Accounting considerations for new Sick Leave Entitlements (NZ IAS 19)

Back in 2013, a subtle but consequential amendment to the definition of a short-term employee benefit in NZ IAS 19 Employee Benefits became effective.

Prior to 2013, if an employee was entitled to the benefit in the 12 months following reporting date, then the entire benefit met the definition of a short-term employee benefit. In practice, because employees are not usually restricted in terms of when they are able take their leave entitlements (and/or may have them “paid out” if they cease to be employed) the definition was able to be clearly met.

Then the amendment to NZ IAS 19 occurred in 2013, the focus in the definition of short-term employee benefit shifted to where benefits were expected to be WHOLLY settled 12 months from reporting date. This required entities to utilise more judgement in terms of when they believed (based on historical experience, and the future outlook) these balances would actually be utilised, rather than when they (legally) could be utilised.

Accordingly, this change from “could” to “would” resulted in the timing of the use of employee sick leave entitlements, for certain employees, being pushed beyond 12 months from reporting date.

NZ IAS 19 defines and provides the accounting treatments of various employee benefit liabilities, that include:

1. Short-term employee benefits.
2. Post-employment benefits (such as Defined Benefit Plans, Defined Contribution Plans, Retirement benefits etc.).
3. Termination benefits.

Employee benefits that don’t “fit” into the definition of the above default into being classified as other long-term employee benefits.

Accordingly, where employee entitlements fail the short-term employee benefit definition (i.e., where any part of the entitlement is expected to be settled 
later than 12 months from reporting date), they are (in their entirety) classified and measured as other long-term employee benefits.

Other long-term employee benefits are accounted for using the projected unit credit method (an actuarial valuation, that is similarly required for Defined 
Benefit Plans). 

Remeasurements of other long-term employee benefits are recognised immediately through profit or loss.

In order to make this determination, it is important to understand the different types (classifications) of sick leave entitlements that exist:

The vast majority of New Zealand entities have Accumulated and non-vesting sick leave entitlements (B(ii)). 
However, for entities where this is not the case, and/or entities with operations in other overseas jurisdictions, the specific classification will need to be 
assessed and determined.
How each of these classifications is accounted for under NZ IAS 19 is detailed below:

A – Non-accumulating
For each employee, determine (based on past experience and other judgements and estimates) how many days of the sick leave accrued as at period end 
would be used before those days expire, and accrue only for those days.
The accrual will meet the definition of a short-term employee benefit.

B(i) – Accumulating and vesting
For each employee, accrue the entire amount, as well as estimate as to WHEN the leave would be likely to be settled (based on past experience and other 
judgements and estimates), being either:
(i) Through being taken as sick leave, or 
(ii) Paid out upon termination of employment (if applicable in the relevant jurisdiction).

If there is any sick leave, for any single employee, where the “WHEN” is greater than 12 months after reporting date, then the entire sick leave accrual 
in aggregate, for all employees, fails the definition of a short-term employee benefit (i.e. as the balance is not expected to be WHOLLY settled within 12 
months of reporting date).

Instead, the entire sick leave entitlement balance of the entity is classified, and measured, as an other long-term liability (refer to section 2. above).
This may require the entity to engage actuarial specialists in order to correctly model the sick leave entitlement obligation.

B(ii) – Accumulating and non-vesting
In this situation, the employee only benefits from sick leave entitlements if they actually make use of it whilst they are employed (i.e., accrued balances are 
not paid out if they cease employment).

Further, because sick leave entitlements get (automatically) topped-up at each employee’s annual anniversary date, an entity only needs to accrue, for 
each employee, the number of sick days expected to be taken over-and-above their annual sick leave entitlement, provided they have sufficient historical 
accrued sick leave at reporting date.

Consider the below examples for an illustration of this point.

Here, you can see that when you are dealing with accumulating and non-vesting sick leave, the key factors to consider are not necessarily how many sick leave entitlement days an employee actually has contractually accrued, but rather what their expected sick leave usage is in the next 12 months over-and-above the next annual entitlement top-up that the employee will receive.

The accrual will meet the definition of a short-term employee benefit.

It is not expected that entities based in New Zealand would have material sick leave accrual balances, due to the fact that the vast majority of New Zealand entities have Accumulating non-vesting sick leave entitlements.

However, entities with operations in other overseas jurisdictions need to consider whether the type of sick leave in those jurisdictions requires separate consideration.

Another (perhaps counter-intuitive) consequence is that entities that have Accumulating non-vesting sick leave entitlements and are stepping up from five days to 10 days, may actually see the value of their sick leave accrual amounts decrease.

Considering the examples above, when the new 10 day entitlements kick-in (noting the timing of this will be different for different employees – refer to the BDO’s Insights article (click here)) it will only be employees that: (i) are expected to take sick leave in excess of 10 days; and, (ii) that already have accrued sick leave entitlement balances in excess of 10 days; where sick leave accruals will continue to accounted for.

For entities previously applying the five-day minimum, scenarios (i) and/or (ii) may be few and far between in the immediate future, consider the below example, where the only difference is an increase in the annual entitlement as a result of the Bill.

Here, the number of sick days to accrue has fallen from one, to nil, solely due to the change in the annual leave entitlement.

However, in practice, entities may have to consider and factor in that the mere presence of a higher sick leave entitlement may in and of itself result in a greater level of sick leave being taken compared to historical trends – a “use it or lose it” mentality.

In any case, reasonable and supportable estimates and judgements will be required to be made by entities when considering the accounting treatment of sick leave entitlements in light of the statutory increase from five days to 10 days.