IFRS 4 Phase II On General Insurance Reserving

www.pwc.cn IFRS 4 Phase II On General Insurance Reserving September 2015

Agenda Introduction The Updated information Business combinations and portfolio transfers Challenges for general insurers: Same as SII? How about TW? 1 2 Measurement models 3 4 Components of calculation 5 6 Case Study How to prepare for changes? 7 8 Slide 2

Introduction 1 Slide 3

Introduction Background and timeline May 2007 July 2010 June 2013 2016? 2019? IASB Discussion paper (DP) published Phase II Exposure Draft (ED) IASB revised ED Final standard IASB Effective date of standard 2007 ~ 2010 ~ 2013 2014 2015 2016 2017 2018 2019 Slide 4

Existing IFRS IAS 18: Revenue IFRS 4: Insurance Contracts Intangibles / DAC Property Equity Other Liabilities Debt IAS 12: Income Taxes IAS 19: Employee Benefits IAS 39: Financial Instruments Recognition and measurement IAS 39: Financial Instruments Recognition and measurement IAS 32: Financial Instruments Presentation IFRS 7: Financial Instruments Disclosures Financial Instruments Contract Liabilities IFRS 4: Insurance Contracts IAS 39: Financial Instruments Recognition and measurement Insurance Contracts Investment Contracts Assets Liabilities standard undergoing major review with implications for insurers Other IASB standards also impact insurers, for example: IFRS 13 Fair value measurement Slide 5

Proposed IFRS Insurance contracts standard (to replace IFRS 4) Ongoing IASB deliberations with 2 nd Exposure Draft in June 2013 (see later sections) IFRS 9: Financial instruments (to replace IAS 39) Classification and measurement of financial assets - Fair value (P&L or OCI) or Amortised cost Liability deposit floor retained; affects business classified as investment contracts (e.g. Certain unit linked pension contracts) Revenue recognition standard (to replace IAS 18) Affects business classified as investment contracts Retains DAC incremental at contract level (change in second ED) IFRS 13: Fair value measurement (new standard defining how to fair value)... the price that would be received to sell an asset or transfer a liability in an orderly transaction between market participants at the measurement date The fair value of a liability should reflect the effect of non-performance risk Slide 6

Financial instruments IFRS Timeline IFRS Standard 2014 2015 2016 2017 2018 onwards Insurance contracts IASB re-deliberation and final standard? Mandatory effective date 2019 or later?* Classification & measurement Impairment Hedge accounting Comprehensive IFRS 9 standard issued July 2014 Mandatory effective date of 2018 ** Macro hedge accounting Discussion paper comments due October 2014 ED, final standard and mandatory effective date are still to be confirmed IFRS 15 Revenue issued in May Mandatory effective date 2017 *** 2014 FASB decides to only make targeted amendments to US GAAP Solvency II Go-Live in Europe * IASB will decide at future meeting on effective date. One alternative is to provide 3 years between adoption of IFRS 9 and IFRS 4 Phase II. ** IASB has decided to provide additional transition relief for IFRS 9 upon adoption of IFRS 4 Phase II. EFRAG endorsement advice expected in April 2015. *** Positive EFRAG endorsement advise for 2017 issued in March 2015. March 2015 7

Mind the Gap? The timelines for Solvency II and IFRS 4 Phase II are not aligned What will happen to IFRS financial reporting in the gap period... Maintain existing IFRS reporting and parallel run with Solvency II systems Adopt Solvency II or a modified version if permitted under existing IFRS 4 Early adopt the requirements of IFRS 4 Phase II 2012 2013 2014 2015 2016 2017 2018 2019 Solvency II live? Maintain current approach Early adopt IFRS 4 Phase II? Adopt (modified) Solvency II? IFRS 4 Phase II live? Slide 8

2 Challenges for general insurers: 1) Same as SII? 2) How about Taiwan? Slide 9

Same as Solvency II? The key valuation principles in the proposals for measuring liabilities for insurance contracts in IFRS 4 Phase II and Solvency II are the same: A mean best estimate of all possible outcomes. Discounted at a market rate of interest. Plus an additional margin for risk. although these principles have not been strictly applied in the IFRS options for short term business. The key differences are: No gain on policy inception for IFRS. Insurance contract definition (more of a problem for life insurers than GI). IFRS less prescriptive on risk margin and discount rates. Slide 10

Solvency II versus IFRS for insurance contracts Contract liabilities Solvency II Solvency capital requirement IFRS Insurance Contracts IFRS Investment Contracts Replicating portfolio value Risk margin Discounted probability weighted estimate of future cash flows Technical Provisions Contractual service margin Replicating portfolio value Risk adjustment Discounted probability weighted estimate of fulfilment cash flows Contract liabilities Fair Value or Amortised cost Risk margin = Sets the technical provisions as the expected amount required to take over and meet the obligations. As a regulatory regime, there is a capital requirement the Solvency Capital Requirement (SCR). Risk adjustment = Compensation the entity requires for bearing the uncertainty about the amount and timing of the cash flows that arise as the entity fulfils the contract. Contractual service margin represents unearned profit in contract. Certain acquisition costs are included in the fulfilment cash flows resulting in implicit deferral of these costs. All financial liabilities are classified as fair value through profit and loss or amortised cost. Initial measurement is at fair value. Subsequent measurement is at fair value (subject to a deposit floor ) or at amortised cost depending on classification. Model contains deferral of acquisition costs and upfront fees. Slide 11

Solvency II versus IFRS for insurance contracts Comparison (1) Topic IFRS Solvency II Significance Observations All contracts Definition and scope Recognition Separating components from an insurance contract Contract boundary Insurance and participating investment Date coverage begins (plus onerous contact test for earlier) Distinct investment components, embedded derivatives and certain goods and services (e.g. asset management services) No longer required to provide coverage or contract does not confer any substantive rights to policyholder Date party to contract No Amend terms to fully reflect risk No projection of premiums for savings contracts The measurement of investment contracts in IFRS may be significantly different to Solvency II. Significance of any difference will depend on the onerous contract test in IFRS. For many long term contracts the recognition will be the same. Potential requirement to separate asset management service components in IFRS could be a difference to Solvency II. Revenue items are not presented on the IFRS income statement for non-distinct investment components. In Solvency II (unlike IFRS), there is a requirement to separate contracts into components, where the contract boundary differs between components. Devil will be in the detail as the distinct definitions for Solvency II and IFRS are considered in view of contract terms. Slide 12

Solvency II versus IFRS for insurance contracts Comparison (2) Topic IFRS Solvency II Significance Observations Prescribed Cash flows (excluding acquisition) Acquisition costs Discount rate Risk adjustment Incurred directly to fulfil portfolio of contracts Directly attributable at portfolio level Top down or bottom up (current and locked-in for OCI purposes) No prescribed method (fulfilment value) Expensed as incurred Likely to be prescribed based on swaps + (matching adjustment or counter-cyclical premium **) Prescribed 6% cost of capital (transfer value) Potential risk of differences in certain cash flows, for example, certain overheads expenses and tax. In IFRS, there is implicit deferral of acquisition costs. There is no equivalent concept in Solvency II. The discount rate remains one of the most significant areas of uncertainty in Solvency II. It is unclear how the prescribed Solvency II discount rate will compare to the principle-based approach in IFRS. No concept of locking-in/oci in Solvency II. The Solvency II risk margin is prescribed, while the IFRS risk adjustment is principle-based. It is likely that there will be differences in the two approaches. ** Long Term Guarantees Assessment report by the European insurance regulatory (EIOPA) in June 2013 proposed replacing the countercyclical premium with a separate measure outside of the discount rate (known as the Volatility Balancer ). Slide 13

Solvency II versus IFRS for insurance contracts Comparison (3) Topic IFRS Solvency II Significance Observations Eliminate No day-one gain Contractual service margin (update for certain subsequent changes) No equivalent concept of deferral-and-matching (through the contractual service margin) in Solvency II. Participating contracts Decomposition of cash flows into those that vary directly, indirectly or do not vary by the underlying assets for contracts that specify linkage and where entity is required to hold assets Cash flows from participating feature included (except for approved surplus funds ) No required decomposition of cash flows in Solvency II. However, both IFRS and Solvency II will contain a stochastic assessment of options and guarantees. For directly linked cash flows, the linkage of the cash flows in IFRS to the measurement and presentation of support assets ( mirroring ) is a significant difference to Solvency II if assets are not FVTPL The treatment of residual participating fund assets and the allocation between liability and equity will depend on the specific nature of the contracts and national law. Short duration contracts Unearned premium model for pre-claims liability while cash flow projection for claims liability As for other contracts In IFRS, the unearned premium model is optional. A cash flow approach can be adopted as in Solvency II. Slide 14

Changes from existing standard in Taiwan Comparison between current method(upr) and PAA method Current No. Item PAA method method(upr) 1. Recognition date Underwriting date 2. 3. 4. Directly attributable acquisition costs Pre-coverage cash flows Onerous contract liability Not deducted N/A 5. Time value N/A Considered in premium deficiency reserve An entity shall recognise an insurance contract that it issues from the earliest of the following: (a) the beginning of the coverage period; (b) the date on which the first payment from the policyholder becomes due; and (c) if applicable, the date on which the portfolio of insurance contracts to which the contract will belong is onerous. less any payments that relate to the directly attributable acquisition costs for the coverage less than one year. Cash flows paid or received before the insurance contract is recognised that relate directly to the acquisition or the fulfilment of the portfolio of insurance contracts that will contain the insurance contract.(advance premium and commission) plus any onerous contract liability measures in accordance with the difference between the carrying amount of the liability for the remaining coverage and the fulfilment cash flows. When at contract inception, the time between the entity providing the coverage and the due date for the premium is over one year. Slide 15

Changes from existing standard in Taiwan Liability for the remaining coverage(paa) Original Assets Items New Assets Items Original Liabilities Items Premium receivable (and assumed premium receivable) Insurance contract assets (premium receivable and assumed premium), Suspense debits Advance received(advance premium), commission payable, unearned premium reserve, premium deficiency reserve New Liabilities Items Insurance contract liabilities(unexpired risk reserve, commission payable), advance received Liability for the remaining coverage(bba) Liability for incurred claims Ceded Liability for the remaining coverage Ceded liability for incurred claims Same as above Same as above Same as above Insurance contract liabilities(unexpired risk reserve, including fulfilment cash flow, time value, risk adjustment and contract service margin) N/A N/A liability for incurred claims Suspense debits (ceded premium), receivable ceded commission, ceded unearned premium reserve, ceded PDR Ceded liability for incurred claims Insurance Contract assets(ceded unexpired risk reserve, including fulfilment cash flow, time value, risk adjustment and contract service margin) Insurance contract asset (Ceded liability for incurred claims, including fulfilment cash flow, time value and risk adjustment) ceded premium payable N/A Insurance contract liabilities(liability for incurred claims, including fulfilment cash flow, time value and risk adjustment) Insurance contract liability(ceded premium payable) N/A The difference adjustment is recorded in Retained earnings Slide 16

3 The updated information: Changes from IASB s 2013 exposure draft Slide 17

Changes from IASB s 2013 exposure draft Premium Allocation Approach Changes from 2013 exposure draft Revenue is recorded on the basis of the passage of time and the expected number of contracts in force. However, if the expected pattern of release of risk differs significantly from the passage of time, then revenue would be earned on the basis of expected timing of incurred claims and benefits. When an entity presents the effect of changes in discount rates in OCI, the discount rate that is used to determine the interest expense for the liability for incurred claims in the PAA should be the rate locked-in at the date the claim was incurred. Clarifies that contracts acquired through a portfolio transfer or a business combination should be accounted for as if they had been issued by the entity at the date of the portfolio transfer or business combination. Potential implications and open questions The pattern of services reflects either the passage of time or the expected timing of incurred claims. This could imply, for example, for hurricane insurance that the entire revenue should be recognised in the hurricane season, rather than spread out over the year. Entities will need to consider what the most appropriate reflection for each type of product is. This modification is expected to be welcomed by non-life insurers intending to use the PAA approach for the pre-claims liability as it means systems do not need to track the discount rate at inception of the contract. This clarifies that the insurance event for contracts acquired in the settlement period is the discovery of the ultimate cost of claims. Therefore, the coverage period will normally be the period over which the claims are settled. Some insurance contracts acquired in the settlement period through a portfolio transfer or a business combination are unlikely to qualify for the PAA, as the settlement period is now the coverage period, which may be longer than 12 months. Slide 18

Changes from IASB s 2013 exposure draft Building Block Approach Changes from 2013 exposure draft Potential implications and open questions Discount rates Accounting policy choice to present changes in the discount rate in either profit or loss or other comprehensive income ( OCI ) which should be applied to similar contracts, considering the portfolio in which the contract is included and the related assets that the entity holds. Additional guidance for setting discount rates where there is limited market data. Eliminates some mismatches in profit or loss arising from the 2013 exposure draft as only limited assets are permitted an OCI presentation under IFRS 9. For non-participating contracts, entities have to assess the level at which this accounting policy should be applied in their specific circumstances or where this election should be used to avoid accounting mismatches. The scope of permitted discount rate extrapolation methods will be an area of judgement and interpretation. Slide 19

Changes from IASB s 2013 exposure draft Building Block Approach Changes from 2013 exposure draft Potential implications and open questions Contractual service margin Unlocking the CSM for changes in the risk adjustment related to future coverage, and reversing previously recognised losses in profit or loss before reinstating the CSM. Confirmed that accretion of interest on the CSM and calculating the subsequent adjustments that unlock the CSM are both at the day one locked-in discount rates. Amortisation of CSM for non-participating contracts reflects the transfer of service as the basis of passage of time (stand ready obligation) and the expected number of contracts in force. Greater consistency in the unlocking treatment of changes in the best estimate liability and risk adjustment. Entities will have to track any negative CSM over the life of the contract (including amortisation) to assess which amount should be reinstated if the contract returns to being profitable. Day one locked-in discount rates will be required to be maintained (despite the above mentioned policy choice for changes in discount rates). This could be burdensome for long-term business. Because the initial profit is deferred and the CSM is based on day one economic assumptions, volatility may arise in equity or profit or loss (depending on the accounting policy choice for changes in discount rates) as market conditions change over the life of the contract. Provides greater clarity than the 2013 exposure draft on how to interpret the requirement to amortise in line with the transfer of service. Slide 20

Changes from IASB s 2013 exposure draft Building Block Approach Changes from 2013 exposure draft Potential implications and open questions Unit of account Amend the definition of a portfolio of insurance contracts to be: Insurance contracts that provide coverage for similar risks and are managed together as a single pool. At initial recognition, onerous contracts are not permitted to be aggregated with profitmaking ones in determining the CSM. Clarified that the objective of the standard is to measure an individual insurance contract liability, but that in applying this companies could aggregate insurance contracts provided that it meets this overall objective. Examples to be provided in the final standard to show how this can be achieved when releasing the CSM after inception. The removal of the reference in the 2013 exposure draft to contracts that are not priced similarly relative to the risk taken on will reduce the number of distinct portfolios. The definition of portfolio may impact whether contracts with unisex rates or universal rates for different age groups are viewed as onerous at inception. Onerous contracts at the outset will need to be tracked separately. The examples may set the precedent for the level of granularity required in the actuarial models and may determine the level of crosssubsidies/pooling between contracts. This will impact the operational challenges and financial results on implementing IFRS 4 Phase II. Slide 21

Changes from IASB s 2013 exposure draft Other topics Changes from 2013 exposure draft Potential implications and open questions Insurance contract revenue Income statement definition of revenue in the 2013 exposure draft has been retained. Revenue is determined each period from expected claims and the release of the risk adjustment and CSM. Investment components are excluded from revenue. Presentation of premium information, such as premiums due or written, in the income statement that is not consistent with this definition of revenue is prohibited. The definition of revenue continues to represent a significant change to current measures, such as premiums written or due, adopted in the life insurance sector. The prohibition of using premiums due or written will prevent entities from using such measures as a starting point on the face of the income statement. Reinsurance After inception, where changes in estimates of cash flows on a direct insurance contract impact profit or loss are offset by corresponding changes on a reinsurance contract, these should be recognised in profit or loss. Removes a potential asymmetry between direct and reinsurance contracts in the 2013 exposure draft for subsequent measurement. For profitable reinsurance contracts at inception that offset losses on direct insurance contracts, a CSM is setup in line with the 2013 exposure draft. Slide 22

Changes from IASB s 2013 exposure draft Other topics Changes from 2013 exposure draft Potential implications and open questions Fixed-fee service contracts Entities are permitted (but not required) to apply the revenue recognition standard to fixed-fee service contracts meeting the definition of insurance contracts, that also meet the scope exclusion criteria in the 2013 exposure draft. This allows insurers that issue fixed-fee service contracts to choose to apply the insurance contracts guidance to all their contracts. Additional guidance for significant insurance risk The guidance will be clarified that significant insurance risk occurs only when there is a possibility that an issuer incurs a loss on a present value basis. This means that contracts that provide a payment on death being the value of the underlying fund or the value of the premiums paid if the fund value is lower than premiums paid could still qualify as insurance contracts, consistent with current practice. Slide 23

Measurement models 4 Slide 24

Expired risk Unexpired risk Measurement models for general insurers Current IFRS/GAAP BBA throughout PAA PAA and undiscounted incurred claims Contractual Service Margin UPR less DAC Risk adjustment Discounting Premium (less acquisition costs) unearned Premium (less acquisition costs) unearned Best estimate of fulfilment cash flows Risk adjustment Risk adjustment Risk adjustment Undiscounted reserves for past claims (including IBNR) Discounting Best estimate of fulfilment cash flows Discounting Best estimate of fulfilment cash flows Best estimate of fulfilment cash flows Slide 25

Default measurement model in IFRS 4 Phase II Overview of building block approach BBA Default model for all insurance contracts. Based on discounted best estimate of future cash flows. Explicit margins: - Contractual service margin to prevent gain on policy inception. - Risk adjustment. Day 1 loss recognised in income statement. Cash flow approach for all liabilities: past claims (including IBNR) and future cover. Contractual service margin Risk adjustment Discounting Best estimate of fulfilment cash flows Expired and unexpired risk Unearned profits recognised over coverage period. Reflect compensation for uncertainty. Quantifies the value difference between certain and uncertain liability. Discounting future cash flows using top-down or bottom-up approach for discount rates to reflect characteristics of the liabilities. Best estimate cash flows explicit, unbiased and probability weighted estimate of fulfilment cash flows. Similar to SII but with the additional contractual service margin Slide 26

Optional model for short term contracts Premium Allocation Approach PAA Optional simplified model for future cover based on the unearned premium. Permitted for short duration contracts (period of cover <= 1 year) or where a reasonable approximation of BBA. Reasonable approximation does not apply when entity expects significant variability in cash flows No further guidance on what this means. Incurred claims liability (including IBNR) calculated in the same way as for the BBA approach. Risk adjustment Discounting Best estimate of fulfilment cash flows* Expired risk Unexpired premiums less acquisition costs * Probability weighted, essentially a mean. Unexpired risk A half-way house between old GAAP and SII? Slide 27

Optional model for very short tail contracts PAA and undiscounted liabilities PAA for unexpired risk. Incurred claim liabilities (inc. IBNR) are undiscounted. Permitted for short duration contracts (period of cover <= 1 year) or where a reasonable approximation of BBA, and claim liability cash flows are expected to be paid or received in one year or less. Avoids discounting entirely for very short-tail contracts Risk adjustment Undiscounted estimate of fulfilment cash flows Unexpired premiums less acquisition costs Expired risk Unexpired risk Slide 28

Update for change in estimates related to future services Default measurement model BBA Link to presentation in the accounts Release of contractual service margin Contractual service margin Release of risk adjustment relating to current period Profit or loss Risk adjustment Unwind at locked in rate Discounting Best estimate of fulfilment cash flows Update current market rates Experience adjustments Other Comprehensive Income (equity) Slide 29

Optional model for short term contracts PAA approach Link to presentation in the accounts Risk adjustment for incurred claims only Update for current estimates (without the CSM, all assumption changes feed directly into the P&L) Profit or loss Discounting for incurred claims only* Best estimate of fulfilment cash flows for expired risk ** Premium plus precoverage cashflows less acquisition costs Unwind at locked in rate Update current market rates Experience adjustments Adjustments for premium and revenue for coverage Other Comprehensive Income (equity) * Unless using undiscounted liabilities ** Probability weighted Slide 30

Optional premium allocation approach Further details Initial recognition of liability for remaining coverage: Premium received. Pre-coverage cash flows and acquisition costs. Onerous contract test (sum of future cash flows > 0). Subsequent measurement of liability for remaining coverage: Accrete interest at interest rate at initial recognition. Increase with premiums received. Reduced with premiums allocated to period in systematic way reflecting transfer of services (exclude investment component from revenue). Onerous contract test. Slide 31

Optional premium allocation approach Further details (continued) Change in IASB decisions Pattern of revenue recognition Revenue reflects passage of time and expected number of contracts in force If this does not reflect pattern of release of risk, revenue is earned on basis of expected timing of incurred claims and benefits If straight line presumption is rebutted, revenue recognition is based entirely on expected claims. Assess pattern of claims for each type of product. For example, for hurricane insurance the entire revenue should be recognised in the hurricane season, rather than spread out over the year. Entities will need to consider what the most appropriate reflection of services is for each type of product. Slide 32

Change in IASB decisions Presentation Statement of comprehensive income Presentation of premium information not consistent with commonly understood notions of revenue, such as premiums due or premiums written, is prohibited. Revenue as obligations are satisfied for PAA as well as BBA No prescribed income statement and IAS 1 requirements apply Slide 33

Presentation Statement of comprehensive income (continued) Changes in balance sheet measurement model should be bifurcated into insurance and nondistinct investment components Insurance components ~ ~ 20XX 20XX Insurance contracts revenue X X Incurred claims and expenses (X) (X) Underwriting result X X Investment income X X Interest insurance liability (X) (X) Net interest and investment income X X Profit or loss X X Effect of discount rate changes on insurance liability (X) Total comprehensive income X X (X) Slide 34

Form design(balance sheet) 財務狀況表 ( 資產負債表 ) 保險合約資產 保險合約 ( 含分進再保合約 ) 負債未到期負債來自採 PAA 法之合約 [A] 來自採 BBA 法之合約 [B] 已發生賠款負債 [C] 分出再保險合約資產 [A-1] 採 PAA 法之保險合約未到期負債 ( 初始認列 ) 已收保費已付直接可歸屬取得成本保障前現金流量 (+ 已收 /- 已付 ) 虧損性合約負債原始認列之末到期負債 ( 註 : 若為負值則列為保險合約資產 ) (1) (2) (3) (4) (5)=(1)-(2)+(3)+(4) [A-2] 採 PAA 法之保險合約未到期負債 ( 後續衡量 ) 期初未到期負債本期已收保費本期認列保險合約收入 ( 但需扣除直接可歸屬取得成本之攤銷 ) [A-2-1] 本期與直接可歸屬取得成本有關之支付虧損性合約負債虧損性合約負債變動數貨幣時間價值調整數期末未到期負債 (1) (2) (3) (4) (5) (6) (7) (8)=(1)+(2)-(3)-(4) +(5)+(6)+(7) [A-2-1] 採 PAA 法之本期認列保險合約收入 = 依合理方式分配至該期間之保費 Slide 35

Form design(balance sheet) B-1 未到期負債原始認列 保費收取時 預期現金流出 ( 不含直接可歸屬取得成本 ) (L1) 由 (1) 而得 600 600 預期現金流入 (L2) 由原始資料 900 0 風險調整 (L3) 由原始資料 0 0 直接可歸屬取得成本 (L4) 由原始資料 0 0 履約現值 (L5)=(L1)-(L2) +(L3)+(L4) 保障前現金流量 (+ 已收 /- 已付 ) (L6) 由原始資料 0 保險合約服務利潤 (CSM) 虧損性合約負債 (L7)=-(L5),if(L5)<0 (L7)=0,if(L5)>0 (L8)=(L5),if(l5)>0 (L8)=0,if(L5)<0 (300) 600 300 300 期初未到期負債 L9=(L5)+(L7) 0 900 B-2 採 BBA 法之保險合約未到期負債 ( 後續衡量 ) Y1 Y2 Y3 期初未到期負債 1( 不含立即認列損益 ) (B1):Y1 由 ((L9) Y2 Y3 由 (B3) 900 600 300 本期認列保險合約收入 [B-2-1] (B2) 300 300 300 期末未到期負債 1( 不含立即認列損益 ) (B3)=(B1)-(B2) 600 300 0 期初未到期負債 2( 立即認列於損益 ) (B4):Y2 Y3 由 (B7) 0 150 立即認列於損益之本期損失金額 (B5)= -(12) 150 立即認列於損益之本期損失金額解除 (B6)= 上一年 (B5) 0 150 期末未到期負債 2( 立即認列於損益 ) (B7)=(B4)+(B5)-(B6) 0 150 0 0 合計期初未到期負債 (B8)=(B1)+(B4) 900 600 450 合計期末未到期負債 (B9)=(B3)+(B7) 600 450 0 [B-2-1] 採 BBA 法之本期認列保險合約收入 Y1 Y2 Y3 預期當期理賠及費用現金流出 ( 扣除攤回及代位流入 ) (B11)=(1) 200 200 450 ( 不含直接可歸屬取得成本 ) 本期末到期負債風險調整變動數 (B12)=(R11) 0 0 0 本期保險合約服務利潤釋出數 (B13)=(3) 100 100 0 本期分配之直接可歸屬取得成本 (B14)=(D1) 0 0 0 UNWIND (B15)=(B6) 150 本期認列保險合約收入 (B16)=(B11~14)-(B15) 300 300 300 [B-2-1-1] 本期末到期負債風險調整變動數及其調節表 本期末到期負債風險調整變動數 [B-2-1-1] =(R8)-(R9) 0 0 0 期初末到期負債風險調整 =(R8) 0 0 0 期末末到期負債風險調整 =R(9) 0 0 0 [B-2-1-2] 保險合約服務利潤調節表 Y1 Y2 Y3 期初保險合約服務利潤 (C1)=(L7) 300 200 0 本期保險合約服務利潤釋出數 (C2)=(C1) 分期釋出 100 100 0 未來現金流量估計變動之調整 ( 未能調整之部份, 另以 60(D) 處理 ) (C3)=(11) (100) 0 應計利息 (C4) 0 0 0 期末保險合約服務利潤 (C5) 200 0 0 Slide 36

Form design(p/l form) 損益表及其他綜合損益表 Y1 Y2 Y3 保險合約收入 PAA 保險合約收入 XX BBA 保險合約收入 60(B)60(C ) =(B16) 300 300 300 分出再保險合約支出 PAA 分出再保險合約收入 YY BBA 分出再保險合約收入 ZZ 已發生賠款 =(7) 200 450 450 已發生理賠費用已發生費用立即認列之虧損性合約損失 60(A) =(L8) 0 未來現金流量估計未調整於保險合約服務利潤者 60(D) =(B5) 150 當期實際現金流量與先前估計數之經驗調整 60(E) =(8) UNWIND =(B15) 150 虧損性合約負債變動數 60(F) : 承保損益小計 (Operation /Underwriting income) (1) 100 (300) 0 投資損益保險負債利息費用 : 投資損益小計 (2) (investment result) 0 0 0 損益表損益 (Profit and Loss) (3)=(1)+(2) 100 (300) 0 貨幣時間價值調整數 : 其他綜合損益小計 (Other comprehensive income) (4) 0 0 0 總綜合損益 (Total comprehensive income) (5)=(3)+(4) 100 (300) 0 註 : 承保利益亦可以下列方式表達 CSM 釋出 =(3) 100 100 0 未來現金流量估計未調整於保險合約服務利潤者 60(D) =(B5) 0 150 0 當期實際現金流量與先前估計數之經驗調整 60(E) =(8) 0 250 0 已發生理賠費用已發生費用虧損性合約負債變動數 60(F) 承保損益小計 (Operation /Underwriting income) (1) 100 (300) 0 Slide 37

5 Business combinations and portfolio transfers Slide 38

Other specific requirements Portfolio transfers and business combinations Requirements Excludes consideration for other assets and liabilities acquired in same transaction In business combination, consideration is fair value of contracts Fair value reflects consideration relating to liability assumed Difference between initial measurement and consideration is goodwill or bargain purchase Clarification after 2013 exposure draft: Contracts acquired through portfolio transfer / business combination accounted for as if they had been issued by acquirer at the date of the portfolio transfer / business combination. Insurance event for contracts acquired in the settlement period is the discovery of the ultimate cost of claims. Coverage period will be the period in which the ultimate claims amount is discovered (normally the period over which the claims are settled). Some insurance contracts acquired in the settlement period are unlikely to qualify for the PAA, as the period in which the ultimate claims amount is discovered may be longer than 12 months. CSM has to be set-up for contracts acquired in the settlement period (see next slide) Slide 39

Expired risk Other specific requirements Long-tail PAA contracts acquired in the settlement period Issuer of insurance policies Entity acquiring insurance contracts One of three options for liability for incurred claims (expired risk) Contract has new coverage period (discovery of ultimate claims amount) and CSM has to be set-up BBA BBA throughout PAA PAA and undiscounted incurred claims Contractual Service Margin Risk adjustment Risk adjustment Risk adjustment Risk adjustment Discounting Discounting Discounting Best estimate of fulfilment cash flows Best estimate of fulfilment cash flows Best estimate of fulfilment cash flows Best estimate of fulfilment cash flows Examples could be liability insurance/bodily injury, asbestos, workers compensation Slide 40

6 Components of calculation Slide 41

Best estimate of fulfilment cash flows Best estimate of fulfilment cash flows Basic cash flows Explicit, unbiased, probability-weighted estimate (expected value) of future cash outflows less future cash inflows that will arise as insurer fulfils the insurance contract: Market variables consistent with observable prices. Based on the (re)insurers perspective for other cash flow estimates. Relate directly to the fulfilment of contracts. All cash flows that arise as contract fulfilled are included: Premiums and claims. Options and guarantees. Direct acquisition costs (but excludes indirect costs). Policy administration and maintenance costs (but exclude certain overhead expenses). Reinsurance cash flows. Profit commission. Slide 42

Best estimate of fulfilment cash flows Best estimate of fulfilment cash flows Recognition Direct contracts Contracts are recognised and included in the financial statements at the earliest of: The beginning of the coverage period; When the first scheduled payment from the policyholder is due; and If applicable, the date on which the portfolio of insurance contracts to which the contract will belong is onerous (sum of net expected cash outflows > 0). Cover commences Contract boundary (end) Enter into contract Year end Slide 43

Best estimate of fulfilment cash flows Boundary (end) of a contract Contract boundary is where the entity: Best estimate of fulfilment cash flows has right or practical ability to reassess risk of particular policyholder and can re-price; or where both of the following are satisfied: - Entity has right or practical ability to reassess risk of portfolio of insurance contracts and can re-price. - Pricing of premiums up to reassessment of risks does not take into account future risks. So contract will end when: Not required to provide coverage. Can re-price to reflect risks of policyholder. In some cases, when insurer can re-price to reflect risk of portfolio. May be different to Solvency II! On substantial modification (and take modification as a new contract). Whether the insurance contracts are written directly or through a delegated authority (also known as binder) is irrelevant. The contract boundary definition is based on the underlying insurance contract. Slide 44

Best estimate of fulfilment cash flows Example: Contract Boundaries Where is the contract boundary? 1. For an individual private medical insurance policy with a guarantee not to individually re-underwrite the contract, but where the insurer has the right to review the premiums annually based on the experience across the portfolio? 1 year 2. For an annually renewable motor insurance contract issued under a five year delegated authority with a three month cancellation clause, where is the contract boundary? 1 year Slide 45

Best estimate of fulfilment cash flows Best estimate of fulfilment cash flows Reinsurance contracts (1 of 4) Recognition: Held reinsurance Outwards (held) reinsurance contracts are recognised and included in the financial statements at : The beginning of the coverage period, if the reinsurance covers aggregate losses on a portfolio; or otherwise, When the underlying contracts are recognised. Slide 46

Best estimate of fulfilment cash flows Best estimate of fulfilment cash flows Reinsurance contracts (2 of 4) Recognition: Inwards (written) reinsurance Yes Aggregate cover? No For inwards (written) treaty reinsurance, whether the treaty is onerous will be key Treat as direct Yes Is net inflow + ve? No Whether the treaty is onerous may change, increasing the volatility of the TPs Recognise as underlying contracts are written Recognise immediately all future cash flows under the treaty Slide 47

Change in IASB decisions Best estimate of fulfilment cash flows Best estimate of fulfilment cash flows Reinsurance contracts (3 of 4) Cash flows Assumptions consistent with underlying contracts. Recoveries and ceding commissions dependent on claims as part of claims. Ceding commissions not contingent on claims as a reduction in reinsurance premium. Interaction between profitable reinsurance and onerous direct insurance contracts Changes in cash flows on reinsurance contracts after inception that offset losses on direct insurance contracts are recognised in profit or loss. For profitable reinsurance contracts at inception that offset losses on direct insurance contracts, a CSM is still recognised Slide 48

Best estimate of fulfilment cash flows Best estimate of fulfilment cash flows Reinsurance contracts (4 of 4) Impact of outwards reinsurance If expected cash flows are positive (net inflows) deferred gain. - If the deferred gain relates to: Future events recognise over coverage period Past events recognise over settlement period If expected cash flows are negative (net outflows): - If the loss relates to: Future events defer and expense over coverage period Past events recognise immediately Risk adjustment represents risk being transferred to issuer of reinsurance contract Non performance risk of reinsurer is included in expected cash flows Use of OCI for changes in discount rates is optional Slide 49

Discounting Discount rate Needs to reflect the characteristics of the cash flows in terms of timing, currency, liquidity and linkage to returns on specific assets* Full yield curve required For OCI calculations, two sets of discount rates required: locked in initial rates and current rates Expected Default Unexpected Default Mismatch Adjustment Top down = bottom up? Unlikely given components of asset yields? EIOPA advice 14 June 2013 proposed Volatility Balancer to own funds or Illiquidity Premium Volatility adjustment Discount rate Risk Free Rate Risk Free Rate Usually unavailable IFRS ( Top down ) IFRS ( Bottom up ) Solvency II - Developing proposals Relative size is for illustrative purposes only * Additional application guidance in case of lack of market data. Use judgement to: Make appropriate adjustments to observed transactions Develop unobservable inputs using best available information. Unobservable inputs should not contradict relevant market data. Slide 50

Change in IASB decisions Discounting Discount rate Use of other comprehensive income is optional Other Comprehensive Income (OCI) sits on the balance sheet in equity. It exists to prevent volatility in the liabilities due to changes in discount rates affecting the P&L. Apply building block model with various assumptions Run the model using current discount rates (balance sheet measurement) Record in OCI the difference between the liability discounted at the current discount rates and the rates at initial recognition Run the model using discount rates at initial recognition Record in profit or loss unwind of discount of liability Slide 51

Change in IASB decisions Discounting Discount rate Use of other comprehensive income under the PAA Discount rate used is rate locked-in at the date the liability for incurred claims is recognised, rather than at contracts inception under the BBA For incurred but not reported ( IBNR ) claims, the rate is determined when IBNR is first recognised Changes to IBNR do not lead to a change in the locked-in rate No need to track discount rate at contract inception Slide 52

Discounting Discount rate Other comprehensive income: Issues for GI Potential mismatch between assets and liabilities: Changes in asset values feed directly into the P&L whereas changes in discount rates feed into OCI. If the assets and liabilities are not matched, this will also have an effect on the P&L depending on the extent of the mismatch and the changes in investment conditions. There is no recognition (through increased stability in the P&L) of moves towards a matched position after inception, because the presentation is tied into the initial discount rate. This is likely to cause mismatches and (misleading) results for claims such as periodical payment orders ( PPOs ). OCI is optional, so general insurers can opt to recognize changes in discount rates immediately in profit or loss. Slide 53

Risk adjustment Risk adjustment IFRS vs. Solvency II Risk adjustment objective is the compensation the insurer requires for bearing the uncertainty inherent in the cash flows that arise as the insurer fulfils the insurance contracts. No limitation on techniques or prescribed level of diversification. Solvency II risk margin adopts a prescribed cost of capital method. If a cost of capital method is adopted for IFRS then there is the potential for a different calibration to Solvency II. Volatility of each method will be a consideration when determining the approach as all changes in the risk adjustment go through profit or loss. Disclosure of confidence level required. Cost of capital Cost of setting up the economic capital required for the lifetime of the portfolio. No prescribed capital or percentage cost but market practice likely to drive ultimate requirement? Confidence level Value at risk; used to measure the expected loss on the portfolio at the specified confidence level over specified time horizon. Disclosure may lead insurers to target a certain level? Conditional tail expectation Tail value at risk; used to measure the expected loss on the portfolio as an average of outcomes occurring above the specified confidence level over the specified time horizon. Slide 54

Risk adjustment Risk adjustment Practical treatment in Taiwan 2 1 Risk Adjustment can be selected based on the following models: Q: How to calculate the risk adjustment when there is not sufficient experience? A: RBC risk coefficient from industry average experience 1. Mack s method 2. Bootstrapping 3. Stochastic chain ladder/b- F/Cape Cod 4. Generalized Linear Modelling(GLM) techniques 5. Bayesian method 4 Q: How to split total risk adjustment to detailed portfolios when the amount is evaluated on combined basis? A: Actuary should select a reasonable basis to allocate the amount, e.g. % of liability for incurred claims and liability for the remaining coverage. Q: How to select the cost of capital rate when there is not sufficient information? A: Refer to solvency II, selected as 6%. 3 Slide 55

Contractual service margin Contractual service margin No day 1 profit and no Solvency II equivalent... Contractual service margin is recognised to defer gain at contract inception while losses at inception are recognised immediately (cannot be negative). Re-measurement: Unlocked for differences between current and previous estimates of future cash flows relating to future coverage and other future services (e.g. assumption changes no longer taken to P&L unless margin goes negative). Do not unlock for changes in estimates of ultimate cost of settlement for claims already incurred. Margin can be reinstated once exhausted, but previous losses should first be reversed. Reinstatement can be above original value. Interest accretion: Interest accreted on margin using locked in discount rate. Slide 56

Contractual service margin Contractual service margin No day 1 profit and no Solvency II equivalent... Contractual service margin is recognised to defer gain at contract inception while losses at inception are recognised immediately (cannot be negative). Amortisation: Released over coverage period in line with the transfer of services provided (reduction in exposure). Unit of account: Margin determined at outset at portfolio level (but could be at a lower level). Portfolio definition no longer refers to contracts that are priced similarly relative to the risk taken on. On initial recognition onerous contracts should not be aggregated with profit making contracts. Objective of standard is to measure at individual contract but can aggregate if meets objective. Examples to be provided in the final standard. Slide 57

Change in IASB decisions Other specific requirements Unit of account for the BBA and PAA Driver of complexity Consolidated group Component Fulfilment cash flows Unit of account Portfolio/Contract Reporting unit Reporting unit Line of business Reporting unit Line of business Discount Contractual service margin Recognition Contractual service margin Amortisation Liability characteristics Individual contract, but can aggregate if it meets objective. Also not combine profit making and loss-making contracts None stated Portfolio Portfolio Risk adjustment None stated Cohort Cohort Onerous contract test (prior to recognition) Portfolio Cohort Cohort Definition of portfolio: Insurance contracts that are subject to similar risks and managed together as a single pool. Contract Cohort by term Significant impact on modelling and data requirements The intention of the IASB is to have a similar unit of account for the onerous contract test under the PAA and BBA Slide 58

Profit signatures and distribution Summary of profit drivers Difference between investment return and liability discount unwind Release from risk Contractual service margin Amortisation* (release of day 1 profit) prospectively modified by changes in cash flow estimate** Day 1 loss recognition Experience Variances Indirect expenses * Service is provided on basis of passage of time (stand ready obligation) and reflecting the expected number of contracts in force ** Until contractual service margin goes negative Slide 59

Case Study 7 Slide 60

1. Recognition of an insurance contract An entity issues a portfolio of insurance contract with three year of coverage (e.g. Engineering business). The coverage is from 7/1/2014 to 6/30/2017; The issue date is 3/20/2014, the date on which the first payment from the policyholder becomes due is 6/20/2014; Total premium is $360,000, paid in instalment over three years, the 1 st instalment of $120,000 has been received on issuance; The commission is $72,000, paid in 3 rd quarter of 2014; The discount rate at 6/20/2014 is 2%; Cost of capital method is used in the calculation for risk adjustment; The assumption of cash flow and cost of capital is as below: 2014 2015 2016 2017 Cash Flow (in $) Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Premium Received 120,000 Cash outflows_claim 3,231 6,462 9,692 12,923 16,154 19,385 22,615 25,846 29,077 32,308 35,538 38,769 Cash outflows_commission 72,000 Cash inflows_premium 120,000 120,000 Cost of Capital 1,428 81-1,922 1,694 1,410 1,071 2,765 2,317 1,817 1,263 658 Slide 61

1. Recognition of an insurance contract 2014 2015 2016 2017 Cash Flow (in $) Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Premium Received 120,000 Cash outflows_claim 3,231 Cash outflows_commission 72,000 6,462 9,692 Cash inflows_premium 120,000 120,000 Cost of Capital 1,428 81 12,923 16,154 19,385 22,615 25,846 29,077 32,308 35,538 38,769-1,922 1,694 1,410 1,071 2,765 2,317 1,817 1,263 658 This entity shall recognize this contract at earliest of the following: (a) the beginning of the coverage period; (i.e. 6/30/2014) (b) the date on which the first payment from the policyholder becomes due; (i.e. 6/20/2014) The entity measure this insurance contract at initial recognition as follows: (in $) Initial Recognition Note Future cash outflows 324,000 (1)sum of cash outflows Future cash inflows (240,000) (2)sum of cash inflows Future Cash flows 84,000 (3)=(1)-(2) Time Value (4,351) (4)=PV of (1)- PV of (2) -(3) Risk adjustment 15,851 (5)PV of cost of capital Fulfilment Cash Flows 95,500 (6)=(3)+(4)+(5) Pre-coverage cash flows* (120,000) (7) premium received Contract Service Margin 24,500 (8)=max{-[(6)+(7)],0} Insurance contract liability at initial recognition 120,000 (9)=(6)+(8) * the 1 st instalment of $120,000 has been received on issuance, which is earlier than the initial recognition. Slide 62

1. Recognition of an insurance contract As at 12/31/2014, the discount rate is still 2%. The estimated cash flow for future coverage do not change. The entity measure this insurance contract at subsequent recognition as follows: (in $) 2014/12/31 Note Future cash outflows 242,308 (1)sum of cash outflows Future cash inflows (240,000) (2)sum of cash inflows Future Cash flows 2,308 (3)=(1)-(2) Time Value (4,247) (4)=PV of (1)- PV of (2) -(3) Risk adjustment 14,502 (5)PV of cost of capital Fulfilment Cash Flows 12,563 (6)=(3)+(4)+(5) Contract Service Margin 23,775 (7) Insurance contract liability at initial recognition 36,338 (8)=(6)+(7) (7)=the carrying amount at the start of the reporting period+ the interest accreted-the amount recognised in accordance with the service provided in the period+ a favourable difference between the current and previous estimates of the present value of future cash flows At this case, only the interest accreted and recognised in profit or loss with service provided impact the closing balance of contract service margin. 2014Q2 2014Q3 2014Q4 Opening balance 24,500 24,513 24,308 The interest accreted 13 123 122 The amount recognised with the service provided 0 (327) (655) Decrease in the estimate of future cash outflows added to margin 0 0 0 Closing balance 24,513 24,308 23,775 Slide 63

1. Recognition of an insurance contract As at 6/30/2015, the discount rate is still 2%. The estimated cash flows for future coverage have changed. The entity measure this insurance contract at subsequent recognition as follows: (in $) 2015/6/30 Note Future cash outflows 188,308 (1)sum of cash outflows Future cash inflows (120,000) (2)sum of cash inflows Future Cashf lows 68,308 (3)=(1)-(2) Time Value (2,935) (4)=PV of (1)- PV of (2) -(3) Risk adjustment 10,221 (5)PV of cost of capital Fulfilment Cash Flows 75,594 (6)=(3)+(4)+(5) Contract Service Margin 52,108 (7) Insurance contract liability at initial recognition 127,701 (8)=(6)+(7) Discounted to 2015 2016 2017 Evaluation Date Discount Rate Cash Flow 2015/6/30 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 31/12/2014 2.0% Cash outflows_claims 214,196 16,154 19,385 22,615 25,846 29,077 32,308 35,538 38,769 Cash inflows_premium 118,224 120,000 Future Cash Flow 95,972 30/06/2015 2.0% Cash outflows_claims 183,597 13,846 16,615 19,385 22,154 24,923 27,692 30,462 33,231 Cash inflows_premium 118,224 120,000 Future Cash Flow 65,373 favourable difference between the current and previous estimates of the present value of future cash flows 30,599 2015Q1 2015Q2 Opening balance 23,775 22,909 The interest accreted 116 113 The amount recognised with the service provided (982) (1,514) Decrease in the estimate of future cash outflows added to margin 0 30,599 Closing balance 22,909 52,108 Slide 64