Professional Documents
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Kelvin Yap
EY Actuarial Services, ASEAN
The objectives of today
Confidential — All Rights Reserved — EY IFRS17: latest news, implications and challenges faced by insurers | 2
Agenda
1. Introduction
2. Key features of IFRS 17
3. Challenges of IFRS 17
4. Numerical Example
5. Implementation implications
This material has been prepared for general informational purposes only
and is not intended to be relied upon as accounting, tax, or other
professional advice. Please refer to your advisors for specific advice.
Introduction
01
Why are changes needed to Insurance Accounting?
IFRS17 brings insurance more in line with other accounting standards
It is believed that the existing insurance contracts accounting does not provide investors, lenders and other creditors
with the information they need to understand the financial statements of entities that issue insurance contracts or
make meaningful comparisons between such entities.
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Simplified Example: Insurance vs Asset Management accounting
IFRS17 results in a more comparable P&L vs other financial institutions
Insurance Company
Simplified Example
IFRS 4 Phase 1 Year 1
• 5 Year Single Premium Unit Link, $10,000,000
Premium Income 10,000,000
• Mutual Fund Commissions (100,000)
• SPUL Initial Allocation of 97.5% OR Increase in Reserves (1,000,000)
• Initial Charges of 2.5% (Asset Manager) Investment income on underlying items 250,000
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A Standard that better meets the needs of financial statements users
The new standard is expected to improve financial reporting by providing more transparent and comparable information.
The new standard is also seen as more in line with other IFRS standards for other industries.
Single
accounting
Reflects time value Provides separate information
of money approach about the investment and
underwriting performance
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IFRS 9 (Financial Instruments) and 17 (Insurance Contracts) are
highly interdependent for insurers, hence timing of the standards is
aligned by the IASB
standard
(*) IASB has proposed an option to either defer the effective date of IFRS 9 for insurers or to apply a temporary ‘overlay’ method to mitigate the PL impacts of IFRS 9
(**) Effective date tentatively set by IASB
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Adoption in Asia
aligned with IFRS delay in adoption aligned with IFRS delay in adoption
Indonesia Note 1 1 January 2019
Taiwan Note 1 Note 1
Thailand 1 year later than 1 January 2019
effective date of IFRS
China Note 2
Malaysia
Sri Lanka
Laos Note 2 Note 2
Korea
Philippines
Japan Note 3
Note 1 – Local GAAP has not decided the date of adoption, but we are expecting the date to be later than the effective date of IFRS.
Note 2 – possible adoption but effective date of local GAAP is not known as of now
Note 3 - IFRS is not applied mandatory in Japan, and insurance/financial instruments accounting of JGAAP are different from IFRS4/9. However, listed companies can use IFRS.
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Key Features of
IFRS 17
02
IFRS 17 ED
Key areas of the proposed model will require Actuarial involvement
Reserves
Contractual service margin
Risk
Premium allocation
Separation adjustment
approach
Liability for
remaining Transition
Discount rate
coverage
Cash flows of
claim liability
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Sample P&L presentation: Term Insurance Actuarial Involvement
Insurance Contract Revenue replaces Premium approach
A simplified statement of comprehensive income is presented below (when experience is similar to assumptions):
Current IFRS 4 Future IFRS 17
Year 1 Year 2 Year 1 Year 2
Premium Income 178,486 169,688 Insurance contract revenue 308,183 183,461
• Fulfilment cashflows 223,437 105,090
• Change in RA 4,324 3,048
• CSM amortization 49,358 46,228
• Acquisition cost 31,064 29,094
Amortisation of acquistion cost (31,064) (29,094)
Claims & Expenses 252,685 105,090 Incurred losses (223,437) (105,090)
Increase in Reserves - 44
Underwriting result 53,682 49,277
Investment income on underlying items (156) 354 Investment income on underlying items 7,139 14,213
Interest expense on insurance obligations (12,852) (10,669)
Net investment income (5,713) 3,544
Other Comprehensive Income - -
Comprehensive Income (74,355) 64,909 Comprehensive Income 47,969 52,820
• Reserves are zeroised at the end of year 1 • No initial strain, less volatile
• Initial strain on surplus due to high acquisition expenses • Underwriting results reflect changes in RA and CSM amortization
when actual experience does not deviate from assumptions
• Drop in CSM amortization due to change in mortality
assumptions
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Contracts with no participation features
General model — overview
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Contracts with no participation features
General model – Future Cash Flows
• The estimates of CFs used to determine the fulfilment CFs shall include all cash inflows and outflows that
relate directly to the fulfilment of the portfolio of contracts:
Contractual
service • Current and explicit (separate from discount rate and risk adjustment)
margin • Market variables as consistent as possible with observable market prices
• Incorporate all available information in an unbiased manner (including trends), eg Best Estimate
Risk • Possibly use stochastic models if cashflows are asymmetric
adjustment • Include all CFs within contract boundary
Coverage period
Time value
of money
Cash inflows
Premium Premium
Claims payments
Claims including claim
Other payments handling cost
expenses/taxes
Acquisition
costs
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Contracts with no participation features
General model - time value of money
• Adjust the estimates of future cash flows for the time value of money using discount rates that:
Contractual • Reflects characteristics of fulfilment cash flows
service • Consistent with observable market prices for instruments with cash flows that have consistent
margin characteristics with insurance contract, e.g., with respect to timing, currency and liquidity
• Adjust observed market prices to reflect the characteristics of the liability/the factors that are relevant for
the contracts, e.g., exclude irrelevant risks, estimate the rate beyond the period of observable data
Risk
adjustment • Consistent with other estimates used to measure the insurance contract (e.g., inflation, discount rate for
participating contracts)
• Top-down approach or bottom-up approach
Time value • Bottom Up approach possibly: Risk Free Rate + Illiquidity Premium
of money
• No need to discount cash flows which are expected to be paid or received in one year or less (UPR)
• Together with the Future Cash Flow, this is commonly referred to as the BEL
Future cash
flows
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Contracts with no participation features
General model - risk adjustment
• Compensation that an entity requires for bearing the uncertainty about the amount and timing of the cash
flows that arise as the entity fulfils the insurance contract
Contractual
service • RA shall be included in the measurement in an explicit way (i.e., uncertainty/PfAD should not be included in
margin the Future Cash Flows)
• No prescribed technique so different companies may use different techniques
• Disclosure on the confidence-level is required if the entity uses a technique other than the confidence level
Risk
adjustment
Knowledge
Knowledge
Time value about
aboutcurrent
current
of money estimate
estimate
and
Low
Low and
trend
trend
frequency
frequency Duration
Duration
of
but
buthigh
highrisk
risk of
contract
contract
severity
severity
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Contracts with no participation features
General model - contractual service margin
• At initial recognition, the CSM is defined as the negative of fulfilment cash flow, floored by zero.
Contractual • Purpose of recognizing a positive initial CSM:
service • To eliminate any day 1 gains (if initial Fulfilment Cash Flow is negative / CSM is positive)
margin
• Represents the unearned profit that the entity will recognize in future, as it provides services under the
insurance contract.
Risk • If CSM is floored by zero at inception, the insurance contract is onerous. All loss should be recognized in P&L
adjustment at inception
• Subsequently after day 1, future changes in assumptions and experience adjustments will affect the level of
CSM, instead of flowing thru P&L
Time value • The level of aggregation for determining CSM is therefore a key topic as it determines the cross-subsidy
of money between different policies.
• Each cohort consists of:
• Similar product lines with similar risks (Whole Life, Annuities, …)
• Contracts issued within the same year
• Divided into the following groups at sale: Onerous (Loss Making),
Profitable and no significant risk of being Onerous, Other Profitable
Future cash Contracts
flows
• This could have implications on:
• Cross-subsidy, for eg charging a single male / female premium rate
• Many separate CSM cohorts to track
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Contracts with no participation features
General model — contractual service margin
Time value
of money • Locked-in interest rate at the inception of contract is used for accreting interest.
• An entity should recognise the remaining contractual service margin in profit or loss over the
coverage period in a systematic way that best reflects the remaining transfer of the services.
For contracts with no participating features, the service represented by the
contractual service margin is insurance coverage that:
• Is provided on the basis of the passage of time; and
Future cash • Reflects the expected number of contracts in force
flows
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Sample P&L presentation: Term Insurance
Insurance Contract Revenue replaces Premium approach
A simplified statement of comprehensive income is presented below (when experience is similar to assumptions):
IFRS 17
Year 1 Year 2
CSM at the beginning of the reporting period Insurance contract revenue 308,183 183,461
• Fulfilment cashflows 223,437 105,090
+ Accreted interest
• Change in RA 4,324 3,048
— Amount recognised for services provided in the period • CSM amortization 49,358 46,228
• Acquisition cost 31,064 29,094
+/— Changes in the estimates of future cash flows (eg
changes in mortality assumptions) Amortization of acquisition cost (31,064) (29,094)
Incurred losses (223,437) (105,090)
= CSM at the end of the reporting period
Underwriting result 53,682 49,277
Investment income on underlying items 7,139 14,213
Interest expense on insurance obligations (12,852) (10,669)
Net investment income (5,713) 3,544
BEL Expected Claims Other Comprehensive Income - -
Comprehensive Income 47,969 52,820
Actual Claims Amounts
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From Non-participating to Participating contracts
General Model and Variable Fee model
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IFRS 17 proposed simplified accounting model overview
(Applicable for policies with contract boundary <= 12 months)
Risk adjustment
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Impact of IFRS 9
Aside from IFRS17, IFRS9 (Financial Contracts) will simultaneously come in force
Classification
Impairment
Hedge accounting (micro)
• Fair value through other • All debt securities held at FVOCI • Less rules based
comprehensive income (FVOCI) or amortised cost in scope of • More economic hedging
no longer an election but the new expected credit loss (ECL) strategies qualifying for hedge
result of two tests (Single model accounting (e.g., aggregated
Project Professional Indemnity • Significant impact on large exposures, risk components)
and business model) portfolio of commercial loans • Accounting for costs of hedging
• No available-for-sale (AFS) for (banks)
equity securities; only • Significant disclosures to ‘tell the
• A number of systems, processes, story’
irrevocable election (FVOCI with governance changes required
no recycling)
• Significant reliance on the
• Accounting mismatches existing credit risk modelling
• Insurance liabilities often capabilities
still locked-in under current
IFRS 4
Test both sides of the balance sheet to ensure IFRS 9 (assets) and IFRS 17 (liabilities)
are consistent and do not result in any accounting mismatches
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Challenges
for insurers
03
Main impact on life insurers
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Main impact on Non-life insurers
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Some additional areas of challenges for Indonesian (life) insurers
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Numerical
Example
04
Case study: background
Term product sold in Singapore, pure protection with death and TPD coverage
Total 132 policies incepted since January 2016
No future new business
First valuation at the end of 2016
Approach
All policies are considered homogeneous, hence CSM is aggregated at product level
Amortization of CSM is performed at product level by remaining coverage and number of policies in force
Risk adjustment is set similarly as PAD under current Singapore RBC framework
Economic assumptions remain unchanged for same calendar year
Accretion of interest is calculated based on lock-in yield curve of 2016 at product level
Changes related to future estimates are adjusted directly to CSM
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Presentation title
At inception
Insurance contract liabilities are equal to zero at inception
=-
Contractual
Service Margin
Expected contract profit
+
Risk adjustment
BEL = - 713
RA = 250
CSM = 463
Insurance contract liability = BEL + RA + CSM = 0
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Scenario 1: changes related to future estimates
Changes related to future estimates are absorbed by CSM
► At the end of year 1 (31 Dec 2016)
► The company expected 126 policies to remain in force mainly due to lapse
► In fact, 130 contracts remain in force at the end of 2016.
► This is due to good lapse experience but worsening mortality experience.
► The company has decided to revise mortality assumptions to be heavier at the end of 2016.
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Sample P&L presentation
Insurance contract revenue replaces premium approach
A simplified statement of comprehensive income is presented below (when experience is similar to assumptions):
Current IFRS 4 Phase 2
Year 1 Year 2 Year 1 Year 2
Premium Income 178,486 169,688 Insurance contract revenue 308,183 183,461
• Fulfilment cashflows 223,437 105,090
• Change in RA 4,324 3,048
• CSM amortization 49,358 46,228
• Acquisition cost 31,064 29,094
Amortisation of acquistion cost (31,064) (29,094)
Claims & Expenses 252,685 105,090 Incurred losses (223,437) (105,090)
Increase in Reserves - 44
Underwriting result 53,682 49,277
Investment income on underlying items (156) 354 Investment income on underlying items 7,139 14,213
Interest expense on insurance obligations (12,852) (10,669)
Net investment income (5,713) 3,544
Other Comprehensive Income - -
Comprehensive Income (74,355) 64,909 Comprehensive Income 47,969 52,820
• Reserves are zeroised at the end of year 1 • No initial strain, less volatile
• Initial strain on surplus due to high acquisition expenses • Underwriting results reflect changes in RA and CSM amortization
when actual experience does not deviate from assumptions
• Drop in CSM amortization due to change in mortality
assumptions
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Sample profit signature
Smoother profit signature under IFRS 4 phase 2
100
80
60
40
20
-
Y1 Y6 Y11 Y16 Y21 Y26 Y31 Y36 Y41 Y46 Y51 Y56 Y61 Y66 Y71 Y76 Y81
(20)
(40)
(60)
(80)
(100)
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Some practical challenges we encountered
► Setting of assumptions which are not required under the current RBC framework, e.g. split acquisition expense by
directly attributable vs non-directly attributable, liquidity premium, risk adjustment, etc
Assumptions ► Storage of locked-in economic assumptions for all historical years (for CSM)
► Storage of non-economic assumptions for previous period
► Interest accreting rate basis – forward rate?
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Implementation
implications
05
IFRS 17/IFRS 9 High Level Roadmap
Involve both Actuaries and Accountants
Jan 2020 Q1 2021
Potential IFRS 4 Potential IFRS 4
Potential IFRS 4 Phase Jan 2018 Phase II start Phase II first
II final standard IFRS 9 effective date* of comparative period reporting
Program High General Selected 2nd Design Solution implementation Dry run Restatements Full phase II
set up level imple- deep impact smart and reporting
impact mentation dive analysis tailored comparatives
analysis vision analysis solution
1 2 3 4 2 5 6 7 8
1 3 5 7
• Central and local team structure • Big bang, incremental or minimum efforts • Depends on general • Preparation of opening
• Program governance: decision • Accounting & reporting choices implementation vision equity adjustments and
making and technical support and deep dive analysis comparative information
(IFRS 4 Phase II and IFRS 9
• Work streams and overall plan 4 elements)
• Budget assessment • Deep dive analysis in key areas
6
• Business case • Unit of account • New data gathered,
• Participating contracts validated and stored 8
2 • Enrichment policy data • System changes built • Dry run of IFRS 4 Phase II
• Impacts on statements and • Central vs. local approach (reports & engines) and IFRS 9 reporting
accounting policies, reporting and • Adjustment cash flow models • Training of Finance, Risk elements on 30 June 2019
other processes of Risk and and other personnel numbers
Finance, data and technology • Implementation strategy
• 2nd analysis when final ED • Impact on processes
available • Assessment of data gaps and system changes
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EY has helped clients perform initial Gap analysis on a number of
themes around IFRS17, to help clients prepare for the change
The themes of analysis … to ensure an optimal implementation strategy Potential bottlenecks
we observe ..
1. Starting question to be What is the unit of account: • Current design for IFRS/EEV/RBC is not appropriate for
analyzed is the unit of the level of granularity required for IFRS 4 (unit of
• Loss recognition
account at which account) — data — models — reporting.
reporting will take place • CSM allocation
• Additional storage and enhancements to actuarial
Given the unit of account, which historically information systems will be required
will be available:
• At transition date a number of legacy source systems
• Transition: Fully retrospectively, Moderate will exist, which could impact the unit level of account.
retrospectively, Fair Value, participating contracts
2. Analyze how to treat • Which contracts fit within the variable fee model? Within some insurers different types and variations in profit
participation and unit link sharing exist for and within different products. All these
• How to apply BBA for indirect participating contract?
contracts types of profit sharing (and their variations) should be
• How to treat company profit sharing? analyzed.
3. Analyze different ways Enrichment of data could take place at different places: • Companies should determine first whether the ‘optimal’
to enrich (policy) data solution is to enrich data and results in the source
• Source systems
(depending on unit of systems or within data warehouses.
account) • Data warehouse
• Although the optimal solution could be source systems,
probably some legacy systems can’t adjusted in an
appropriate way.
• A hybrid approach could affect auditability.
4. Analyze the pros and • The pros and cons should be analyzed in different areas: In the centrally finance driven solution, more functionality
cons of centrally data, models, output, tools (e.g., reporting tools (CSM), is necessary with the General Ledger. This functionality is
(finance) or locally general ledger. currently not available.
(actuarial) driven
• It should also be analyzed whether a hybrid approach is
solutions
feasible (including pros and cons).
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EY has helped clients perform initial Gap analysis on a number of
themes around IFRS17, to help clients prepare for the change
The themes of analysis … to ensure an optimal implementation strategy Potential bottlenecks
we observe …
5. In which way should the • Requirement regarding cash flow models and reporting Current IFRS/EV/RBC models are not sufficient to meet the
cash flow models (eg tools requirements for IFRS4 (speed — interaction — level of
Prophet) and reporting output necessary).
• How could (source) systems, models and reporting tools
(output) be adjusted?
be adjusted to required output?
• What are the criteria regarding target architecture (how
much manual effort is acceptable)?
6. Which implementation Based on the outcome of the previous steps, the following The number of products, source systems, models
strategies can be questions should be answered: complicate the choice (s) regarding the implementation
identified? strategy.
• Is the implementation strategy dependent on the unit of
account
• Which implementation steps should be performed
sequentially or in parallel
• In which way can be leveraged on previous projects
optimization?
7. What is the impact on • What is the optimal process (depending on the Including extra risks and controls in the closing path
the processes (including implementation strategy)? because of IFRS17 reporting without reducing the current
controls) under the risks and controls, will severely impact the manageability of
• Which (new) risks and controls should be defined. Which
different implementation the process.
current risks and related controls could be removed?
strategies?
• Which part of the process could be outsourced?
8. What accounting changes • Accounting choices will need to be made and updated Prophet models to be updated to allow for changes to
need to be considered? policies will need to be formalised. liability valuation methods and accounting policy decisions.
• Examples include whether to accrete interest on
liabilities through OCI or P&L, when to apply BBA, PAA,
VFA, Contract Boundaries, Onerous Contracts.
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Potential approaches for implementing IFRS 4 Phase II
Pros • Easiest to implement • Build upon SII/RBC efforts • Opportunity to implement the most
• Built primarily on SII/RBC approach • Higher flexibility of the implementation efficient system setup
• Minimal investment required process (easier to prioritize key • Benefits of migration are realized
bottlenecks) immediately
• Can be broken down in subprojects to
make it more manageable
• Lower critical path risk
Cons • Potentially does not fit the current • Takes longer to realize benefits from • Complexity of the process leads to major
reporting timelines migration implementation risks
• Inefficient system setup • Risk of a less (cost) efficient project • Huge upfront cost
• Likely to have considerable manual • Critical path risk
steps, resulting in higher cost and higher
risk of errors
• More complex setup leads to complex
audit trail
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