Similar to pension expense, postretirement benefit expense (e.g., the expense incurred due to a postretirement benefit obligation like healthcare provided for retirees) has 5 components:
(1) service cost
(2) interest cost
(3) the expected return on plan assets
(4) amortization of prior service cost (or prior service credit)
(5) amortization of net gain or net loss
Service cost is the portion of the EPBO attributable to a particular period. It is calculated as follows:
service cost = ending balance of EPBO * fraction attributed to service rendered during that period
Interest cost is calculated as follows:
interest cost = beginning balance of APBO * interest rate (aka discount rate)
The expected return reduces postretirement benefit expense; however, many postretirement healthcare plans are unfunded, which means there will be no expected return.
Unlike with pensions, prior service cost for other postretirement benefit plans is amortized over the number of years remaining until full eligibility is reached for the healthcare benefits (with pensions, prior service cost is amortized over the remaining service years of active employees).
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