Actuarial Notes

IFRS 17 – Actuarial Considerations Related to Liability for Remaining Coverage in P&C Insurance Contracts

By Canadian Institute of Actuaries · 2022 · 222092

Study guide: Exam 6C

A CIA educational note giving practical guidance on the IFRS 17 liability for remaining coverage of P&C contracts, including onerous groups. It was prepared by the Committee on Property and Casualty Insurance Financial Reporting and published in June 2022 (document 222092); it covers the LRC under the general measurement and premium allocation approaches, reinsurance contracts issued and held, and the expected loss ratio for the MCT, and it neither prescribes a measurement method nor addresses the Appointed Actuary's opinion.

On the syllabus

  • Exam 6C — objectives C1, C2; the whole note, and candidates are responsible for the Excel illustrations attached to it.

1 Introduction

  • Insurance contract liabilities consist of the LIC and the LRC; for an onerous group the LRC splits into the LRC excluding the loss component (LRC ex. LC) and the loss component.
  • Of the three measurement approaches, the variable fee approach is not expected to be used by most P&C entities and is not discussed.

2 Definitions

  • Terms defined include the contractual service margin, contract boundary, coverage period, coverage units, date of initial recognition, fulfilment cash flows, group, investment component, issue date, loss component, loss-recovery component, onerous contract and the premium allocation approach.

3 Level of aggregation and financial statement presentation

  • The LRC is recognized and measured at the group level, but presentation in the statement of financial position is by portfolio, combining its LIC and LRC (level of aggregation).

4 LRC under the GMA – Insurance contracts issued

  • 4.1 Definition
  • 4.2 Allocations
  • 4.3 Estimates of future cash flows
    • For most P&C contracts the contract boundary runs from initial recognition to expiry; future claims and claim adjustment expenses are typically estimated by applying a selected expected loss ratio to the unexpired portion of total premium receipts.
  • 4.4 Effect of discounting
    • The LRC payment pattern for claims is generally consistent with the LIC's, adjusted to the average accident date of the group; cash flows are discounted with a yield curve consistent with their timing, currency and liquidity.
  • 4.5 Risk adjustment
  • 4.6 Contractual service margin
    • At initial recognition the CSM is set so that no profit is recognized, with a floor of zero; it is rolled forward under IFRS 17.44 and released in proportion to coverage units.
  • 4.7 Coverage units
    • The quantity of benefits relates to the amount the policyholder can claim, not the entity's expected costs; a contract with the same policy limit throughout its coverage period gives a uniform amortization pattern.
  • 4.8 Loss component
    • A group onerous at initial recognition has its CSM floored at zero, a loss recognized and an LC established in the LRC; favourable changes reduce the LC to zero before a CSM may be re-established.

5 LRC under PAA – Insurance contracts issued

  • The key simplification: a group that is not onerous needs no fulfilment cash flows and no CSM; for an onerous group the LC is measured on fulfilment cash flows.
  • 5.1 Initial recognition
    • The LRC ex. LC at initial recognition is premiums received less acquisition cash flows paid, unless they are recognized as expenses when incurred.
  • 5.2 Subsequent measurement
    • Premiums received less insurance revenue to date, equivalent to the unearned premium net of premiums receivable, less acquisition costs yet to be expensed, plus adjustments for financing and investment components.
  • 5.3 Onerous groups of contracts
    • Under the PAA a group is assumed not onerous unless facts and circumstances indicate otherwise; an LC then exists if the fulfilment cash flows for the remaining coverage exceed the PAA LRC ex. LC.
    • The LC may be remeasured by a full recalculation of fulfilment cash flows at each reporting date or, where assumptions do not vary significantly, by a simplified release on a pre-defined pattern.
  • 5.4 Premium
    • Revenue is recognized with the passage of time unless the pattern of release of risk differs significantly from it, in which case on the pattern of expected insurance service expenses.
  • 5.5 Acquisition costs
    • The IFRS 17.59(a) election to expense acquisition costs, available when each contract's coverage period is no more than one year, reduces the likelihood of onerous classification but front-ends the recognition of expenses.
  • 5.6 Financing and investment components
    • No adjustment for the time value of money is required unless there is a significant financing component, which is deemed absent when the time between service and the related premium due date is no more than one year.

6 Considerations for reinsurance contracts issued and held

  • 6.1 Grouping of reinsurance contracts held
  • 6.2 Recognition of reinsurance contracts held
    • A group of reinsurance contracts held is recognized at the earlier of the start of its coverage period and the date an onerous underlying group is recognized, if the reinsurance was entered into by then.
  • 6.3 Boundary of reinsurance contracts issued and held
  • 6.4 Risk of non-performance for reinsurance contracts held
    • A probability-weighted provision for the reinsurer's non-performance, including default and disputes, is included in the estimates of future cash flows; changes in it do not adjust the CSM.
  • 6.5 CSM and loss-recovery component
    • The CSM on reinsurance held can be positive or negative; the loss-recovery component is the underlying LC times the percentage of claims expected to be recovered, whether the reinsurance is a net gain or a net cost.
  • 6.6 Investment components

7 Illustrative example – Loss component calculation

  • Exhibits 1 and 2 of the accompanying Excel file estimate the LC of PAA groups by applying a selected ELR and a ULAE factor to the unearned premium, discounting, adding the risk adjustment, acquisition costs and attributable expenses, and comparing the result with the PAA LRC.
  • For one-year policies written uniformly through the year, the average accident date of the unexpired coverage at year-end is one-third of a year (May 1).

\text{AAD} = \frac{\int_0^1 x\,f(x)\,dx}{\int_0^1 f(x)\,dx} = \frac{1}{3}, \qquad f(x) = 1 - x

8 MCT considerations

  • 8.1 Introduction
    • For P&C entities using the PAA, the expected loss ratio feeds the MCT insurance risk margin for unexpired coverage; an entity using the GMA derives that margin directly from its LRC.
  • 8.2 Expected loss ratios for MCT
    • A best estimate of future losses and loss adjustment expenses on the revenue for the remaining coverage period, reflecting the time value of money but not the risk adjustment.
  • 8.3 Expected losses
  • 8.4 Loss adjustment expenses and other directly attributable costs

Appendix 1 Premium received

  • Premium received is total expected premium receipts less premium receivable; where it cannot be tracked at the required granularity without undue cost or effort, the actuary may allocate it, as IFRS 17.24 permits.

Related readings

  • CIA IFRS 17 - Comparison — cited (document 222094) among the educational notes the commentary references
  • CIA PAA — cited as the PAA Eligibility EN (document 222091), for PAA eligibility and, in §4.3.1, for its Section 3 on contract boundary topics
  • CIA IFRS 2 — §4.5 refers to the PCFRC Risk Adjustment EN for the risk adjustment, cited in its June 2022 version (document 222089), which the 2024 edition revises
  • CIA Discount Rates — cited as the PCFRC Discounting EN in its June 2022 version (document 222098), for LIC payment patterns and the yield curve (§4.4)
  • OSFI MCT — the capital guideline whose insurance risk margin for unexpired coverage §8's expected loss ratio is used in

Sources