Welcome to IFRS is easy!
After over 600 comment letters and over 900 meetings, roundtables and discussion forums with investors, analysts, preparers, actuaries, regulators, standard-setters, accounting firms, among others, the IASB finally issued the new IFRS 17 close to the end of May 2017.
IFRS 17 was issued to replace the 2004 IFRS 4 Insurance Contracts which served as an interim standard on Insurance contracts.
This new standard aims to remove the diversity in accounting for insurance contracts that existed when applying IFRS 4. It introduces current, transparent and consistent financial information about insurance contracts.
IFRS 17 will be effective from 1 January 2021. Insurance companies can apply earlier but only if it also applies IFRS 9 Financial Instruments and IFRS 15 Revenue from Contracts with Customers.
|Hans Hoogervorst -IASB Chairman|
Darrel Scott, a member of the IASB succinctly puts the disparities as follows:
IFRS 17 Consistent accounting
IFRS 17 Estimates reflect current information
IFRS 17 Discount rate reflects cash flows of the contract
IFRS 17 Measurement reflects discounting where significant
IFRS 17 Measurement reflects full range of possible outcomes
Let’s take a brief look at some important requirements in the new standard:
· IFRS 17 affects any company that writes insurance contracts.
· IFRS 17 applies to all companies (both listed and unlisted) that issue insurance contracts, and not to only insurance companies. However, insurance contracts are generally not issued by companies outside of the insurance industry.
· Non-financial companies providing insurance services are generally not expected to apply IFRS 17. Insurance brokers are not expected to be directly affected by IFRS 17 as they do not typically issue insurance contracts. This is because their main activity is to arrange insurance cover with an insurer on behalf of their customers.
· Companies are required to provide consistent information about components of current and future profits from insurance contracts.
· IFRS 17 requires that a company recognizes profits as it delivers insurance services (rather than when it receives premium), and to provide information about insurance contract profits that the company expects to recognize in the future.
· Objective of IFRS 17 establishes the requirements that a company must apply in reporting information about insurance contracts it issues and re-insurance contracts it holds.
· The scope: IFRS 17 applies to contracts that are – Insurance contracts issued (i.e. sold); Reinsurance contracts held (i.e. acquired); or Investment contracts with discretionary participation features issued.
· Insurance contract is a contract under which one party (the insurer) accepts significant insurance risk from another party (the policyholder) by agreeing to compensate the policyholder if a specified uncertain future event (the insured event) adversely affects the policyholder.
· Reinsurance contract is an insurance contract issued by one insurer (the reinsurer) to compensate another insurer (the cedant) for losses on one or more contracts issued by the cedant.
· Discretionary participation feature is a contractual right to receive, as a supplement to guaranteed benefits, additional benefits that are likely to be a significant portion of the total contractual benefits; whose amount or timing is contractually at the discretion of the issuer; and that are contractually based on: the performance of a specified pool of contracts or a specified type of contract; realised and/or unrealised investment returns on a specified pool of assets held by the issuer; or the profit or loss of the company, fund or other entity that issues the contract.
· Cedant: The policyholder under a reinsurance contract
· Portfolio of contracts refers to insurance contracts that are subject to similar risks and that are managed together.
· Onerous contracts: A group of contracts becomes onerous if its estimated cash outflows exceed its estimated cash inflows.
· Discount rates reflect the characteristics of the cash flows arising from the group of insurance contracts (for example, the timing, currency and liquidity of the cash flows). They are based on current observable interest rates, with adjustments being made to these observable rates to align them with the characteristics of the group of insurance contracts.
· Risk adjustment is an explicit adjustment to reflect the uncertainty in timing and in amount of future cash flows.
· IFRS 17 requires a company to measure insurance contracts using updated estimates and assumptions that reflects the timing of cash flows and any uncertainty relating to insurance contracts.
· Companies will measure insurance contracts at current value.
· Companies will reflect the time value of money in estimated payments to settle incurred claims (liabilities).
· Companies will measure their insurance contracts based only on the obligations created by these contracts and not based on the value of the company’s investment portfolio.
· Initial measurement: A company issuing insurance contracts assesses the rights and obligations arising from groups of contracts and reflects them net on its balance sheet, on a discounted basis.
· All insurance contracts are initially measured as the total of: the fulfilment cash flows; and the contractual service margin, unless the contracts are onerous.
· Subsequent measurement: The way in which changes in estimates of the fulfilment cash flows are treated depends on which estimate is being updated.
· Changes that relate to current or past coverage are recognized in profit or loss.
· Changes that relate to future coverage are recognized by adjusting the contractual service margin. However, if the contractual service margin is zero, the changes are recognized in profit or loss.
· The contractual service margin is recognized in profit or loss over the coverage period based on the quantity of coverage provided by the contracts in the group and their expected duration. Interest for the passage of time is accreted on the contractual service margin, using discount rates at initial recognition of the contracts.
· Contractual service margin represents the profit that the company expects to earn as it provides insurance coverage. This profit is recognized in profit or loss over the coverage period as the company provides the insurance coverage.
· At initial recognition of the contracts, the contractual service margin is the present value of risk-adjusted future cash inflows less the present value of risk-adjusted future cash outflows. In other words, it is the amount that, when added to the fulfilment cash flows, prevents the recognition of unearned profit when a group of contracts is first recognized.
· If contracts are onerous, losses are recognized immediately in profit or loss. No contractual
service margin is recognized on the balance sheet on initial recognition.
service margin is recognized on the balance sheet on initial recognition.
· Fulfilment cash flows are the current estimates of the amounts that an insurer expects to collect from premiums and pay out for claims, benefits and expenses, adjusted to reflect the timing and the uncertainty in those amounts. The adjustment for uncertainty is called the risk adjustment.
*IASB – International Accounting Standards Board