An Introduction to IFRS 17

Tailored to UK public accounts perspective

Nick Clitheroe
10 October 2023
2 An introduction to IFRS 17
 Important points
We are not accountants – this presentation reflects our understanding of
actuarial aspects but it is important to consider expert accounting advice.

IFRS 17 is written focused on the perspective of insurance companies

accounts – it is possible that materiality matters could impact what needs
to be shown, thus there may be some differences in the public sector.

There are increased disclosures required about methods used and

reconciliations – again materiality will need to be considered.

3 An introduction to IFRS 17
What is IFRS 17?
The international financial reporting standard (IFRS) for INSURANCE
CONTRACTS
IFRS 17 is
applicable for
accounting periods
starting on or after
1st January 2023

(1st January 2025 is proposed

date for initial application in
central government)

4 An introduction to IFRS 17
 IFRS 4 v IFRS 17 – profit summary

Present value of Present value of

Claims Claims
Present value of Present value of
Premiums Premiums

Profit year 1
Profit upfront Profit year 2
Profit year 3

IFRS 4 methods IFRS 17 recognises

tend to recognise profit over the term
profit immediately of the contracts

BUT LOSSES RECOGNISED TO P&L IMMEDIATELY

5 An introduction to IFRS 17
The high level concepts
Designed to make insurance companies accounts consistent and comparable

Profits recognised as they are earned (not up front)

Losses recognised immediately they are expected

Finance and investment components split from insurance returns

‘This information gives a basis for users of financial statements to assess

the effect that insurance contracts have on the entity’s financial position,
financial performance and cash flows’
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Scope
Insurance contract definition:
A contract under which one party (the issuer) accepts significant insurance
risk from another party (the policyholder) by agreeing to compensate the
policyholder if a specified uncertain future event (the insured event)
adversely affects the policyholder.

• There is no need for a premium to be payable

• Contract can be verbal as well as written

• Includes reinsurance purchased (but this is accounted separately)

• Some waivers and choices between IFRSs in the detail

7 An introduction to IFRS 17
Scope – within government
• HM Treasury guidance now published Link to guidance which includes decision tree

• UK Export Finance and Flood Re write insurance and are in scope

• Only 3 other government entities have approached GAD to date

• Lots assume they are not in scope – will auditors agree?

• Materiality – only one scenario must be significant for it to be material

• Not in scope if not legally enforceable

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Aggregation – portfolios and groups
1) Portfolio of insurance contracts (reporting at portfolio level)
- managed together
- similar features
- e.g. ‘non-profit annuity’, ‘term assurance’, ‘motor’
- each portfolio contains ‘groups’

2) A group’s policies must be issued no more than one year apart

3) On initial recognition minimum 3 groups for each portfolio

- onerous (loss making)
- no prospect of ever being onerous
- the rest

Note: Some calculations may be done at a higher aggregation and then allocated using an appropriate method to these groups

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Aggregation – portfolios and groups
Year 1 Year 2 Year 3 Year 1 Year 2 Year 3
No significant No significant No significant No significant No significant No significant
(e.g. Motor)

(e.g. Whole
probability of probability of probability of probability of probability of probability of
Portfolio 1

Portfolio 3
becoming onerous becoming onerous becoming onerous becoming onerous becoming onerous becoming onerous
Other Other Other Other Other Other

Life)
Onerous Onerous Onerous Onerous Onerous Onerous

Year 1 Year 2 Year 3 Year 1 Year 2 Year 3

(e.g. Property)

No significant No significant No significant No significant No significant No significant

(e.g. Annuity)
probability of probability of probability of probability of probability of probability of
Portfolio 2

Portfolio 4
becoming onerous becoming onerous becoming onerous becoming onerous becoming onerous becoming onerous
Other Other Other Other Other Other
Onerous Onerous Onerous Onerous Onerous Onerous

10 An introduction to IFRS 17
Initial Recognition
An entity shall recognise a group of insurance contracts it issues from the earliest of the
following:
(a) the beginning of the coverage period of the group of contracts;
(b) the date when the first payment from a policyholder in the group becomes due;
(c) for a group of onerous contracts, when the group becomes onerous.

At initial recognition it is necessary to decide upon:

• The discount rate applicable at that date (weighted average for group) – this rate will be
used THROUGHOUT the term.
• The coverage period for the group – < 1 year a lot easier ?

11 An introduction to IFRS 17
12 An introduction to IFRS 17
Measurement at initial recognition (and
subsequently)
Cover for periods that are yet to happen The cover period has happened but payments yet to be made

This is the Building Block Approach

or General Measurement Model

There is an alternative for short term

contracts – possibly!

Even if the short term option applies for

remaining coverage, outstanding claims
payments have similar calculations to
this general model.

13 An introduction to IFRS 17
 Short-term contracts – Premium Allocation
Approach (PAA)
Broadly:
The PAA can be used if, and only if, at the inception of the group: Premium = 1200 for 12 months

Using PAA does not produce materially different answer to GMM Liability for remaining coverage
OR after 3 months = 1200* 9/12 = 900
the coverage period of each contract in the group is one year or less.

If term > 1 year discounting is likely to be

required

Discounting of claims is expected unless

payment is expected to be within a year of
occurrence

If it becomes apparent a group of contracts is

onerous the difference between the PAA and
fulfilment cashflows must be recorded as a loss
in P&L - so effectively need to do GMM

Note a risk adjustment under LIC

14 An introduction to IFRS 17
Cashflows?

15 An introduction to IFRS 17
 Future cashflows (35 paragraphs of guidance)
- applies to outstanding claims even if using PAA
- All cashflows within boundary of each contract in group (broadly until entity can change price and/or
policyholder can walk away)

- all reasonable and supportable information available without undue cost or effort about the amount,
timing and uncertainty of those future cash flows. To do this, an entity shall estimate the expected value
(i.e. the probability-weighted mean) of the full range of possible outcomes.

- estimates of any relevant market variables are consistent with observable market prices for those
variables

- current—the estimates shall reflect conditions existing at the measurement date, including assumptions
at that date about the future

- explicit - the entity shall estimate the adjustment for non-financial risk separately and the adjustment for
the time value of money and financial risk, unless the most appropriate measurement technique
combines these estimates
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 Future cashflows – what is included
- premiums
- payments to a policyholder, including reported claims, IBNR claims, future claims
- payments to a policyholder that vary depending on returns on underlying items or derivatives
- an allocation of insurance acquisition cash flows attributable to the portfolio
- claim handling costs
- costs the entity will incur in providing contractual benefits paid in kind.
- policy administration and maintenance costs (but not as part of LRC, could be in LIC)
- transaction-based taxes or taxed on behalf of policyholder
- potential cash inflows from recoveries (such as salvage and subrogation)
- costs the entity will incur performing investment activity, to the extent the entity performs that activity to
enhance benefits
- an allocation of fixed and variable overheads – potentially ? (cost of accounting, HR, IT, rent etc -
claims share of these costs?)
- any other costs specifically chargeable to the policyholder under the terms of the contract.

17 An introduction to IFRS 17
 Future cashflows – what is not included
• investment returns
• cash flows (payments or receipts) that arise under reinsurance contracts held.
• cash flows that may arise from future insurance contracts
• cash flows relating to costs that cannot be directly attributed to the portfolio of insurance contracts that
contain the contract, such as some product development and training costs. Such costs are recognised
in profit or loss when incurred.
• cash flows that arise from abnormal amounts of wasted labour or other resources that are used to fulfil
the contract. Such costs are recognised in profit or loss when incurred.
• income tax payments and receipts the insurer does not pay or receive in a fiduciary capacity or that are
not specifically chargeable to the policyholder under the terms of the contract.
• cash flows between different components of the reporting entity, such as policyholder funds and
shareholder funds, if those cash flows do not change the amount that will be paid to the policyholders.
• cash flows arising from components separated from the insurance contract and accounted for using
other applicable Standards (see paragraphs 10–13).

18 An introduction to IFRS 17
 Future cashflows – a very simple example of remaining coverage
• HMG takes on a liability to pay the following possible amounts in 1 year

Amount Probability

£0m 50%

£10m 30%

£20m 20%

• Expenses will be incurred of £0.2m to administer

• If a claim occurs there will be a cost of £0.3m to make payments and process necessary admin

The best estimate of this remaining coverage liability is

(£0m * 50% + £10m * 30% + £20m * 20%) + £0.2m + (£0.3m * (30%+20%) ) = £7.35m

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Discounting?

20 An introduction to IFRS 17
 Discount rates (14 paragraphs of guidance)
Expected that outstanding claims run-off will have to be discounted if > 1 year from claim

An entity shall adjust the estimates of future cash flows to reflect the time value of money and the
financial risks related to those cash flows, to the extent that the financial risks are not included in the
estimates of cash flows. Discount rates shall:

reflect the time value of money, the characteristics of the cash flows and the liquidity characteristics of
the insurance contracts;

be consistent with observable current market prices (if any) for financial instruments with cash flows
whose characteristics are consistent with those of the insurance contracts, in terms of, for example,
timing, currency and liquidity

Entities following HM Treasury’s FReM – default to use the PES rate other than those primarily involved in
insurance business

KEY POINT – CURRENT DISCOUNT RATE AND INITIAL RECOGNITION DISCOUNT RATE

21 An introduction to IFRS 17
 Future cashflows and discounting example
• HMG takes on a liability to pay in 1 year and also in 2 years

Amount Probability Amount Probability

£0m 50% £0m 70%

£10m 30% £5m 20%

£20m 20% £8m 10%

• Expenses will be incurred of £0.2m to administer – each year

• If a claim occurs there will be a cost of £0.3m to make payments and process necessary admin
• Discount rate 1% for 1 year period, 1.5% for 2 year period

The best estimate of this remaining coverage liability is

((£0m * 50% + £10m * 30% + £20m * 20%) + £0.2m + (£0.3m * 50%)) / 1.01 +
((£0m * 70% + £5m * 20% + £8m * 10%) + £0.2m + (£0.3m * 30%)) / 1.015 ^ 2 = £9.31m

22 An introduction to IFRS 17
Complexities – within government
• Lack of data (that is why public sector takes the risk)

• Extreme remote probabilities (but material if occurs) in some cases

• How to set discount rates – consistent with character of policies (PES rate)

• Lack of modelling as not part of Solvency II

• Onerous contracts…

23 An introduction to IFRS 17
Complexities – Onerous contract example
• HMG takes on uninsurable risk – 10 years – no premium payable
• Probability of a claim in any 1 year is 1 in 10,000
• If a claim occurs the cost is £10,000,000
• (Ignore discounting for simplicity)

• Expected cost per year = £10,000,000 * 1/10,000 = £1,000

• At initial recognition Liability for Remaining Coverage = £10,000 (£1,000 * 10)

• This is onerous as no premium so an immediate loss to P&L

• Each year (assuming no claims) a profit emerges of £1,000

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Risk Adjustment for non financial risk?

25 An introduction to IFRS 17
 Risk adjustment for non-financial risk
An entity shall adjust the estimate of the present value of the future cash flows to
reflect the compensation that the entity requires for bearing the uncertainty about
the amount and timing of the cash flows that arises from non-financial risk –
applies to outstanding claims even if use PAA

- Concept is similar to capital (how apply to government?)

- No prescribed method
– VAR, Tail Var, Cost of Capital approach (Risk Margin), Explicit loading
- Must disclose the VAR figure for your risk adjustment (public sector exemption)
- Should reflect the extent of the risk (duration, width of distribution, diversification)

26 An introduction to IFRS 17
 Risk adjustment for non-financial risk
An example of the concept:

I have a hat with 101 balls numbered 0 to 100 and I pay you the number on the ball

The expected payment (weighted mean) is 50

I do not like uncertainty and if I had compensation of 10 then I would be indifferent between
paying 50 now or paying the outcome of the dice

The risk adjustment for non-financial risk is thus 10 – i.e. Best Estimate + RA = 60

The VAR is 60.4 percentile – i.e. there is a 60.4% chance outcome lower than or equal to 60

(60.4% = 61/101 – the 61 balls from 0 to 60)

27 An introduction to IFRS 17
 Risk adjustment in pictures

The risk adjustment

set at the 75th
percentile is

18,853,794 – 17,385,171

28 An introduction to IFRS 17
 Risk adjustment in pictures
25

20
Mean = 10

Risk Adjustment = 12–10 = 2

Amount payable

15

VaR of RA = 75%ile
10

(This is a symmetrical distribution so mean = median.)

0
0.00 0.05 0.10 0.15 0.20 0.25 0.30 0.35 0.40 0.45 0.50 0.55 0.60 0.65 0.70 0.75 0.80 0.85 0.90 0.95 1.00

Cumulative Probability

29 An introduction to IFRS 17
RA Complexities – within government
• No current view of the distribution of losses (Solvency II concepts)

• Lack of data to derive distributions

• Extreme remote probabilities

• Individual nature of contracts and binary contracts

• For these reasons an exemption exists that the VaR percentage is not
required – but a Risk Adjustment is still needed.

30 An introduction to IFRS 17
 Risk adjustment – example complexity
HMG holds single risk – pay £50m with probability 20% (Mean = 10)
1) Risk Margin to be set at 75%
60
at 75% point the expected payment is 0
so the Risk Adjustment is 0 – 10 = -10
50

2) Risk Margin to be set at 90%

40
Amount payable

at 90% point expected payment is £50

so risk adjustment – full potential cost
30

3) Risk Margin to be set at £5m

20
at £15m expected cost VAR does not exist
– only possible values are 0 or 50
10

4) What if the probability of an event is less

0 than 1%?
0 0.1 0.2 0.3 0.4 0.5 0.6 0.7 0.8 0.9 1

Cumulative Probability
VAR would always exceed 99%

31 An introduction to IFRS 17
 Contractual service margin – GMM only
The contractual service margin is a component of the asset or liability for the group of
insurance contracts that represents the unearned profit the entity will recognise as it
provides insurance contract services in the future.

The contractual service margin on initial recognition of a group of insurance contracts at an

amount that, (unless onerous), results in no income or expenses arising

So at initial recognition

CSM = Present Value of Cashflows - Risk adjustment (i.e. future profit to emerge)

The CSM is then earned over the term of the contract

THE CSM CAN’T BE NEGATIVE – IF ONEROUS IMMEDIATE RECOGNITION IN P&L

32 An introduction to IFRS 17
 Contractual Service Margin

Initially the three years of profit form the

CSM
Present value of
Claims and Subsequently the expected CSM would
Present value of
Expenses be the remaining years on the cover
Premiums
If all is not as expected then differences
Risk Adjustment emerge as profit and loss and are
Profit year 1 explained through reconciliations.
Profit year 2 Initial Recognition CSM
Profit year 3

33 An introduction to IFRS 17
 Contractual service margin – Example 1
Payments expected of 200 per year for 3 years

Premium payable now = 900

Risk adjustment = 120

Simple discount rate of 5% for all years

PV of Future Cashflows =900 – (200 / 1.05 + 200 / 1.05 ^2 + 200 / 1.05 ^3) = 355

CSM = 355 – 120 = 235

(The 235 and the 120 held on balance sheet then each released over 3 years)

34 An introduction to IFRS 17
 Contractual service margin – Example 2
Payments expected of 350 per year for 3 years

Premium payable now = 900

Risk adjustment = 120

Simple discount rate of 5% for all years

PV of Future Cashflows =900 – (350 / 1.05 + 350 / 1.05 ^2 + 350 / 1.05 ^3) = -53

CSM = -53 – 120 = -173 (< 0 so set to 0 and 173 immediate hit to P&L)

35 An introduction to IFRS 17
 Earning the Contractual service margin
• HMG takes on a liability to pay in 1 year and also in 2 years
Amount Probability Amount Probability

£0m 50% £0m 70%

£10m 30% £5m 20%

£50m 20% £50m 10%

Weighted Best Estimate = £13m in year 1 and £6m in year 2

So do you earn it 13 / 19 in year 1 and 6 / 19 in year 2 ?

NO! Earning based on coverage units – i.e. what could be paid out

Max payout is £50 per year hence earned equally over the 2 years.

36 An introduction to IFRS 17
Acquisition cashflows
• An entity shall allocate insurance acquisition cash flows to groups of
insurance contracts using a systematic and rational method

• When using the PAA method can treat acquisition expenses as a cost as
they occur – if term no more than 1 year (optional – compulsory for
public accounts)

• If not PAA then acquisition expenses are an asset which is then spread
over the term of the CSM – i.e. they are earned.

37 An introduction to IFRS 17
 Subsequent measurement – Balance Sheet
The carrying amount of a group of contracts =

Liability for remaining coverage : (For PAA = Unearned Premium)

Fulfilment cashflows – from valuation date forwards

Risk adjustment – from valuation date forwards
CSM – reflective of profits on future service (IR Discount Rate used)

Liability for incurred claims (includes a risk adjustment and a VAR figure
disclosed)

38 An introduction to IFRS 17
 P&L Components

Choice of
approach

39 An introduction to IFRS 17
 Subsequent measurement – Profit and Loss
Insurance Revenue (effectively deferred premium earned)
- reduction in liability for future coverage due to cover provided this period
- if using PAA it is portion of premium for this period

Insurance Services Expenses (what actually happened this period)

- increase in liability due to claims and expenses incurred this period
- changes in fulfilment cashflows for incurred claims and expenses
- losses on onerous contracts

Insurance Finance Income/Expenses (the non insurance risk element)

- Effect of time value of money and financial risk

40 An introduction to IFRS 17
 P&L Components example
2 years remain on a contract

Expect to pay £200 claims in year 1 and £300 claims in year 2

Expect expense of £50 each year

CSM currently at £240 and Risk Adjustment at £80 – each to be earned

equally over 2 years

Ignore discounting for simplification

Time 0 Time 1
Actually only pay £160 claims in year 1 and expense is £30
Cashflows £600 £350
Insurance Revenue £410 (£250 cashflows + £120 CSM CSM £240 £120
+ £40 RA)
Insurance Service £ -250 (£200 claims + £50 expense)
Risk £80 £40
Expenses - expected adjustment
Insurance Service £ +60 (£40 from claims + £20 Total Liability £920 £510
Expenses - variance expenses) Remaining
Total £220 Coverage

41 An introduction to IFRS 17
 P&L Components example
Expect to pay £200 claims in year 1 and £300 claims in year 2

Expect expense of £50 each year

CSM currently at £240 and Risk Adjustment at £80 – each to be earned

equally over 2 years

Ignore discounting for simplification

Actually only pay £160 claims in year 1 and expense is £30

Time 0 Time 1 Time 1
Revised
Now only expect £230 claims in year 2 Cashflows £600 £350 £280
Insurance Revenue £410 (£320 cashflows + £50 CSM £240 £120 £190
CSM + £40 RA) Risk £80 £40 £40
Insurance Service £ -250 (£200 claims + £50 adjustment
Expenses - expected expense) Total Liability £920 £510 £510
Insurance Service £ +60 (£40 from claims + £20 Remaining
Expenses - variance expenses) Coverage
Total £220 The year 2 expected reduction increases
CSM and does not come through to profit in
year 1
42 An introduction to IFRS 17
 Reconciliations and disclosures
CSM
Risk Adjustment
Liability for Remaining Coverage
Liability for Incurred Claims
Balance Sheet
Statement of Financial Position

VaR value for Risk Adjustment (exemption applies)

Risk adjustment methodology
Discount rates used

Materiality will need to be considered

43 An introduction to IFRS 17
 Transition – Date
The transition date is the beginning of the annual reporting period
immediately preceding the date of initial application. For entities following
the FReM the transition date is proposed to be

1 April 2024

unless entity is adopting standard earlier.

44 An introduction to IFRS 17
 Transition – 3 approaches
• Full retrospective

• As at 01/04/2024 need to…

• Identify, recognise and measure each group as if IFRS17 always applied

• Identify, recognise and measure assets for acquisition cash flows as is IFRS17
always applied
• Derecognise existing balances that would not exist in IFRS17 always applied
• Recognise any resulting net difference in equity

This requires the ability to assess what decisions would have been made at the outset
of contracts that may have been created some time ago (without using knowledge of
what has transpired since!)

45 An introduction to IFRS 17
 Transition – 3 approaches
• Full retrospective

If and only it is impracticable to do so then…

• Modified retrospective (Not for those following FReM)

• Fair value (Specified by HMT)

• Calculate CSM (or loss component) as difference between fair value of
group of contracts at transition date and fulfilment cash flows of contracts.
• Fair value (as per IFRS13) is based on value to transfer liability between
market participants in an orderly transaction.

46 An introduction to IFRS 17
 Transition – Fair value

47 An introduction to IFRS 17
 Transition – Fair Value
Practical Expedient
Insurance contract liabilities can be valued at fulfilment cashflows for
onerous contracts where no premium is payable.

Why is this needed…

48 An introduction to IFRS 17
 Transition – Fair Value - Example
• HMG takes on uninsurable risk – 10 years – no premium payable
• Probability of a claim in any 1 year is 1 in 10,000 if claim occurs cost is £10m
• Expected claims each year = £1,000 so fulfilment cashflows = £10,000

• 5 years in – future fulfilment cashflows = £5,000 (no claims)

• An initial loss of £10,000 would have hit P&L followed by 5 * £1,000 profit
• CSM would = 0

• Under fair value – an insurer would now take on but due to extreme risk and uncertainty
requires a premium of £100,000 to take on risk

• CSM = £100,000 - £5,000 = £95,000 immediate hit to P&L followed by profits of

£19,000 each year.

49 An introduction to IFRS 17
 What assistance can GAD provide?
Probability based projected cashflow calculations

Data requirements

Model building

Risk adjustment calculations

VaR calculations

Discount rates

50 An introduction to IFRS 17
 “Any material or information in this document is based on sources believed to be reliable, however we cannot warrant accuracy,
completeness or otherwise, or accept responsibility for any error, omission or other inaccuracy, or for any consequences arising
from any reliance upon such information. The facts and data contained are not intended to be a substitute for commercial
judgement or professional or legal advice, and you should not act in reliance upon any of the facts and data contained, without
first obtaining professional advice relevant to your circumstances. Expressions of opinion do not necessarily represent the views
of other government departments and may be subject to change without notice.

51 An introduction to IFRS 17