- The entity reasonably expects that such simplification would produce a measurement of the liability for remaining coverage for the group that would not differ materially from the measurement that would be produced applying the requirements for the general model discussed in ‘Estimates of future cash flows‘ (i.e., the fulfilment cash flows related to future service plus the contractual service margin (CSM)).
- The coverage period of each contract in the group (including coverage arising from all premiums within the contract boundary determined at that date) is one year or less.
The second condition means that all contracts with a one-year coverage period or less qualify for the premium allocation approach, regardless of whether the first condition is met. Therefore, for insurance contracts with a coverage period greater than one year (e.g., long-term construction insurance contracts or extended warranty-type contracts), entities will need to apply judgement in interpreting the meaning of “that would not differ materially”.
The first criterion above is not met if, at the inception of the group of contracts, an entity expects significant variability in the fulfilment cash flows that would affect the measurement of the liability for the remaining coverage during the period before a claim is incurred. Variability in the fulfilment cash flows increases with, for example [IFRS 17 54]:
- The extent of future cash flows related to any derivatives embedded in the contracts
- The length of the coverage period of the group of contracts
An entity would need to consider all relevant facts and circumstances to assess whether measurement differences between the two approaches do not “differ materially”. Examples of factors that may result in measurement differences between the two approaches are:
- A difference between the pattern of recognition of the CSM over the coverage period under the general model and the recognition as insurance revenue of expected premium receipts over the coverage period under the premium allocation approach (see ‘Measurement of remaining coverage‘)
- The effect of changes in discount rates during the coverage period
Consider a group of contracts measured in accordance with the general model. A premium of CU2,000 is received at the beginning of a two-year coverage period. The entity estimates fulfilment cash flows in years 1 and 2 will be CU900 each year. The opening CSM is CU200 [CU2,000—CU900—CU900 = CU200].
The entity incurs claims in year one, as expected, of CU900. At the end of year one, the entity assumes that cash flows in the following year of coverage will increase from the previous estimate of CU900 to CU950.
|
CSM |
|
| Eligibility for the premium allocation approach Eligibility for the premium allocation approach |
CU |
|
At beginning of year 1 Eligibility for the premium allocation approach |
200 |
|
Adjustment for future service Eligibility for the premium allocation approach |
-50 |
|
Allocation to profit or loss |
-75 |
|
At the end of year 1 |
75 |
The liability for remaining coverage at the end of year 1, in accordance with the general model, would be CU950 + CU75 = CU1,025.
Revenue in year 1 would be CU975 [expected insurance service expense of CU900 + CSM release of CU75]. Revenue in year 2 would be CU1,025 [expected insurance service expense of CU950 + CSM release of CU75].
If the entity had applied the premium allocation approach, it would have allocated CU1,000 to profit or loss in year 1, as revenue and the liability for remaining coverage at the end of year 1 would be CU1,000, i.e., a different amount compared with the general model. Eligibility for the premium allocation approach
The requirement in the general model to allocate an amount of the CSM in profit or loss after making adjustments for changes in expected cash flows relating to future service can cause the liability for remaining coverage (in accordance with the general model) to differ from the liability for remaining coverage (in accordance with the premium allocation approach).
|
Consideration Contracts with a coverage period of one year or less are always eligible for the premium allocation approach. Those with a coverage period of more than a year may also be eligible. However, an entity must determine, at inception of a group of contracts, that the measurement of the liability for remaining coverage at each reporting date measured under the premium allocation approach will not be materially different from the outcome under the general model. The liability for remaining coverage under the premium allocation approach will be the same as the general model for groups of contracts that are onerous.
Determining whether a difference in measuring the liability for remaining coverage under the two approaches is material will be a matter of judgement. IFRS 17 does not specify what it means for an entity to “reasonably expect” a particular outcome. In our view, an entity can demonstrate whether it reasonably expects that the liability for remaining coverage under the general model and the premium allocation approach is not materially different by comparing the outcomes under a range of reasonable scenarios. These scenarios will reflect changes in expected cash flows, risk adjustment and discount rates during the coverage period. We anticipate that market practice will develop to help preparers and users of financial statements to interpret this requirement. |
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