitable post-retirement benefit obligation........         400,000           50,000          450,000
    Actives--Not yet eligible................................       1,600,000          200,000        1,800,000
                                                              --------------------------------------------------
        Total................................................       2,000,000          250,000        2,250,000
Valuation Assets:
    Fair value of plan assets................................  ...............         (58,334)         (58,334)
    Accumulated value of unfunded accruals...................        (750,000)         (11,666)        (761,666)
    Accumulated value prepayment credits.....................  ...............  ...............  ...............
                                                              --------------------------------------------------
        Total................................................        (750,000)         (70,000)        (820,000)
Unfunded accumulated post-retirement benefit obligation......       1,250,000          180,000        1,430,000
                                                              ==================================================
Unrecognized transition obligation...........................       1,400,000          200,000        1,600,000
Unrecognized prior service cost..............................          50,000           10,000           60,000
Unrecognized (gain) or loss..................................        (200,000)         (30,000)        (230,000)
                                                              --------------------------------------------------
Sum of unrecognized amounts..................................       1,250,000          180,000        1,430,000
                                                              ==================================================
Results of 9904.419-40(b)(5)(iv) balance test................          Passes           Passes           Passes
----------------------------------------------------------------------------------------------------------------

    (viii) The $180,000 increase in the unfunded accumulated post-
retirement benefit obligation for Segment D will be reflected in future 
post-retirement benefits costs of Segment D through the increases in 
the unrecognized portions of transition obligation, prior to service 
costs, and gains and losses.
    (9) Assume that the post-retirement benefit plan of Contractor R in 
illustration 9904.419-60(c)(8) that covers employees of Segment A and D 
provides more generous benefits to employees of Segment D. Accordingly, 
the contractor separately calculates post-retirement benefit costs for 
each segment pursuant to 9904.419-50(c)(2)(i) and 9904.419-
40(c)(3)(ii). After the 50 plan participants are transferred from 
Segment A to Segment D, these employees are then eligible for the more 
generous benefits afforded to employees of Segment D. Based on the 
benefits of Segment A, the accumulated post-retirement benefit 
obligation for the 50 participants was $250,000. The accumulated post-
retirement benefit obligation for these employees will be $283,000 
based on the benefits for Segment D. After completing the transfer of 
accumulated post-retirement benefit obligation, fair value of plan 
assets and other values as shown in illustration 9904.419-60(c)(8) in 
accordance with 9904.419-50(c)(6)(viii), the contractor shall recognize 
the $33,000 increase in the accumulated post-retirement benefit 
obligation as an experience loss for Segment D. This experience loss 
shall be assigned to cost accounting periods in accordance with 
9904.419-50(b)(2)(vii).
    (10) Contractor S calculates a composite post-retirement benefit 
cost of $200,000 for its defined-benefit plan for the current cost 
accounting period, which the contractor then allocates to segments. The 
plan's benefit is not related to salary and the actuarial valuation of 
the post-retirement benefit liability is performed on a per-capita 
basis. Segment A contains 30% of all the active and inactive plan 
participants of the post-retirement benefit plan, and therefore Segment 
A is allocated $60,000 of the cost pursuant to 9904.419-50(c)(1)(ii). 
The $60,000 of post-retirement benefit cost allocated to Segment A is 
allocable to the intermediate and final cost objectives of Segment A 
pursuant to 9904.419-40(d). The allocation to segments is summarized as 
follows:

----------------------------------------------------------------------------------------------------------------
                                                                   Allocation of composite cost
                                                ----------------------------------------------------------------
                                                  Composite                                           Commercial
                                                     cost     Home office   Segment A   Segment B 1   segments 2
----------------------------------------------------------------------------------------------------------------
Plan Participants:
    Actives....................................        1,794           90          535          181          988
                                                         206           10           65           19          112
                                                ----------------------------------------------------------------
    Inactives..................................        2,000          100          600          200        1,100
                                                ================================================================
        Total..................................
Allocation to Segments:
    Assigned post-retirement benefit cost......     $200,000      $10,000      $60,000      $20,000     $110,000
    Contribution...............................      200,000       10,000       60,000       20,000      110,000
    Unfunded Accrual...........................  ...........  ...........  ...........  ...........  ...........
----------------------------------------------------------------------------------------------------------------

    (11) Assume that Contractor S in illustration 9904.419-60(c)(10) 
separately calculates post-retirement benefit costs for each segment 
which total $200,000 for plan as a whole for the current period. The 
separately calculated cost is $10,000 for the Home Office, $60,000 for 
Segment A, and $20,000 for Segment B. Pursuant to 9904.419-
50(c)(6)(iii)(A), the contractor follows its established practice and 
funds $90,000 which is the total cost for

[[Page 59540]]

the home office and two segments that allocate costs to contracts 
subject to this Standard. The contractor funds none of the assigned 
post-retirement benefit cost separately computed for the commercial 
segments. In this case, the $90,000 of funded post-retirement benefit 
cost is allocated to the Home Office, Segment A, and Segment B. Because 
no funding was allocated to the commercial segments, an unfunded 
accrual of $110,000 shall be identified as the unfunded portion of 
post-retirement benefit costs allocated to the commercial segments in 
accordance with 9904.419-50(c)(6)(v). The allocation to segments is 
summarized as follows:

----------------------------------------------------------------------------------------------------------------
                                                              Allocation separately calculated costs
                                                ----------------------------------------------------------------
                                                                                                      Commercial
                                                    Totals    Home office   Segment A    Segment B     segments
----------------------------------------------------------------------------------------------------------------
Allocation to Segments:
    Separately calculated post-retirement           $200,000      $10,000      $60,000      $20,000     $110,000
     benefit cost..............................
    less: Contribution.........................       90,000       10,000       60,000       20,000  ...........
                                                ----------------------------------------------------------------
                                                    $110,000  ...........  ...........  ...........      110,000
                                                =============                                       ============
    Unfunded accrual...........................  ...........  ...........  ...........  ...........  ...........
----------------------------------------------------------------------------------------------------------------

    (12) Assume that Contractor S in illustration 9904.419-60(c)(11) 
funds only $81,000 which is less than the separately calculated post-
retirement benefit costs for the Home Office, Segment A, and Segment B. 
Pursuant to 9904.419-50(c)(6)(iii)(A), the contractor follows its 
established practice and proportionately allocates the $81,000 to only 
these three segments that allocate costs to contracts subject to this 
Standard. No funding is allocated to the commercial segments. The 
$81,000 is identified as the funded portion of post-retirement benefit 
cost for the Home Office, Segment A, and Segment B. An unfunded accrual 
of $9,000 is established in accordance with 9904.419-50(c)(6)(v) and 
allocated to these three segments. The allocation to segments is 
summarized as follows:

----------------------------------------------------------------------------------------------------------------
                                                            Allocation of separately calculated costs
                                                ----------------------------------------------------------------
                                                  Composite                                           Commercial
                                                     cost     Home office   Segment A    Segment B     segments
----------------------------------------------------------------------------------------------------------------
Allocation to Segments:
    Separately calculated post-retirement           $200,000       10,000       60,000       20,000      110,000
     benefit cost..............................
                                                      81,000        9,000       54,000       18,000
                                                ----------------------------------------------------------------
    less: Contribution.........................      119,000        1,000        6,000        2,000      110,000
                                                ================================================================
 
Unfunded accrual
 
----------------------------------------------------------------------------------------------------------------

    (13) Assume that Contractor S in illustration 9904.419-60(c)(11) 
funds $108,000, which is more than the separately calculated post-
retirement benefit costs for the Home Office, Segment A, and Segment B. 
Pursuant to 9904.419-50(c)(6)(iii)(A), the contractor follows its 
established practice and first allocates $90,000 of the funding to the 
three segments that allocate costs to contracts subject to this 
Standard. The contractor then allocates the remaining $18,000 of 
funding to the commercial segments. The $92,000 unfunded portion of 
post-retirement benefit cost separately calculated for the commercial 
segments shall be identified as an unfunded accrual of $92,000 must be 
established in accordance with 9904.419-50(c)(6)(v). The allocation to 
segments is summarized as follows:

----------------------------------------------------------------------------------------------------------------
                                                            Allocation of separately calculated costs
                                                ----------------------------------------------------------------
                                                  Composite                                           Commercial
                                                     cost     Home office   Segment A    Segment B     segments
----------------------------------------------------------------------------------------------------------------
Allocation to Segments:
    Net post-retirement benefit cost...........     $200,000      $10,000      $60,000      $20,000     $110,000
                                                     108,000       10,000       60,000       20,000       18,000
                                                ----------------------------------------------------------------
    less: Contribution.........................       92,000            0            0            0       92,000
                                                ================================================================
 
    Unfunded accrual...........................
 
----------------------------------------------------------------------------------------------------------------

    (d) Allocation of post-retirement benefit cost to cost objectives. 
[Reserved]
    (e) Adjustments for curtailments, settlements, and termination 
benefits.
    (1)(i) Assume that Contractor M in illustration 9904.419-60(b)(5) 
announces that it will reduce its

[[Page 59541]]

operations by terminating a significant number of employees at the end 
of the current period. Pursuant to SFAS 106, the contractor recognizes 
that a curtailment of benefits has occurred because the termination of 
the employees causes a reduction in the remaining years of expected 
service associated with those terminating employees. The termination of 
employees also causes a reduction in the accumulated post-retirement 
benefit obligation because some of the terminated plan participants 
will not accrue the future service necessary for benefits eligibility. 
Also assume that because of the work-force reduction, a certain class 
of the terminated employees becomes eligible for special termination 
benefits which increase the accumulated post-retirement benefit 
obligation by $14,000. For SFAS 106 purposes the contractor determines 
the special termination benefit loss and the curtailment gain as 
follows:

----------------------------------------------------------------------------------------------------------------
                                                             SFAS 106 accounting as of December 31
                                             -------------------------------------------------------------------
                                                                   Special
                                                   Before        termination      Curtailment         After
                                                curtailment        benefits           gain         curtailment
----------------------------------------------------------------------------------------------------------------
Accumulated post-retirement benefit                $(257,000)       1$(14,000)       2 $68,000        $(203,000)
 obligation.................................
Fair value of plan assets...................          69,000                                             69,000
                                             -------------------------------------------------------------------
Funded status...............................        (188,000)         (14,000)          68,000         (134,000)
Unrecognized net gain.......................         (44,000)                                           (44,000)
Unrecognized prior service cost.............          33,000                          3 (5,940)          27,060
Unrecognized transition obligation..........         195,000                         4 (42,900)         152,100
Pre-paid (accrued) post-retirement benefit          5 (4,000)         (14,000)          19,160            1,160
 cost.......................................
                                             -------------------------------------------------------------------
----------------------------------------------------------------------------------------------------------------
1 Increase in accumulated post-retirement benefit obligation attributable to the additional benefits granted
  under special termination provisions of the post-retirement benefit plan.
2 Gain due to decrease in accumulated post-retirement benefit obligation because terminated participants will
  not become eligible for full benefits.
3 Portion of unrecognized prior service cost associated with future years of service associated with terminated
  participants.
4 Portion of unrecognized transition obligation associated with future years of service associated with
  terminated participants.
5 The accrued post-retirement cost equals the net of an accumulated value of unfunded accruals of $(6,000) and
  an accumulated value of prepayment credits of $2,000.

    Pursuant to SFAS 106, the $14,000 for granting special termination 
would be recognized as an expense of the current period. For contract 
costing purposes, the $14,000 must be amortized over a period of 10 
years in accordance with 9904.419-50(e)(2)(i). The curtailment gain for 
contract costing purposes is $19,160, which is the remaining amount of 
the curtailment gain not offset against unrecognized prior service cost 
and unrecognized transition obligation using SFAS 106 methodology, in 
accordance with 9904.419-50(e)(2)(i). For SFAS 106 purposes, the 
$19,160 curtailment gain would be recognized as income for the current 
period. For contract cost purposes, the $19,160 curtailment gain must 
be amortized over a period of 10 years in accordance with 9904.419-
50(e)(2)(i).
    (iii) After considering the effects of the special termination 
benefit loss and the curtailment gain, the contractor demonstrates that 
its accounting for post-retirement benefit costs is still in balance as 
required by 9904.419-40(b)(5)(iv) as follows:

----------------------------------------------------------------------------------------------------------------
                                                          Contract cost accounting as of December 31
                                             -------------------------------------------------------------------
                                                                   Special
                                                   Before        termination      Curtailment         After
                                                curtailment        benefits           gain         curtailment
----------------------------------------------------------------------------------------------------------------
Accumulated post-retirement benefit                 $257,000          $14,000         $(68,000)        $203,000
 obligation.................................
Fair value of plan assets...................         (69,000)                                           (69,000)
Accumulated value of unfunded accruals......          (6,000)                                            (6,000)
                                             -------------------------------------------------------------------
Accumulated value of prepayment credits.....           2,000                                              2,000
                                             -------------------------------------------------------------------
Unfunded accumulated post-retirement benefit         184,000           14,000          (68,000)         130,000
 obligation.................................
Unrecognized net gain.......................         (44,000)                                           (44,000)
Unrecognized prior service cost.............          33,000                            (5,940)          27,060
Unrecognized transition obligation..........         195,000                           (42,900)         152,100
Unrecognized special termination benefit                               14,000                            14,000
 loss.......................................
                                             -------------------------------------------------------------------
Unrecognized curtailment gain...............                                           (19,160)         (19,160)
                                             -------------------------------------------------------------------
Sum of unrecognized amounts.................         184,000           14,000          (68,000)         130,000
Results of 9904.419-40(b)(5)(iv) balance              Passes           Passes           Passes           Passes
 test.......................................
----------------------------------------------------------------------------------------------------------------

    (2)(i) Assume that immediately after the curtailment of benefits, 
Contractor M in illustration 9904.419-60(e)(1) purchases insurance from 
an non-captive insurer at a price of $58,000 to unconditionally settle 
its obligation for certain post-retirement benefits. The purchase of 
this insurance reduces the accumulated post-retirement benefit 
obligation by $50,000 measured using the contractor's established 
methods and assumptions. Pursuant to SFAS 106, the contractor 
recognizes that a loss from the settlement of benefits has occurred. 
For SFAS 106 purposes the

[[Page 59542]]

contractor determines the settlement loss as follows:

----------------------------------------------------------------------------------------------------------------
                                                                     SFAS 106 accounting as of December 31
                                                              --------------------------------------------------
                                                                    Before                            After
                                                                  settlement    Settlement loss     settlement
----------------------------------------------------------------------------------------------------------------
Accumulated post-retirement benefit obligation...............       $(203,000)         $50,000        $(153,000)
Fair value of plan assets....................................          69,000          (58,000)          11,000
Funded Status................................................        (134,000)      \1\ (8,000)        (142,000)
Unrecognized net gain........................................         (44,000)      \2\ 10,837          (33,163)
Unrecognized prior service cost..............................          27,060   ...............          27,060
Unrecognized transition obligation...........................         152,100       \3\(10,837)         141,263
                                                              --------------------------------------------------
Pre-paid (accrued) post-retirement benefit cost..............           1,160           (8,000)          (6,840) 
----------------------------------------------------------------------------------------------------------------
\1\ Loss due to cost of settlement in excess of accumulated post-retirement benefit obligation.
\2\ Portion of unrecognized transition obligation eliminated by settlement.
\3\ Loss due to immediate recognition of a portion of the unrecognized transition obligation.

    (ii) Pursuant to 9904.419-50(e)(2)(i), the settlement loss for 
contract costing purposes is $8,000 using SFAS 106 methodology. For 
SFAS 106 purposes, the contractor recognizes a current period expense 
of $8,000 for the settlement loss. For contract cost purposes, the 
$8,000 settlement loss must be amortized over the next 10 years in 
accordance with 9904.419-50(e)(2)(i).
    (iii) After considering the effects of the settlement, the 
contractor demonstrates that its accounting for post-retirement benefit 
costs is still in balance as required by 9904.419-40(b)(5)(iv) as 
follows:

----------------------------------------------------------------------------------------------------------------
                                                                   Contract cost accounting as of December 31
                                                              --------------------------------------------------
                                                                    Before                            After
                                                                  settlement    Settlement loss     settlement
----------------------------------------------------------------------------------------------------------------
Accumulated post-retirement benefit obligation...............        $203,000         $(50,000)        $153,000
Fair value of plan assets....................................         (69,000)          58,000          (11,000)
Accumulated value of unfunded accruals.......................          (6,000)  ...............          (6,000)
Accumulated value of prepayment credits......................           2,000   ...............           2,000
                                                              --------------------------------------------------
Unfunded accumulated post-retirement benefit obligation......         130,000            8,000          138,000
                                                              ==================================================
Unrecognized prior net gain..................................         (44,000)          10,837          (33,163)
Unrecognized prior service cost..............................          27,060   ...............          27,060
Unrecognized transition obligation...........................         152,100          (10,837)         141,263
Unrecognized special termination benefit loss................          14,000   ...............          14,000
Unrecognized curtailment gain................................         (19,160)  ...............         (19,160)
Unrecognized settlement loss.................................  ...............           8,000            8,000
                                                              --------------------------------------------------
Sum of unrecognized amounts..................................         130,000            8,000          138,000
                                                              ==================================================
Results of 9904.419-40(b)(5)(iv) balance test................          Passes           Passes           Passes
----------------------------------------------------------------------------------------------------------------

    (3) Assume that as part of the work force reduction by Contractor M 
in illustration 9904.419-60(e)(1), a disproportionate share of the 
employee terminations is attributable to one of its segments. In that 
case, the contractor must determine the termination benefit loss 
separately for each segment in accordance with 9904.419-50(c)(2)(i) and 
9904.419-50(c)(2)(ii). On the other hand, if the effect is evenly 
dispersed across some, but not all, of the segments, the contractor may 
determine the termination benefit loss for the affected segments in the 
aggregate and allocate the loss among the affected segments by use of 
an appropriate base such as the number of employees terminated in each 
segment as part of the workforce reduction.
    (f) Adjustments for segment closings.
    (1) (i) Contractor T has been performing Government contracts 
subject to this Standard. Upon completion of its current Government 
contracts, the contractor does not actively seek nor receive any new 
Government contracts subject to this Standard and therefore a segment 
closing, as defined by 9904.419-30(b)(6)(iii), has occurred. The 
accounting of the liabilities and assets for the post-retirement 
benefits of Segment A for government contract costing purposes 
immediately before the segment closing is summarized as follows:

------------------------------------------------------------------------
                                                         Value as of  12/
                                                                31
------------------------------------------------------------------------
Accumulated post-retirement benefit obligation:
  Retirees receiving benefits..........................        $250,000
  Actives--Currently eligible for benefits.............          100,00
                                                        ----------------

[[Page 59543]]

 
  Nonforfeitable post-retirement benefit obligation....         350,000
  Actives--Not yet eligible for benefits...............         400,000
                                                        ----------------
    Total..............................................         750,000
Valuation assets:
  Fair value of plan assets\1\.........................        (270,000)
  Accumulated value of unfunded accruals...............        (150,000)
  Accumulated value of prepayment credits\2\...........  ...............
                                                        ----------------
    Total..............................................         420,000
Unfunded accumulated post-retirement benefit obligation         330,000
                                                        ================
Unfunded nonforfeitable post-retirement benefit                 (70,000)
 obligation\3\.........................................
                                                        ================
Unrecognized net gain..................................        (150,000)
Unrecognized prior service cost........................         405,000
Unrecognized transition obligation.....................          75,000
                                                        ----------------
Sum of unrecognized amounts............................         330,000
                                                        ================
Result of 9904.419-40(b)(5)(iv) balance test...........         Passes
------------------------------------------------------------------------
\1\ In accordance with 9904.419-50(c)(6)(i), the fair value of plan
  assets allocated to segments exclude the accumulated value of
  prepayment credits.
\2\ In accordance with 9904.419-50(c)(6)(i), the accumulated value of
  prepayment credits were separately identified and were not allocated
  to segments.
\3\ Nonforfeitable post-retirement benefit obligation of $350,000 less
  valuation assets of $420,000.

    (ii) The contractor must fully recognize a segment closing credit 
of $70,000, which is measured as the difference of the nonforfeitable 
post-retirement benefit obligation ($350,000) and the valuation assets 
($420,000). The segment closing adjustment credit of $70,000 represents 
an adjustment to previously determined post-retirement benefit costs in 
accordance with 9904.419-50(f)(3)(i). The Government's share of the 
$70,000 must be effected by adjusting contract prices, target costs, or 
cost ceilings, or by any other suitable technique in accordance with 
9904.419-50(f)(4). One way the adjustment could be effected is by a 
check or other funds transfer from the contractor to the Government.
    (2) If Contractor T in illustration 9904.419-60(f)(1) discontinues 
its operations at Segment W and abandons the facility, a segment 
closing as defined by 9904.419-30(b)(6)(ii) has occurred. 
Alternatively, if the operations of Segment W continue but the facility 
is sold to a third party who is not a successor-in-interest, then a 
segment closing as defined by 9904.419-30(b)(6)(i) has occurred. In 
either case, the government's share of the $70,000 credit shall be 
determined, as outlined in illustration 9904.419-60(f)(1), and credited 
to the government in accordance with 9904.419-50(f)(4).
    (3) Assume that Contractor T in Illustration 9904.419-60(f)(1) 
sells Segment A to Contractor U, who is a successor-in-interest in the 
segment's government contracts through a novation agreement of the 
segment's government contracts. A segment closing as defined by 
9904.419-30(b)(6)(i) has occurred. The entire accumulated post-
retirement benefit obligation of $750,000 for both active and retired 
plan participants and all other post-retirement benefit plan values are 
transferred to the successor-in-interest as part of a sales agreement. 
Pursuant to 9904.419-50(f)(3)(v)(A), no segment closing adjustment is 
required. The accounting of the liabilities and assets for the post-
retirement benefits of Segment A for government contract costing 
purposes is summarized immediately before and after the sale as 
follows:

----------------------------------------------------------------------------------------------------------------
                                                                                              After
----------------------------------------------------------------------------------------------------------------
                                                                   Original         Original        Successor
                            Before                                contractor       contractor       contractor
----------------------------------------------------------------------------------------------------------------
Accumulated post-retirement benefit obligation:
    Retirees receiving benefits..............................        $250,000   ...............        $250,000
     Actives--Currently eligible.............................         100,000   ...............         100,000
                                                              --------------------------------------------------
    Nonforfeitable post-retirement benefit obligation........         350,000   ...............         350,000
     Actives--Not yet eligible...............................         400,000   ...............         400,000
                                                              --------------------------------------------------
        Total................................................         750,000   ...............         750,000
Valuation assets:
    Fair value of plan assets \1\............................        (270,000)  ...............        (270,000)
    Accumulated value of unfunded accruals...................        (150,000)  ...............        (150,000)
    Accumulated value of prepayment credits \2\..............  ...............  ...............  ...............
                                                              --------------------------------------------------
        Total................................................        (420,000)  ...............        (420,000)
Unfunded accumulated post-retirement benefit obligation......         330,000   ...............         330,000
                                                              ==================================================

[[Page 59544]]

 
Unfunded Nonforfeitable post-retirement benefit obligation            (70,000)  ...............         (70,000)
 \3\.........................................................
                                                              ==================================================
Unrecognized transition obligation...........................        (150,000)  ...............        (150,000)
Unrecognized prior service cost..............................         405,000   ...............         405,000
 Unrecognized (gain) or loss.................................          75,000   ...............          75,000
                                                              --------------------------------------------------
Sum of unrecognized amounts..................................         330,000   ...............         330,000
                                                              ==================================================
Results of 9904.419-40(b)(5)(iv) balance test................          Passes           Passes          Passes
----------------------------------------------------------------------------------------------------------------
\1\ In accordance with 9904.419-50(c)(6)(i), the fair value of plan assets allocated to segments exclude the
  accumulated value of prepayment credits.
\2\ In accordance with 9904.419-50(c)(6)(i), the accumulated value of prepayment credits were separately
  identified and were not allocated to segments.
\3\ Nonforfeitable post-retirement benefit obligation of $350,000 less valuation assets of $420,000.

    (4) (i) Assume that Contractor V transfers only the accumulated 
post-retirement benefit obligation of $500,000 attributable to active 
plan participants to Contractor W, the successor-in-interest. The 
contractor retains the accumulated post-retirement benefit obligation 
of $250,000 for the retired participants. Pursuant to 9904.419-
50(f)(3)(iv) and 9904.419-50(f)(3)(v)(B), the contractor transfers a 
portion of the fair value of plan assets, accumulated value of unfunded 
accruals, and accumulated value of prepayment credits to the successor 
contractor in accordance with 9904.419-50(c)(6)(viii).
    (ii) Because the sum of the fair value of plan assets and 
accumulated value of unfunded accruals is less than the nonforfeitable 
post-retirement benefit obligation, the full amount of the fair value 
of plan assets and accumulated value of unfunded accruals is allocated 
to the nonforfeitable post-retirement benefit obligation. (Note that 
the accumulated value of prepayment credits is $0.) There is no 
remaining balance of fair value of plan assets and accumulated value of 
unfunded accruals to be allocated to the forfeitable post-retirement 
benefit obligation.
    (iii) The contractor transferred 28.5714% ($100,000  
$350,000) of the nonforfeitable post-retirement benefit obligation to 
the successor contractor and therefore transfers to the successor 
contractor 28.5714% of the fair value of plan assets ($25,714) and 
accumulated value of unfunded accruals ($35,714) allocated to the 
nonforfeitable post-retirement benefit obligation.
    (iv) Although the entire forfeitable post-retirement benefit 
obligation was transferred to the successor contractor, no fair value 
of plan assets nor accumulated value of unfunded accruals were 
allocated to the forfeitable post-retirement benefit obligation. 
Therefore no additional fair value of plan assets nor accumulated value 
of unfunded accruals is transferred to the successor contractor.
    (v) The unfunded accumulated post-retirement benefit obligation 
transferred to the successor contractor is $438,572, which is 81.9761% 
($438,572 $535,000) of the original unfunded accumulated post-
retirement benefit obligation. According, the contractor transfers 
81.9761% of the unrecognized transition obligation, unrecognized prior 
service cost, and unrecognized gains and losses to the successor 
contractor.
    (vi)(A) The accounting of the obligations and assets for the post-
retirement benefits of Segment A for government contract costing 
purposes is summarized immediately before and after the sale as 
follows:

----------------------------------------------------------------------------------------------------------------
                                                                      Before                   After
                                                                 -----------------------------------------------
                                                                     Original        Original        Successor
                                                                    contractor      contractor      contractor
----------------------------------------------------------------------------------------------------------------
Accumulated post-retirement benefit obligation:
    Retirees receiving benefits.................................       $250,000        $250,000   ..............
    Actives--Currently eligible.................................        100,000   ..............       $100,000
                                                                 -----------------------------------------------
    Nonforfeitable post-retirement benefit obligation...........        350,000         250,000         100,000
    Actives--Not yet eligible...................................        400,000   ..............        400,000
                                                                 -----------------------------------------------
        Total...................................................        750,000         250,000         500,000
Valuation assets:
    Fair value of plan assets 1.................................        (90,000)        (64,286)        (25,714)
    Accumulated value of unfunded accruals......................       (125,000)         89,286)         35,714)
    Accumulated value of prepayment credits \2\.................  ..............  ..............  ..............
                                                                 -----------------------------------------------
        Total...................................................       (215,000)        153,572         (61,428)
Unfunded accumulated post-retirement benefit obligation.........        535,000          96,428         438,572
                                                                 ===============================================
Unfunded Nonforfeitable post-retirement benefit obligation \3\..        135,000          96,428          38,572
                                                                 ===============================================
Unrecognized transition obligation..............................        (50,000)         (9,012)        (40,988)
Unrecognized prior service cost.................................        410,000          73,898         336,102
Unrecognized (gain) or loss.....................................        175,000          31,542         143,458
                                                                 -----------------------------------------------

[[Page 59545]]

 
Sum of unrecognized amounts.....................................        535,000          96,428         438,572
                                                                 ===============================================
Results of 9904.419-40(b)(5)(iv) balance test...................         Passes          Passes         Passes
----------------------------------------------------------------------------------------------------------------
1 In accordance with 9904.419-50(c)(6)(i), the fair value of plan assets allocated to segments excludes the
  accumulated value of prepayment credits.
2 In accordance with 9904.419-50(c)(6)(i), the accumulated value of prepayment credits were separately
  identified and were not allocated to segments.
3 In the ``Before'' column, this is the nonforfeitable post-retirement benefit obligation of $350,000 less
  valuation assets of $215,000. Amounts shown under ``After'' columns were similarly derived.

    (B) The contractor then determines a segment closing adjustment 
charge of $96,428, which is measured as the difference of the 
nonforfeitable post-retirement benefit obligation of $250,000 and 
$153,572, which is the sum of the fair value of assets ($64,286) and 
the accumulated value of unfunded accruals ($89,286) less any 
accumulated value of prepayment credits ($0.) The segment closing 
adjustment charge of $96,428 represents an adjustment to previously 
determined post-retirement benefit costs in accordance with 9904.419-
50(f)(3)(i). The Government's share of the $96,428 must be effected by 
adjusting contract prices, target costs, or cost ceilings, or by any 
other suitable technique in accordance with 9904.419-50(f)(4). One way 
the adjustment could be effected is by a check or other funds transfer 
from the Government to the contractor. The contractor must also reflect 
that segment closing adjustment has been effected by increasing the 
accumulated value of unfunded accruals by $96,428 in accordance with 
9904.419-50(f)(3)(vi).
    (5) Contractor W in illustration 9904.419-60(f)(4), after 
completing the transfer to the successor-in-interest, transfers the 
retained retired participants, and the retained accumulated post-
retirement benefit obligation, fair value of plan assets, and all other 
values attributable to the retained retired participants, to the closed 
segment's former home office in accordance with 9904.419-50(f)(3)(iii). 
For government contract costing purposes, the accumulated post-
retirement benefit obligation, fair value of plan assets, and all other 
values attributable to the retained inactive (retired) participants are 
combined with the records of the home office as follows:

----------------------------------------------------------------------------------------------------------------
                                                                                    Home office
                                                                 -----------------------------------------------
                                                                     Retained
                                                                      retired       Home office       Totals
                                                                   participants    participants
----------------------------------------------------------------------------------------------------------------
Accumulated post-retirement benefit obligation:
    Retirees receiving benefits.................................       $250,000        $100,000        $350,000
    Actives--Currently eligible.................................  ..............        235,000         235,000
                                                                 -----------------------------------------------
    Nonforfeitable post-retirement benefit obligation...........        250,000         335,000         585,000
    Actives--Not yet eligible...................................  ..............        410,000         410,000
                                                                 -----------------------------------------------
        Total...................................................        250,000         745,000         995,000
Valuation assets:
    Fair value of plan assets 1.................................        (64,286)       (268,000)       (332,286)
    Accumulated value of unfunded accruals 2....................       (185,714)       (151,000)       (336,714)
    Accumulated value of prepayment credits \3\.................  ..............  ..............  ..............
                                                                 -----------------------------------------------
        Total...................................................       (250,000)       (419,000)       (669,000)
Unfunded accumulated post-retirement benefit obligation.........  ..............        326,000         326,000
                                                                 -----------------------------------------------
Unfunded Nonforfeitable post-retirement benefit obligation 4....  ..............        (84,000)        (84,000)
                                                                 ===============================================
Unrecognized transition obligation 5............................  ..............       (147,000)       (147,000)
Unrecognized prior service cost 6...............................  ..............        396,000         396,000
Unrecognized (gain) or loss 7...................................  ..............         77,000          77,000
                                                                 -----------------------------------------------
Sum of unrecognized amounts.....................................  ..............        326,000         326,000
                                                                 ===============================================
Results of 9904.419-40(b)(5)(iv) balance test...................         Passes          Passes         Passes
----------------------------------------------------------------------------------------------------------------
1 In accordance with subparagraph 9904.419-50(c)(6)(i), the fair value of plan assets allocated to segments
  excludes the accumulated value of prepayment credits.
2 The segment closing adjustment charge is effected by increasing the accumulated value of unfunded accruals of
  $89,286 by the segment closing adjustment of $96,428 in accordance with subparagraph 9904.419-50(f)(3)(vi).
3 In accordance with 9904.419-50(c)(6)(i), the accumulated value of prepayment credits were separately
  identified and were not allocated to segments.
4 In the ``Home Office Participants'' column, this is the nonforfeitable post-retirement benefit obligation of
  $335,000 less valuation assets of $419,000. Amounts shown under ``Retained Retired Participants'' and
  ``Total'' columns were similarly derived.
5 Unrecognized gains and losses for the retained participants have already been fully recognized by the segment
  closing adjustment.
6 Unrecognized transition obligation for the retained participants have already been fully recognized by the
  segment closing adjustment.
7 Unrecognized past service cost for the retained participants have already been fully recognized by the segment
  closing adjustment.


[[Page 59546]]

    (6) Contractor X, after acquiring Segment A as successor-in-
interest to Contractor T in illustration 9904.419-60(f)(4), decreases 
the discount rate assumption from 8.5% to 8.0% to match the discount 
rate assumption used for its other post-retirement benefit plans. This 
decrease in the assumed discount rate causes the accumulated post-
retirement benefit obligation to increase by $43,000 from $500,000 to 
$543,000. In accordance with 9904.419-50(f)(3)(v)(C), the $43,000 
actuarial loss attributable to the change in the discount rate 
assumption is recognized by the successor contractor immediately after 
the acquisition of the segment. An annual gain or loss component of the 
successor-in-interest's post-retirement benefit cost shall be 
recognized in accordance with 9904.419-50(b)(2)(vi). There is no other 
adjustment in the values and records used by the original contractor 
for government contract costing purposes.


9904.419-61  Interpretation. [Reserved]


9904.419-62  Exemptions.

    None for this Standard.


9904.419-63  Effective date.

    (a) This Standard is effective as of [90 days after date of 
publication of the final rule in the Federal Register].
    (b) This Standard shall be followed by each contractor on or after 
the start of its next cost accounting period beginning after the 
receipt of a contract or subcontract to which this Standard is 
applicable.


9904.419-64  Transition method.

    (a) General. In complying with this Standard 9904.419, contractors 
must follow the equitable principle that post-retirement benefit costs 
which have been previously provided for, shall not be redundantly 
provided for under this Standard. Conversely, post-retirement benefit 
costs that have not previously been provided for, shall be provided for 
in accordance with this Standard. The method, or methods, employed to 
achieve an equitable transition shall be consistent with the provisions 
of this Standard and shall be approved by the cognizant Federal agency 
official.
    (b) Change to pay-as-you-go method. If a contractor, who for 
Government contracting purposes had accounted for costs of a defined-
benefit post-retirement plan on an accrual basis prior to the date this 
Standard becomes applicable, changes to the pay-as-you-go cost method, 
the contractor shall account for any unfunded post-retirement benefit 
costs of prior periods by establishing an accumulated value of unfunded 
accruals in accordance with 9904.419-50(c)(6)(v). Post-retirement 
benefit costs calculated under the pay-as-you-go cost method shall be 
charged against any fair value of plan assets and such accumulated 
value of unfunded accruals before any post-retirement benefit costs may 
be allocated to intermediate or final cost objectives.
    (c) Change to accrual accounting. If a contractor, who for 
Government contracting purposes had accounted for the costs of a 
defined-benefit post-retirement plan using the pay-as-you-go cost 
method prior to the date this Standard becomes applicable, changes to 
accrual accounting, the contractor shall account for any portion of 
prior post-retirement benefit costs that are not included in the 
unrecognized prior service costs, unrecognized gains and losses, or 
unrecognized transition obligation when this Standard is first 
applicable to the contractor. Such prior post-retirement benefit costs 
shall be accounted for as either a supplemental transition obligation 
or as part of a ``fresh start'' transition obligation, and shall be 
amortized as specified in paragraph (c)(3) of this subsection:
    (1) For each period subsequent to adoption of accrual accounting 
for SFAS 106, but prior to the date this Standard becomes applicable to 
the contractor, that the contractor used the pay-as-you-go cost method 
for Government contracting purposes, the contractor shall establish a 
supplemental transition obligation. This supplemental transition 
obligation shall be the accumulated value of such prior post-retirement 
benefit cost accruals minus the costs determined using the pay-as-you-
go cost method. The net result shall be increased at the interest rate 
as determined by the Secretary of the Treasury pursuant to Public Law 
92-41, 85 Stat. 97 during such periods. The supplemental transition 
obligation shall be subject to the same accounting treatment under this 
Standard as the transition obligation; or,
    (2) Alternatively, if for every period subsequent to adoption of 
accrual accounting for SFAS 106, but prior to the date this Standard 
becomes applicable to the contractor, the contractor had used the pay-
as-you-go cost method for Government contracting purposes, the 
contractor may adopt a ``fresh start'' determination of the transition 
obligation as of the first valuation date after this Standard becomes 
applicable. In this case, the transition obligation shall equal the 
accumulated post-retirement benefit obligation less the fair value of 
plan assets. If the contractor elects to use the ``fresh start'' 
method, any unrecognized prior service costs or unrecognized gains and 
losses are subsumed into such redetermined transition obligation.
    (3) The supplemental transition obligation or the ``fresh start'' 
redetermined transition obligation shall be amortized on a straight-
line basis over the average remaining service period of active plan 
participants, except that if all or almost all of the plan participants 
are inactive, the employer shall use the average remaining life 
expectancy period of those plan participants.
    (d) Terminal funding. If a contractor has established, disclosed, 
and consistently followed a practice of determining and accounting for 
post-retirement benefit costs in accordance with the terminal funding 
provisions of 9904.416-50(a)(1)(v)(C), the contractor may continue that 
practice. Terminal funding shall be treated in the same manner as the 
pay-as-you-go cost method except that the amortization provisions of 
9904.419-40(b)(3)(ii) and 9904.419-50(b)(1) shall not apply.
    (e) Certain inactive participants. If at the time the contractor 
first becomes subject to this Standard, the contractor cannot associate 
some of its inactive plan participants with existing segments (because 
the segment has been sold, the segment no longer exists, or the 
necessary data are not readily available), the contractor shall 
associate such inactive plan participants with the appropriate 
corporate home office, intermediate home office, or segment in 
accordance with the contractor's previous cost accounting practice used 
for Government contract accounting.
    (f) Prior segment accounting. If prior to the time a contractor is 
required to use this Standard, the contractor has been calculating 
post-retirement benefit cost for contract cost purposes using the same 
accrual accounting methods used for SFAS 106, then:
    (1) For a contractor that has been calculating post-retirement 
benefit cost separately for individual segments, the fair value of plan 
assets and all other values previously allocated to those segments 
shall not be changed, or
    (2) For a contractor that has been determining the accrual for 
post-retirement benefit costs on a composite basis and allocating such 
costs to segments, if an initial allocation of the fair value of plan 
assets is required by 9904.419-50(c)(6)(i), such initial allocation 
shall reflect such prior cost determinations and allocations. If the 
necessary data are readily determinable, the fair value of plan assets 
to be allocated to each segment shall be the amount contributed by, or 
on behalf of, the segment, increased by income received on such assets, 
and decreased

[[Page 59547]]

by benefits and expenses paid from such assets. If the data are not 
readily determinable for certain prior periods, the contractor shall 
follow the initial asset allocation provisions of 9904.419-
50(c)(6)(i)(C) as of the earliest date such data is available.
    (g) Transition illustrations. Unless otherwise noted, paragraphs 
(g)(1) through (6) of this subsection address post-retirement benefit 
costs and transition amounts determined for the first cost accounting 
period beginning on or after the date this Standard becomes applicable 
to a contractor. For purposes of these illustrations an expected long-
term rate of return of 8% is presumed to be in effect for all periods. 
The contractors identified for purposes of these illustrations are 
unrelated to the contractors identified for illustration purposes in 
9904.419-60.
    (1) Since December 31, 1993 Contractor A has calculated, assigned, 
and allocated post-retirement benefit costs to its cost-based 
negotiated Government contracts on an accrual basis. In determining the 
unfunded accruals for these prior periods pursuant to 9904.419-
50(c)(6)(v), the only funding the contractor can recognize is for 
benefit payments in accordance with 9904.419-50(c)(6)(vii). The value 
of these past unfunded accruals, increased for interest and decreased 
for benefits paid by the contractor, is equal to $2 million as of the 
beginning of the current period. Assume that the contractor must begin 
using the pay-as-you-go cost method, because the plan fails to meet the 
criteria set forth at 9904.419-40(a)(1), to account for current and 
future post-retirement benefit costs. Plan participants receive 
$500,000 in benefits on the last day of the current period. Using the 
transition method of paragraph (b) of this section to ensure prior 
costs are not redundantly provided for, the contractor shall establish 
an accumulated value of unfunded accruals of $2 million. Since the $2 
million is sufficient to provide for the current benefit payments, no 
post-retirement benefit costs can be allocated to this period. The 
accumulated value of unfunded accruals shall be carried forward to the 
next period by adding $160,000 (8% x $2 million) of imputed interest, 
and subtracting the $500,000 of benefit payments made by the 
contractor. The accumulated value of unfunded accruals for the next 
period equals $1,660,000 ($2 million + $160,000 - $500,000).
    (2) Prior to becoming subject to this Standard, Contractor B has 
accounted for its defined-benefit post-retirement plan which meets the 
requirements of 9904.419-40(a)(1) using the pay-as-you-go cost method 
for government contract costing purposes. For the first period the 
contractor becomes subject to this Standard, the contractor must begin 
to accrue the costs of its post-retirement benefit plan as specified in 
this Standard. Pursuant to 9904.419-64(c)(1), the contractor may 
identify any post-retirement benefit cost accruals which have 
previously been unrecognized in the costs allocated to its cost-based 
negotiated Government contracts as a supplemental transition 
obligation.
    (i) A comparison of the contractor's SFAS 106 accounting with its 
contract cost accounting as of the date the contractor first becomes 
subject to this Standard is as follows:

------------------------------------------------------------------------
                                          SFAS 106        Contract cost
                                         accounting        accounting
------------------------------------------------------------------------
Accumulated post-retirement benefit       ($2,000,000       ($2,000,000)
 obligation.........................
Fair value of plan assets...........  ................  ................
                                     -----------------------------------
Funded status.......................       (2,000,000)       (2,000,000)
Unrecognized net gain...............         (196,000)         (196,000)
Unrecognized prior service cost.....           38,600            38,600
Unrecognized transition obligation..        1,557,000         1,557,000
Unrecognized supplemental transition  ................      \1\ 600,000
 obligation.........................
                                     -----------------------------------
Accrued post-retirement benefit cost         (600,000)  ................
                                     ===================================
------------------------------------------------------------------------
\1\ The supplemental transition obligation is amortized over 17 years
  which is the average remaining service period of active plan
  participants of this post-retirement benefit plan.

    (ii) Note that if the contractor had cost-based negotiated 
Government contracts only for some of the prior periods since adopting 
SFAS 106 for financial statement purposes, only prior accruals for 
those periods when it did have such contracts can be used to establish 
the initial amount of the supplemental transition obligation in 
accordance with 9904.419-64(c)(1).
    (3) Assume that Contractor B in illustration 9904.419-64(g)(2) had 
cost-based negotiated Government contracts for every period since 
adopting SFAS 106 and had used the pay-as-you-go cost method. The 
contractor could elect to redetermine the transition obligation using 
the so-called ``fresh start'' alternative in accordance with 9904.419-
64(c)(2).
    (i) In this case, a comparison of the contractor's SFAS 106 
accounting with its contract cost accounting as of the date the 
contractor first becomes subject to this Standard is as follows:

------------------------------------------------------------------------
                                          SFAS 106        Contract cost
                                         accounting        accounting
------------------------------------------------------------------------
Accumulated post-retirement benefit       ($2,000,000       ($2,000,000)
 obligation.........................
Fair value of plan assets...........  ................  ................
                                     -----------------------------------
Funded status.......................       (2,000,000)       (2,000,000)
Unrecognized net gain...............         (196,000)              n/a
Unrecognized prior service cost.....           38,600               n/a
Unrecognized transition obligation..        1,557,000     \1\ 2,000,000
                                     -----------------------------------

[[Page 59548]]

 
Accrued post-retirement benefit cost         (600,000)  ................
                                     ===================================
------------------------------------------------------------------------
\1\ The ``fresh-start'' transition obligation is amortized over 17 years
  which is the average remaining service period of active plan
  participants of this post-retirement benefit plan.

    (ii) Note that if the contractor did not have cost-based negotiated 
Government contracts for all prior periods since adopting SFAS 106 for 
financial statement purposes, the contractor could not have elected to 
use the ``fresh start'' approach of 9904.419-64(c)(2). Also note that 
the $2 million fresh start transition obligation equals the sum of the 
SFAS 106 $38,600 unrecognized prior service cost, $1,557,400 
unrecognized transition obligation, and the $600,000 accrued post-
retirement benefit cost less the $196,000 unrecognized net gain.
    (4) Since 1983, Contractor C has had an established practice of 
terminal funding for determining the costs of its post-retirement 
benefit plan in accordance with 9904.416-50(a)(1)(v)(C). During the 
first period the contractor is subject to this Standard, the contractor 
pays a $235,000 net single premium for non-participating insurance 
contracts to irrevocably settle its obligation to provide life 
insurance for its retiring plan participants. Pursuant to paragraph (d) 
of this section, the contractor may continue its established practice 
of terminal funding and assign the entire $235,000 lump sum settlement 
payment as the post-retirement benefit cost for the period. Conversely, 
if the contractor had not established terminal funding as its cost 
accounting practice prior to becoming subject to this Standard, the 
$235,000 single premium payment would have to be amortized over a 
period of 15 years for purposes of assigning the cost to periods in 
accordance with 9904.419-40(b)(3)(ii) and 9904.419-50(b)(1).
    (5) When Contractor D became subject to this Standard, the 
contractor reviewed its personnel and benefits records to determine in 
which segment each inactive plan participant was last employed. Of the 
contractor's 600 inactive plan participants, 98 had been employed in 
and retired from a commercial segment under Division A that had been 
shut down and abandoned several years before. There were another 23 
inactive plan participants who could not be associated with an existing 
segment because their employment and benefit records did not provide 
sufficient information. Pursuant to paragraph (e) of this section, 
after the contractor associated the remaining 479 inactive participants 
with existing segments, the 98 who were employed in the segment that 
had been discontinued were associated with the home office for Division 
A. Likewise, the contractor associated the other 23 inactives, who 
could not be associated with any segment, with the corporate home 
office. Alternatively, if the contractor had an established practice of 
associating the costs all inactive plan participants no longer 
associated with operational segments to the corporate home office, the 
contractor could continue that established practice in accordance with 
paragraph (e) of this section.
    (6) Since 1993, Contractor E has measured and assigned post-
retirement benefit costs in accordance with SFAS 106 for both financial 
accounting and contract cost accounting purposes. The contractor 
elected to amortize the transition obligation using the delayed 
recognition provisions of paragraphs 112 and 113 of SFAS 106. Since 
1993, the contractor has funded its assigned post-retirement benefit 
costs in accordance with relevant Federal regulations. The post-
retirement benefit cost was measured for the corporation as a whole and 
allocated to segments in accordance with Cost Accounting Standard 
9904.403. Funding agency records and actuarial valuation reports are 
available for all years. However, reliable records of benefit payments 
by segment are available only for 1995 and later years. Pursuant to 
paragraph (f)(2) of this section, the contractor shall initially 
allocate a share of the undivided fair value of plan assets to each of 
its segments based on the accumulated post-retirement benefit 
obligation of each segment starting in 1995 in accordance with 
9904.419-50(c)(6)(i)(C). The fair value of plan assets of each segment 
shall then be brought forward based on contributions, benefit payments, 
and investment earnings and expenses in accordance with 9904.419-
50(c)(6)(i)(D).

[FR Doc. 00-24801 Filed 10-4-00; 8:45 am]
BILLING CODE 3110-01-P