The IFRS 17 contractual service margin: a life insurance perspective

Abstract

IFRS 17 Insurance Contracts is a new accounting standard currently expected to come into force on 1 January 2023. It supersedes IFRS 4 Insurance Contracts. IFRS 17 establishes key principles that entities must apply in all aspects of the accounting of insurance contracts. In doing so, the Standard aims to increase the usefulness, comparability, transparency and quality of financial statements. A fundamental concept introduced by IFRS 17 is the contractual service margin (CSM). This represents the unearned profit that an entity expects to earn as it provides services. However, as a principles-based standard, IFRS 17 results in entities having to apply significant judgement when determining the inputs, assumptions and techniques it uses to determine the CSM at each reporting period. In general, the Standard resolves broad categories of mismatches which arise under IFRS 4. Notable examples include mismatches between assets recorded at current market value and liabilities calculated using fixed discount rates as well as inconsistencies in the timing of profit recognition over the duration of an insurance contract. However, there are requirements of IFRS 17 that may create economic or accounting mismatches of its own. For example, new mismatches could arise between the measurement of underlying contracts and the corresponding reinsurance held. Additionally, mismatches can still arise between the measurement of liabilities and the assets that support the liabilities. This paper explores the technical, operational and commercial issues that arise across these and other areas focusing on the CSM. As a standard that is still very much in its infancy, and for which wider consensus on topics is yet to be achieved, this paper aims to provide readers with a deeper understanding of the issues and opportunities that accompany it.

Contextualizing the Universe of PSAK 74 [IFRS 17] in Indonesia and Insurance Industry Vigilance Through the Cosmology of “Yoga Kshema”

“…If the insurance business continues to accept the onerous contract, the initial contract loss must be recognized and recorded in the income statement (Widing & Jansson, 2018). If the contract is not onerous, the insurance company may consider whether it is part of a profitable "fat" contract (no substantial probability of being onerous) or a deal that is slightly more classified as onerous (Widing & Jansson, 2018;Yousuf et al, 2020). If the contract is lucrative, the insurance company will recognize the unearned CSM as insurance service performed and release it.…”

“…The PSAK 74 model for measuring the value of insurance schemes is a powerful actuarial tool and yet arduous (Dahiyat & Owais, 2021;Muskitta & Safitri, 2019;Yousuf et al, 2020). In general, there are three measurement models proposed by PSAK 74 to account for the insurance contract, namely the building-block model, variable-fee approach, and premium allocation GPPC, 2020;KPMG, 2020;PWC, 2020).…”

“…The climax is that the contractual service margin cannot be negative (KPMG, 2020). To steer clear of the negativity, future cash inflow must be larger than the contractual service margin (PWC, 2020;Yousuf et al, 2020). The showcase of the CSM tale comes to an end by viewing the final plot twist that the effort to maintain a positive CSM is incredibly effortful (Dahiyat & Owais, 2021;Longoni, 2019).…”

“…In normal circumstances, the CSM of a direct insurance contract is presumed to be recognized as insurance contract liability, along with the unearned proceed from a reinsurance contract, particularly for policies when the entire payment is made upfront (EY, 2021;Lapițkaia, 2018). Yet, the recurring premium contract may not always result in CSM liability, since the claim ratio, projected margin assumption, and insurance acquisition outlay all play a part in determining whether the contract can produce a positive CSM or vice versa (PWC, 2020;Yousuf et al, 2020). ETW, the influential member of DSAK, affirmed that the new standard establishment strengthens the role of CSM in the balance sheet because placing the CSM as a liability is an ultimate breakthrough in the insurance accounting universe.…”

Proposal for the Measurement of Reinsurance Contracts under IFRS 17

“…The CSM is (Domingues, 2019, p. 20) a component that reflects the unearned profit of a group of contracts. A very detailed description of the CSM is presented in the paper of Yousuf et al (2021), where they have concluded that the determination of coverage units or the calculation of the CSM at transition have a significant impact on the final amount of the CSM. England et al (2019, p. 75) mention the explanation of the risk margin in accordance with Solvency II in the context of risk adjustment according to IFRS 17.…”