Understanding Sick Leave Actuarial Valuation

Sick leave is a crucial part of the benefits offered to the employees of the organisation which gives them the necessary time required to recover from any illness and come back to work, without them suffering from any financial loss as well as without the company suffering in its efficiency of work due to its employees being ill.

However, if we consider its financial implications, it can be a little complex. This is because if organizations allow the employees to enjoy the benefit of the accumulated unused sick days, it would be very difficult for the company to predict such leaves and hence the funds required to fulfill them. Thus, actuarial valuation of sick leave is crucial which gives the company an idea by quantifying the expected future liabilities associated with these sick leave benefits granted.

What is Sick Leave Actuarial Valuation?

It refers to estimating the impact on the finances of the company of the provision of sick leaves provided by the employers to the employees of the organization. This process of estimating is dependent on various actuarial assumptions such as the rate of utilization of sick leaves, rate at which employees retire or leave the organisation, etc. Various statistical techniques and forecasting is used while evaluating the occurrence of sick leave and hence, sick leave valuation.

As per accounting standards such as AS 15 (and IND AS 19/IAS 19), companies need to take into account accumulated leaves that are carried forward in the future and hence compensate them. Thus, accurate estimation of pattern of leaves must be analysed before evaluating the valuation of sick leave liability.

Types of Sick Leave

According to the accounting standards, sick leaves are classified into two types as:

1. Accumulating Leaves:

Accumulated leaves are those absences, if not utilized, are carried forward in the future. This means that if employees do not take all paid sick leaves, they can use them somewhere in the future or are entitled a cash payment in compensation for not taking the leave. They must be estimated accurately as the sick leave valuation depends on such types of leaves.

2. Non-Accumulating Leaves:

Such types of leaves are not accumulated, i.e., they cannot be carried forward and used sometime in the future. Evaluating them is of no use as it does not affect the liability of the company.

Importance of Accurate Actuarial Evaluation

Companies need to correctly estimate sick leave valuation for the following reasons.

• If companies are aware about the funds that would be required in future to compensate employees for the accumulated sick leaves, they can set aside today or are prepared to set aside in the future the funds that would adequately cover such costs.
• With the clarity of the amount of funds to be kept aside, they can better create sustainable policies that are in favour of everyone.
• Also, if the employees are aware of such sick leave benefits, they will take minimum leaves to claim maximum benefits, thus the efficiency of the organisation is maintained to the fullest.
• The company is required by law to grant sick leave benefits to its employees, failing which the company will not only be wrong morally, but it may face legal issues too.

Steps Involved in the Actuarial Valuation Process

In order to ensure accuracy, the following steps must be followed for better estimation of sick leave actuarial valuation.

Step 1: Collection of Data:

This step involves gathering effective data related to the health of the employees, their previous pattern of using sick leaves as well as the company’s policies regarding usage and compensation of leaves. It must be ensured that the data so collected must come from trustable sources, and hence reliable to use.

Step 2: Analysing the data:

On the basis of the data so gathered, the trends as well as patterns must be analysed so that forecasting can be done in a better way. Also, we need to consider various actuarial assumptions while making the trends.

Step 3: Calculation of cost:

After evaluating and analysing the trends of sick leaves, the cost required for covering such sick leave payments are calculated, and hence the company evaluates the required funds, which has an impact on the financial health of the organisation. Also, a detailed report can be made on the basis of the findings from the evaluation and hence the company gets an idea about how to make sick leave plans for the future.

Challenges in Valuation of Sick Leave Payments

Though providing sick leave benefits is necessary from the company’s point of view, it may also face a number of challenges while estimating them some of which are discussed below.

• Most organisations face the challenges of estimating sick leave valuation. This is typically for new companies as they cannot evaluate the pattern of leaves of its employees in the organisation and are dependent on the data based on other company’s data, which can sometimes prove to be irrelevant.
• Companies may lack the required sources for conducting such research or they do not give much importance to these sick leaves, this may result in underestimation of funds.
• Even if the organisation understands the importance of evaluating sick leaves, it may lack the required funds and thus are unable to make models using complex mathematical and statistical techniques.

Conclusion

Giving paid sick leave is crucial as it helps employees to make a choice between taking care of themselves and earnings for the family. In the similar manner, evaluating such sick leave valuation is crucial for organisations to better calculate and understand the finances of the company. By accurately calculating these payments, companies not only take care of their financial health but also their reputation is increased in the market as they consider the interest of their employees as well.

However, companies must make sure that the sick leave valuation should comply with the changes in the business as well as economic environment. They can hire qualified actuaries who can consider such changes from time to time with the help of various mathematical models.

Frequently Asked Questions about Actuarial Valuation