Why are the new IFRS more than a reporting change?
Insurers need to be prepared for the impact across their organizations
Why are the new IFRS more than a reporting change for insurers? Why will they have a far reaching impact across insurance organizations?
- The new IFRS will be more far reaching than the 2005 IFRS and their impact will be felt across many parts of an insurance organization.
- When combined with Solvency II the reform will have a wider scope than accounting and regulation. This is a genuine non-discretionary business transformation and the way in which the requirements are implemented is key to manage the impact on the business
- The new IFRS Insurance include requirements on insurance liabilities (IFRS 4 Phase II), investments and hedging (IFRS 9), asset management revenues (new revenue standard), consolidation of funds (IFRS 10 and 12), treatment of joint ventures (IFRS 11) and leases (new leasing standard).
After IFRS 4 Phase II the adoption of IFRS 9 is the most pervasive reform of financial reporting rules.
- The new standard entirely replaces the current requirements through a three-phased approach:
- classification and measurement
- impairment of financial assets
- hedge accounting.
- To react to the late discovery of off-balance sheet structures during the 2008-09 crisis IFRS 10 and 12 refine the definition of control which will impact the extent insurers consolidate investment funds and special purpose vehicles. This change is the first of the new IFRS Insurance pronouncement to be implemented (from 1/1/13 or 1/1/14 depending on the insurer listing under US market rules or not) expected to lead to some material changes in their reported figures. For example, insurers will need to consolidate entities which were not previously considered part of the group.
The new IFRS rules on consolidation
IFRS 10 – Consolidated Financial Statements will have a material effect on life insurers because they often structure investment funds to collect and invest the proceeds from their policyholders. These funds are then used to back the obligations that insurers have committed to their customers.
- As it was true under the previous versions of IFRS the insurer would need to consolidate these funds if it controls them. IFRS 10 introduces new guidance on when an insurer controls a fund which would expand the number of funds that would be consolidated in the financial statements. The key impact is that the insurer would report more frequently its interests in these funds on a line by line basis rather than as a holding of shares in the fund.
- More assets and liabilities held in these funds will appear directly on an insurer's balance sheet and be accounted for based on the relevant IFRS rules that apply to such assets and liabilities. This means that the assets of the fund would be reported in different lines of an insurer’s balance sheet depending on their nature (cash, properties, debt securities, equity securities, etc.).
- A very popular feature that life insurers have embedded in many insurance contract is one that links policyholders’ benefits directly to the value of the assets in specific investment funds the insurer has set up. This feature can be found in “unit-linked” and “variable annuity” contracts which have been purchased by millions of policyholders around the world. With the new IFRS 10 rules insurers may have to abandon the practice of presenting these “linked” assets as a single line item and instead they would have to look through each fund and ensure all data is ready and audited for inclusion in the consolidated financials.
- The more material impact from greater consolidation would arise where the insurer’s solvency capital requirements and debt covenants are based on IFRS balance sheets. In addition to this every insurer would have to face the operational challenge of a much larger consolidation effort combined with the fact that the consolidation would be done for the first time and that it would have to be accommodated within a timetable that is likely to be tighter.