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Insurance contracts – Education session

Date recorded:

Unlocking the margin

The staff held an education session with both Boards to discuss the topic of whether the residual or composite margin should be locked-in at inception or unlocked over the life of the contract. The staff asked the Boards for direction but no official decisions were made during this meeting.

Both the IASB and FASB proposals on insurance contracts would require the margin to be locked-in at inception and allocated to future periods. While the ED did not ask a specific question on unlocking the margin, many comment letter respondents disagreed with the requirement that the residual or composite margin should be fixed at inception.

Those who support unlocking the margin believe that the initial lock provides counterintuitive results as changes in estimates are recognised in profit or loss, even though the measurement of the liability includes a profit margin. They feel that it is not representationally faithful to recognise expense in one period only to reverse it in a later period. However, those not in favour of unlocking the margin believe that unlocking would defer the recognition of changes in estimates of the value of the insurance contract liability to periods after the period in which they occur

The staffs are considering recommending requiring unlocking the residual or composite margin to reflect estimated future changes and assumptions about non-financial inputs and to adjust the residual or composite margin prospectively for favourable and unfavourable changes. Additionally, the staff is considering recommending that if the measurement of the liability includes a risk adjustment, the boards should prohibit the residual margin plus the risk adjustment from becoming negative, and if the measurement of the liability does not include a risk adjustment, the Boards should prohibit the composite margin from becoming negative.

A majority of the IASB members generally supported where the staff was going with considering unlocking the margin, however several members on both Boards had concerns that they were introducing significant complexity into the model. Additionally, the FASB Chair expressed reservation about deferring items outside of profit and loss. She also questioned where the staff intended to go with the future discussion to occur around other comprehensive income and said the Boards needed to see the entire recommendation on both items to consider properly. The IASB Chair agreed. The FASB did not hold a tentative vote to determine whether their Board supported the direction of the staff.

The IASB staff also provided the Boards with a summary from the insurance working group's last meeting. The group discussed three topics during the meeting including 1) the discount rate, 2) presentation and 3) the residual margin. The group may hold another meeting in May 2011.

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