Uniform accounting standards for insurance contracts took a big
step towards becoming a reality with the publication by the
International Accounting Standards Board (IASB) in late July of
Insurance Contracts, an exposure draft of improvements for
comment. The IASB is working with the US Financial Accounting
Standards Board to develop a harmonised standard that all insurers
in all jurisdictions can apply to all contract types on a
consistent basis.
The exposure draft has drawn
widespread comment, all of which points to significant challenges
for insurers, especially life insurers.
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Global IFRS insurance leader at
professional services firm Deloitte Touche Tohmatsu (DTT) UK,
Francesco Nagari, commented: “The publication of the Exposure Draft
is a landmark stage in the IASB’s 13-year project to develop a
consistent standard for insurance accounting and will have a
significant impact on insurers across the world.
“Under the proposed IFRS, all
insurance contracts, both life and non-life, will be measured using
the same building blocks based on discounted probability-weighted
best estimate cash flows.”
He continued that insurers have
been previously permitted to use very different methods to report
insurance contracts, based on a variety of national practices
developed under the previous IFRS.
This, he noted, has greatly reduced
the comparability of insurers’ financial reports, penalising them
when they accessed capital markets with a higher cost of capital
than most other industries.
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By GlobalDataAlso reacting to the IASB’s call
for comment was professional services firm KPMG, which stressed
that given the current diversity under IFRS in accounting practices
in different geographies, arriving at common requirements is likely
to have a significant impact on the insurance industry.
Underscoring this view, DTT global
IFRS leader, clients and markets, Joel Osnoss commented: “Given the
increased adoption of IFRS worldwide, it is no exaggeration to
suggest that this proposed accounting standard would have a global
impact and could fundamentally change the way insurance companies’
measure, report, and evaluate performance of their insurance
contracts.”
He added that many insurers would
experience significant change in their financial statements and
would need to modify their information systems, risk management
programmes, and possibly product design.
“There would also be a need for
education of stakeholders, including shareholders, policyholders,
analysts, and more. In the end, the hope is for consistency,
comparability, and transparency across insurance companies
operating in different jurisdictions around the globe,” said
Osnoss.
KPMG’s insurance sector leader for
Canada, Neil Parkinson, emphasised that the IASB’s proposals would
affect how all insurers measure their profitability and their
financial position, and would likely result in greater volatility
in many of the key measures they report. This volatility, he added,
would be magnified for longer term insurance products.
A particular area on which clarity
will be required relates to the calculation of estimated cash
flows. Nagari noted that there has been significant disagreement in
accounting for the underlying cash flow uncertainty which, he
stressed “is the key driver on how insurance profits get
reported.”
According to Nagari, the IASB
exposure draft contains two alternative approaches to this issue.
In the first, an explicit risk liability is added to the
best-estimate calculation of the insurance cash flows. This
approach requires the insurer to make a judgment on how much profit
to account for based on the remaining uncertainty of the in-force
contracts: the lower the uncertainty the higher the profit with a
resulting lower risk liability.
In the second approach, the profit is initially deferred and
then accounted for in a systematic basis every year. With this
method profit recognition is independent of whether the future cash
flows are more or less uncertain than last year.
