Accounting for insurance contracts
The FASB’s recent focus on accounting for insurance contracts has been to explore potential targeted improvements to existing US GAAP for long-duration contracts. New enhanced disclosures are also required for short-duration insurance contracts.
The IASB issued its final comprehensive standard on insurance contracts in May 2017.
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Short-Duration Contracts
For short-duration contracts (principally property/casualty and health insurance contracts), the FASB issued a final standard in 2015 requiring enhanced disclosures which was effective for year-end 2016 for public business entities. All other entities have an additional year to comply with the amendments. Early adoption is permitted. See PwC’s In depth No. 2015-10 US, FASB issues enhanced disclosure guidance for insurer claim liabilities).
Disclosures include disaggregated incurred and paid claim development tables not to exceed 10 years; a rollforward of the liability for unpaid claims and claim adjustment expenses for annual and year-to-date interim reporting periods; qualitative information about liability estimates; and other quantitative and qualitative information to increase the transparency of significant estimates.
Long-Duration Contracts
For long-duration contracts (principally life and annuity contracts), the FASB’s revised objective is a dramatic change from its former comprehensive joint project with the IASB that ended in 2014. In response to requests from U.S. investors and preparers to focus on enhancements to existing GAAP, the FASB issued a Proposed Accounting Standards Update (ASU), Targeted Improvements to the Accounting for Long-Duration Contracts, in September 2016.
The draft ASU proposes significant changes to key elements of the measurement models and enhanced disclosures of long-duration contracts including:
- Updating of assumptions: To calculate the liability for future policy benefits for traditional life insurance, limited payment, and participating insurance contracts, an insurer would update cash flow assumptions on an annual basis (at the same time each year) or more frequently if actual experience or other evidence indicates that earlier assumptions should be revised. The effect of updating cash flow assumptions would be calculated and recognized on a retrospective basis in net income. There would no longer be a provision for adverse deviation, and the current premium deficiency test would be replaced by a 100% limit on the net premium ratio.
- Liability discount rate: The discount rate used to reflect the time value of money in the calculation of the liability for future policy benefits would be based on the high-quality fixed-income instrument yield that maximizes the use of current market observable inputs. This yield is meant to be a proxy for a liability yield. The discount rate would be updated at each reporting date and the effect of discount rate changes on the liability would be recorded immediately in other comprehensive income.
Market risk benefits at fair value: Fair value accounting would be required for guarantees with other-than-nominal capital market risk that are associated with separate account products, including guaranteed minimum death benefits. The portion of the fair value change attributable to a change in the instrument-specific credit risk would be recognized in other comprehensive income.
Changes to the universal life-type insurance model: With the elimination of the premium deficiency test for all long-duration contracts, entities would be required to perform a “profits followed by losses test” periodically rather than only at inception, and a 100% benefit ratio limit would be imposed on nontraditional “SOP 03-1” additional liabilities.
Simplified amortization of deferred acquisition costs (DAC): DAC for all long-duration insurance contracts and certain investment contracts would be amortized in proportion to the amount of insurance in force or on a straight-line basis in certain instances. No interest would accrue to the undiscounted balance of DAC, and DAC would not be subject to an impairment test, by analogy to the accounting for debt issuance costs.
- Enhanced disclosures: disaggregated rollforwards of liability balances, market risk benefits, policyholder account balances, sales inducements, and DAC, and qualitative as well as quantitative information about objectives, policies, and processes for managing risks.
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Greg Galeaz
James Yoder
Matt Adams
David Schenck
Richard de Haan
Mary Saslow
