Accounting for payments to be made to employees after their retirement that cannot be reasonably estimated.

Accounting for uncertain post-retirement payments

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A company is considering post-retirement payments as a part of an incentive scheme for a small number of individuals who manage its subsidiaries.  They would qualify only if they remain with the business until their normal retirement ages, which are between 5 and 20 years away, and the payments will be profit-related.  Up to retirement, an individual could receive a maximum of 10% of the annual profits of the business.  Then, for the first year after retirement, they would receive a maximum of 5% of that year's profit of the subsidiary (but it could well be less), then 4% (max) for the second year, then 3% etc with nothing payable after year 5.  The payments will not be funded in advance.

Although I don't believe this is strictly a defined benefit scheme, I suspect the same principles should be applied in recognising the cost of the incentive scheme over each employee's time with the company, with the future payments discounted and a liability being accrued over the time to each retirement (and also an 'opening balance' to be established on launching the scheme).

In practice, I am struggling to see how the future payments can be realistically modelled in order to estimate the liability, not least because of the 20 year profit projections that will be required.  There is also a fair chance that for one reason or another not all the participants will stay with the company until retirement, but I wouldn't like to have to say which!

I suspect that the liability will be immaterial to the group as the vast majority of its operations (and profits) are outside the proposed scheme but I doubt I could prove it, for the reasons above.  Even so, the accumulated liabilities could still be material at subsidiary level.

Clutching at straws, if the post-retirement payments are only triggered by future dividend payments to the parent company (logical, as the idea is to encourage succession planning and a sustainable business for the shareholder following departure of the current management), would that avoid the need to accrue them as they don't otherwise crystalise until that point, and any dividend decision is outside the control of the subsidiary (being taken by its parent) ?  

I'm also wondering if there is a great difference conceptually between the post-retirement payments and those made while the employee is still serving - why would one be recognised as a liability and not the other, when they both have to be generated by, and are therefore subject to, future profits?

I fear that a sound business idea will be scuppered by the complexities of accounting for it, so would welcome any thoughts to avoid this.

J.

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