Uncovering the silver lining in FAS 112.

• Author: Miccolis, Jerry A.
• Position: Financial Accounting Standard - Includes related article - Corporate Reporting

Most companies dread the approach of Standard 112, but the new accounting rule may prod some employers into managing their workers' compensation costs more effectively.

Under the new Financial Accounting Standard 112, many companies will learn the scope of their workers' comp obligations for the first time. For some, it'll be a rude awakening. The rule requires companies to use accrual accounting for post-employment benefits like workers' compensation, disability, salary continuation, supplemental unemployment and other benefits. Since it takes effect after December 15 (although the Financial Accounting Standards Board encourages earlier adoption), now is the best time to minimize the effects. If nothing else, FAS 112 should prompt CFOs to take a hard look at their real workers' comp costs and determine how to reduce them.

The standard amends FAS 5 (Accounting for Contingencies) and FAS 43 (Accounting for Compensated Absences) to include post-employment benefits. Companies must immediately recognize their transition obligation from the beginning of the year, less any amounts previously accrued.

Before FAS 112, companies that self-insured post-employment benefits usually didn't accrue workers' comp liabilities, partly because a federal income-tax deduction exists for cash costs but not workers' comp accrual costs. But for these companies, workers' compensation is the biggest post-employment benefit cost potentially subject to FAS 112, according to a recent Towers Perrin survey of 135 employers. Generally, companies with guaranteed-cost insurance, or those that retain part of their workers' comp obligations but already book them on a full-accrual basis, won't be affected.

The accrued liability for post-employment benefits could total at least twice an employer's annual cash costs. Thus, FAS 112 will most affect companies in the first effective fiscal year. After that, liability increases or decreases will create charges or credits against earnings and could be volatile.

A literal reading of the standard suggests that it covers only obligations to inactive employees. This seems to exclude medical payments that continue after an injured employee returns to work, even if the original intent was otherwise.

Accounting practices for FAS 112 will probably vary from company to company. Some may choose to accrue all workers' comp medical costs rather than trying to split the costs between injuries an employee incurred while inactive and those he or she incurred after returning to work. Others may eye commercial insurance or a risk-financing option, which would produce an immediate tax deduction, but the additional costs of commercial coverage may outweigh the tax advantages.

Consider an employer with $1 million in annual workers' compensation losses. With an expense load of 30 percent (for claims-handling expenses, assessments...