Note: This article provides a focused explanation and extended discussion on a specific standard. If you’d like to see the full list of articles and short summaries for this standard, please visit the “Series Overview” page.
Since 2025, most standard‑related articles on this site have been available in both Chinese and English versions. If you’d like to read the Chinese explanation, please visit the 「系列總覽」 page and look for the corresponding article.
Plain‑English explainer of HKAS 19 / IAS 19 for students, junior accountants and non‑specialists who find official standards too dense to read.
This article is based on Hong Kong Accounting Standards (HKAS / HKFRS), which are fully aligned with IAS / IFRS except for minor local tweaks, so the same principles generally apply under IAS / IFRS unless noted otherwise. The goal is to unpack HKAS 19 Employee Benefits (equivalent to IAS 19) using plain English and practical, real‑life examples instead of technical jargon. It is written for students, junior accountants, audit juniors and finance professionals who want to understand not just “what the standard says” but how to actually read and prepare financial statements in line with it.
When you see “the company” or “the entity” below, you can think of any entity that prepares general purpose financial statements under HKFRS / IFRS.
Why Defined Benefit Liabilities Can Differ So Much
In Hong Kong accounting and audit work, you stand at the crossroads of very different retirement systems almost every day, even if you do not consciously use the labels “DC” and “DB”.
Consider three familiar Hong Kong cases:
- Private‑sector MPF / ORSO plans: employers and employees contribute a percentage of salary into a fund; the money goes into an investment account, and employees bear the investment outcome. This is the classic defined contribution (DC) plan: once the company pays the agreed contributions, it has no further obligation and does not guarantee how much employees will receive at retirement.
- Old‑style government “long pension” schemes: some early civil servants enjoy pensions calculated based on years of service and final salary, paid as a fixed monthly amount after retirement. If the employee lives longer than expected or investment performance is poor, the government still has to pay according to the formula. This is a defined benefit (DB) plan: the government bears longevity and investment risk.
- New‑generation civil servants: many newer hires no longer join the traditional long‑pension scheme. Instead, they join the Civil Service Provident Fund (CSPF) or MPF‑type arrangements, where the government contributes to individual accounts and the eventual amount depends on investment performance, without guaranteeing a pension formula. This is again DC, similar to private MPF.
Putting these side by side:
- Private MPF / ORSO (most modern designs) → employer promises contributions only → DC.
- Old civil‑service “long pension” → government promises a formula‑based pension → DB.
- New CSPF scheme → back to contributions only → DC.
Understanding this spectrum gives you local intuition for HKAS 19 / IAS 19:
- DC = “pay contributions and stop; risk stays with employees”.
- DB = “promise a result; risk stays with the employer”.
This article focuses on the second category. Once the company promises future retirement benefits over many years, the key question is: how do we turn that promise into numbers today using the projected unit credit method and actuarial assumptions, so that the statement of financial position shows a meaningful obligation and the statement of profit or loss recognises appropriate service cost each year?
What You Should Be Able To Do After Reading?
By the end, you should be able to:
- Explain why HKAS 19 / IAS 19 requires defined benefit obligations to be measured using the projected unit credit method, instead of dumping all pension cost into one late year.
- Follow a simplified DB plan example (for example, final salary × percentage × years of service) and see how current service cost and the present value of the defined benefit obligation are built up over time.
- Understand how benefits are attributed to periods of service under the PUC method, and why certain “back‑loaded” benefit designs (such as post‑employment medical schemes) require earlier straight‑line attribution.
- Describe key actuarial assumptions, including demographic assumptions (mortality, staff turnover, retirement age) and financial assumptions (salary growth, medical cost inflation, discount rates), and the requirements that they be unbiased, mutually consistent and based on market expectations at the reporting date.
- Explain why the discount rate is based on high‑quality corporate bonds (or government bonds if there is no deep corporate bond market) and why it reflects only the time value of money, not actuarial or investment risk.
1. Why DB needs the projected unit credit method
From “one big hit later” to “build up over service life”
Historically, different methods were used in practice to account for retirement benefits, and some approaches pushed most of the cost into the later years before retirement. That made early‑year financial statements look artificially “light” on pension expense and liabilities.
The problems were clear:
- Employees provide services every year, and the retirement benefit is earned gradually through those services.
- If most of the cost is recognised only shortly before retirement, early‑year liabilities are understated and the matching principle is violated.
To fix this, the standard‑setting bodies (IASC and then IASB) chose the projected unit credit method, and current IAS 19 / HKAS 19 require this method for measuring defined benefit obligations.
In intuitive terms, the projected unit credit method:
- Treats each year of service as earning one “unit” of entitlement to future benefits.
- Projects all expected future benefits (for example, based on final salary) into the future.
- Allocates those benefits to each year of service in a reasonable pattern.
- Calculates the present value of each annual “unit” of benefit and then sums these to get the overall defined benefit obligation at the reporting date.
Think of it as “accumulate year by year and discount year by year”, not “recognise everything at once at the end”.
Breaking down the name: Projected – Unit – Credit
The term “projected unit credit” sounds abstract, but it becomes easier if you split it into three parts:
- Projected
- Benefits are calculated using expected final salary or future costs, not today’s salary.
- Example: if the benefit formula is “final salary × percentage × years of service”, you need to project what “final salary” will be at retirement by applying an assumed salary growth rate.
- Unit
- Each year of service earns one unit of benefit entitlement; the total benefit is the sum of all units earned over the entire service period.
- Credit
- “Credit” here is about assigning, or “crediting”, those benefit units to individual years of service, which determines how much benefit cost belongs to each year.
Once you see it this way, the PUC method is not mysterious maths; it is a logical framework to break a long‑term benefit promise into annual units and bring them back to today’s value.
2. Walking through the projected unit credit method with a simple example
To make this concrete, consider a simplified defined benefit plan with no detailed actuarial tables, just structure.
A simplified DB plan
Assume the company promises:
- On retirement, the employee receives a one‑off retirement lump sum.
- The amount is calculated as: final salary × 1% × years of service.
- Retirement age is a fixed 65.
Focus on one employee:
- The employee joins at age 25 and is expected to work 40 years until 65.
- Each year of service adds 1% × expected final salary to the entitlement.
Step 1: Project the total future benefit
First, calculate the retirement benefit based on expected final salary at age 65:
- Project the employee’s salary at age 65, using an assumed salary growth rate.
- Multiply that projected final salary by 1% × 40 years = 40% to get the total expected retirement benefit.
This step is the “Projected” part of the PUC method.
Step 2: Allocate the projected benefit to each year of service
Next, decide how much of that total benefit should be attributed to each year of service. Under HKAS 19 / IAS 19, the general rule is:
- If the benefit grows broadly in proportion to years of service (for example, formula is “final salary × years of service × percentage”) and there are no heavy cliff‑edge thresholds, then benefits are attributed evenly over the years of service.
In this simplified example:
- The benefit is proportional to years of service, without weird early or late spikes.
- So the total projected benefit is split into 40 equal “units”, one for each year.
This is where “Unit” and “Credit” come to life: one unit of benefit is credited to each year.
Step 3: Calculate the present value of each year’s benefit unit
Because the benefit will only be paid in the future (for example, 40 years later), the company must discount future amounts back to present value. Under the PUC method, the logic is:
- The current service cost for a year = present value of one additional unit of future benefit earned in that year.
- The present value of the defined benefit obligation at year‑end = the sum of the present values of all benefit units earned so far, plus interest cost and other adjustments.
In practice, the actuarial report wraps all this into a table showing:
- Opening present value of the defined benefit obligation.
- Current service cost.
- Interest cost.
- Benefits paid.
- Actuarial gains and losses or remeasurement differences.
- Closing present value of the defined benefit obligation.
Even though the calculations use actuarial software, the backbone is still “each year earns a benefit unit, each unit is discounted, all units are summed”.
A non‑technical analogy to cement the idea
To build intuition, imagine a gym that sells a “20‑year VIP plan”:
- For every full year a member stays, they earn one stamp.
- After collecting 20 stamps, they can redeem a long‑haul trip.
If the gym wants to estimate the future cost of these trips, it would not wait until year 20 and then suddenly recognise the full cost. Instead, it would:
- Estimate the future cost of the trip in 20 years’ time.
- Treat each year of membership as earning one stamp (one unit of future benefit).
- Each year, recognise the present value of that year’s additional stamp as expense and a growing liability.
Defined benefit plans under HKAS 19 / IAS 19 work the same way: each year of service earns one benefit unit, all future benefits are projected, then each unit is discounted and aggregated into the defined benefit obligation.
3. How benefits are attributed to periods of service – general rules and tricky cases
The projected unit credit method is not just a calculation technique; it embeds rules about how benefits are allocated to periods of service.
Normal case: straight‑line attribution over years of service
For most defined benefit plans, if the plan terms say:
- Benefits are proportional to years of service (for example, “final salary × years of service × factor”), and
- There are no major threshold years where a huge benefit suddenly appears,
then HKAS 19 / IAS 19 require benefits to be attributed evenly from the employee’s date of entry until the date when they are entitled to all benefits.
This has two advantages:
- It reflects the economic reality that each year of service contributes to the final benefit.
- It prevents the company from deferring most of the cost to later years just to make early financial statements look stronger.
Exception: when benefits are heavily back‑loaded
Some plans are designed so that benefits are significantly higher in later years, such as:
- Post‑employment medical plans where benefits are minimal for the first 20 years but increase sharply near retirement.
- Plans with apparent proportional formulas, but where substantial benefits are only truly available once a minimum service threshold is met (for example, “no significant benefit unless you complete 10 years of service”).
In these cases, if the company simply allocated benefits based on the apparent formula, almost no cost would be recognised in early years and a large amount would be loaded into late years. To avoid this, HKAS 19 requires the company to look at the economic substance of the pattern and, if necessary, attribute benefits more evenly over the entire service period, often similar to a straight‑line approach.
In practical terms:
- If the plan design suggests that early service is genuinely building up entitlement to a future benefit, you cannot recognise almost nothing in early years and then a huge spike later.
- Instead, you must see the whole service life as a continuum and allocate benefits in a way that avoids early‑year under‑recognition.
For exams and practice, the key is awareness: when you see benefit designs that appear heavily back‑loaded, you must question whether mechanical “years of service ÷ total years” attribution is appropriate, or whether HKAS 19’s substance‑based rules require a different pattern.
4. Actuarial assumptions – demographic and financial
Once you step into the defined benefit world, you cannot avoid actuarial assumptions. HKAS 19 / IAS 19 impose three important requirements on these assumptions:
- They must be best estimates.
- They must be unbiased and mutually consistent.
- They must be based on market expectations at the end of the reporting period.
Demographic assumptions: who will receive benefits, and when?
Demographic assumptions focus on who will receive benefits and when they will be paid. They include:
- Mortality rates: affect how long retirement pensions or medical benefits might be paid.
- Employee turnover / withdrawal rates: affect how many employees will leave before qualifying for full benefits.
- Disability rates: affect the probability of early access to certain benefits.
- Retirement age: determines when benefit payments start.
These assumptions are usually based on historical experience, industry data and regional mortality tables. For the company and readers of the financial statements, two points matter most:
- Assumptions should not be overly conservative or overly optimistic; they should reflect a realistic best estimate.
- Assumptions should be consistent with each other; for example, the chosen retirement age should make sense in combination with mortality and turnover assumptions.
Financial assumptions: how big the numbers become
Financial assumptions deal with the size of future cash flows. They include:
- Salary growth rate: affects the benefit level under final‑salary‑based formulas.
- Medical cost trend rate: affects the projected cost of post‑employment medical benefits.
- Inflation rate: affects benefits linked to price indices.
- Discount rate: used to discount future benefit cash flows back to present value.
HKAS 19 requires financial assumptions to be consistent with observable market data, such as bond yields and inflation expectations. Actuaries and management typically discuss and agree on these assumptions, but the ultimate responsibility rests with the company.
5. Choosing the discount rate – principles and common questions
The discount rate is one of the most sensitive and controversial assumptions in defined benefit measurements. Small changes in the discount rate can noticeably affect the present value of obligations and the annual service cost. HKAS 19 gives clear but principle‑based guidance.
Source of the discount rate: high‑quality corporate bonds first
For discounting post‑employment benefit obligations (both funded and unfunded), HKAS 19 requires that:
- The discount rate be determined by reference to market yields at the end of the reporting period on high‑quality corporate bonds.
- Where there is no deep market in such bonds for a given currency, the market yields on government bonds in that currency should be used instead.
The currency and term of the bonds must be consistent with the currency and expected timing of the benefit payments:
- Use bonds denominated in the same currency as the benefits.
- Match the duration to the expected timing of benefit cash flows, for example by using a weighted average maturity or a yield curve.
What the discount rate reflects – and what it does not
HKAS 19 emphasises that the discount rate should reflect only the time value of money, not other risks. It must not include:
- Actuarial risk (for example, the possibility that people live longer or leave earlier than expected).
- Investment risk (for example, volatility in returns on plan assets).
This implies:
- Even if the company invests plan assets in higher‑risk, higher‑return instruments, it cannot use a higher discount rate simply because it expects higher returns.
- The discount rate is about “what the market demands for lending money in that currency and duration”, not “what the plan assets might earn”.
Common questions include:
- “Can we use the company’s long‑term borrowing rate?” – Generally no. HKAS 19 focuses on high‑quality bond yields and not an individual company’s credit spread.
- “If there is no deep AA‑rated corporate bond market, can we use lower‑rated corporate bonds?” – Typically no. If the high‑quality corporate bond market is not sufficiently deep, the standard directs entities to government bond yields, rather than moving down the credit quality ladder.
6. From assumptions to the present value of the DB obligation – a high‑level roadmap
To connect all the ideas, it helps to picture a high‑level flow that actuaries follow when producing the defined benefit obligation and related expense components.
A simplified roadmap:
- Set demographic assumptions
- Estimate, for each future year, how many employees will still be in service or otherwise eligible to receive benefits, based on mortality, turnover, disability and retirement age.
- Set financial assumptions
- Decide salary growth, medical cost trend, inflation and other financial parameters, which will be used to project future benefit amounts.
- Select the discount rate to bring those future cash flows back to present value.
- Project annual expected benefit cash flows
- For each employee and each year, calculate the potential benefit payment according to the plan formula (lump sum or annuity), multiplied by the probability that the employee will still be eligible at that time.
- Attribute benefits to service years using the PUC method
- Apply HKAS 19’s benefit attribution rules to determine how much of the projected benefits belongs to each year of service.
- Derive the current service cost as the present value of the additional benefits earned in the current period.
- Discount and aggregate to find the present value of the obligation
- Discount all projected benefit payments to present value using the chosen discount rate.
- Sum the present values to obtain the total present value of the defined benefit obligation at the reporting date.
- Reconcile movements from opening to closing obligations via current service cost, interest cost, benefits paid and remeasurement differences.
In the financial statements, you often see a note showing: opening obligation, current service cost, net interest, benefits paid, remeasurement gains or losses, and closing obligation. That table is essentially a compressed representation of this roadmap.
Key takeaways for students and junior accountants
- When you read any defined benefit note in financial statements, first ask: “What is the benefit formula? Over what service period is it earned? How are benefits attributed to years?” Then map that back to the projected unit credit logic instead of staring at the numbers in isolation.
- In working papers or exam answers, explicitly state that HKAS 19 / IAS 19 requires the projected unit credit method, and briefly explain that each year of service earns one benefit unit whose present value is recognised as current service cost. This alone can secure marks and show clear reasoning.
- Watch for common pitfalls: costs pushed too late because benefits are treated as if they arise only near retirement; discount rates chosen based on company borrowing rates rather than high‑quality bonds; or demographic and financial assumptions that appear inconsistent with each other.
- When reviewing plan documents or board papers, highlight clauses around minimum service periods, back‑loaded medical or other benefits, and final‑salary‑based formulas. These are signals that careful attribution and proper assumptions will be crucial under HKAS 19 / IAS 19.
- As you move to more advanced topics, use this PUC framework to understand how changes in assumptions create remeasurement differences, why they go through other comprehensive income for defined benefit plans, and how sensitivity analyses in the notes help users see the impact of key assumptions.
If you’d like to ask me questions or chat about your learning, you can follow me on Threads / IG and send me a DM — I’ll reply as far as I can.
And if you feel these resources have helped you, you can also buy me a coffee to support me in writing more.
罔相心室: https://chinese.iamdelusionman.com/
Zero-to-Acct Substack: https://zerotoacct.substack.com/
Thread: https://www.threads.com/@yickki_mong
IG: https://www.instagram.com/yickki_mong/
