iasb insurance contracts phase 2 status and iaa role ...€¦ · status and iaa role. november 2009...

November 2009

Presidents Forum / Insurance Accounting Committee

IASB Insurance Contracts Phase 2Status and IAA Role

November 2009 -- Hyderabad

Sam Gutterman

November 2009

Agenda Background

International accounting convergence

Insurance Contracts Phase 2 status

IAA Role and Activities

November 2009

BackgroundInternational Accounting Convergence

Objectives:One single set of high-quality financial reporting standards for

companies world-wideNo surprises with full transparency

“The whole objective of the International Accounting Standards Board is to boost transparency by having one single set of high-quality standards for companies world-wide. The real secret for confidence in the markets is: no surprises and full transparency—that’s going to mean some pretty uncomfortable standards coming in the future.”

“It’s silly having a different rule in the UK or Australia or the US when we should just see who’s got the better rule and let’s do it worldwide.”

Sir David Tweedie, Chairman IASB

November 2009


IFRS—International Financial Reporting Standards Standard setter—International Accounting Standards Board (IASB) Founded in 2001. Based in London

Replaced the International Accounting Standards Committee (IASC), which previously published financial reporting standards referred to as International Accounting Standards (IAS), used in countries without their own accounting standards setter

Impetus came from the G7 after the Asian Financial Crisis in the 1990s Current convergence efforts given further push by the G20 this year

IASC Foundation’s Trustees have oversight responsibility, with a Standards Advisory Council (SAC) that provides advice regarding the IASB agenda The IASB develops IFRS and the International Financial Reporting Interpretations

Committee (IFRIC) provides interpretations of IFRS Main functions of IASC Foundation trustees include

– Appointing IASB members– Exercising oversight– Raising funds

Monitoring Board, recently formed, made up of international regulators, provides oversight to the IASC Foundation

November 2009


Standard setting structureMonitoring Group5 members

Geographical break-down

Europe 8

North America 6

Asia / Oceania 6

Rest of the world 2

IASCFoundation22 trustees

SAC46 members

IFRSHigh quality, enforceable and global

IASBChairman plus

14 members

IFRIC12 members

AppointGovernFund

InterpretAdvise

Create

Trustees

Board

Geographical break-down

Europe 4

North America 5

Asia / Oceania 4

Rest of the world 2

November 2009


More than 100 countries require or permit the use of IFRS, or are converting

Top 10 Global Capital Markets

US US GAAP

Japan Converting to IFRS

UK IFRS

France IFRS

Canada Converting to IFRS

Germany IFRS

Hong Kong IFRS

Spain IFRS

Switzerland IFRS or US GAAP

Australia IFRS

Countries seeking convergence with the IASB or pursuing adoption of IFRSs

Countries that require or permit IFRSs

Countries with no current plans to convert to IFRS

November 2009

BackgroundInternational Accounting Convergence – SEC Roadmap

When might the transition to IFRS occur in the US?

2008 2010

2009

2012 2014

2007 2011 2013 2015

March 2007 SEC roundtable on US GAAP reconciliation for IFRS filers

July 2007 SEC proposal eliminating US GAAP reconciliation for IFRS filers

August 2007 SEC concept release on use of IFRS for US registrants

November 2007Reconciliation eliminated for IFRS filers

January 2009-2014Voluntary application of IFRS permitted for certain US registrants

January 2014Proposed roadmap targets potential mandatory adoption in 2014-2016?

December 2007SEC roundtable on IFRS in the US

August 2008Roadmap was issued

During 2011SEC will reconvene to decide whether a mandatory conversion date should be set

November 2009

Background - IASB and IFRSCurrent IFRS 4 – Insurance Contracts

IFRS 4 in its current form Adopted in 2004 Applies to Insurance Contracts, not Insurance Companies Originally designed as an interim solution (2 years) Primarily relies on local standards (e.g. US GAAP in the US) A great deal of diversity in practice

Starting with current local standards Eliminates liabilities for future claims (e.g. catastrophe reserves) Requires a liability adequacy test (type depending on prior or newly adopted test) Measuring liabilities on an undiscounted basis can be continued, but not introduced No netting for reinsurance Can make a subsequent change to entity’s accounting policy as long as it is more

reliable and no less relevant, or more relevant and no less reliable

November 2009

Background - IASB and IFRSCurrent IFRS 4 – Insurance Contracts

Definition of an Insurance Contract (not expected to change in Phase 2) “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”

Insurance risk Risk other than financial risk transferred from the holder of the contract to the issuer.

Financial risk includes a change in interest rate, security price Lapse, persistency or expense risk not insurance risk in a direct contract Must relate to an uncertain future event that adversely affects the policyholder Must be a pre-existing risk, rather than risk created by a contract (e.g., a gambling contract)

No requirement for underwriting and timing risk.

Significant Where an insured event could cause an insurer to pay significant additional benefits in any

scenario, excluding scenarios that lack commercial substance (i.e., have no discernable effect on the economics of the transaction), irrespective of the likelihood of such event.

The “additional benefit” is compared to that which would be paid if the insured event did not occur.

November 2009

Background - IASB and IFRSCurrent IFRS 4 and IFRS 7 – Insurance Contracts

General disclosure principles

Principle 1: Identify and explain significant amounts in financial statements Accounting policies and significant assumptions Changes in amounts and assumptions

Principle 2: Help users understand future cash flows Objectives in managing risks and policies for mitigating risks Effect on cash flows of contractual terms and conditions Insurance risks - sensitivity analysis, concentrations, loss development Interest rate and credit risks

Risk–oriented disclosure requirements

Sensitivity analysis

November 2009

Insurance Contracts Phase 2Insurance Contracts Discussion Paper (2007)

Current IFRS method used in the accounting for insurance contracts is inconsistent across jurisdictions

Results in too much diversity, less relevance and less reliability The IASB started with a clean slate to develop Phase 2 The FASB agreed to pursue a joint project with IASB (will result in IFRS/US GAAP

convergence on the financial reporting standard for Insurance Contracts) because of overlap with most of their other joint projects

Phase 2 work begun

Jul 04

Discussion Paper

published May 07

Comment period endedNov 07

Phase 2 Exposure Draft

published February 10

Phase 2 IFRS

published June 2011?

We are hereFASB IToC

Aug 07

Phase 2 IFRS

effective 2013?

November 2009


IASB Discussion Paper “Preliminary Views on Insurance Contracts” Published May 2007 US Financial Accounting Standard Board (FASB) issued an Invitation to Comment

Included ideas for financial reporting of insurance contracts: Basic model – current exit value Reflected policyholder behavior and acquisition expenses Other measurement issues

Reinsurance Unbundling Guaranteed insurability as the basis for recognizing renewal premiums

Gain at issue possible, although expected to be small

November 2009


Many responses to the insurance contracts discussion paper were received; some themes:

Respondents expressed general support for: A single model for life and non-life 3 building block approach, but many differences in opinion about each block Discount rate should not be asset-based Premiums as revenue Expensing of acquisition costs

Were generally against: Including own credit characteristics Unbundling Service margins Guaranteed insurability test for future premium recognition

And had mixed views on: Day 1 Profit Discounting loss reserves (non-life insurers in US generally against)

November 2009

Insurance Contracts Phase 2Joint Project of FASB/IASB

It is expected that the outcome of Phase 2 will become US GAAP irrespective of if and when there is overall convergence between US GAAP and IFRS

FASB joined project in late 2008 Joint staff project as well

Single Approach for all life and non-life insurance and reinsurance contracts Though a tentative decision by the IASB may lead to a distinction for pre-claims liability

between short-duration and long-duration contracts (although no definition of distinction yet decided)

Three basic building blocks of measuring liabilities are Expected future cash flows Time value of money Margin

November 2009

Insurance Contracts Phase 2Overall Measurement Objectives

Methods currently being considered for valuing liabilities: Fulfillment approach

FASB had tentatively agreed to this approach through October 2009 Expected present value necessary to fulfill obligations over time

– Expected cost based Reasonably consistent with proposed revenue recognition (customer consideration model)

– Revenue recognized with performance of service Single margin calibrated to premiums, although in November 2009 included explicit risk margin

Modified IAS 37 approach (currently being developed, to be re-exposed in December, applicable to non-contractual obligations) IASB leaning toward this approach Modifications being made to apply to contracts

– No gain at issue Transfer notion as in settlement, yet not fair value

– Explicit risk and service margin Through October had initial incremental acquisition expense recognized as revenue

For short-duration contracts an unearned premium approach IASB agreed to mandate, although may discuss the mandatory nature in December FASB hasn’t discussed yet No separate building blocks

Staffs currently reexpressing description of objectives

Current exit value (transfer price as assessed by third party) is no longer being discussed

November 2009

Insurance Contracts Phase 2Building Block 1 – Expected Value of Future Cash Flows

Determining expected value: Identify each possible scenario Estimate the cash flows under each scenario Make unbiased estimate of probability of each scenario Treatment of administrative expenses – here or in margins? Expected not to require stochastic modeling

Open application question for claims liability: Will insurers need to develop estimates of each possible scenario by identifying

individual scenarios, estimating the cash flows for those scenarios, and then weigh them together in a probability weighted manner?OR

Would current P&C non-life actuarial approaches be suitable for Building Block 1?

November 2009

Insurance Contracts Phase 2Building Block 2 – Discount – Time Value of Money

Discount rates Consistent with observable current market prices Apply to cash flows whose characteristics match those of insurance liability (not

matching assets) in terms of: Duration Liquidity Currency

Discount all liabilities Including claims liability Coverage period

– Explicitly for long-duration contracts– Implicitly for short duration contracts through unearned premium approach

Possible interest rates being considered: Risk free or similar rate IASB considering whether liquidity adjustment appropriate

– Waiting for field testing results relating practicality concerns Not insurer’s investment yield rate

November 2009

Insurance Contracts Phase 2Building Block 3 - Margins

Subsequent margin measurement (other than for claims liability) Contract fulfillment approach with composite margin

Depends on whether composite margin is remeasured If not remeasured

– If allowed to be a shock absorber, to what extent deviations in actual experience affect level of composite margin

– If not a shock absorber, most likely consistent with release of insurance risk, as that is primary risk driver, but there are other possibilities

If remeasured, in a manner similar to risk margin– Requires allocation of risk to each period or– Prospective measurement based on assessment of uncertainty

Revised IAS 37 model with two or three types of margins Risk margin – consistent with previous slides Service margin – no one quite sure what it is for (possibly administrative cost or markup

of internal expenses) Residual margin – same issues as for composite margin above

Residual margin would be equal to difference between present value of premiums and present value of benefits/losses and relevant expenses, less risk margin Key issue for long-duration contracts to the extent different margins (residual, risk and

composite) released in a different manner

November 2009

Insurance Contracts Phase 2Building Block 3 – Risk Margins

Families of risk margin methods as given in IAA Risk Margins paper: Quantile methods Cost of capital Explicit assumptions (related to specific risk factors) Discount rate related Implicit

Examples of approaches in current practice Cost of capital method

Switzerland regulatory: Swiss Solvency Test using 6% cost and regulatory capital Solvency II in Europe

6% cost on regulatory capital, which is defined at a 99.5% chance of a loss in one year

Quantile method Australian property & casualty claims liability

Minimum of 75% CTE

Explicit method Canada, with strict ranges for each risk determined by the actuarial profession,

accompanied by peer review

November 2009

Insurance Contracts Phase 2Other Outstanding Issues Recognition of renewal premiums The IASB has now bought into recognizing fixed and determinable premiums Not yet discussed – flexible premiums, e.g., for universal life insurance

Contract boundaries Treatment of non-guaranteed features Policyholder dividends Where charges or credits different than those guaranteed

What is revenue All premium, no premium, sometimes premium

Unbundling Especially if a contract has a deposit component

Minimum cash value floor Currently none

Own credit standing adjustment When a contract is recognized Made important since no-gain at issue requirement

Reinsurance issues Many related overall IASB projects, including revenue, presentation, liabilities,

financial instruments, fair values

November 2009

IAA Role Insurance Accounting Committee

Formed as committee of IFAA in 1996 In response to IASC Insurance Contracts project Chair, Sam Gutterman Vice Chairs – Francis Ruygt, Paul McCrossan (through 2006), David Congram (from 2005)

Represented on IASC Present Value Steering Committee (Gutterman) IASC Insurance Steering Committee (McCrossan) IASB Standards Advisory Group (McCrossan 2001-2006, Ruygt from 2009) IASB Insurance Working Group (Gutterman) IASB Financial Instruments Working Group (Ruygt) IAASB Consultative Advisory Group (Gutterman) IASB Employee Benefits Working Group (Jim Verlautz, with other actuaries)

Taken part in Four IASB Education Sessions (2006-2008) Two FASB Education Sessions (2009)

Commented on Each IASB Insurance Contracts Discussion Papers and Exposure Drafts Many other IASB papers and drafts

November 2009

IAA Activities Established general insurance listserve for currently about 315 interested parties Research papers

Two joint research papers with American Council of Life Insurance Principle sponsor of IAA ad hoc Risk Margins Working Group Measurement of Insurance

Liabilities: Current Estimates and Risk Margins (2009) Committee meetings

Extensive meetings in conjunction with each IAA Council meeting Several standalone meetings

Employee benefits – begun meetings and significant effort on a revised IAS 19 Work with IAIS

Attended many IAIS Insurance Contracts Subcommittee meeting Assisted in their development of several papers and comment letters

Actuarial standards and education Developed 11 International Actuarial Standards of Practice related to Phase 1

Has served as educational guidance for actuaries around the world Beginning to discuss what guidance is needed to support Phase 2

Most likely a combination of International Actuarial Standards of Practice and International Actuarial Notes

Have almost completed IAA book on Stochastic Modeling In process of discussing what other technical education material should be developed at an

international level Has served as informal advisor to IASB (and in 2009 FASB) staff on many insurance

contracts related issues

Presidents Forum / Insurance Accounting Committee�AgendaBackground�International Accounting ConvergenceBackground�International Accounting ConvergenceBackground�International Accounting ConvergenceBackground�International Accounting ConvergenceBackground�International Accounting Convergence – SEC RoadmapBackground - IASB and IFRS�Current IFRS 4 – Insurance ContractsBackground - IASB and IFRS�Current IFRS 4 – Insurance ContractsBackground - IASB and IFRS�Current IFRS 4 and IFRS 7 – Insurance ContractsInsurance Contracts Phase 2�Insurance Contracts Discussion Paper (2007)Insurance Contracts Phase 2�Insurance Contracts Discussion Paper (2007)Insurance Contracts Phase 2�Insurance Contracts Discussion Paper (2007)Insurance Contracts Phase 2�Joint Project of FASB/IASBInsurance Contracts Phase 2�Overall Measurement ObjectivesInsurance Contracts Phase 2�Building Block 1 – Expected Value of Future Cash FlowsInsurance Contracts Phase 2�Building Block 2 – Discount – Time Value of MoneyInsurance Contracts Phase 2�Building Block 3 - MarginsInsurance Contracts Phase 2�Building Block 3 – Risk MarginsInsurance Contracts Phase 2�Other Outstanding IssuesIAA RoleIAA Activities

iasb insurance contracts phase 2 status and iaa role ...€¦ · status and iaa role. november 2009...

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