The FASB has completed deliberations of its insurance contracts project, which it has been jointly deliberating with the IASB for several years. The IASB concluded its deliberations in February. Both boards expect to issue exposure drafts by the end of the second quarter with 120-day comment periods. The proposals would fundamentally change the accounting by insurers and other entities such as banks that issue contracts with insurance risk.
The FASB and IASB have been working together for several years toward the goal of developing a comprehensive standard on accounting for insurance contracts that would address recognition, measurement, presentation, and disclosure.
"Insurance contracts" are broadly defined, and the guidance would apply to contracts as opposed to a particular class of entities, unlike current U.S. GAAP. Thus, the guidance could have implications for entities that are not insurers, including, for example, banks that write financial guarantee products or reverse mortgages.
A “current value” discounted cash flow measurement would be required for the insurance contract liability, with assumptions updated each period and discounting based on a liability rate rather than an investment or pricing rate. Any excess of expected premiums over expected claims and expenses would be deferred as "margin" and amortized into income over future periods based on the release from risk. Expected losses would be recognized immediately.
A modified approach would apply for short-duration contracts (e.g., property/casualty contracts) meeting specified criteria, similar to today’s unearned premium approach. However, unlike current U.S. GAAP, the proposed guidance would require discounting of incurred losses with limited exceptions.
Revenue recognition and presentation would also change. For example, premiums from life insurance would no longer be recognized as revenue when due. Under the FASB’s proposal, insurance revenue would be allocated to individual periods based on the expected pattern of incurred claims and release from risk. In addition, deposit elements such as cash surrender values in life insurance products and experience adjustments in property/casualty contracts would be excluded from premium and claim information presented in the income statement.
Under the proposed guidance, there would be changes to the earnings pattern of underwriting and net investment margins and changes in the pattern and amount of revenue. In addition, there would likely be increased income statement volatility due to the requirement to update assumptions each period. Income statement volatility would be somewhat mitigated by the requirement that the impact of changes in discount rate assumptions be recorded in other comprehensive income.
Given the potential implications of the changes being considered, entities should be engaged in assessing the impact to their products, systems, and investor reporting in order to respond to the proposals.
Based on the number and nature of differences between the views expressed by the FASB and IASB during their deliberations, the boards will likely not achieve a converged standard.
The standards would affect all entities that issue “insurance contracts” as broadly defined. While there are a number of exceptions, the guidance would apply to contracts as opposed to a particular class of entities, and could have implications for non-insurers, including, for example, banks that write financial guarantee products.
The boards have not proposed an effective date; however, we anticipate that the final guidance would have an effective date no earlier than 2018. Adoption would be through retrospective restatement of all prior periods.
Both boards expect to issue exposure drafts by the end of the second quarter with 120-day comment periods. The boards plan to redeliberate the proposals in 2014 with a goal of issuing final guidance in late 2014 or early 2015.
The likely ultimate outcome of the IASB project is an IFRS standard addressing all aspects of insurance contract accounting, given that IFRS currently has no comprehensive insurance standard. While the FASB exposure draft will also propose an entirely new model, the FASB could ultimately decide that only certain changes to existing U.S. GAAP insurance guidance are warranted. In addition, two FASB board members are expected to provide two separate alternative views to the proposal.
We expect to issue a Dataline summarizing the FASB proposal in the upcoming weeks. We will also provide an overview of the proposals in a webcast on June 12.
PwC clients who have questions about this In brief should contact their engagement partner. Engagement teams that have questions should contact the Financial Instruments team in the National Professional Services Group (1-973-236-7803).