IFRS 17 becomes AASB 17 - Finity Consulting

1 In May this year the International Accounting standards Board released ifrs 17, the new international accounting standard for insurance contracts. The Australian Accounting standards Board has adopted the standard without material change, as aasb 17. This d finitive is about the actuarial determination of general insurance liabilities under aasb 17. We identify the key features and differences from current practice. This represents our initial views on aasb 17 but it s early days, and we expect it to be a couple of years before a generally accepted interpretation of the standard emerges. this edition: aasb 17 vs aasb 1023 How will general insurance liabilities be different?

2 What about APRA Reporting? September 2017 ifrs 17 becomesAASB 17| ifrs AASB17 | September 201702 Liabilities at a glanceThe table below sets out the high level differences between aasb 1023 and aasb 17 for general insurance liabilities. High level observationsAASB 17 is the same as ifrs 17 aasb 17 adopts the international version of the accounting standard, as is, with two qualifications:1. At this stage aasb 17 will not apply to not-for-profit public sector entities including numerous workers compensation, CTP and lifetime care schemes. The aasb is currently considering the applicability of aasb 17 to those entities.

3 2. The aasb has confirmed that Australia-specific disclosures are being replaced entirely with those of ifrs 17. However, the aasb will review the usefulness and necessity of these disclosures, so this is an area that may is a much longer and more technical standardWriting a global accounting standard does not lend itself to brevity. aasb 17 weighs in at 33,500 words, compared to aasb 1023 on 18,300. The new standard crosses life, health, and general insurance, and has two measurement approaches. It feels more technical and prescriptive compared to aasb 1023 s more principles- based 137 and discount ratesThere have been no changes to aasb 137 (Contingencies), which is used in Australia for self-insurance liabilities and by accident compensation schemes where there is no insurance preparing the new standard, however, the IASB drew attention to the different discounting approaches in various standards , including the international versions of aasb 17 and aasb 137.

4 Those differences remain, but the IASB has started a project to review why discount rates are different in different standards . They are expecting to publish their findings in late 2017. ASPECTAASB 1023 aasb 17 Outstanding ClaimsDiscounted central estimate, with risk marginSimilar Liability for Incurred Claims. Unearned Premium 12 month contractsWritten premium is set aside as an Unearned Premium liability, earned over term of contract. Liability for Remaining Coverage Similar, but appears to be based on premium received, not Premium multi-year contractsSame approach as 12 month contracts. Liability for Remaining Coverage Different will be similar to APRA Premium unprofitable contractsLiability Adequacy Test (LAT) at segment level.

5 Onerous contract test, at more granular level. For 12 month contracts, need to test only if facts and circumstances suggest they are onerous.| ifrs AASB17 | September 201703 The central estimateAs with aasb 1023, the central estimate of the liability under aasb 17 is intended to be the mean of all possible outcomes. aasb 17 s appendix sets out, in some detail, how the central estimate should be calculated. The detail is often prescriptive compared to aasb 1023, and may lead to changes in accepted Australian practice. For example, aasb 17 explicitly prohibits allowing for post-balance date experience in estimating the outstanding claims.

6 The central estimate must reflect the conditions applying at the balance date, including the uncertainties that existed on that risk adjustmentThe risk adjustment under aasb 17 is comparable to the aasb 1023 risk margin. An insurer will set a risk adjustment that reflects its own risk appetite, and must disclose the adopted probability of sufficiency. This is current practice under aasb our reading of aasb 17, gross risk margins and reinsurance risk margins will need to be disclosed in the balance sheet with the risk adjustment for reinsurance recoveries representing the amount of risk transferred to the reinsurer.

7 Currently most insurers disclose only a net risk margin in their accounts, although APRA requires gross risk margins to be reported in APRA forms. Reinsurance recoveriesUnder aasb 17 the central estimate of reinsurance recoveries needs to include an allowance for the risk of non-performance by the reinsurer, including possible disputes. Under aasb 1023 it is common practice to assume that all reinsurance recoveries will be recoverable, unless there is a material risk of default; this aligns with APRA prudential reporting. Where reinsurers are highly rated, we would not expect the allowance for non-performance to be discount ratesAASB 1023 deals with discounting in 250 words, and makes it clear that risk-free discount rates must be used.

8 aasb 17 devotes nearly 2,000 words to the topic. There are two approaches: The bottom up approach involves adjusting a liquid risk-free yield curve for any illiquidity in the insurance contracts. In Australia, the general consensus (and APRA s view) is that general insurance portfolios are not illiquid, so the result should be similar to the current risk- free yield curve. The top down approach, which starts with market returns implied by a reference portfolio of assets, adjusted to eliminate factors not relevant to insurance theory the two approaches should give a similar result for general insurance, but in practice there may be divergence.

9 Either way the adopted discount rate must be disclosed in the accounts. Insurance liabilitiesThe two largest liabilities on a general insurer s balance sheet are the outstanding claims liability and the unearned premium. The rest of this d finitive focuses on determining these two liabilities under aasb 17. Liability for Incurred Claims currently outstanding claimsThe outstanding claims liability will look similar under aasb 17, with some differences. The liability must be a central estimate, discounted, with a risk adjustment. At a high level this will be very familiar to Australian general insurers.| ifrs AASB17 | September 201704 Liability for remainingcoverage currently unearned premium Two methods nowFor general insurance there are two approaches that will be relevant: Premium Allocation Approach (PAA) the simpler approach, which may be applied to contracts up to one year in duration.

10 This is similar to the current approach of creating an unearned premium liability and earning it over time, although with some important differences (set out below). Building Blocks Approach (BBA) more complicated, and generally used for contracts with a duration of more than one year. It resembles the current APRA Premium Liability calculation The PAA ApproachThe simpler PAA can be used where:1. The coverage period ( contract boundary ) is up to one year. The coverage period ends when an insurer has the practical ability to reassess risk and reprice (or adjust benefits) for either individual contracts or an entire portfolio.