The new insurance standard has been issued following extensive consultation with key stakeholders and is designed to improve transparency over insurance contracts for investors and other users of financial statements. It comes into effect at the same time as the new IFRS 17 Insurance Contracts for 

Extensive feedback highlighted problems with use of out-of-date assumptions or ‘locked-in’ assumptions to calculate the liability for traditional insurance contracts and the use of an insurance company’s expected yield on its investment portfolio to discount the liability.

There were also concerns about the complexity and inconsistency of the existing accounting models for certain benefits that provide contract holders with protection from adverse capital market risk and exposes the insurance company to capital market risk.

The new guidance affects all insurance companies that issue long-duration contracts as defined in Topic 944, Financial Services - Insurance. It does not apply to holders (or policyholders) of long-duration contracts or non-insurance entities.

While FASB did not provide an indication of the implementation costs, there will be significant cost implications for businesses planning to implement the standard, with the need to invest in and upgrade IT systems and processes, plus reviews of existing legacy systems to ensure compatibility.

Companies with long-duration contracts will incur additional costs as a result of applying the new accounting guidance. There will also be initial retraining costs for employees about how to apply the new requirements, as well as how to explain the effects of the changes on the insurance company’s financial statements to investors.

To improve this area of financial reporting, the new ASU:

• Requires updated assumptions for liability measurement. Assumptions used to measure the liability for traditional insurance contracts, which are typically determined at contract inception, will now be reviewed - and, if there is a change, updated - at least annually, with the effect recorded in net income.
• Standardises the liability discount rate. The liability discount rate will be a standardised, market-observable discount rate (upper-medium grade fixed-income instrument yield), with the effect of rate changes recorded in other comprehensive income.
• Provides greater consistency in measurement of market risk benefits. The two previous measurement models have been reduced to one measurement model (fair value), resulting in greater uniformity across similar market-based benefits and better alignment with the fair value measurement of derivatives used to hedge capital market risk.
• Simplifies amortisation of deferred acquisition costs. Previous earnings-based amortization methods have been replaced with a more level amortisation basis.
• Requires enhanced disclosures. They include roll-forwards and information about significant assumptions and the effects of changes in those assumptions.

For calendar-year public companies, the changes will be effective in 2021. For all other calendar-year companies, the changes will be effective in 2022. Early adoption is permitted.

‘The new ASU provides investors and other financial statement users with better and more timely and transparent information about long-term contracts issued by insurance companies,’ said FASB chairman Russell G Golden. ‘Featuring targeted improvements to the current reporting model for these contracts, it reflects the input we received from diverse insurance industry stakeholders over more than 10 years of extensive outreach.’

Report by Sara White