Liability for Remaining Coverage

Study guide: Exam 6C

The Liability for Remaining Coverage (LRC) is the IFRS 17 liability for service the insurer has not yet provided — the obligation to cover claims that have not yet occurred under contracts already in force. It is the successor to the unearned premium reserve, and under the PAA it is measured much the same way.

\text{LRC}_{\text{PAA}} = \text{Premiums received} - \text{Acquisition cash flows amortised} - \text{Revenue recognised}

• Under the PAA, the LRC starts at premiums received (or receivable) less acquisition cash flows, and is drawn down as revenue is recognised over the coverage period — normally on a time-proportional basis, matching the old unearned premium mechanics closely.
• Under the GMM, the LRC is the present value of future fulfilment cash flows plus the risk adjustment plus the unearned profit held as a Contractual Service Margin — a fundamentally different construction that P&C insurers meet mainly on multi-year contracts.
• Onerous groups add a Loss Component. If expected fulfilment cash flows for remaining coverage exceed the LRC carried, the shortfall is recognised immediately as a loss and tracked as a separate component of the LRC. This is the IFRS 17 successor to the premium deficiency reserve, and unlike the old test it is applied at the group level rather than across the whole book, so profitable business cannot offset unprofitable business.
• Discounting the LRC is optional under the PAA where the coverage period is one year or less, or where there is no significant financing component — which is why most Canadian personal lines LRCs are undiscounted.
• The LRC does not contain claims already incurred. The moment a claim occurs, its cost moves to the Liability for Incurred Claims. This transfer is the engine of the income statement: revenue is released from the LRC and expense is recognised in the LIC.

Rolling Forward the LRC A group of annual policies is written on July 1 with premiums of \$24 million and directly attributable acquisition cash flows of \$4.8 million. Revenue is recognised on a time basis. At December 31, expected fulfilment cash flows for the remaining six months of coverage are \$11.5 million including risk adjustment.

Determine the LRC at December 31.

Answer Six of twelve months of coverage have been provided, so half the premium and half the acquisition cash flows have been recognised.

\begin{align*}
\text{LRC} &= \bigl(\$24\text{M} - \$12\text{M}\bigr) - \bigl(\$4.8\text{M} - \$2.4\text{M}\bigr) \\
&= \$12\text{M} - \$2.4\text{M} \\
&= \$9.6\text{M}
\end{align*}

Now the onerous test. Expected fulfilment cash flows for the remaining coverage are \$11.5 million against an LRC of \$9.6 million:

\begin{align*}
\text{Loss component} &= \$11.5\text{M} - \$9.6\text{M} \\
&= \$1.9\text{M}
\end{align*}

The group is onerous. The \$1.9 million is recognised in profit or loss immediately, and the LRC is carried at \$9.6 + \$1.9 = \$11.5 million, of which \$1.9 million is tracked as the Loss Component.

Two consequences worth stating. First, the loss is taken now, in full, rather than emerging over the remaining six months — IFRS 17 does not permit deferring a known loss. Second, because the test is applied to this group, a profitable group written the same month cannot absorb it; the old whole-portfolio premium deficiency test would have hidden this entirely.