1. Accounting for general insurance contracts
Chapter 21
Accounting for general insurance contracts

2. Objectives of this lecture
Understand the meaning of ‘general insurance’
Understand the asset measurement rules that are to be applied to the assets that back general insurance liabilities
Understand how the liabilities pertaining to general insurance contracts are to be measured
Know about the discount rate that should be used to discount liabilities to their present value

3. Objectives (cont.)
Understand the revenue and expense recognition principles that should be adopted in relation to general insurance contracts
Be aware of the disclosure requirements of AASB 1023

4. Introduction to general insurance contracts
Currently we have three accounting standards dealing with insurance
AASB 4 Insurance Contracts (does not apply to ‘general insurance’)
AASB 1023 General Insurance Contracts
AASB 1038 Life Insurance Contracts
The IASB is currently working on Phase II of the ‘Insurance Project’
It is expected that a revised standard will replace these three standards but that this standard will not be operative until at least 2013 or 2014
This lecture focuses on AASB 1023

5. The role of the HIH Royal Commission
It appears that the re-release of AASB 1023 in was affected by the Royal Commission
The collapse of HIH Insurance Ltd in 2001 was one of the worst corporate collapses in Australia
Justice Neville Owen comments
Justice Owen’s recommendations for AASB 1023

6. Introduction to the requirements of AASB 1023
Application of AASB 1023
General insurance contract
Life insurance contract
General insurance

7. Recognition of insurance premium revenue
Revenue to be brought to account from the ‘attachment date’, provided it can be measured reliably (AASB 1023)
Revenue recognised should be tied to the pattern of the incidence of risk
Most insurers bring revenue to account on a time basis, with an equal amount being attributed to each period
Steps in measuring premium revenue (AASB 1023)

8. Revenue associated with unclosed business
Business written close to the end of the reporting period in respect of which the date of attachment of risk precedes the end of the reporting period
Insurer agrees to accept the risk before the customer has completed policy contract (i.e. cover note)
Estimate of earned portion of premium relating to unclosed business is necessary for inclusion in premium revenue

9. Reinsurance
Common for insurers to reinsure some or all of their insurance portfolio with another insurer
Direct insurer
The entity that originally wrote an insurance contract
Must show all premiums received, including those redirected
Premiums transferred to reinsurer are an expense of the direct insurer

10. Reinsurance (cont.) Reinsurer (AASB 1023)
Party that has an obligation under a reinsurance contract to compensate an insured party if an insured event occurs
Reinsurance premiums received are treated in the same way as premiums accepted by direct insurer, i.e. as revenue

11. Reimbursement of government charges
Part of premium relates to government charges (e.g. stamp duty) imposed on the insured party
Not treated as revenue by insurer but as revenue held on behalf of the government (i.e. a liability)
Charges levied on insurer (e.g. licence fees and workers’ compensation insurance) incorporated in insurance premium
Treated as part of premium revenue

12. Insurance claims
Claims settled and paid during the year are treated as expenses of the period
Expenses and liabilities should include outstanding claims as at the end of the reporting period
Outstanding claims liability measurement (AASB )
Risk margin (AASB 1023)
Expected future payments include (AASB 1023)

13. Requirement to discount obligations
Outstanding claims liability is to be discounted to present value using (AASB 1023)
Government bond rate might be appropriate
Increase in present value of claim from one period to the next is included in claims expense (AASB 1023)
Unearned premium liability (AASB 1023)

14. Liability adequacy test
Assessment of whether carrying amounts of insurance liabilities need to be increased based on a review of future cash flows (AASB 1023)
Present value of future claims to be compared with unearned premiums
If present value exceeds unearned premium liability (AASB 1023):
liability is deficient, and
further liability and expense is to be recognised

15. Assets
Different measurement approaches required for financial assets, investment properties and property, plant and equipment (AASB 1023)
Financial assets (defined in AASB 139)
Investment properties (AASB 140 and AASB 1023)
Property, plant and equipment (AASB 1023)

16. Disclosure requirements
Statement of comprehensive income (AASB 1023)
Total deficiency
Any write-downs of deferred acquisition costs
Any write-downs of intangible assets
Underwriting result for the period
Net claims incurred
Gross claims incurred (undiscounted) and reinsurance and other recoveries (undiscounted)

17. Disclosure requirements (cont.)
Statement of financial position (AASB 1023)
For outstanding claims liability, central estimate and risk margin
Percentage risk margin adopted
Probability of adequacy
Process used to determine risk margin

18. Consistency with other standards
AASB 1023 requires certain measurement approaches for ‘assets backing general insurance liabilities’
For assets not ‘backing general insurance liabilities’, alternative approaches could be used
Would different valuation bases confuse financial statement users?

19. Opposition to AASB 1023 Major opposition to original AASB 1023
Requirement to include unrecognised gains and losses on investments in the profit and loss
Claimed to introduce a degree of volatility to the accounts
Also argued that results driven by marked-to-market investments would distort general insurers’ performance
Some volatility will remain under current version of AASB 1023

20. Summary
The lecture addresses accounting issues relating to general insurance contracts
Main issues are:
how and when revenue should be recognised
how and when insurance claims should be recognised
how assets should be valued
Revenues to be recognised on the basis of pattern of incidence of risk
Insurance claims settled and paid to be treated as expenses
Unpaid insurance claims recognised as liabilities to be discounted to present values