When do you need to accrue for leave and why? A very common misconception is that an entity should accrue for unused paid leave only if it can be encashed, i.e. vesting entitlement.
What do we want to achieve through leave accrual?
An illustration
If an entity pays an employee $25,000 a year. We assume 260 workdays in a year and the employee is entitled to 10 days accumulating paid annual leave. In the first year of service, the employee takes no leave. The employee takes 20 days (including 10 days carried forward from the previous year) of paid annual leave in the second year of service. What is the value of service the entity receives each year?
| Year 1 | Year 2 | |
|
Cash flows (salary payment) |
25,000 | 25,000 |
| Actual workdays | 260 | 260 – 20 = 240 |
A reasonable allocation will be adding an additional $1,000 to Year 1 and reduce $1,000 from Year 2. We know that value of service per day is $100, being $25,000 / (260 – 10 days). Given that the employee works 260 days in Year 1, the value service is $26,000 ($100 * 260 days), $1,000 higher than the actual salary payment. $1,000 excess is the leave accrual as at Year 1 end. When the employee uses the carried forward annual leave from Year 1, the leave accrual is consumed.
Whether is it
a vesting entitlement, it does not seem to matter.
What does the standard say?
Now, let’s look at the standard covering leave accrual, IAS 19 Employee Benefits.
IAS19.13 An entity shall recognise the expected cost of short‑term employee benefits in the form of paid absences under paragraph 11 as follows:
(a) in
the case of accumulating paid absences, when the employees render service that
increases their entitlement to future paid absences.
(b) in
the case of non‑accumulating paid absences, when the
absences occur.
IAS19.15 Accumulating paid absences are those that are carried forward and can be used in future periods if the current period’s entitlement is not used in full. Accumulating paid absences may be either vesting (in other words, employees are entitled to a cash payment for unused entitlement on leaving the entity) or non‑vesting (when employees are not entitled to a cash payment for unused entitlement on leaving). An obligation arises as employees render service that increases their entitlement to future paid absences. The obligation exists, and is recognised, even if the paid absences are non‑vesting, although the possibility that employees may leave before they use an accumulated non‑vesting entitlement affects the measurement of that obligation.
This is similar
to what we discussed in the illustration above. However, it is taking the
perspective of “entitlement” rather than “allocation”.
What is “accumulating”?
The
standard defines accumulating paid absences as those that are carried
forward and can be used in future periods if the current period’s entitlement
is not used in full. It goes on to give examples of non‑accumulating paid absences.
IAS 19.18 Non‑accumulating paid absences do not
carry forward: they lapse if the current period’s entitlement is not used in
full and do not entitle employees to a cash payment for unused entitlement on
leaving the entity. This is commonly the case for sick pay (to the extent that
unused past entitlement does not increase future entitlement), maternity or
paternity leave and paid absences for jury service or military service. An
entity recognises no liability or expense until the time of the absence,
because employee service does not increase the amount of the benefit
A slight complication can arise when the leave period is different from the accounting period. In Singapore, it is quite a common practice that the leave period follows the calendar year, while the accounting period may not. In such a situation, sick leaves that would otherwise be non-accumulating may become accumulating.
Leave period of an entity ends on 31 December, while its accounting period ends 31 March. Employees are entitled to 12 days of paid sick leaves every calendar year. Any unused sick leaves at 31 December cannot be carried forward. However, such sick leaves would be accumulating paid absences when the accounting period ends. This is because, at 31 March, an employee would be entitled to 3 days of paid sick leaves, which can be used after 31 March.
100%
accrual?
At the accounting period end, an entity has a leave obligation of 200 days, should it accrue for the entire 200 days? While this is a common practice, but it is not technically correct.
The
standard requires such obligation be measured at expected costs. In other
words, if you only need to accrue for the leaves that are expected to be taken.
Of course, if the leaves are vesting in full, then the full 200 days shall be
accrued.
Conclusion
In sum:
- Accrue for accumulating paid leaves regardless of whether it will be paid in cash upon employees leaving
- Accrue only to the extent it will be used or encashed
- Leaves that cannot be carried forward may be “accumulating” if leave period and accounting period are not aligned