CIA Annual Meeting Assemblée annuelle de l’ICA June 29 & 30, 2006  Les 29 et 30 juin 2006 Ottawa, Ontario PC-1: Risk Transfer Claudette Cantin

CIA Annual Meeting  Assemblée annuelle de l’ICA TASK FORCE ON THE APPROPRIATE TREATMENT OF REINSURANCE ― Background ― Mandate and timetable ― Accounting Practice ― Paper Outline Key Principles of Risk Transfer Assessing Risk Transfer Risk Limiting Factors ― Challenges ― Conclusion PC-1: Risk Transfer Claudette Cantin

CIA Annual Meeting  Assemblée annuelle de l’ICA TASK FORCE – BACKGROUND — Late 2004: Media coverage and US investigation into use of “finite risk” reinsurance (Spitzer, AIG, HIH……) — Feb. 2005: OSFI letter to the CIA RE: Treatment of Reinsurance in Valuation “… the reserving credit taken by the company should be appropriate to the degree of risk that is being transferred…” “…some finite or financial reinsurance agreements may not, in fact, involve a sufficient transfer of risk to justify a reduction….” “…the Institute valuation standards of practice must be revised to include guidance on the treatment of reinsurance.” PC-1: Risk Transfer Claudette Cantin

CIA Annual Meeting  Assemblée annuelle de l’ICA TASK FORCE – BACKGROUND “… an appropriate and timely addition to CSOP that would provide clear guidance for appointed actuaries “ “This matter represents a significant gap in CIA standards that should be filled as soon as possible.” — Review of SOP’s by PSC, CLIFR and PCFRC : the current SOPs, if properly applied, were adequate with respect to treatment of reinsurance and no immediate changes were necessary there was an issue with the definition of reinsurance and its financial and capital treatment PC-1: Risk Transfer Claudette Cantin

CIA Annual Meeting  Assemblée annuelle de l’ICA TASK FORCE – BACKGROUND — June 2005: Memorandum from PSC to All Members on Appropriate Treatment of Reinsurance outlined the review of PSC,CLIFR and PCFRC summarized the relevant standards and key principles To take credit for reinsurance, there should be sufficient risk transfer In assessing risk transfer, both the treaty and any side arrangements have to be considered announced the creation of a Task Force specifically mandated to review reinsurance-related issues and develop additional guidance and consider need to modify the SOPs. PC-1: Risk Transfer Claudette Cantin

CIA Annual Meeting  Assemblée annuelle de l’ICA TASK FORCE – MANDATE — Broad mandate to focus on : finite reinsurance degree of risk transfer in reinsurance transactions side arrangements stop loss arrangements reinsurance counterparty risks PC-1: Risk Transfer Claudette Cantin

CIA Annual Meeting  Assemblée annuelle de l’ICA TASK FORCE – MANDATE — Representatives from all stakeholders groups Life and P&C practitioners Federal and provincial regulators (OSFI, AMF) Industry groups (CLHIA, IBC) Accountants Company PC-1: Risk Transfer Claudette Cantin

CIA Annual Meeting  Assemblée annuelle de l’ICA TASK FORCE – MANDATE — Deliverables develop of research paper or educational note consider or suggest potential modifications to the SOPs, if deemed necessary — Timetable initially draft paper April 31, 2006,final June 30, 2006 working on a draft to focus group by end of June draft to members for comments July 2006 PC-1: Risk Transfer Claudette Cantin

CIA Annual Meeting  Assemblée annuelle de l’ICA TASK FORCE – ACCOUNTING PRACTICE ― Canadian GAAP AcG-3.16 prohibits reinsurance accounting unless “primary purpose is transfer of risk” and the risk should be an “insurance risk” No quantitative tests OSFI guideline D-7 essentially imports US GAAP (SFAS 113) ― SFAS 113 Transfer of “significant” insurance risk No quantitative tests Gross and net All risks must be transferred ―10/10 Rule (10% chance of a 10% loss for reinsurer) PC-1: Risk Transfer Claudette Cantin

CIA Annual Meeting  Assemblée annuelle de l’ICA TASK FORCE – ACCOUNTING PRACTICE ― IFRS 4 – Insurance contract Reinsurer accepts significant insurance risk No quantitative test specified Uncertainty is the essence : whether, when, and/or how much Adversely affects policy holders No offsetting of reinsurance assets against liabilities PC-1: Risk Transfer Claudette Cantin

CIA Annual Meeting  Assemblée annuelle de l’ICA TASK FORCE – PAPER OUTLINE — Executive Summary — Introduction — Definitions — Background Overview of reinsurance concepts and terminology Reinsurance and the actuary Current reinsurance accounting practice (Canada and International) PC-1: Risk Transfer Claudette Cantin

CIA Annual Meeting  Assemblée annuelle de l’ICA TASK FORCE – PAPER OUTLINE — The Concept of Risk Transfer Key principles of risk transfer Assessing the “existence” of the risk transfer Assessing the “extent” of the risk transfer Limitation of risk transfer — Other issues Mirroring Communication Bifurcation — Conclusion and Recommendations PC-1: Risk Transfer Claudette Cantin

CIA Annual Meeting  Assemblée annuelle de l’ICA TASK FORCE – KEY PRINCIPLES OF RISK TRANSFER —Principle #1. There are several approaches that can be used to assess the existence of risk transfer No single test or rule for each and every type of contract Each reinsurance contract must be assessed PC-1: Risk Transfer Claudette Cantin

CIA Annual Meeting  Assemblée annuelle de l’ICA TASK FORCE – KEY PRINCIPLES OF RISK TRANSFER —Principle #2. Professional judgment will be required when assessing the existence of risk transfer Actuaries and other relevant professional SOPs require that actuary coordinate valuation with accounting policy, so that policy liabilities conform to the presentation of the income statement Qualified Opinion ??? PC-1: Risk Transfer Claudette Cantin

CIA Annual Meeting  Assemblée annuelle de l’ICA TASK FORCE – KEY PRINCIPLES OF RISK TRANSFER — Principle #3. The entire agreement consisting of the reinsurance contract and all written and verbal agreements and correspondence must be considered in assessing the existence of risk transfer Actuaries must make reasonable effort to inform themselves of each and every commitment made to the reinsurance contract by any authorized party PC-1: Risk Transfer Claudette Cantin

CIA Annual Meeting  Assemblée annuelle de l’ICA TASK FORCE – KEY PRINCIPLES OF RISK TRANSFER —Principle #4. The existence of risk transfer must be assessed at inception of the contract and every time a change to the contract that significantly alters the expected future cash flows of that contract is made Events occurring during normal operation of the contract do not trigger reassessment Reassessment if revision to coverage levels, new option, revision to premium rates…… PC-1: Risk Transfer Claudette Cantin

CIA Annual Meeting  Assemblée annuelle de l’ICA TASK FORCE – ASSESSING RISK TRANSFER — Qualitative Reasonably self-evident Intuitively obvious No potential risk limiting features Catastrophe covers and specific events (Earthquake, terrorism) No other tests necessary Minimal documentation Not reasonably self-evident Quantitative analysis impractical Substantial documentation PC-1: Risk Transfer Claudette Cantin

CIA Annual Meeting  Assemblée annuelle de l’ICA TASK FORCE – ASSESSING RISK TRANSFER — Quantitative Relevant data and model available e.g. quota share with sliding scale, stop loss Substantial documentation PC-1: Risk Transfer Claudette Cantin

CIA Annual Meeting  Assemblée annuelle de l’ICA TASK FORCE – RISK LIMITING FEATURES — Existence of risk limiting features requires further analysis — Some examples include: Profit sharing Experience rating provisions Retro premium adjustments/ no claims rebate Loss Limits – caps on loss ratio, loss corridor, swing rate Adjustable commission on proportional treaty with or without credit/debit carry forward Side letters and agreements PC-1: Risk Transfer Claudette Cantin

CIA Annual Meeting  Assemblée annuelle de l’ICA TASK FORCE – CHALLENGES ― Number of stakeholders ― Difference between life and P&C ― Current practice and emerging international developments ― Related issues Bifurcation Mirroring/Communication PC-1: Risk Transfer Claudette Cantin

CIA Annual Meeting  Assemblée annuelle de l’ICA TASK FORCE – DEVELOPMENTS ― AAA Aug – Risk Transfer in P&C Reinsurance Survey Approaches to evaluation of risk transfer ― AAA Nov – Risk Transfer Testing Practice Note Safe harbors Reasonably self-evident Reinsurance Cash Flow testing PC-1: Risk Transfer Claudette Cantin

CIA Annual Meeting  Assemblée annuelle de l’ICA TASK FORCE – DEVELOPMENTS ― IAIS Nov – Accounting for Reinsurance Contracts under IFRS Guidance to actuaries: classification, recognition, measurement issue ― IAIS Oct – Guidance Paper on Risk Transfer, Disclosure and Analysis of Finite Reinsurance Focus supervisory guidance PC-1: Risk Transfer Claudette Cantin

CIA Annual Meeting  Assemblée annuelle de l’ICA TASK FORCE – RELATED ISSUES — Mirroring between cedant and reinsurer appropriate procedures to confirm similar risk identification and interpretation similar accounting treatment (reinsurance or not) liability amounts Communication between actuaries of ceding companies and reinsurers to discuss all new material treaty PC-1: Risk Transfer Claudette Cantin

CIA Annual Meeting  Assemblée annuelle de l’ICA TASK FORCE – RELATED ISSUES — Bifurcation or unbundling Being discussed in some jurisdictions FASB released a request for comments on bifurcation (5/26/06) Contract are broken down between risk and non-risk components Negate some reserves as the non-risk or financing element will not be subject to reinsurance accounting Task Force disagrees with this concept PC-1: Risk Transfer Claudette Cantin

CIA Annual Meeting  Assemblée annuelle de l’ICA TASK FORCE – CONCLUSION — Principles based approach — No one single approach — Consider the entire contract including side agreements — Review risk limiting features — Consult with other relevant professionals PC-1: Risk Transfer Claudette Cantin

CIA Annual Meeting  Assemblée annuelle de l’ICA TASK FORCE ON THE APPROPRIATE TREATMENT OF REINSURANCE QUESTIONS ? PC-1: Risk Transfer Claudette Cantin