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2008 Seminar for the Appointed Actuary Colloque pour lactuaire dsign 2008
2008 Seminar for the Appointed Actuary Colloque pour lactuaire dsign 2008
2008 Seminar for the Appointed Actuary Colloque pour lactuaire dsign 2008
Presentation Outline
Background IFRS Contract Classification Embedded Derivatives Overview of IAS 39 Observations and Conclusion
2008 Seminar for the Appointed Actuary Colloque pour lactuaire dsign 2008
Background
Conversion to IFRS: Jan 1, 2011 Insurance contracts: IFRS 4; keep current basis of accounting until Phase II (effective 2012 or 2013) Investment contracts: IAS 39 Financial Instruments Service contracts: IAS 18 Revenue (similar to CGAAP)
2008 Seminar for the Appointed Actuary Colloque pour lactuaire dsign 2008
2008 Seminar for the Appointed Actuary Colloque pour lactuaire dsign 2008
IFRS definition of Insurance Contract: contract under which one party (the insurer) accepts significant insurance risk from another party (the policyholder) by agreeing to compensate the policyholder if a specified uncertain future event (the insured event) adversely affects the policyholder.
2008 Seminar for the Appointed Actuary Colloque pour lactuaire dsign 2008
Probability of insured event is not considered when assessing significance of risk Company determines what it considers as being significant: 5%-10% additional benefits?
Risks that are created by the contract (lapse, expense) do not constitute Insurance Risk (i.e. risk must be pre-existing)
2008 Seminar for the Appointed Actuary Colloque pour lactuaire dsign 2008
Yes
Identify scenario A, in which insured event occurs: Example: Death of Policyholder before end of insurance coverage period
2008 Seminar for the Appointed Actuary Colloque pour lactuaire dsign 2008
Identify scenario B, in which insured event does not occur: Example: Survival of policyholder to the end of the coverage period
Determine the benefit available to policyholder under Scenario B: Example: Surrender Value
2008 Seminar for the Appointed Actuary Colloque pour lactuaire dsign 2008
Is benefit payable under Scenario A significantly greater than benefit available under Scenario B?
Yes
The contract is an insurance contract: IFRS 4 applies.
2008 Seminar for the Appointed Actuary Colloque pour lactuaire dsign 2008
Other considerations
Once Insurance, always Insurance Assessment is made at contract inception Contract is assessed as a whole: If significant insurance risk is present in the contract, then the whole contract is classified as Insurance.
Embedded derivative (separate fair value measurement under IAS 39) Deposit component (option to unbundle) Discretionary participation feature
2008 Seminar for the Appointed Actuary Colloque pour lactuaire dsign 2008
Can assess at segment level for blocks that have relatively homogeneous risk profiles
Lapse/expense risks do not constitute insurance risk to the direct insurer, but do constitute insurance risk to reinsurer assuming the risk
Lapse/expense risk is pre-existing to the reinsurance arrangement, and would adversely affect the direct writer
Situations may exist for related-party reinsurance arrangements, where a contract will be classified differently at legal entity level versus consolidated
2008 Seminar for the Appointed Actuary Colloque pour lactuaire dsign 2008
Insurance contracts:
Term plans, T100 Par Life, Whole life Universal Life Endowment products / Pure endowments Critical Illness/Health/Disability contracts Long Term Care Group Life and Health insurance (excluding ASO contracts) Reinsurance treaties with significant risk transfer Payout immediate/deferred annuities (life contingent)
2008 Seminar for the Appointed Actuary Colloque pour lactuaire dsign 2008
Insurance contracts:
Seg fund/VA products with GMDB / GMIB / For-life GMWB
GMDB, GMIB or for life GMWB constitute significant insurance risk
Accumulation products/deferred annuities with Book Value Death Benefit in deferral period
If MVA surrender charge is waived on death and/or disability, this constitutes significant insurance risk
2008 Seminar for the Appointed Actuary Colloque pour lactuaire dsign 2008
Investment contracts:
Term certain contingent annuities Fixed accummulation annuities which do not contain guaranteed annuitization rates Seg funds with no guaranteed minimum returns Group contracts with strong hold harmless provisions (terminal/deficit accounting) Mutual funds / banking products
IAS 39 applies:
Potential asset segmentation issues if commingled with assets backing Insurance segments
2008 Seminar for the Appointed Actuary Colloque pour lactuaire dsign 2008
Service contracts:
Group ASO Financial Reinsurance with very limited risk transfers Potentially: mutual funds where company acts as conduit / does not have ability to choose/replace investment managers
Widely expected that IFRS treatment will be similar to existing CGAAP DAC implications for service components embedded in investment contracts
2008 Seminar for the Appointed Actuary Colloque pour lactuaire dsign 2008
Embedded Derivatives
Embedded derivatives (EDs) within insurance or investment contracts must be separately measured at fair value if such ED is:
not itself considered insurance, and not closely related to the host insurance or investment contract
EDs within Investment contracts do not need to be separately fair valued if the whole contract is measured at fair value
2008 Seminar for the Appointed Actuary Colloque pour lactuaire dsign 2008
IAS 39.9: A derivative is a financial instrument with all three of the following characteristics:
its value changes in response to the change in a specified interest rate, financial instrument price, commodity price, foreign exchange rate, index of prices or rates, credit rating or credit index, or other variable, provided that the variable is not specific to a party to the contract (sometimes called the underlying); it requires no initial net investment or an initial net investment that is smaller than would be required for other types of contracts; and it is settled at a future date.
2008 Seminar for the Appointed Actuary Colloque pour lactuaire dsign 2008
2008 Seminar for the Appointed Actuary Colloque pour lactuaire dsign 2008
If cashflows affected by the ED are only paid on a insured/contingent event, then ED itself meets the definition of an insurance contract; IFRS 4 applies; exempt from separate Fair Value measurement
Examples:
Seg fund GMDB, GMIB, for-life GMWB Seg fund GMAB, term certain GMWB? CPI-indexing feature in disability contracts
2008 Seminar for the Appointed Actuary Colloque pour lactuaire dsign 2008
An ED is closely related to its host contract if the risks inherent in the ED and the host contract are similar An ED is considered closely related if ED and host contract are so inter-dependent that the ED cannot be measured without considering the host contract
2008 Seminar for the Appointed Actuary Colloque pour lactuaire dsign 2008
2008 Seminar for the Appointed Actuary Colloque pour lactuaire dsign 2008
Ceded / assumed GMIB: depending on specifics of the contract, and whether actual reinsurance recoveries can be viewed as being payable on an insured event Credit derivatives/ModCo Reinsurance treaties (USGAAP DIG B36) Surrender values based on external index or a pool of equity investments
2008 Seminar for the Appointed Actuary Colloque pour lactuaire dsign 2008
ED is separately measured at Fair Value under IAS 39 similar to US GAAP FAS 133; change in value of ED flows through earnings each quarter Host contract is measured under IFRS 4 (Insurance), IAS 39 (Investment)
Insurance: CGAAP/CIA Standards require all cashflows to be reflected in valuation (SoP 2130) May argue that total measurement under IFRS = CALM, and ED separate measurement simply affects where amounts are reported (ie. geography issue, not earnings issue)
2008 Seminar for the Appointed Actuary Colloque pour lactuaire dsign 2008
CICA 3855 is based on IAS 39: liabilities were explicitly excluded from 3855 Elect either Amortized Cost or Fair Value option Amortized cost:
Effective rate of interest that exactly discounts future cashflows to initial fair value; must go back to contract inception; operationally complex assets would have to be reclassified as AFS; issue if some a given asset is partially allocated to Insurance segment
2008 Seminar for the Appointed Actuary Colloque pour lactuaire dsign 2008
Similar to USGAAP fair value; Maximum use of market inputs, margin for bearing risk, risk free rate + adjustment for own credit and liquidity No such concept under IAS 39 If service component embedded in contract, can capitalize certain transaction costs only, provided they are direct and incremental to contract issuance Different rules will likely result in difference in what can be capitalized, and opening retained earnings adjustment
DAC implications:
2008 Seminar for the Appointed Actuary Colloque pour lactuaire dsign 2008
Embedded derivatives:
may find that most are exempt as either insurance or closely related
identify, but no significant accounting changes expected
Service contracts: