With the finalisation of the long awaited IFRS17 global accounting standards in May 2017, the Actuaries Institute's IFRS17 Implementation Taskforce will be updating its members monthly on its activities.
Our update in July provided some background on IFRS 17 as well as information about the Taskforce and its aims and plans. We noted that we had set up six technical drafting groups, each led by a member of the taskforce, supporting the aspiration of the taskforce to produce information notes on AASB 17. We intend to provide an update from one of the work-streams each month, and the first of these is provided below – in this case, from the General Model/Building Block Approach (BBA) work-stream, headed by myself, Grant Robinson.
Each of the work-streams is in the process of identifying issues and working through a process to address each of them as best we can at this stage. This work in turn will feed into the draft information notes.
Since our last update, the Australian Accounting Standards Board has issued AASB 17, effectively unchanged from IFRS 17, though there are some differences for not-for-profit entities.
Finally, we want to remind you that there is an Insight session on the new standard on 5 September in Sydney. If you have an interest in AASB 17 and its implications for the profession, please come along.
Update from the BBA Drafting Group
The BBA drafting group is one of the technical drafting groups focused on producing an information note covering the General Measurement Model under AASB 17. During the development of the Insurance Contracts Standard, the IASB described the General Measurement Model as the Building Block Approach (BBA).
How we are tackling this topic
We have divided ourselves into six sub-groups focussed on key aspects of BBA. Two of these relate to the building blocks for BBA:
- Current estimates of future cash flows - covering which are included or excluded, expected values and when a distribution is needed, and incurred claims;
- Contractual service margin (CSM) - covering determination at inception, roll forward at inception discount rates, adjustment for changes in cash flow estimates for future service, adjustment for experience relating to premium received and investment components paid, coverage units and release of the updated CSM at the end of period.
(The other two building blocks for BBA, discount rates and risk adjustment for non-financial risk are being addressed by the drafting group for Risk Adjustment and Discount Rates).
Apart from the two building blocks mentioned above, the other key aspects related to BBA that we are covering are:
- Onerous Contracts covering when a group is onerous, loss recognition and reversal, tracking and release of the loss component;
- Reinsurance covering how BBA applies to reinsurance assumed or held, contract boundary, counterparty risk, Gross versus net approaches, and consistency with underlying;
- Contract modifications and de-recognition covering identification and treatment of significant modifications, including derivation of the equivalent premium, and de-recognition; and
- Transition for Contracts under BBA covering the three approaches - full retrospective, modified retrospective and fair value, the criteria for being able to use each of these, impracticability, simplifications and approximations permitted, determination of the groups and elements of insurance contract liabilities.
Starting points for our drafts are the material being developed by the International Actuarial Association (IAA) drafting groups. We meet fortnightly to review a draft on a key aspect of BBA, and to date we have reviewed first drafts for four of the six key aspects.
Example of an area we’ve looked at
A number of significant issues have been identified, one of which is the meaning of coverage units, which are the basis for release of the CSM.
Coverage unit is defined by AASB 17.B119(a) as: The number of coverage units in a group is the quantity of coverage provided by the contracts in the group, determined by considering for each contract the quantity of the benefits provided under a contract and its expected coverage duration.
The Basis for Conclusions for IFRS gives some guidance as to how this might be interpreted, in that the following were rejected as a basis for release of the CSM:
- pattern of expected cash flows (IFRS 17.BC279(a));
- on the change in the risk adjustment caused by release from risk (IFRS 17.BC279(a)); and
- when returns on investment components occur even where this drives total expected fee (IFRS 17.BC280(a));
Further from the Basis for Conclusions, it is apparent that IASB’s intent is that the release should be based only on the provision of insurance coverage (IFRS 17.BC280(a)), with the only exception being for investment contracts with discretionary participation features as they do not provide insurance coverage.
This suggests that given coverage units are defined as the quantity of insurance coverage provided, coverage units can be interpreted as the maximum amount payable if a claim were to occur for all covers under each contract in the group, e.g.
- maximum lump sum payable upon claim net of any investment component;
- sum of the maximum annual payments payable upon claim event in coverage period (again net of any investment component)
For example, coverage would be, for:
- term life insurance, the sum insured payable upon death;
- whole of life and endowment insurance, the sum at risk; and
- Income protection, the sum of the annual income payments if the insured became disabled and remained disabled for the remaining life of the contract.
There is likely to be other valid interpretations of the meaning of coverage and given that this is key to the release of profit, this issue will very likely go to the IASB’s Transition Resource Group and a definitive view on how this should be interpreted may not be available until sometime in 2018.
The updated CSM at the end of the period is released based on the ratio of coverage provided in the period to the sum of coverage provided in period and expected to be provided in future periods.
The reporting entity has the choice of using the sum or present value of future coverage in the denominator for the release of CSM, as AASB 17 makes no mention of whether time value of money needs to be allowed for in determining the release pattern. However, the Basis for Conclusions for IFRS 17 makes it clear that this has been deliberately left to the discretion of the reporting entity (IFRS17.BC280(a)).
Not discounting the quantum of coverage expected to be provided in future, will tend to defer the release of profit for an insurance contract, which may be appropriate to balance where the definition of coverage unit of itself brings profit forward. For example, for conventional business, where the sum at risk declines over the life of the contract while the main source of profit, the investment return on supporting assets, grows over time.
We hope this gives you some flavour into the work of this taskforce, and in particular the BBA technical workstream.
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