IFRS 17 INSURANCE CONTRACTS

MEASUREMENT AND APPLICABILITY

September 2021

Introduction

As more and more insurance companies start to consider the monumental change that IFRS 17 represents, BWCI is
starting a series of short articles on this mammoth of an accounting standard.

We start with perhaps the two most fundamental questions that needs to be asked when working towards IFRS 17:
• What contracts are covered by IFRS 17?
• How to measure the value of those contracts?

What’s in and what’s out Units of Account

IFRS 17 covers all insurance contracts, and reinsurance Insurance contracts are far more uncertain than other contracts providing
contracts (inwards and outwards) and any investment services. Depending on whether a claim is paid out, any single insurance
contracts with discretionary participation features contract could result in a profit or a loss, but the outcome is not known at
(provided that the entity also writes insurance the time of issuing the contract.
contracts1).
To overcome this uncertainty and to improve the usability of accounts, the IFRS
That said, there are some contracts that may fall under 17 standards require the grouping of contracts into units of account which are
either IFRS 17 or IFRS 9 at the entity’s discretion2. For considered together. The requirements are that all policies in one unit are:
example:
• of similar risks
• Insurance contracts that are really credit-related
• managed together
guarantees
• not more than 12 months apart in inception date
• Contracts that transfer significant insurance risk,
e.g. a loan with a death waiver.
The units are further subdivided into three groups:

As with all discretion exercised in IFRS 17, the choice of 1. strongly expected to be unprofitable, or “onerous” in IFRS 17 parlance
Standard applied will have to be justified.
2. strongly expected be profitable

An entity must also separate from any insurance 3. having a significant possibility of becoming onerous
contracts the impact of embedded derivatives which
are to be valued under IFRS 9. This also include weather As the grouping of contracts is for accounting purposes only, the total
derivatives and CAT bonds. profit at the end of the contract will not be affected, but rather the
emergence of profits over time will be.

IFRS 17 Liabilities

IFRS 17 makes a distinction between liabilities emerging from events covered by earned premium (the Liability for Incurred Claims, LIC) and
events expected to arise between the balance sheet date and the end of the contract (the Liability for Remaining Coverage, LFRC). These are
similar to the Solvency II Claims Provision and Premium Provision respectively.

Whichever measurement model is applied, the LIC will be the same; the choice of model affects only the calculation of the LFRC. The LIC
comprises of the dismounted value of best estimate cash-flows, plus a Risk Adjustment for non-financial risk (see GMM model below).

1
Paragraph 3 of the standards
2
Paragraph 8A of the standards
3
Paragraph B29 of the standards

01
The Three Measurement Models Variable Fee Approach

When it comes to actually value an insurance contract under The VFA differs from the GMM only in the way that the contractual
IFRS 17, the entity must ascertain which of three models are service margin changes over time. This difference arises from an
applicable. appreciation that contracts with direct participation features generally
have profitability that is heavily dependent on market movements.
• The default for all contracts is to apply the General
Therefore, for these contracts only, economic movements in value of
Measurement Model (GMM).
the entity’s share of underlying items are incorporated into the CSM.
• If there are direct participation features, then the entity
must apply the Variable Fee Approach (VFA).
• The simpler Premium Allocation Approach (PAA)
may be applied if the policies are less than one year
Wrapping Up
in duration and the entity can demonstrate that doing
so would not lead to materially different results than Whichever approach is used, IFRS 17 will require
applying the GMM.
significant work; both at initial implementation and
on an ongoing basis. Depending on the features
Premium Allocation Approach
of the contracts, there may be significant work in
determining whether or not IFRS 17 even applies. The
This is the simplest of the three approaches, and is the most importance of detailed tracking of period-to-period
similar to the existing IFRS 4 insurance accounting principles.
In short, at inception of a contract the LFRC is the premiums
changes over all portfolios of contracts will be critical.
received less any acquisition costs, adjusted for any impacts IFRS 17 is a data-heavy Standard.
of decreognitions - very similar to existing concepts of the
unearned premium reserve.
It is never too early to prepare and BWCI is ready
At subsequent periods, the LFRC is adjusted based on changes to help you plan your route to compliance with this
in relevant acquistion costs, any additional premium cash flows challenging accounting standard.
and any changes to the insurance revenue. Over time it will
decrease as the period of remaining coverage elapses.

While the PAA doesn’t involve a Contractual Service Margin,

contracts valued under this method are still required to be
grouped at the same level of granularity as for the GMM. The Contact Details
PAA is a simpler approach, but if there are many different
groups of contracts, it may still involve significant work.

Jonathan Kemp
jonathan.kemp@bwcigroup.com
General Measurement Model

Under this approach the entity calculates best estimate future

cashflows (“Fulfilment cashflows”), in a similar way to Solvency
II, though there are some differences.
Clair Le Poidevin
The entity must also set up a Contractual Service Margin (CSM) clair.lepoidevin@bwcigroup.com
for all applicable groups of contracts which must be tracked in
detail over successive periods. The CSM represents the future
profits expected to arise on these contracts. Holding the CSM
as a liability on the balance sheet and running it off over the
lifetime of the contract has the effect of recognising profits PO Box 68, Albert House +44 (0) 1481 728432
over the term of the contract - a key aim of the Standard. South Esplanade, St Peter Port insurance@bwcigroup.com
Guernsey, GY1 3BY www.bwcigroup.com
In addition to the CSM, an insurer also needs to establish a
“Risk Adjustment for non-financial risk”. In short, this is the
compensation that the entity requires for taking on uncertain
cashflows. It is intended to reflect the risk appetite of the entity.

02