Green light given for the balloting of the new revised Exposure Draft IFRS 4 Phase II Update IASB meetings – February 2013 Francesco Nagari Deloitte Global IFRS Insurance Lead Partner 27 February 2013

Agenda Highlights of decisions from February 2013 IASB-only and FASB-only meetings Detailed analysis of the IASB Staff recommendations and Board discussions Summary of the decisions from February 2013 FASB-only meetings. Update on timetable and next steps IFRS 4 Phase II – Webcast (February 2013)

Highlights IASB education session – 18 February Rehearsal of the following day papers IASB-only decision session – 19 February Transition guidance for insurance contracts that were acquired through a business combination Permission granted to the Staff to begin the balloting process of the revised ED 120 days open comment period will be given to stakeholders for feedback to IASB’s focused questions in its revised ED FASB-only decision session – 6, 13 and 20 February New US GAAP ED will be released in June with 120 days comment period Open question on effective date; early adoption prohibited Sweep issues on transition and other components of US GAAP model did not create new divergence items with IASB Decision on segregated assets confirmed an existing difference with IFRS IFRS 4 Phase II – Webcast (February 2013)

Transition for contracts acquired through a business combination (Paper 2E) Background This paper addressed the only open issue on which the Board had not concluded on in its last meeting in January 2013 and completed the Board’s planned technical decisions required to finalise its revised Exposure Draft (ED) on insurance contracts Staff proposed that similar principles would govern insurance contracts that were acquired through business combinations with those that were originated by the insurer. Because of the specifics of business combination accounting, the new IFRS will use the information available for business combination while maintaining consistency with the requirements in IFRS 3 Business Combinations. the date of inception for insurance contracts acquired through a business combination contracts is deemed to be the date of acquisition (i.e. the date of the business combination). the cash inflow for those contracts (i.e. premiums received) is deemed to be the fair value at the date of acquisition. IFRS 4 Phase II – Webcast (February 2013)

Transition for contracts acquired through a business combination (Paper 2E) (continued) Background (continued) The Staff recommended that for in-force contracts at the transition date from business combinations the insurer should: measure the current value of fulfilment cash flows estimate the residual margin using the modified retrospective approach, which maximises the use of objective information. This would require estimating the residual margin at inception by comparing the risk-adjusted present value of cash outflows with the present value of cash inflows (using the fair value at the acquisition date for insurance contracts acquired through business combinations that are in-force at the date of transition) estimate the locked-in discount rate at the date of inception (i.e. at the date of the business combination). The 2010 ED (paragraph 40) proposed that those contracts are measured at the date of the business combination at the higher of the following: the fair value of the portfolio. The excess of that fair value over the present value of the fulfilment cash flows establishes the residual margin at initial recognition. This is consistent with recognising a residual margin for the gains on day one when recognising insurance contracts that the insurer has originated; or the present value of the fulfilment cash flows. If that amount exceeds the fair value of the portfolio, that excess increases the initial carrying amount of goodwill recognised in the business combination. This is consistent with measuring contracts originated by the insurer in the present value of fulfilment cash flows if this is higher than the present value of cash inflows. However, the difference is accounted for as goodwill (rather than as a loss in the statement of comprehensive income) because of the requirements in IFRS 3. IFRS 4 Phase II – Webcast (February 2013)

Transition for contracts acquired through a business combination (Paper 2E) (continued) Background (continued) For business combinations where fair value information would not be practically available the residual margin would be estimated by maximising the use of objective information available such as: estimating the residual margin by reference to the existing contracts, adjusting for different factors that might differentiate the margin in different periods; or estimating the residual margin by using historical assumptions about the profitability of similar contracts IFRS 4 Phase II – Webcast (February 2013)

Transition for contracts acquired through a business combination (Paper 2E) (continued) Staff recommendation In applying the transition requirements for insurance contracts, an insurer should account for the in-force contracts that were previously acquired through a business combination using: the date of the business combination as the date of inception of those contracts the fair value of those contracts at the date of the business combination as the premium received. Decision IASB vote Approve Staff recommendation Unanimous IFRS 4 Phase II – Webcast (February 2013)

Transition for contracts acquired through a business combination (Paper 2E) (continued) The Staff then posed the question as to the recognition of any gains and losses from restatement of past business combinations between retained earnings or goodwill The Staff noted that when an entity makes the transition to a new Standard when using IFRS, any adjustments are taken against retained earnings and not against goodwill. This is also applicable for Standards that require retrospective application to measure the assets or liabilities on transition. Any retrospective adjustment to goodwill that is meaningful would require revaluation of all assets and other liabilities together with the insurance liabilities acquired during the business combination The amount of goodwill is viewed as a point in time calculation Adjusting goodwill when making the transition to the forthcoming insurance contracts Standard would create an exception to transition requirements in other IFRS. The staff did not believe that this exception is justified for the forthcoming insurance IFRS IFRS 4 Phase II – Webcast (February 2013)

Transition for contracts acquired through a business combination (Paper 2E) (continued) Staff recommendation When an insurer first applies the forthcoming insurance contracts Standard to insurance contracts previously acquired through a business combination, any gains or losses should adjust retained earnings (rather than goodwill). Decision IASB vote Approve Staff recommendation Unanimous IFRS 4 Phase II – Webcast (February 2013)

Permission to ballot a targeted revised Exposure Draft on accounting for insurance contracts (Paper 2A) Background Before putting their request to the Board’s vote the Staff underlined that all of the required steps in the IASB’s Due Process Handbook have been complied with and that the proposals for accounting for insurance contracts are sufficiently developed A package of accompanying material was prepared by the Staff in order to support the Board in its decision which helped them to review all of their activity since December 2010. Discussion The Chairman of the Board thanked and complimented the Staff on their outstanding work over the years before proceeding with the vote. Staff recommendations Permission to ballot Declarations of dissent The Staff asked the Board’s permission to begin the balloting process for the targeted revised Exposure Draft on accounting for insurance contracts. The Staff also asked if any of the IASB members intend to dissent from the proposal. IFRS 4 Phase II – Webcast (February 2013)

Permission to ballot a targeted revised Exposure Draft on accounting for insurance contracts (Paper 2A) (continued) Discussion (continued) One IASB member who had dissented in the publication of the previous ED 2010 expressed his anticipation of greater than expected negative comments to the Board’s presentation proposals in the new proposed ED but nevertheless he decided not to dissent this time due to the urgent need for a new Insurance Standard.   Another IASB member dissented from the staff recommendations on the grounds of disagreement with the amended OCI presentation in the new proposed ED because in his opinion it is not conducive to good financial reporting. Decision IASB Vote (a) Permission to ballot Unanimous (b) Declarations of dissent One Board member IFRS 4 Phase II – Webcast (February 2013)

Permission to ballot a targeted revised ED on accounting for insurance contracts (Paper 2A) – Comment period Background The minimum comment period for a revised Exposure Draft is 90 days. However, the staff expects that some of the areas targeted in the revised Exposure Draft have wide-ranging implications, and that it would take time for interested parties to assess those implications. In addition, the staff believe that a longer comment period is needed because the IASB intends to conduct a program of outreach during the comment period, including fieldwork. Sufficient time is needed to engage in outreach activities with stakeholders and to process their feedback. Staff recommendation The staff recommend a comment period of 120 days for the revised ED on accounting for insurance contracts. IFRS 4 Phase II – Webcast (February 2013)

Permission to ballot a targeted revised ED on accounting for insurance contracts (Paper 2A) – Comment period Discussion One Board member asked for an indication of the timeline and the expectations of the Staff on the date of finalisation of this process. The Staff responded that they target to present their comprehensive summary of the feedback to the Board before the end of 2013. Decision IASB Vote Approve Staff recommendation Unanimous IFRS 4 Phase II – Webcast (February 2013)

FASB activity update Summary of FASB-only meetings conducted in February (not including FASB meeting planned for 27 February) FASB’s new ED, Insurance Contracts Update, is expected in June 2013. FASB decided on a 120-day comment letter period for the upcoming ED. FASB decided not to include a minimum time period between the issuance of the proposed guidance and the effective date, but rather to ask a question regarding key drivers impacting timing of implementation. It agreed though to include that the effective date for non public companies will be a minimum of one year after the effective date for public entities. Insurers would be required to restate all comparative periods presented. FASB decided not to permit early adoption of the new guidance. IFRS 4 Phase II – Webcast (February 2013)

FASB activity update (continued) Summary of FASB-only meetings conducted in February (not including Board meeting planned for 27 February) (continued) FASB decided to include the following additional transition guidance: When determining the margin at contract inception, insurers can measure the insurance contract liability and the single margin using the insurers’ determination of the portfolios immediately prior to transition Contracts written or substantially modified subsequent to the transition date should be grouped into portfolios in accordance with the proposed guidance, which if different from 1), may require separate portfolios FASB agreed that for remeasurement of foreign currency transactions, all financial components related to an insurance contract should be classified as monetary. FASB also decided that the proposed insurance contracts standard should apply to all guarantee contracts that meet the definition of an insurance contract except those that have some explicit characteristics which will be clearly defined and articulated in the new guidance IFRS 4 Phase II – Webcast (February 2013)

FASB activity update (continued) Summary of FASB-only meetings conducted in February (not including Board meeting planned for 27 February) (continued) Measurement of investment components and the aggregate insurance contract revenue for presentation purposes only FASB decided that: The amount of consideration allocated to investment components and excluded from the premium presented in the statement of comprehensive income should be equal to the cash flows the insurer estimates it will be obligated to pay to policyholders or their beneficiaries regardless of whether an insured event occurs (decision in line with IASB) At each reporting date these cash flows should be re-estimated based on current assumptions utilised in the measurement of the insurance contract liability, with any effect on insurance contract revenue allocated prospectively to periods in proportion to the value of coverage (and any other services) that the insurer estimates will be provided in those periods (decision in line with IASB) The related Staff paper considered the interaction of previous decisions related to investment components and the allocation of such amounts under the earned premium method of recognizing revenues. The EP method requires revenue be allocated to periods in proportion to the value of coverage provided, but tentative decisions on the investment component stated that revenues should be recognized each period as actual amounts are charged – which is not generally correlated to the coverage period provided. Accordingly, the staff believed the two decisions were incompatible and contradictory.   The staff believed there was merit to the investment components decision and sought to retain the benefits by retaining the determination of the amount of consideration allocated to the investment component for the period while applying the EP concept to the remainder of the consideration. The staff considered three alternatives and presented Alternative B which requires: An insurer allocate the amount of consideration to investment components equal to the cash flows the insurer estimates it will be obligated to pay and exclude that amount from insurance contracts revenue. At each reporting date, those CFs should be re-estimated based on current assumptions with any effect on insurance contract revenue allocated prospectively in proportion to value of coverage. This proposal mitigates the potential for fluctuations in revenue and aligns better with the estimated claims incurred in the periods. IFRS 4 Phase II – Webcast (February 2013)

FASB activity update (continued) Summary of FASB-only meetings conducted in February (not including Board meeting planned for 27 February) (continued) Accretion of Interest on the single margin FASB decided that: An insurer should accrete interest on the margin to reflect the time value of money. The interest accretion rates should be based on the same yield curves used for purpose of discounting the cash flows determined at inception of the portfolio of insurance contracts and not subsequently adjusted IFRS 4 Phase II – Webcast (February 2013)

FASB activity update (continued) Summary of FASB-only meetings conducted in February (not including Board meeting planned for 27 February) (continued) Segregated Assets Related to Direct Performance Linked Insurance Contracts. FASB’s decisions covered the accounting and presentation for this specialised category of contracts which include among others unit-linked contracts, variable contracts, separate accounts, segregated funds and super annuitisation funds. Key decisions: The liability for “direct performance linked insurance contracts” and the assets directly linked to those liabilities should be reported in the insurer’s financial statements US GAAP special rules for these assets will be carried forward in the new ED In particular there will be a rule that allows the insurer to not consolidate funds where segregated assets are held even if it has a controlling interest in that fund. Instead the insurer would present the asset representing its interest as a separate line and it would measure it at fair value through income. This is not aligned with IFRS. IFRS 4 Phase II – Webcast (February 2013)

Next steps and timetable Next IASB meeting expected to be held in the week commencing 18 March All sweep issues resolved and staff will commence finalisation of the revised ED. Insurance may not feature on the agenda IASB will continue its field testing preparation up to the publication date of the revised ED The Staff progress report published in early February on the status of the project confirms the timetable previously reported: IFRS 4 Phase II – Webcast (February 2013)

www.deloitte.com/i2ii Contact details Francesco Nagari Deloitte Global IFRS Insurance Lead Partner +44 20 7303 8375 fnagari@deloitte.co.uk @Nagarif Deloitte Insights into IFRS Insurance (i2ii) www.deloitte.com/i2ii Insurance Centre of Excellence: insurancecentreofexc@deloitte.co.uk

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