Measurement of insurance contracts

There are three measurement approaches under IFRS 17 for different types of insurance contract:

General model should be applied to all insurance contracts, unless they have direct participation features or the contract is eligible for, and the entity elects to apply, the premium allocation approach.

Premium allocation approach is an optional simplification for measurement of liability for remaining coverage for insurance contracts with short-term coverage.

Variable fee approach should be applied to insurance contracts with direct participation features. This approach deals with participating business where payments to policyholders are contractually linked and substantially vary with the underlying items. This approach cannot be used for the measurement of reinsurance contracts.

In summary:

Timing of Initial Recognition of Insurance contracts

Groups of insurance contracts are initially recognised from the earliest of [IFRS 17 25]:

  • when the coverage period starts;
  • when the first payment from the policyholder is due, or actually received if there is no due date; and
  • based on the facts and circumstances, when the entity determines that the group of contracts is onerous.

An entity should include individual contracts in an already existing group only when they are issued. The standard notes that an entity can issue more contracts in a group after the end of a reporting period. This could lead to a change in the discount rate from initial recognition of the group.

Illustration  — Determining the date of recognition of a group of insurance contracts Continue Reading “Timing of Initial Recognition of Insurance contracts”

Voluntary separation of non-insurance components

The IASB considered whether to permit an entity to separate a non-insurance component when not required to do so by IFRS 17, for example, some investment components with interrelated cash flows, such as policy loans. Such components may have been separated when applying previous accounting practices. However, the IASB concluded that it would not be possible to separate a component in a non-arbitrary way that is not distinct from the insurance contract nor would such a result be desirable [IFRS 17 BC114].

IFRS 17 applies to all components of insurance contracts that are not required to be separated. Whereas IFRS 17 specifically prohibits voluntary separation of non-insurance components that are not required to be separated, IFRS 17 is silent on whether an entity is permitted to voluntarily separate ‘sub-insurance’ components of an insurance contract and to apply IFRS 17 to those components separately or together in new groups. This issue could be relevant in determining the groups under IFRS 17 (see ‘Portfolio of insurance contracts‘).

Generally, IFRS 4 permits voluntary separation of non-insurance components in an insurance contract where separation (referred to as “unbundling”) is not required [IFRS 17 10(b)]. Some entities used this option to voluntarily separate non-insurance components from their host insurance contracts and account for them under other IFRSs, for example, because their previous accounting policies applied under IFRS 4 required the separation of some of these components. In such cases, entities will have to assess whether separation of the non-insurance components is required under IFRS 17. Any such components not requiring mandatory separation will have to be accounted for together with the host insurance contract under IFRS 17.

Separation from an insurance contract

An entity applies the principles in IFRS 15 on how to separate a contract with a customer that is partially within the scope of IFRS 15 and partially within the scope of other standards. The allocation of cash flows between the host insurance contract and the distinct goods or non-insurance services must be based on the stand-alone selling price of the components. In the absence of stand-alone selling prices that are directly observable, an entity must estimate the stand-alone selling prices to allocate the transaction price to each of the components. Cash outflows must be allocated to their related component, or, if not clearly related to one of the components, systematically and rationally allocated between components [IFRS 17 12].

Two illustrations:

1. Separating components from a stop-loss contract with claims processing services

An entity issues a stop loss contract to a policyholder (which is an employer). The contract provides health coverage for the policyholder’s employees, with these features:

  • Insurance coverage of 100% for the aggregate claims from employees exceeding CU25m (the “stop-loss” threshold). The employer will self-insure claims from employees up to CU25m.
  • Claims processing services for employees’ claims during the next year, regardless of whether these have exceeded the stop-loss threshold of CU25m. The entity is responsible for processing the health insurance claims of employees on behalf of the employer.

Analysis Continue Reading “Separation from an insurance contract”

Separation of Insurance Contracts

Before the entity accounts for an insurance contract based on the guidance in IFRS 17, it should analyse whether the contract contains components that should be separated. IFRS 17 distinguishes between three different kinds of component that have to be accounted for separately if certain criteria are met:

An entity applies IFRS 17 to all remaining components of the contract. Separation of other non-insurance components is prohibited.

Under IFRS 17 separation of any components (except the three components above) is prohibited unless it is explicitly required under the standard. This might have a significant effect on some entities. For example, a bank might issue loans that are waived if the borrower dies. Under IFRS 4, the bank could have voluntarily separated the contract into a loan accounted for at amortised cost, similar to other loans, and the insurance component accounted for under IFRS 4. Under the new standard, the loan element is unlikely to qualify as a distinct investment component, and so the entire contract will be required to be accounted for as an insurance contract.

Insurance contracts with riders

Insurers often issue contracts with riders. A rider is an add-on provision to a basic insurance policy that provides additional benefits to the policyholder at an additional cost. Riders can be either part of a contract at inception or added subsequently. Irrespective of when the riders are issued they can be priced at inception or subsequently in line with the prices at the date when the rider is issued. The accounting for riders depends on the terms of the contracts.

Riders that are separate policies or insurance contracts

If riders are issued and priced separately from the base insurance contracts, they should be viewed as separate insurance contracts for IFRS 17, unless required to be bundled together under the combination guidance.

Riders that are issued together with the main insurance contract and form part of a single insurance contract

If there is only one insurance contract with multiple provisions, and all of the riders are within the boundary of that contract, the contract will be viewed as one contract for IFRS 17.

Combination of Insurance Contracts

An entity might enter into a series of insurance contracts with the same or a related counterparty to achieve an overall economic effect. In order to ensure that the accounting reflects the substance of these contracts, it might be necessary to combine the group or series of contracts and analyze them in their entirety. If, for example, an entity enters into two separate insurance contracts with the same counterparty at the same time with exactly opposite rights and obligations, it does not account for those contracts, because the combined effect is that no rights and obligations exist.

The combination requirements for insurance contracts under IFRS 17 changed compared to IFRS 4. There are no specific requirements about the combination of insurance contracts in IFRS 4 where entities are using different accounting policies. This could affect insurers entering into fronting arrangements. An example of a situation where the accounting might change is set out below. A policyholder transfers risks to a third party insurer, but all of the risks are then passed back to the same policyholder under a reinsurance arrangement. There might be situations where the same legal entity is both the policyholder and the reinsurer, or where the policyholder and the reinsurer are different legal entities but they are part of the same group. Accounting for contracts by the insurer could be affected by the new combination requirements.

Entities should analyze the terms of each arrangement to conclude whether contracts should be combined under the new requirements in IFRS 17.

Earnings per share

The objective of IAS 33 Earnings per share is prescribing principles for the determination and presentation of earnings per share, so as to improve performance comparisons between different entities in the same reporting period and between different reporting periods for the same entity.

Earnings per share is mostly used in the consolidated financial statements of a group with a parent:

  1. whose ordinary shares or potential ordinary shares are traded in a public market (a domestic or foreign stock exchange or an over-the-counter market, including local and regional markets); or
  2. that files, or is in the process of filing, its financial statements with a securities commission or other regulatory organization for the purpose of issuing ordinary shares in a public market.

However, it also covers the separate or individual financial statements of a single entity with the same characteristics under i. and ii. above.

Basic earnings per share (EPS) – calculation method

An entity shall calculate basic earnings per share amounts for profit or loss attributable to ordinary equity holders of the parent entity and, if presented, profit or loss from continuing operations attributable to those equity holders [IAS 33 9]. Continue Reading “Earnings per share”

Presentation and disclosure of crypto-assets

The disclosure by holders of crypto-assets will be driven by the disclosure requirements of the IFRS standards that are applied in accounting for them. This narrative illustrates selected disclosure requirements for each classification and measurement in more detail, as well as the general IAS 1 requirements that could be relevant to the holder of crypto-assets.

Holders of crypto-assets need to consider materiality when determining what disclosures are required in their specific circumstances, as well as when to aggregate amounts on the face of the financial statements and in the notes. An entity should not obscure material information with immaterial information or aggregate material items that have different natures or functions as these will reduce the understandability of the financial statements [IAS 1 30A].

Cash and cash equivalents

If, in the future, a crypto-asset were to meet the definition of cash or a cash equivalent (see Classification of crypto-assets LLLIIINMK), the holder would need to consider the presentation and disclosure requirements of IAS 7 and include the movements in the statement of cash flows.

The statement of cash flows excludes movements between items that constitute cash and cash equivalents because these are components of an entity’s cash management, rather than part of its operating, investing and financing activities. Therefore, if a crypto-asset is considered a component of cash or a cash equivalent, movements between other cash balances and the crypto-asset will not form part of the cash flow activities [IAS 7 9]. Continue Reading “Presentation and disclosure of crypto-assets”

Classification of crypto-assets

Crypto-assets often have very different terms and conditions. The holder needs to evaluate their individual terms and conditions carefully in order to determine which International Financial Reporting Standard (IFRS) applies. Depending on the standard that applies, the holder may also need to assess its business model in determining the appropriate accounting.

Determining ownership of a crypto-asset when it is held by a custodian or a crypto-exchange may present additional challenges and could impact the determination of the appropriate accounting.

In the context of crypto-assets, a financial asset could be: cash, an equity instrument of another entity, a contractual right to cash or other financial assets, or a right to trade financial instruments on potentially favorable terms (e.g., a derivative).

Crypto-assets that entitle the holder to underlying goods or services provided by an identifiable counterparty, despite being contractual, would not meet the definition of financial assets as the future economic benefit is obtained from the receipt of a good or services rather than the right to cash or another financial asset [IAS 32 AG11]. Continue Reading “Classification of crypto-assets”

How to work with APMs

APMs have a twofold use; directors monitor the financial and economic performance through APMs, and reporting entities heavily rely on APMs to communicate results to their financial statement users. APMs should normally be consistent with the performance indicators used by directors. However, regulatory restrictions or confidentiality issues may prevent directors from disclosing all of the types of performance indicators used. Furthermore, complexity in calculation or use of non-financial information could also prevent directors from publicly disclosing certain types of APMs.

A structured way to organize an entity’s APM process may involve the following four steps:

  1. Identify the relevant APMs for users that are also eligible for external communication
  2. Design and implement a process to monitor that the applicable regulatory guidelines are applied for the APMs selected
  3. Monitoring that APMs are based on reliable and traceable information
  4. Ensure that their placement is capable of meeting their communication objectives

Because the steps above are entirely part of the internal procedures, an entity should also set up monitoring activities within its internal control system in order to ensure the absence of weaknesses throughout the process and the compliance with applicable enforcement decisions and regulations. In the following section, some relevant considerations regarding the first three steps are summarised. The placing of APMs has been thoroughly addressed in the previous chapters, and will therefore not be elaborated on below. Continue Reading “How to work with APMs”