Applying IFRS 9 for Insurers

The implementation of IFRS 9 might produce a significant impact for insurers reporting under IFRS. The recent amendments in IFRS 4 allowing insurers to use the ‘overlay’ or ‘deferral’ approache will provide more time for insurers to adopt the new rules.

Management will have to access the business impact, volatility and performance using a substantially modified approach for classification, recognition and measurement of financial assets and liabilities, including investment contracts under IFRS.

How does IFRS 9 affect IFRS preparers?

It is likely that insurers might have certain potential impacts from the adoption of IFRS 9:

• Classification and measurement of financial instruments: The new requirements of IFRS 9 might result in more financial instruments being classified in the fair value through profit or loss category, depending on the business model used by insurers to manage financial assets and the characteristics of risks that bring volatility to cash flows of financial instruments. Insurers will have to perform a detailed evaluation to identify instruments that would not meet the SPPI (Sole Payment of Principal and Interest) test for instruments that are currently measured at amortised cost and instruments that are currently classified as available-for-sale that would fall into the fair value through profit or loss (FVTPL) category under of IFRS 9. This might bring more volatility and accounting mismatch when the requirements of IFRS 9 are applied together with the new IFRS 4 Phase II standard that uses a current value measurement that would lead to potential accounting mismatches because of the different criteria used to measure assets and liabilities in Phase II and IFRS 9. Insurers should also consider the evaluation of planned changes to IFRS 4, IAS 39 and IFRS 9 regarding the application of “Overlay” or “Deferral” approach and exemptions available for implementation by insurance companies, recently ratified by the IASB. IFRS 9 retains the scope exclusion for investment contracts with DPF (discretionary participation features), financial guarantees previously regarded as insurance contracts and insurance contracts which were previously in the scope of IFRS 4.
• New ‘expected credit loss’ model: IFRS 9 brings a new impairment model for insurers commonly known as an “expected credit loss model”, which is substantially different from the previous “incurred loss model” in IAS 39. The guidance in IFRS 9 might result in earlier recognition of credit losses, compared to the current guidance in IAS 39. Reinsurance assets are not in the scope of IFRS 9 and are covered by the new Phase II standard. In general terms, the introduction of new impairment rules for reinsurance assets in Phase II will follow similar approach introduced by IFRS 9 used for financial assets. Therefore, changes in expected present value of cash flows resulting from changes in expected credit losses of the reinsurers are charged immediately to profit or loss. Insurers will have to introduce new controls and valuation models to move from the previous incurred loss model to the expected credit loss model for this category of assets. Provisions for loan losses will be recognised on initial recognition of loan assets and other receivables leading to a “day-one” provision under the new expected loss model.
• Reclassifications: New guidance in IFRS 9 states that when, and only when, an entity changes its business model for managing financial assets it shall reclassify all affected financial assets into new categories. However, an entity shall not reclassify any financial liabilities.
• Hedge accounting: Although hedging categories remain unchanged (i.e. fair value hedge, cash flow hedge and hedge in a foreign operation net investment), IFRS 9 introduces an approach which will align hedge accounting more closely with risk management functions. However, IFRS 9 introduces new requirements to achieve, continue and discontinuing hedge relationships based on qualitative forward-looking hedge effectiveness, eliminating certain quantitative bright lines in previous guidance. Insurers can look into new alternatives to hedge accounting introduced in IFRS 9, such as certain credit risk exposures. However, to take advantage and benefit from the new hedge requirements in IFRS 9 (i.e. designation of net positions and aggregate exposures in a hedging relationship), insurers will have to make sure that risk management functions and hedge accounting have robust documentation and strong relationship. Extensive new disclosures were introduced for hedge accounting.

The challenges for the Swiss market

Swiss insurers will have to manage potential balance sheet and income statement volatility

The challenges for the Swiss Marketplace include:

• Application of new accounting policies for financial instruments, including investment contracts.
• Evaluation of planned changes to IFRS 4 and IFRS 9 regarding the application of “Overlay” or “Deferral” approach and exemptions available for implementation by insurance companies.
• Evaluation of risk characteristics (and volatility) of cash flows of financial instruments and business model used by the entity for classification and measurement based on new categories of IFRS 9.
• Analysis of volatility in income statement and balance sheet that could potentially arise from the introduction of IFRS 9 and IFRS 17 for insurance contracts.
• Introduction of fair value measurement for financial instruments as a result of the new classification and measurement guidelines for financial instruments that fall into the fair value through profit or loss category under IFRS 9.
• Introduction of new “expected loss model” rather than “incurred losses” for financial assets and reinsurance contracts requiring implementation of new valuation models for impairment under IFRS.
• Introduction of reconciliations between IFRS, regulatory reporting and managerial reports
• Modifications in internal controls over financial reporting as a result of the implementation of the new standard.
• Evaluation of IT infrastructure and systems changes.
• Evaluation of data management and reporting capability under the new standard for transition.
• Consolidation impact and changes in financial reporting for all subsidiaries of the group.

How Deloitte can help?

Deloitte has been engaged by large insurance companies and banks delivering solutions globally to address the implementation of IFRS 9 and 4 Phase II internationally, further increasing Deloitte’s footprint across Switzerland and other countries.

Insurers should understand the mechanics of both projects to fully assess the impact of the future accounting standards on current business practices.

How Deloitte can help:

• Advisory for evaluation of impact of new accounting policies.
• Advisory for evaluation of planned changes to IFRS 4 and IFRS 9 regarding the application of “Overlay” or “Deferral” approach and exemptions available for implementation by insurance companies until the transition date to IFRS 4 Phase II.
• Analysis of potential volatility in profit or loss and balance sheet as a result of implementation of IFRS 17 and IFRS 9.
• Advisory for complete implementation of IFRS 9 and IFRS 17 for insurers and project management throughout all lifecycle of your project.
• Advisory for development or improvement of group accounting manuals for implementation of IFRS 9.
• Advisory for identification and measurement of embedded derivatives under IFRS 9 and IFRS 4.
• Accounting advisory for application of IFRS for complex issues and structured transactions involving financial instruments and insurance contracts.
• Accounting advisory for the application of the fair value option under IFRS 9.
• Advisory for implementation of “expected credit loss model” for financial assets and reinsurance assets.
• Advisory for assessment, determination of accounting policies and implementation of valuation models for significant changes in credit risk and expected life of instruments in accordance with IFRS 9. 
• Customization of financial statements and key managerial reports under IFRS 9, IFRS 17 and IFRS 13 (fair value measurement). 
• Support and advisory for systems customization and definition of IT strategy for financial instruments.
• Advice on data management policy for actuarial and valuation modelling for financial assets, liabilities (including investment contracts) and reinsurance contracts.
• Design and implementation of controls over financial reporting and new processes as a result of the introduction of IFRS 9.
• Advice for preparation of reconciliations and gap analysis between IFRS/USGAAP/Swiss GAAP FER/Regulatory Reporting.
• Insurance and financial risk management solutions including hedge accounting. 
• Risk and finance transformation advisory services evaluating the risks and impacts of transformational initiatives and activities on IFRS accounting and reporting policies, practices and controls in place to remain compliant with IFRS and mitigate risks.
• Customized training for IFRS 17/IFRS 9 and other relevant standards and interpretations in IFRS tailored for your business and products.
• Develop a roadmap of action steps that aligns with the entity’s implementation timeframe formalizing communications necessary to adopt and sustain effective business and future accounting practices.