• the fulfilment cash flows related to future service allocated to
the group at that date; and
• the CSM of the group at that date; and
• the liability for incurred claims comprising the fulfilment cash flows related to past
service allocated to the group at that date.
Insurance contracts (IFRS 17) 4473
The components of the liability for remaining coverage and the liability for incurred
claims are as follows:
Liability for remaining coverage
Liability for incurred claims
CSM
Risk adjustment
Risk adjustment
Discounted present value of
Discounted present value of
estimated cash flows
estimated cash flows
The general model is discussed further at 8 below.
7.2
Modifications to the general model
An entity should apply the general model to all groups of insurance contracts except as
follows: [IFRS 17.29]
• a simplified or premium allocation approach may be applied for groups of insurance
contracts meeting either of the specified criteria for that approach – see 9 below;
• for groups of reinsurance contracts held, an entity should apply either the general
model or the premium allocation model as modified by separate measurement
requirements – see 10 below;
• an adaptation of the general model, the ‘variable fee approach’ is applied to
insurance contracts with direct participation features (see 11.2 below); and
• for groups of investment contracts with discretionary participation features, an
entity applies the general model as modified because of the lack of insurance risk
in the contracts (see 11.3 below).
7.3
Insurance contracts in a foreign currency
IFRS 17 states that when applying IAS 21 – The Effects of Changes in Foreign Exchange
Rates – to a group of insurance contracts that generate cash flows in a foreign currency,
an entity should treat the group of contracts, including the contractual service margin,
as a monetary item. [IFRS 17.30]. The Basis for Conclusions observes that the contractual
service margin (see 8.5 below) might otherwise be classified as non-monetary, because
it is similar to a prepayment for goods and services. However, in the Board’s view, it was
simpler to treat all components of the measurement of an insurance contract in the same
way and, since the measurement in IFRS 17 is largely based on cash flow estimates, the
Board concluded that it was more appropriate to view the insurance contract as a whole
as a monetary item. [IFRS 17.BC277].
The Board’s conclusion that the insurance contract is a monetary item does not change
if an entity measures a group of insurance contracts using the simplified approach for
the measurement of the liability for the remaining coverage. [IFRS 17.BC278].
4474 Chapter 52
Treating insurance contracts as monetary items means that groups of insurance
contracts in a foreign currency are retranslated to the entity’s functional currency using
the exchange rate applying at each reporting date. Exchange differences arising on
retranslation are accounted for in profit or loss. IFRS 4 contained no similar assertion
and therefore many insurers, following the guidance on monetary and non-monetary
items in IAS 21, treated unearned premium provisions (i.e. deferred revenue) and
deferred acquisition costs in a foreign currency as non-monetary items and did not
retranslate these balances subsequent to initial recognition.
Neither IAS 21 nor IFRS 17 specify where exchange differences on insurance contract
liabilities should be presented in the statement of financial performance and, as
discussed in Chapter 15 at 10.1, entities should apply judgement to determine the
appropriate line item(s) in which exchange differences are recorded.
8
MEASUREMENT – GENERAL MODEL
As explained at 7.1 above, the general model is based on the following building blocks
for each group of insurance contracts: [IFRS 17.32]
• fulfilment cash flows, which comprise:
• estimates of expected future cash flows over the life of the contract
(see 8.2 below);
• an adjustment to reflect the time value of money and the financial risks related
to the future cash flows to the extent that the financial risks are not included
in the estimates of the future cash flows (see 8.3 below); and
• a risk adjustment for non-financial risk (see 8.4 below);
• a contractual service margin (CSM), representing the unearned profit on the group
of contracts (see 8.5 below).
The contractual service margin is released to profit or loss over the period that services
are provided to the policyholder. Therefore, at initial recognition, no profit will be
recognised. However, a loss will be recognised if the group of contracts is onerous at
the date that the group is determined to be onerous (see 6 above). Onerous contracts
are discussed at 8.8 below. The contractual service margin for insurance contracts with
direct participation features is adjusted over the service period in a different way from
the contractual service margin for insurance contracts without direct participation
features. Contracts with direct participation features are discussed at 11.2 below. Once
the contractual service margin is utilised, the group of insurance contracts will be
measured using only the fulfilment cash flows.
Insurance contracts (IFRS 17) 4475
The following diagram illustrates the relationship of the movements in the components
of the general model and their relationship with the presentation in profit or loss
(discussed at 15 below).
Onerous contacts
Contractual service margin
Release of CSM
P&L:
Insurance
Change in
service result
estimates
relating to future
Change in CFs
services
Fulfilment cash flows
related to past and
current services
Future cash flows (CFs)
Release of RA
related to past and
current services
Risk adjustment (RA)
for non-financial risk
Insurance finance
P&L:
expense at locked
Insurance
Discounting
in discount rate
finance expense
Other
Effect of changes
comprehensive
in discount rates
income
8.1
The contract boundary
Establishing the boundary of a contract is crucial as it determines the cash flows that
will be included in its measurement.
Estimates of cash flows in a scenario should include all cash flows within the boundary
of an existing contract and no other cash flows. In determining the boundary of a
contract an entity should consider its substantive rights and obligations, whether they
arise from a contract, law or regulation (see 3.1 above). [IFRS 17.B61].
4476 Chapter 52
Cash flows are within the boundary of an insurance contract if they arise from
substantive rights an
d obligations that exist during the reporting period in which the
entity can compel the policyholder to pay the premiums or in which the entity has a
substantive obligation to provide the policyholder with services. A substantive
obligation to provide services ends when: [IFRS 17.34]
(a) the entity has the practical ability to reassess the risks of the particular policyholder
and, as a result, can set a price or level of benefits that fully reflects those risks; or
(b) both of the following criteria are satisfied:
(i) the entity has the practical ability to reassess the risks of the portfolio of
insurance contracts that contains the contract and, as a result, can set a price
or level of benefits that fully reflects the risk of that portfolio; and
(ii) the pricing of the premiums for coverage up to the date when the risks are
reassessed does not take into account the risks that relate to periods after the
reassessment date.
A liability or asset relating to expected premiums or expected claims outside the
boundary of the insurance contract should not be recognised. Such amounts relate to
future insurance contracts. [IFRS 17.35].
IFRS 17 does not explicitly state whether the boundary condition relating to repricing for
risk refers to insurance risk only or whether it also reflects other types of risk under the
contract. At the February 2018 meeting of the TRG, the TRG members noted that paragraph
(b) above should be read as an extension of the risk assessment in paragraph (a) above from
the individual to portfolio level, without extending policyholder risks to all types of risks and
considerations applied by an entity when pricing a contract. The TRG members observed
that the IASB staff noted that policyholder risk includes both the insurance risk and the
financial risk transferred from the policyholder to the entity and therefore excludes lapse
risk and expense risk as these are not risks which are transferred by the policyholder.4
When an issuer of an insurance contract is required by the contract to renew or otherwise
continue the contract, it should assess whether premiums and related cash flows that arise
from the renewed contract are within the boundary of the original contract. [IFRS 17.B63].
An entity has the practical ability to reassess the risks of the portfolio of insurance
contracts that contains the contract and, as a result, can set a price or level of benefits that
fully reflects the risk of that portfolio in the absence of constraints that prevent the entity
from setting the same price it would for a new contract with the same characteristics as
the existing contract issued on that date, or if it can amend the benefits to be consistent
with the price it will charge. Similarly, an entity has the practical ability to set a price when
it can reprice an existing contract so that the price reflects overall changes in the risks in
a portfolio of insurance contracts, even if the price set for each individual policyholder
does not reflect the change in risk for that specific policyholder. When assessing whether
the entity has the practical ability to set a price that fully reflects the risks in the contract
or portfolio, it should consider all the risks that it would consider when underwriting
equivalent contracts on the renewal date for the remaining coverage. In determining the
estimates of future cash flows at the end of a reporting period, an entity should reassess
the boundary of an insurance contract to include the effect of changes in circumstances
on the entity’s substantive rights and obligations. [IFRS 17.B64].
Insurance contracts (IFRS 17) 4477
It is acknowledged in the Basis for Conclusions that it may be more difficult to decide
the contract boundary if the contract binds one party more tightly than the other.
Examples of circumstances in which it is more difficult are: [IFRS 17.BC162]
• An entity may price a contract so that the premiums charged in early periods
subsidise the premiums charged in later periods, even if the contract states that
each premium relates to an equivalent period of coverage. This would be the case
if the contract charges level premiums and the risks covered by the contract
increase with time. The Board concluded that the premiums charged in later
periods would be within the boundary of the contract because, after the first period
of coverage, the policyholder has obtained something of value, namely the ability
to continue coverage at a level price despite increasing risk.
• An insurance contract might bind the entity, but not the policyholder, by requiring
the entity to continue to accept premiums and provide coverage (without the
ability to reprice the contract) but permitting the policyholder to stop paying
premiums, although possibly incurring a penalty. In the Board’s view, the
premiums the entity is required to accept and the resulting coverage it is required
to provide fall within the boundary of the contract.
• An insurance contract may permit an entity to reprice the contract on the basis of
general market experience (for example, mortality experience), without permitting
the entity to reassess the individual policyholder’s risk profile (for example, the
policyholder’s health). In this case, the insurance contract binds the entity by
requiring it to provide the policyholder with something of value: continuing
insurance coverage without the need to undergo underwriting again. Although the
terms of the contract are such that the policyholder has a benefit in renewing the
contract, and thus the entity expects that renewals will occur, the contract does
not require the policyholder to renew the contract. As a result, the repriced cash
flows are outside the contract boundary.
The assessment of the contract boundary is made in each reporting period. This is
because an entity updates the measurement of the group of insurance contracts to which
the individual contract belongs and, hence, the portfolio of contracts in each reporting
period. For example, in one reporting period an entity may decide that a renewal
premium for a portfolio of contracts is outside the contract boundary because the
restriction on the entity’s ability to reprice the contract has no commercial substance.
However, if circumstances change so that the same restrictions on the entity’s ability to
reprice the portfolio take on commercial substance, the entity may conclude that future
renewal premiums for that portfolio of contracts are within the boundary of the
contract. [IFRS 17.BC164].
The following examples illustrate the application of the contract boundary.
Example 52.20: Contract boundary of a stepped premium life insurance contract
An entity issues a group of annual insurance contracts which provide cover for death, and total and permanent
disablement. The cover is guaranteed renewable every year (i.e. the entity must accept renewal) for twenty
years regardless as to changes in health of the insured. However, the premiums increase annually with the
age of the policyholder and the insurer may increase premium rates annually so long as the increase is applied
to the entire portfolio of contracts (premium rates for an individual policyholder cannot be increased after the
policy is underwritten).
4478 Chapter 52
Anal
ysis
The contract boundary is one year.
The guaranteed renewable basis means that the entity has a substantive obligation to provide the policyholder with
services. However, the substantive obligation ends at the end of each year. This is because the entity has the
practical ability to reassess the risks of the portfolio that contains the contract and, therefore, can set a price that
reflects the risk of that portfolio and the pricing of the premiums for coverage up to the date when the risks are
reassessed does not take into account the risks that relate to premiums after the reassessment date (as premiums
are adjusted annually for age). Therefore, both criteria in paragraph (b)(i) and (b)(ii) above are satisfied.
Example 52.21: Contract boundary of a level premium life insurance contract
An entity issues a group of insurance contracts which provide cover for death, and total and permanent
disablement. The cover is guaranteed renewable (i.e. the entity must accept renewal) for twenty years
regardless as to changes in health of the insured. The premium rates are level for the life of the policy
irrespective of policyholder age. Therefore, the insurer will generally ‘overcharge’ younger policyholders and
‘undercharge’ older policyholders. In addition, the insurer may increase premium rates annually so long as
the increase is applied to the entire portfolio of contracts (premium rates for an individual policyholder cannot
be increased after the policy is underwritten).
Analysis
The contract boundary is twenty years.
The guaranteed renewable basis means that the entity has a substantive obligation to provide the policyholder
with services. The substantive obligation does not end until the period of the guaranteed renewable basis
expires. Although the entity has the practical ability to reassess the risks of the portfolio that contains the
contract and, therefore, can set a price that reflects the risk of that portfolio, the pricing of the premiums does
take into account the risks that relate to premiums after the reassessment date. The entity charges premiums
in the early years to recover the expected cost of death claims in later years. Therefore, the second criterion
in (b)(ii) above for drawing a shortened contract boundary when an entity can reassess the premiums or
benefits for a portfolio of insurance contracts is not satisfied.
In February 2018, the TRG discussed an IASB staff paper which analysed specified
International GAAP® 2019: Generally Accepted Accounting Practice under International Financial Reporting Standards Page 885