C36 CIA IFRS 17 - LRC

Insurance Contract Liabilities =

LIC + LRC

LRC =

If onerous: LRC = (LRC excl LC) + LC

• = FCF

  • CSM = 0

If non-onerous: LRC = FCF + CSM

• = LRC excl LC

  • LC = 0

LC vs CSM

LC

• Onerous contracts

• Recognized immediately

CSM

• Non-onerous contracts

• Deferred

LRC is an entity’s obligation to:

*5 NOTs

a) Investigate & pay valid claims under existing insurance contracts for insured events that have NOT yet occurred

b) Pay amts under existing insurance contracts NOT in (a) & relate to:

• Insurance contract services NOT yet provided

• Any investment components or other amts NOT related to provision of insurance contract services & have NOT been transferred to LIC

Contract Boundary

Defines CFs that should be included when measuring insurance liability

• Ex of CFs: prem paid by policyholders, payments from insurer

• Boundaries are usually policy effective & expiry date

Position of a portfolio of contracts

Asset Position: expected cash inflows > outflows

Liability Position: expected cash outflows > inflows

Contractual Service Margin (CSM)

Unearned profit from group of insurance contracts

• Only if non-onerous

LRC (non-onerous) over coverage period

At contract inception: LRC = FCF + CSM

• LIC, Paid = 0

At end of covg period: LRC = 0

• FCF released into paid & LIC

• CSM released into profit

Aggregation level → Expenses / LRC & CSM / FCFs

Expenses & FCFs

• Must be allocated to group lvl

LRC & CSM

• Must be determined @ group lvl

Future Cash Flows

• Contract boundary usually policy term

• Inflows = prem

• Outflows = claims & directly attributable expenses

Discounting Procedure

• Determine payment pattern

• Apply discount factors

How to estimate timing of LRC CFs on group basis?

• Estimate payment pattern on group basis

• or

• Adjust AY payment pattern used for LIC to a pattern consistent w/ avg acc date of group

Carrying Amt of CSM @ end of reporting period

= Carrying Amt @ start + Adjustments

• Adjustments include:

  • Effect of new contracts

  • Effect of FX differences

  • Interest during repting period

Amortization of CSM

• CSM is amortized over reporting period

  • CSM_beg = CSM @ beginning of period

    • = Ending CSM of prev period!

  • CU_n = covg units provided in period

  • CU_end = covg units @ end of period

Steps

• % CSM Amortized in period

• CSM_amortized

• Ending CSM

• Incremental CSM earning pattern

Coverage Unit

Quantity of insurance contract services provided by contracts in group

• Determines how CSM is released into profits

Coverage Units → Key Principles

• Quantity of benefits generally not based on expected claims

• Discounting optional

• Covg period extends to end of period in which insurance contract services are provided

CSM Amortization Patterns

Uniform: contracts w/ same policy limit throughout covg period

Declining: contracts w/ dec policy limit over covg period

• Ex: mortgage insurance

Increasing: contracts w/ inc policy limit over covg period

• Ex: product warranty w/ replacement covg

Wy do entities have to track (LRC excl LC) and LC separately?

Want to keep onerous & non-onerous contracts separate

What happens when non-onerous contract become onerous subsequently?

• CSM reduce to 0

• Establish an LC!

Why does accounting track non-onerous & onerous contracts separately?

Non-onerous → net intflow

• Have CSM

• LC = 0

Onerous → net outflow

• Have LC

• CSM = 0

Loss Component (LC)

Component of LRC depicting net outflow for onerous group of contracts

• CSM = 0 → LRC = FCFs

PAA

• For calculating LRC excl LC

• If non-onerous → LRC = LRC excl LC

• If onerous → LRC = (LRC excl LC) + LC

  • Need GMA to find LC…

• PAA NOT used for LIC

How is PAA more simple than GMA?

• Doesn’t require est of FCFs

• Doesn’t require CSM

PAA → LRC (excl LC) @ initial recognition

= Prem received @ initial recognition

- Acquisition CFs

± Derecognition of certain assets/liabilities

PAA → LRC (excl LC) @ subsequent measurement

= Carrying Amt @ start of period

+ Prem received in period

- Acquisition CFs

+ Amortization of Acq CFs recognized as expense in period

- Insurance Revenue

- Investment component paid/transferred to LIC

Summary: UEP - Acq CFs not expensed + Adj for financing - Investment component

• Only use directly attributable expenses!!!

How to determine if contract is onerous

Qualitative Assessment

• Facts & circumstances indicating onerousness

Quantitative Assessment

• Calculate FCFs & LC

Onerousness → Decision Tree

First, use Qualitative Assessment

• If not onerous → done

• If onerous → apply Quantitative Assessment

Quantitative Assessment

• If FCF < LRC excl LC → non-onerous

• If FCF > LRC excl LC → onerous!

  • Book LC on P&L

  • Set LRC = FCF

Onerousness → Qualitative Assessment

If facts & circumstances indicate need for onerousness

• Group of contracts known to be onerous

• Past losses in portfolio

• Aggressive UW or pricing

• Unfavourable experience trends

• Unfavourable external conditions

Accounting steps required if contracts are onerous

• Recognize loss in insurance service expenses IMMEDIATELY for net outflow

• Establish LC as part of LRC

LC throughout covg period

• LC released into insurance service expenses

• Amortized from LRC over covg period

  • LC = 0 @ end of covg period

Recognition of Acquisition Costs → GMA vs PAA

GMA → cannot recognize Acquisition Costs immediately

PAA → can recognize immediately if covg period of all contracts <= 1yr

Financing Component in PAA

• Don’t have to reflect TVM on LRC if Financing Component not significant

  • Ex: if period between prem due & service provided <= 1 yr

• Benefits entity as policyholder finances entity’s activities by pre-paying prem

Ex of PAA est of LRC w/ significant financing component

Prem received → written @ initial recognition

Insurance Finance Expenses = Opening LRC x Discount Rate

Insurance Rev Financing Component = -1 x SUM(fin expenses + PRIOR fin components) x %remaining covg provided this period

Insurance Rev EP = -EP

Insurance Revenue = Ins Rev Fin Component + Ins Rev EP

LRC Balance = Opening LRC + Finance Expenses + Insurance Revenue

• = 0 @ end of covg period!

Investment Component

Amt that insurer has to repay policyholder regardless of whether insured event occurs

LRC → GMA vs PAA

Application

• GMA → all P&C contracts

• PAA → only if eligible

CF Projections

• GMA → yes

• PAA → not unless onerous

RA

• GMA → yes

• PAA → not unless onerous

CSM

• GMA → yes if contract is issued & NON-onerous

• PAA → no

LC

• Both → yes if onerous

Option to immediately recognize Acquisition Costs

• GMA → no

• PAA → yes if covg period of all contracts <1 1 yr

Quantitative Onerous Contract Test

• GMA → always required

• PAA → only if indicated by qualitative test

PAA → Calculate LC

• Calculate GMA est of LRC

• LC = FCF - (LRC excl LC)

  • = (GMA est of LRC) - (PAA est of LRC excl LC)

Use FCF & (LRC excl LC) to calculate Profit/Loss

Profit/Loss = (LRC excl LC) - FCF

Discounting LRC

Use Avg acc date = 0.33 instead of 0.5!!

• ONLY FOR LRC