PD-16
Developments on International Accounting Standards
from a P&C and Life Perspective
Canadian Institute of Actuaries Annual Meeting
June 28, 2007
Neil Parkinson
National Director, Insurance Industry Practice
Agenda
1. What is IFRS? How and when do we get there?
2. Current Insurance IFRS Standards
3. IFRS for Insurance Contracts (May 2007 Discussion
Paper)
4. Getting Ready for Adoption
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What is IFRS?
Single set of globally accepted high-quality
accounting standards
Currently in use by over 90 countries around
the world
Issued by the International Accounting
Standards Board
Based in London, UK
14 members – one Canadian representative –
Patricia O’Malley
IFRS are principles-based standards
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IFRS – Moving Towards a Global Standard
Fixed deadlines for IFRS implementation
US-GAAP - Convergence intended
Convergence plans
No intent to converge with IFRS
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Why International Financial
Reporting Standards?
IFRS is becoming the basis of GAAP in most major
jurisdictions outside Canada and the U.S.
IFRS are principles-based standards, as opposed to
rules-based standards (eg. US GAAP)
In 2005, the Canadian Accounting Standards Board
announced a directional change, from converging with
US GAAP, to converging with IFRS
IFRS concepts are beginning to permeate Canadian
GAAP as new standards are issued
Many Canadian companies, including insurers, already
report upstream on this basis
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International convergence – direction of
Canadian GAAP
2005
IFRS
2006
2011
How big
a “bang”?
Cdn. GAAP
U.S. GAAP
Direction – US GAAP
to converge with IFRS
– but how and how
fast?
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International convergence – US FASB
Memorandum of Understanding
FASB and IASB pledged to use
their best efforts to:
make existing financial reporting
standards fully compatible as soon
as is practicable; and
coordinate future work programs to
ensure that compatibility is
maintained.
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International Convergence Project – US SEC
Statement by SEC Staff: A Securities Regulator Looks
at Convergence
Single set of globally accepted accounting
standards
Propose to eliminate the requirement to reconcile to
US GAAP
May accelerate adoption of IFRS for US domestic
SEC registrants if SEC eliminates the IFRS-US
reconciliation requirement
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The Canadian AcSB’s Implementation Plan
Qualitative
disclosures of
differences (‘08
annual report)
Spring
2006
2008
Quantify effects
of changeover to
IFRS (‘09 annual
report)
AcSB’s
2009
progress review
Prepare
comparative
figures under
IFRS
2010
2011
IFRS go-live
Calendar year periods
THE UNKNOWNS….
• Confirmed transition date
• Outcome of the SEC’s review of the application of IFRS
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The New Financial Reporting Landscape in
Canada
Public Company
GAAP = IFRS
Private Company
GAAP = TBD
U.S. GAAP
Not-for-profit
GAAP
The shift to IFRS will affect all publicly accountable enterprises in Canada
(This means you!)
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Current Insurance IFRS
Standards
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Insurance accounting under current IFRS
• IFRS – account for insurance contracts, whatever the
type of enterprise that issues them
(Current Canadian GAAP – defines accounting frameworks for
insurance enterprises, separately for life and P&C)
IFRS 4 (in force)
Defines insurance contracts
IFRS 7 (in force)
Disclosures required for insurance contracts
and related risks
Insurance project
Phase II (future)
Agreement on how to measure insurance
contracts was not reached in time for the
comprehensive introduction of IFRS in 2005.
Existing “national GAAP” approaches continue
until Phase II standards on measurement are
agreed (Discussion Paper issued May 4, 2007)
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Current insurance IFRS – IFRS 4
IFRS 4 defines insurance contracts:
“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 affect the policyholder”
Difference from current Canadian GAAP
Life insurer savings products (e.g. deferred annuities,
term certain annuities) would normally be considered
deposit contracts rather than insurance
Implementation in Europe – lots of effort in distinguishing
between insurance contracts and deposit contracts
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Current insurance IFRS – IFRS 4, cont’d
IFRS 4:
Defines reinsurance contracts too, but does not require
quantitative testing of risk transfer as in US FAS 113
(as a result, IFRS allows a wider range of reinsurance
contracts to be given reinsurance accounting than is
the case under US GAAP, or OSFI Guideline D-9)
Deposit components may need to be unbundled from
an insurance contract
Did not address how to measure insurance contract
liabilities, but requires a “liability adequacy test”
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Current insurance IFRS – IFRS 4 and 7
Requires a wide range of disclosures on insurance
contracts:
Risk selection and risk concentrations
Sensitivity analysis
Requirements similar in principle to Canadian GAAP,
but appear to require more detailed disclosures
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IFRS for Insurance Contracts
(May 2007 Discussion Paper)
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Insurance Contracts Project
Phase II Timetable
Phase II restarted
Mid 2004
First meeting of IWG
Sep 2004
IASB Board meetings –
Feb 2006 -
Discussion Paper
May 2007
Exposure Draft
+ 18 months
Final Standard
+ 12 months
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Features of IASB’s proposed measurement
model
Single measurement model:
Life insurance and non-life insurance
Prospective valuation:
Value of insurance contract = PV (all future cash flows)
Current exit value:
The amount the insurer would expect to pay to another entity if
it transferred all its remaining contractual rights and
obligations immediately
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Preliminary views of the IASB discussion
paper
Issue
IASB preliminary view
Measurement attribute
Current exit value - single approach for all insurance types
Discount rate
Observable market rates for similar cash flows
Unit of account
Risk margins determined on portfolio basis
Initial measurement
Day one profits may be recognised
Subsequent measurement
All changes in estimates recognised immediately
Policyholder behaviour
Recognise future premiums only if certain tests are met
Acquisition costs
Acquisition costs are expensed as incurred
Unbundling
Unbundle deposit and service components unless interdependent
Participating contracts
Par component is a liability if a legal or constructive obligation exists
Own credit risk
Included in the liability measurement
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Features of IASB’s proposed measurement
model
An insurer should use the following inputs to measure
its insurance liabilities
Current unbiased probability-weighted estimates of
future cash flows (ie an expected value approach)
Current market discount rates that adjust the estimated
future cash flows for the time value of money
An explicit unbiased estimate of the margin that market
participants require for
Bearing risk (a risk margin); and
Providing other services (a service margin)
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Calibration of risk margins – IASB model
A small majority of IASB members believe that a net gain
may be recognised on inception if there is a difference
between the price charged to policyholders and the price
that would be paid to another insurer to accept the risk
A small minority of IASB members believe that the margin
should be “calibrated” to the observed price for the
transaction with a policyholder, with no net gain on
inception.
The IASB do not intend to attempt to define how margins
should be determined but will suggest criteria an insurer
should consider in selecting an approach to risk margins
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Future premiums and policyholder behaviour
Cash flows used in measuring insurance liabilities
should include future premiums (and the additional
benefits that result from those premiums) only if one
of the following conditions are satisfied:
The present value of future premiums is less than the
present value of the resulting additional benefit payments
The insurer has an unconditional contractual right to enforce
payment of premiums
The policyholder must pay the premiums to retain a right to
guaranteed insurability (a right that permits continued
coverage without reconfirmation of the policyholders’ risk
profile at a price that is contractually constrained)
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Acquisition costs
Acquisition costs should be expensed when incurred
To the extent that the premium paid includes an amount for
the reimbursement of acquisition costs incurred, that
amount should be recognised as premium on the inception
of a contract
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Discretionary policyholder participation rights
Liability or equity?
Policyholder participation rights create a liability only
when the insurer has a legal or constructive obligation
to pay dividends to policyholders
In assessing whether an insurer has a constructive
obligation the Board will rely on definitions in its current
literature
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Comparison of IFRS proposals to Canadian
GAAP
IFRS Phase II
Canadian GAAP
Liabilities discounted
using market rates
Most Canadian insurers apply time
value of money, but using their own
expected portfolio returns
Use of market discount rates could lead
to greater accounting mis-matches in
reported income, particularly for lifecos
Liability valuation to
include explicit risk
and service margins
Not done now, at least not directly
Possible some may default to
“calibration”, to avoid day one profits
Changes in estimates
reflected in liability
valuation immediately
Consistent with Cdn GAAP (a possible
change for lifecos reporting upstream in
US GAAP, with its “locked in”
assumptions)
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Comparison of IFRS proposals to Canadian
GAAP, cont’d
IFRS Phase II
Canadian GAAP
Unearned premiums
(UPR) to be replaced
with the “current exit
value” measure
Not a conceptual change for lifecos
Implementing this aligns the P&C model
more with the life approach; UPR replaced
with a liability for estimated cash future
flows
Acquisition costs
expensed as incurred
(no deferral, or
“DAC”)
Not a conceptual change for lifecos
Canadian P&C insurers defer and
amortize over policy term; the “current
exit value” liability should resemble (but
not necessarily equal) the net amount of
UPR less DAC
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Comparison of IFRS proposals to Canadian
GAAP, cont’d
IFRS Phase II
Canadian GAAP
Reinsurance to be
portrayed on a gross
basis
Not a change for P&C insurers
A change for life insurers however
Classification of
insurance vs. deposit
contracts
Not a P&C issue, but life insurer
revenues would exclude a lot of annuity
deposits currently shown as premiums
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IFRS Phase II – many questions remain…
The Phase II Discussion Paper expresses the
preliminary conclusions of the IASB, but poses
numerous detailed questions, on both a conceptual
level and “how to”
Other open questions on scope, eg.:
Will credit insurance be treated as insurance, or as a
financial guarantee?
Workers compensation schemes covered?
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Getting ready for adoption
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Lessons Learned in Europe
European companies found that transition meant:
Training finance and accounting staff worldwide
Upgrading their IT systems and adjustments to
management reporting systems
Development of policy and procedures manuals
Renegotiating contracts (bank and compensation
agreements)
Managing market expectations
Overall, European companies generally:
Waited too long to get started
Suffered from poor project management
The result → Relied heavily on external expertise to
get the job done
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How will it be different in Canada?
A Phased Transition to IFRS
Earlier Communications to the Marketplace
Certifications of Internal Controls PRIOR to Adoption of
IFRS
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THE TIME TO GET STARTED IS NOW!
Anticipating
change and
Assess phase
Fall
2006
Design phase
2008
Pilot phase
(comparatives
under IFRS)
Implementation
phase
AcSB’s
2009
progress review
2010
2011
IFRS go-live
Calendar year periods
SEC registrants may choose to
adopt IFRS in advance of 2011
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Anticipate the Change
Anticipating
change and
assess phase
Fall
2006
2008
2009
2010
2011
• GAP analysis
• Systems and training needs assessments
• Assess other impacts of transition
• Impact of transition to internal control certifications
• Plan conversion path
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Design the Plan
Design phase
Fall
2006
2008
2009
2010
2011
• Mobilize project team and the business
• Develop training plan
• Develop communications plan
• Identify, quantify and secure required resources
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Implement the Plan
Implementation
phase
Fall
2006
2008
2009
2010
2011
• Execute training plans and system changes
• Convert budgeted results
• Renegotiate agreements and modify internal structure
• Quantify reporting differences
• Build or update tools (manuals, policies, reporting packages, F/S)
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Test the Conversion
Pilot phase
(comparatives
under IFRS)
Fall
2006
2008
2009
2010
2011
• Test the conversion and dry run
• Generate required comparative figures
• Prioritize issues from conversion and rectify
• Manage business on an IFRS basis
• Draft required reconciliations to Canadian GAAP financial statements
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Wrap Up
Single biggest change ever to financial reporting
Don’t underestimate the scale of the undertaking
Affects educators, preparers, auditors and investment
community
Represents another huge and positive step forward in
global financial reporting
Possibility of more consistent regulatory approaches
across jurisdictions
Greater transparency, more comparability and potential
for better investment decisions
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“While it is now well known that the AcSB has opted to
adopt IFRS, the AcSB is recommending that, in the
short-term, boards of directors of public companies
ensure that a member of management, or advisor, is
responsible for reporting on a regular basis on the
implications of IFRS conversion for their particular
enterprise.”
(Julie Dickson, Deputy Superintendent, OSFI, CIAA
Conference, September 25, 2006)
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Neil Parkinson
KPMG LLP
(416) 777-3906
nparkinson@kpmg.ca
www.kpmg.ca
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continue to be accurate in the future. No one should act on such information without appropriate professional advice after a thorough examination of the particular
situation.
© 2007 KPMG LLP, a Canadian limited liability partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG
International, a Swiss cooperative. All rights reserved. All rights reserved. Printed in Canada on recycled paper.
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