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Journal entry — Insurance project — FASB begins redeliberating liability measurement and transition for certain long-duration insurance contracts

Published on: Aug 04, 2017

At its August 2, 2017, meeting, the FASB tentatively reaffirmed many aspects of the proposed targeted improvements1 that will change how insurers should measure the liability for future policy benefits for nonparticipating traditional and limited-payment insurance contracts (i.e., insurance contacts that were subject to FASB Statement 602 before that guidance was codified in ASC 9443). The Board also tentatively agreed to modify certain provisions of the proposed improvements in response to constituent feedback.

Specifically, the Board reaffirmed the following aspects of the proposed amendments:

  • An insurer should review and update the cash flow assumptions4 it uses to measure the liability for future policy benefits for nonparticipating traditional and limited-payment insurance contracts annually, at the same time every year, or more frequently in interim periods if evidence suggests that revision to those assumptions is warranted. Thus, under the amendments, an insurer generally would not be required to update its net premium ratio in interim periods to reflect its actual experience to date; it would only need to update its net premium ratio annually unless evidence suggests that an interim update is needed.
  • When an insurer updates its cash flow assumptions, it should calculate and record the effects of any changes to those assumptions on a catch-up basis (i.e., it would (1) compute a revised net premium ratio as of contract inception, on the basis of its actual experience and the updated cash flow assumptions for the future; (2) apply that new net premium ratio to determine the amount of any required catch-up adjustment that it must record in current earnings; and (3) use the revised net premium ratio to accrue the insurance liability in subsequent periods).
  • When measuring the liability for future policy benefits for nonparticipating traditional and limited-payment insurance contacts, insurers should (1) eliminate the provision for risk of adverse deviation and premium deficiency tests and (2) cap the net premium ratio at 100 percent.
  • When an insurer determines the appropriate level of aggregation for measuring its liability for future policy benefits, it should not group contracts from different issue years, but it may group contracts issued within a single issue year.
  • An insurer should update the discount rate assumptions that it uses to measure the liability for future policy benefits at each reporting date and recognize any effects of the discount rate change immediately in other comprehensive income.

The FASB tentatively decided to change the following aspects of the accounting model from what was included in the proposed ASU:

  • When an insurer measures the liability for future policy benefits, it should discount future cash flows using a rate representative of a current “upper-medium grade fixed-income instrument yield” (which would be consistent with a single-A rating in today’s market environment). This differs from the “high-quality fixed-income instrument yield” that was stipulated in the proposed ASU.
  • An insurer would now be permitted, but not required, to update the expense assumptions it uses in its measurement of the liability for future policy benefits in a manner consistent with how it updates its other cash flow assumptions. In effect, an insurer could choose to lock-in the expense assumptions it used at inception and avoid having to subsequently update those assumptions to reflect actual experience, as it must do for its other cash flow assumptions.
  • Insurers will now be required to apply a prospective approach at transition;5 however, they will still have the option to apply the proposed amendments retrospectively (and to record a cumulative catch-up adjustment to opening retained earnings).

Next Steps

The FASB will redeliberate additional targeted improvement areas in future meetings, including:

  • Measurement of the liability for participating insurance contacts.
  • Market risk benefit measurement.
  • Deferred acquisition cost amortization.
  • Presentation and disclosures.
____________________

1 FASB Proposed Accounting Standards Update (ASU) No. 2016-330, Financial Services — Insurance (Topic 944): Targeted Improvements to the Accounting for Long-Duration Contracts. Comments on the proposed ASU were due by December 15, 2016.

2 FASB Statement No. 60, Accounting and Reporting by Insurance Enterprises.

3 FASB Accounting Standards Codification Topic 944, Financial Services — Insurance.

4 Such assumptions would include estimates of mortality, morbidity, and lapses.

5 As indicated in the FASB staff’s summary of tentative board decision for the meeting, under a prospective approach, an insurer ”would apply the proposed amendments to all contracts in force on the basis of their existing carrying amounts at the transition date, adjusted for the removal of any related amounts in accumulated other comprehensive income.”

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