stat / gaap update · naic spring meeting highlights — adopted: - int 18-01 to provide a limited...

STAT / GAAP Update

April 26, 2018

2© 2017 KPMG LLP, a Delaware limited liability partnership and the U.S. member firm of the KPMG network of independent member firms affiliated with KPMG International Cooperative (“KPMG International”), a Swiss entity. All rights reserved. NDPPS 719880

Agenda

STAT— NAIC update— Insurance statutory reportingGAAP— ASU 2016-01, Recognition and measurement of financial assets and financial liabilities— Financial instruments – Credit losses (ASU 2016-13)— ASU 2018-02: Reclassification of Certain Tax Effects from Accumulated Other

Comprehensive Income— ASC topic 842 – Leases (ASU 2016-02)— Targeted improvements to the accounting for long-duration contracts

NAIC update

April 23, 2018


NAIC Spring Meeting Highlights— Adopted:

- INT 18-01 to provide a limited time, limited scope exception to not require the recognition of changes in reasonable estimates resulting from the Tax Cuts and Jobs Act (TCJA) after the issuance of statutory annual statements as Type I subsequent events in the audit financial statements.


NAIC Spring Meeting Highlights (continued)— Exposed:

- Revisions to SSAP No. 101 to provide guidance for the effects of the TCJA. Comments were specifically requested on the assessment of the reversal patterns of deferred tax items resulting from the TCJA

- Issue paper with a proposed treatment for certain derivative contracts related to variable annuity contracts that do not qualify to use the hedge accounting guidance in SSAP No. 86.

- A request for comments on the proposed response to the Valuation of Securities Task Force about the treatment of bank loans. The response suggests that borrowing base loans and debtor in possession (DIP) financing should be classified as collateral loans.

- An issue paper detailing its initial assessment of how the recent targeted improvements to the US GAAP accounting model for derivatives could be applied to statutory accounting and the differences between US GAAP and statutory accounting that would be retained.

- A discussion document on how the recently issued US GAAP guidance on credit losses could be considered for statutory accounting.

- A revised memo on the treatment of senior debt and surplus notes and a memo on the scope of the group in the group capital calculation.


Income Taxes— INT 18-01 was adopted to provide a limited time and limited scope exception to not require

the recognition of changes in reasonable estimates related to the TCJA after the issuance of statutory annual statements as Type I subsequent events in the audited financial statements.

— The interpretation also provided instructions for reporting changes in deferred taxes including:- recording the effects of change in tax law for all accounting estimates that are complete;- recognizing effects of accounting estimates that may be considered incomplete or for

which reasonable estimates cannot be determined by applying guidance in SEC Staff Accounting Bulletin (SAB) 118, including relevant disclosures;

- recording changes in estimates for circumstances when a reasonable 2017 estimate is updated or an estimate is established after the issuance of the 2017 financial statements, but before the issuance of the 2017 audited financial statements;

- recording the change in deferred taxes resulting from the TCJA in:— Net Unrealized Capital Gains (Losses) less Capital Gains Tax;— Net Deferred Income Tax;— Nonadmitted assets; and

- clarifying that the footnote disclosures detailing deferred tax assets and liabilities for December 31, 2018 should be reported using the December 22, 2017 enacted tax rate, and prior year 2016 information should not be revised.

Insurance statutory reporting

April 23, 2018


Insurance statutory reporting— Effective for 2017 reporting:

- SSAP No. 2R reclassified money market mutual funds to cash equivalents and required them to be reported at fair value.

- SSAP No. 26R removed Securities Valuation Office (SVO) designated bond Exchange Traded Funds (ETFs) from the definition of a bond and required the identification of instruments that will be measured using systematic value on January 1, 2018.

- SSAP No. 35R allowed expected renewals of short-term contracts for long-term care assessments to be considered in determining the premium tax credits and policy surcharge assets recognized when accruing guaranty and fund liability assessments. It also allowed the discounting of guaranty fund assessments from insolvencies of insurers that wrote long-term care contracts.

- SSAP Nos. 55 and 65 added disclosures about significant changes in the methodologies and assumptions used to calculate the liability for unpaid claims and claim adjustment expenses. Disclosures from ASU 2015-09, Disclosures about Short-Duration Contracts, not already addressed elsewhere in statutory reporting were rejected.

- SSAP No. 103R added enhanced disclosures for repurchase and reverse-repurchase agreements, and added accounting guidance for short sales, and guidance for secured borrowing transactions when the insurer is the transferee.


Insurance statutory reporting (continued)— Effective for 2018 reporting:

- SSAP No. 26R provided separate accounting guidance for the use of systematic value for ETF instruments that will be effective January 1, 2018.

- SSAP No. 100R allowed the use of net asset value (NAV) per share as a practical expedient and added disclosures. Early adoption is permitted for 2017 reporting.

ASU 2016-01, Recognition and measurement of financial assets and financial liabilities

11© 2016 KPMG LLP, a Delaware limited liability partnership and the U.S. member firm of the KPMG network of independent member firms affiliated with KPMG International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.

Main Changes

Available for Sale - equity investments

Cost method vs measurement alternative

Financial liabilities (fair value option)

Deferred taxes, presentation and other disclosures

Financial instruments – ASU 2016-01, Recognition and measurement of financial assets and financial liabilities


Available-for-sale - Equity Investments

Available for sale –changes in fair

value recorded in OCI

Fair value throughNet Income

Current GAAP ASU 2016-01

More volatility in Net Income



Cost method vs measurement alternative

Cost methodMeasurement

alternative may be elected

Cost minus impairment

Cost minus impairment +/- changes in

observable prices

Current GAAP ASU 2016-01

Eliminates cost method, but an exception to full FV available



Measurement alternative - +/- Changes in observable prices

Changes in observable prices must be

From “orderly transactions”

In the same or “similar” investment of

the same issuer

Potential challenges• Is the transaction orderly? • What to do if transaction is not orderly?• Identifying observable prices• Determining if an investment is similar



Effective date

• Public Business Entities: Fiscal years beginning after December 15, 2017 (including interim periods within those fiscal years)

• For All Other Entities: Fiscal years beginning after December 15, 2018 and interim periods in fiscal years beginning after December 15, 2019

Effective Date

• Entities that are not public business entities:may adopt for fiscal years beginning after December 15, 2017 (including interim periods within those fiscal years)

• All entities: may early adopt the provisions related to the recognition of changes in fair value of financial liabilities

Early Adoption

Financial instruments –Credit losses (ASU 2016-13)

17

Effective Date

— Fiscal years beginning after December 15, 2019 and interim periods within those years

SEC filers that are Public Business Entities

— Fiscal years beginning after December 15, 2018

Early adoption

— Fiscal years beginning after December 15, 2020 and interim periods within those years

Non-SEC filers that are Public Business Entities

— Fiscal years beginning after December 15, 2020 and interim periods thereafter

All of entities

18

Scope

■ Loans■ Loan commitments■ Financial guarantees (not insurance contracts)■ Trade receivables■ Reinsurance receivables■ Lease receivables recognized by a lessor■ Receivables that result from revenue transactions■ Loans made by a NFP entity to meet its mission (programmatic loans)■ Debt securities classified as held-to-maturity■ Debt securities classified as available-for-sale

■ Equity instruments■ Financial instruments measured at FV through NI■ Loans and receivables between entities under common control ■ Policy loan receivables of an insurance entity■ Loans made to participants by defined contribution employee benefit plans■ Pledge receivables of a not-for-profit entity

In scope

CECL

Out of scope

19

Main areas of change - CECL

No probability threshold

Expected lifetime loss estimate

Estimate future economic conditions

Applies to HTM securities

20

CECL – Measurement overviewHistorical

loss experience

adj. for asset specific

attributes

Reasonable and

supportable forecasts

Adjustments for current economic conditions

Estimate of current

expected credit losses

??

21

Further CECL measurement considerationsPool assets with similar risk characteristics

Do not consider beyond contractual term

Consider expected prepayments

Not required to recognize a loss when the risk of nonpayment of the amortized cost is zero

Beyond reasonable and supportable forecast period, revert to historical loss experience

22

AFS credit loss model - Main areas of change

Allowance

Reversals

Floor

Cannot consider length of time fair value is below amortized cost

ASU 2018-02:

Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income

Topic 220, Reporting Comprehensive Income


Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income

— Tax Cuts and Jobs Act of 2017 established a 21% corporate rate— Recognizing the entire effect of the change in tax law in income tax expense (benefit) from

continuing operations results in residual income tax effects related to deferred tax assets and liabilities initially recognized in OCI

— On February 14, 2018, the Board issued ASU 2018-02, Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income

— The ASU provides companies the option to reclassify residual income tax effects from AOCI to retained earnings

— The amount of the reclassification is limited to the income tax effects arising from the Act— All companies will be required to disclose their policy for releasing income tax effects that

remain in AOCI

Background

Final Decision


Reclassification of Certain Tax Effects from Accumulated Other Comprehensive IncomeDecisions reached to date

— Companies that elect to reclassify income tax effects arising from the Act would also disclose:

— a statement that the election was made to reclassify the income tax effects of the Act, and

— a description of the other income tax effects related to the Act that have been reclassified

— Companies that do not elect to reclassify income tax effects arising from the Act should disclose in the period of adoption a statement that they did not elect to reclassify

— The ASU is effective for interim and annual periods beginning after December 15, 2018— Application as of the beginning of the period of adoption or retrospective application to the

periods in which the effects of the Act are recognized is permissible— Early adoption is permitted— The Board decided to add backwards tracing to its existing research project on income tax

simplification

ASC topic 842 –Leases

Overview of ASU 2016-02


Scope

— Non-core assets— Long-term leases of land— Certain sales with repurchase

rights (supplier’s perspective)

— Short-term leases (lease term ≤ 12 months)

— Underlying assets of low value (≤ $5,000, when new – IASB only)

Leases of/to:— Intangible assets— Explore for or use

non-regenerative resources— Biological assets— Inventory— Assets under construction

— The scope of the new leases standard is substantially aligned with current U.S. GAAP.

Comparison to current U.S. GAAP

Withinscope

Withinscope

Outsidescope

Scope withexceptions


Exemptions and practical expedients

Short-term leases (lessees only)

— Leases with a lease term ≤ 12 months and do not include an option to purchase the underlying asset that the lessee is reasonably certain to exercise may apply current operating lease accounting

— If elected, the exemption is applied to all leases within that class of underlying asset

— Still subject to qualitative and quantitative disclosures

Underlying assets of low value (IASB only)

— Exemption for leases of underlying assets that are individually low in value (e.g., ≤ $5,000, when new) even if material in aggregate

— Leases would be accounted for off-balance sheet under IFRS, but on-balance sheet under U.S. GAAP (if not short-term)

Portfolio approach

— Aspects of the new standard may be applied at a portfolio level(e.g., determination of discount rate and lease term)

— Must be a reasonable expectation that the portfolio approach is not materially different than application to individual leases


Overview

Lease definition

ConvergedFASB/IASBdefinition

Identified asset Control over the use of the identified asset Lease

Asset is explicitly or implicitly specified in the

contract

Asset is physically distinct or customer has rights to

substantially all of the asset’s capacity

Supplier does not have a substantive substitution

right

Customer has right to obtain substantially all economic benefits from

use of the asset

Customer can direct the use of the asset

Definition of a lease: A contract that conveys the right to use an asset for a period of time in exchange for

consideration


Identify the separate lease components

Separating components of a contractA right to use an underlying asset (i.e., a lease), or a bundle of leases, is a separate lease component if both of the following criteria are met: — The lessee can benefit from the lease (or bundle of leases) on its own or together with

other resources that are readily available to the lessee, and — The lease (or bundle of leases) is neither highly dependent on, nor highly interrelated

with, the other ROUs in the contract.

Step 1

Separately account for land elements (even if above criteria are not met) unless accounting effect of doing so would be insignificant


Identify any non-lease components

Separating components of a contract

Step 2

Contract

Lease components Non-lease components (1) Not a component

Allocate consideration in the contract (Step 4)Activities (or lessor

costs) that do not transfer a good or service to the

lessee (2)

(1) For example, an arrangement to lease a machine with the lessor responsible for machine maintenance, or to lease office space with the lessor responsible for common area maintenance

(2) Examples include a lessee’s reimbursement or payment of the lessor’s property taxes and insurance


Measure the consideration in the contract (lessee)


Step 3

Payments relating to use of the underlying asset1

Other fixed or in-substance fixed payments

Other variable payments that depend on an index or rate2

Incentives paid or payable to the lessee3

Consideration in the contract (lessee)

1 See paragraph 842-10-30-52 The payments are calculated using the commencement date index or rate3 Other than those include in paragraph 842-10-30-5


Measure the consideration in the contract (lessor)


Step 3

Consideration in the contract (lessee)

Are there any other variable payments that specifically relate to either:

The lessor’s efforts to transfer one or more goods or services that are not

leases?

An outcome from transferring one or more goods or services that are not

leases?OR

No adjustment necessary

No

Part

1

Apply variable consideration requirements in Topic 606 to measure the amount to be included in the consideration in the contract:

YesYes

Step 1: Estimate the amount using the expected value or most likely

amount

Step 2: Determine the portion (if any) of that amount for which it is probable that a significant revenue reversal will

not subsequently occur

Part

2

Consideration in the contract (lessor)


Separate and allocate consideration between lease and non-lease componentsSeparating components of a contract

Step 4

Lessee LessorWhen there is anobservable standalone price for each component:

Unless the practical expedient** is elected, separate and allocate based on the relative standalone price of components.

Always separate lease and non-lease components. Allocate consideration following the Topic 606 transaction price allocation guidance – i.e., generally on a relative standalone selling price basis.

When there is not an observable stand-alone price for some or all components:

Estimate the standalone price, maximizing the use of observable information.

Remember:Activities (or costs of the lessor) that do not transfer a good or service to the lessee are not components of the contract. Therefore, no consideration is allocated to such items.

** As a practical expedient, a lessee may elect not to separate the non-lease components of a contract from the lease component to which they relate.


2 If the commencement date is at or near the end of the underlying asset’s economic life, this test does not apply

Ownership transfers at end of the lease term?

Lessee purchase option reasonably certain of exercise?

Finance lease

Operating lease

Lease term = major part (e.g., 75%) of remaining economic life1, 2?

No

No

No

Yes

Yes

Yes

PV of 1) lease payments + 2) lessee RVG ≥ substantially all (e.g., 90%) FV1?

Specialized asset with no alternative use to lessor?

No

NoYes

Yes

— Assessment criteria are similar to current U.S. GAAP, but without explicit bright lines

1 Comparison to current U.S. GAAP

Lease classification test

Lessee accounting – lease classification


Thresholds for lease classification tests

Lessee accounting – lease classification— Paragraph 842-10-55-2 permits (but does not require) use of “bright-line” thresholds when

performing the lease term and present value tests:

Threshold Permitted ‘Bright line’

Major part of the remaining economic life ≥ 75% = major part

Substantially all of the fair value of the underlying asset

≥ 90% = major part

At or near the end of the economic life of the asset

≤ 25% of the total economic life remaining = at or near the end

— May be appropriate to conclude that for some assets < 75% = major part of its remaining economic life if the asset is of a type that degrades in economic utility in a significantly front-loaded manner, while for others > 75% ≠ major part of its remaining economic life if asset holds its economic utility or value.

— Because substantially all is used elsewhere in U.S. GAAP and generally considered similarly, may not be substantial flexibility around that threshold.

— Generally do not think there is flexibility around 25% at or near the end threshold because it relates to an exception to the classification principle


New to topic 842

Lessee accounting – lease classification— Consider:

Alternative use test

Contractual restrictions Practical limitations

— Underlying asset being of a highly specialized nature or subject to highly specialized circumstances is key to meeting this test. - Alternative use test not met solely because of contractual restrictions.- Not another ‘lease term’ test

— When considering alternative use, consider the characteristics of the asset that will ultimately be returned to the lessor at the end of the lease term (i.e., customizations or modifications agreed on or committed to at lease commencement).


Recognition

Lessee accounting

Lessor Lessee

Right to use underlying asset

Lease payments

ROU assetRight to use underlying asset during lease term

Lease liabilityObligation to make

future lease payments— For lessees, all leases (other than

short-term leases) will be recognized on the balance sheet

— Presentation of interest expense in the income statement depends on lease classification


Lessee A has the right to use the warehouse

for 5 years

Lessee A has an obligation to make the 4

remaining, unpaid annual lease payments


Lease liability

Lessee accounting

Initial measurement

Lease liability Present value of unpaidlease payments

A lessee initially measures a lease liability (and a right-of-use asset) at the

lease commencement date. That is, the date on which the lessor makes the

underlying asset available for use by the lessee.

— Under current U.S. GAAP, the date a company performs its lease classification test and initially measures a capital lease is at lease inception (i.e., the date an agreement is reached).



Initial measurement – ROU asset

Lessee accounting

ROU asset is the sum of:

Initial measurem-ent of lease

liability

Initial direct costs*

Prepaid lease

payments

Lease incentives received

* Only incremental costs to obtain the lease qualify – no allocation of internal fixed costs is permitted and costs that would have been incurred even if the lease was not obtained (e.g., legal fees to draft the lease contract) are not initial direct costs.


ROU asset (Finance leases)

Lessee accounting

Subsequent measurement

While finance lease accounting (Topic 842) is substantially similar to capital lease accounting (current U.S. GAAP), be aware of definitional differences (lease

payments vs. minimum lease payments) and significant changes resulting from the reassessment requirements and new lease modification guidance.

— *Amortized, generally on a straight-line basis, over the shorter of the lease term or useful life of the ROU asset- Together with interest expense, results in a front-loaded pattern of total lease cost

— ASC 360 impairment testing

ROU asset Beginning balance

Accumulated amortization*

Accumulated impairment

losses


ROU asset (Operating leases, FASB only)

Lessee accountingMethod 1 – Derive the ROU asset from the lease liability


** The amortization of the right-of-use asset each period is calculated as the difference between the straight-line lease cost for the period (including amortization of initial direct costs) and the periodic accretion of the lease liability using the effective interest method.

Method 2 – Amortize the ROU asset

Lease liability carrying amount

Unamortized initial direct

costs

Prepaid/(accrued) lease

payments

Unamortized balance lease

incentives received

ROU asset Beginning balance

Accumulated amortization**

— P&L: Straight-line total lease cost (see next slide) — ASC 360 impairment testing- Once impaired, single lease cost is not

straight-line (pattern, but not presentation is equivalent to finance lease).


ROU asset (Operating leases, FASB only)

Lessee accounting— P&L: Single lease cost

- Single lease cost is calculated so that the remaining lease cost is allocated over the remaining lease term generally on a straight-line basis


Remaining lease cost

Total lease payments for

the lease term

Total initial direct costs

incurred

Periodic lease cost previously recognized


Lease liability

Lessee accounting

Subsequent measurement and remeasurement

— Measured at present value of unpaid lease payments throughout the lease term

— No fair value option

— The lease is modified and that modification is not accounted for as a separate contract

— There is a change in:- The assessment of the lease term - The assessment of a purchase option exercise- The amount probable of being owed under a RVG

— A contingency is resolved resulting in some or all variable lease payments becoming fixed payments


Lease liability remeasuredwhen

— Under current U.S. GAAP, lease accounting is not revised after commencement unless the lease is modified.



Subleases

Subleases

Head lessor

Head lessee/intermediate lessor

(sublessor)

Sublessee*

— Apply lessor accounting

— Apply lessee accounting

— Apply lessee accounting to the head lease— Apply lessor accounting to the sublease— Generally present gross

* Sublease classification based on underlying asset for U.S. GAAP; ROU asset for IFRS— Most U.S. GAAP subleases will be classified as operating leases by sub-lessor— Most IFRS subleases will be classified as finance leases by sub-lessor


Finance leases

Presentation

Lessee presentation

1 Unless the payments represent costs to bring another asset into service.

Balance sheet

ROU assets— Separate line-item; or— Within another line item,

separate from where operating lease ROU assets are presented

Lease liabilities— Separate line-item; or— Within another line item,

separate from where operating lease liabilities are presented

Income statement

ROU asset amortization— Consistent with

presentation of depreciation or amortization of similar assets

Interest expense on lease liability— Consistent with

presentation of other interest expense

Statement of cash flows

Principal repayments— Financing activitiesInterest payments— In accordance with Topic

230 (typically, in operating activities)

Variable lease payments— Operating activities1


Operating leasesLessee presentation

Presentation

Balance sheet

ROU assets— Separate line-item; or— Within another line item,

separate from where finance lease ROU assets are presented

Lease liabilities— Separate line-item; or— Within another line item,

separate from where finance lease liabilities are presented

Income statement

Lease expense— Included in lessee’s

income from continuing operations (operating expense)

Statement of cash flows

Lease payments— Operating activities,

unless payments are for costs to put another asset in service

Variable lease payments— Operating activities


Disclosures

Disclosures

Disclosure Objective: Enable financial statement users to assess the amount, timing and uncertainty of cash flows arising from leases.

Lessees Lessors— New qualitative and quantitative

disclosures to provide better information to users.

— Lessees will exercise judgment to determine the appropriate level at which to aggregate, or disaggregate, disclosures.

— New disclosures principally about exposure to residual asset risk.


Lessee quantitative disclosure

Disclosures

Example

Year ending December 31,20X9 20X8

Lease CostFinance lease cost:

Amortization of right-of-use assets $XXX $XXXInterest on lease liabilities XXX XXX

Operating lease cost XXX XXXShort-term lease cost XXX XXXVariable lease cost XXX XXXSublease income (XXX) (XXX)Total lease cost $XXX $XXXOther Information(Gains) and losses on sale and leaseback transactions, net $(XXX) $XXXCash paid for amounts included in the measurement of lease liabilities XXX XXX

Operating cash flows from finance leases XXX XXXOperating cash flows from operating leases XXX XXXFinancing cash flows from finance leases XXX XXX

Right-of-use assets obtained in exchange for new finance lease liabilities XXX XXXRight-of-use assets obtained in exchange for new operating lease liabilities XXX XXXWeighted-average remaining lease term – finance leases XX Years XX YearsWeighted-average remaining lease term – operating leases XX Years XX YearsWeighted-average discount rate – finance leases XX% XX%Weighted-average discount rate-operating leases XX% XX%

This table is an example of how the FASB envisions a lessee might satisfy the quantitative disclosures requirements.

However, the FASB has not mandated use of the tabular presentation.


Effective dates

Transition

— Interim and annual periods in fiscal years beginning after December 15, 2018

Public business entities, certain not-for-profit entities, and certain employee benefit

plans

— Fiscal years beginning after December 15, 2019, and interim periods in fiscal years beginning one year later

All other entities

Early adoption permitted for all entities upon issuance


Transition overview

Transition

Transition approach — Apply a modified retrospective transition approach: - Restate all comparative periods presented- No revisions to the accounting for leases that expired

prior to date of initial application

Package of practical expedients(All or nothing)

— An entity may elect not to reassess:- Whether expired or existing contracts contain leases

under the new definition of a lease; - Lease classification for expired or existing leases;

and- Whether previously capitalized initial direct costs

would qualify for capitalization under Topic 842.

Use of hindsight(Elect on its own or with the package of practical expedients)

— Hindsight allowed when considering likelihood of exercising lessee options to extend or terminate a lease or purchase the underlying asset, and in assessing impairment of ROUs


Leases – FASB update

— Land easements are within the scope of ASC 842.

— All new, existing or expired land easements are evaluated using ASC 842, unless practical expedient is applied.

— Provides option to not evaluate existing or expired land easements under ASC 842 that were not previously accounted for as leases under ASC 840.

Final standard, ASU 2018-01

Effective date and transition are the same as ASC 842. If a company has already adopted ASC 842, the amendments are effective

immediately.


Leases – FASB update (cont’d)

— FASB agreed to finalize 16 technical corrections to the new leases guidance based on feedback received from stakeholders. Pending final standard.

Proposed ASU, Technical corrections



OPTIONAL TRANSITION RELIEF— All companies may use the effective date of the leases standard as their date

of initial application in transition.— If a company elects the option, it would not need to adjust its comparative

period financial statements for effects of the new standard. — Company would recognize its cumulative effect transition adjustment as of

the effective date rather than the beginning of the earliest comparative period presented.

Proposed ASU, Targeted improvements

Even if this relief is finalized, companies should not significantly alter their implementation timeline.



LESSOR PRACTICAL EXPEDIENTA lessor would be permitted not to separate lease and related non-lease components but rather account for them as a single lease component if:— The components to be combined have the same timing and pattern of

revenue recognition; and— The combined component will be classified as an operating lease.

Proposed ASU, Targeted improvements

Targeted Improvements to the Accounting for Long-Duration Contracts


Insurance Contracts – FASB Initiatives

Short-Duration Contracts (Final

Standard ASU 2015-09 Issued May 2015)

Focused efforts on targeted improvements

to disclosures

No change to current U.S. GAAP model for

recognition and measurement

Long-Duration Contracts (Exposure

Draft Issued September 2016)

Focused efforts on targeted improvements to both accounting and

disclosures

Change to current U.S. GAAP model for

recognition, measurement,

presentation and disclosure

Insurance: Targeted Improvements to the Accounting for Long-Duration Contracts


Timeline

Overview

Nonparticipating and limited payment contracts

Participating contracts

Long-duration contracts with market risk benefits

Deferred acquisition costs (DAC)

Disclosures

AgendaInsurance: Targeted Improvements to the Accounting for Long-Duration Contracts


Feedback from comment letters discussed in February 2017

Proposed ASU issued in September 2016

Long-duration Insurance Contracts – TimelineInsurance: Targeted Improvements to the Accounting for Long-Duration Contracts

Redeliberations in Summer/Fall 2017

Public roundtable meeting held in April 2017

Topics redeliberated by the FASB Board:- Nonparticipating traditional and limited-payment insurance contracts –

August 2, 2017- Participating insurance contracts – October 4, 2017- Measurement of market risk benefits – October 4, 2017- Amortization of deferred acquisition costs – October 4, 2017- Presentation and disclosures – November 1, 2017Topics to be deliberated at future meetings:- Sweep issues- Effective date


ASU Long-

Duration Liability

Best Estimate Assumptions

Reserving Model

Income Statement Impact

Disclosures

― Cash flow assumptions updated at least annually on a catch-up basis*

― Discount rate assumptions updated each reporting period on an immediate basis

― Retained the net premium reserving model

― Provision for adverse deviation and premium deficiency reserve removed from determination of the liability

― Cash flow assumption changes reflected in P&L

― Discount rate assumption changes reflected in OCI

― Market risk benefit changes reflected in P&L, except for instrument-specific credit risk is reflected in OCI

― Disaggregated rollforwards― Information about significant

inputs, judgments, assumptions and methods

Overview - Changes to Liability for Future Policy BenefitsInsurance: Targeted Improvements to the Accounting for Long-Duration Contracts

* Previously referred to as the retrospective approach


Unlocking of assumptions is meant to provide more relevant estimates of future policy benefit reservesKey Changes:— Updated at least annually in the same

quarter every year, but more frequently if experience warrants

— Unlocked and updated on a catch-up basis (previously the retrospective approach) through net income

— Expense assumptions updated consistently with other cash flow assumptions, but can elect on an entity-wide basis to not update (lock-in)

Cash Flow Assumptions

Unlocking of the discount rate better reflects the market environment of the liabilitiesKey Changes:— Unlocked and updated at each

reporting date on an immediate basis in other comprehensive income

— Determine discount rate using an upper-medium grade, fixed income instrument yield (generally an A rating)

Discount Rate

Reflected in the Net Premium % Not Reflected in the Net Premium %

Nonparticipating and Limited Payment Contracts – Key ChangesInsurance: Targeted Improvements to the Accounting for Long-Duration Contracts


Nonparticipating and Limited Payment Contracts – Net Premium Reserving Model

Valuet = PV (Benefits + Expenses) – PV (Net Premium % x Premiums)

PV (Benefits + Expenses)Net Premium % =

PV (Premiums)

All Cash Flow Assumptions* Unlocked

* Expense assumptions are to be updated consistently with the updated methodology used for other cash flow assumptions unless an entity-wide election is made to not update the expense assumption


— Determine discount rate using an upper-medium grade, fixed income instrument yield (generally an A rating)

— Insurance entities would be required to:- Use reliable information that reflects duration characteristics of the future policy

benefit reserves- Maximize the use of observable inputs and minimize the use of unobservable

inputs- Use the original discount rate as the interest accretion rate

Current practice is that the discount rate can vary depending on the type of insurance contract. Discount rates can be currently based on: expected investment yield, policy crediting rate, or dividend interest rate.

Nonparticipating and Limited Payment Contracts - Discount RateInsurance: Targeted Improvements to the Accounting for Long-Duration Contracts

IMPACT: Discount rate on assets and liabilities are no longer connected; therefore, the Asset Liability Management reported discount rate could be out of sync with the financial statement discount rate


— Apply to existing carrying amounts at the transition date, adjusted to remove related amounts in accumulated OCI (prospective basis)

— Option to apply the guidance retrospectively, with a cumulative adjustment to opening retained earnings- Required to use same contract issue year on an entity-wide basis for that issue year

and all subsequent issue years- Required to use actual historical experience information

Transition

Nonparticipating and Limited Payment Contracts - TransitionInsurance: Targeted Improvements to the Accounting for Long-Duration Contracts

IMPACT: Availability of historical information may limit the use of retrospective application for all issue years


— The proposed ASU would have required:

- Participating insurance contracts follow the same accounting model as nonparticipating insurance contracts

- Assumptions for expected dividend payments, discounted at the same rate as other cash flow assumptions, to be included in the measurement of the liability

The Board decided to retain the existing US GAAP guidance on liability measurement and to enhance disclosures.

Under current US GAAP, the future policy benefits liability for participating insurance contracts is measured using a separate accounting model that is different from the model used for nonparticipating insurance contracts.

Participating contractsInsurance: Targeted Improvements to the Accounting for Long-Duration Contracts

IMPACT: The simplified DAC amortization model will still be used for participating insurance contracts


Long Duration Contracts with Market risk BenefitsApproach− One measurement model for all types of contracts with

market risk benefits (e.g. fixed indexed annuities, guaranteed minimum death benefits, accumulation, income, withdrawal, and withdrawal-for-life benefits)

− Includes both separate account and general account deposit (or account value) products

− Measured at fair value and presented separately on the statement of financial position

− Recognize the change in fair value: − in other comprehensive income (OCI) when

attributable to a change in the instrument-specific credit risk

− remainder as a separate line item in the statement of operations

Market risk BenefitsContract feature that exposes an insurance entity to other-than-nominal capital market risk from:

1) A contract feature that protects the account balance from adverse capital market performance

2) A contract feature that causes variability in the account balance in response to capital market volatility

IMPACTS: 1. Contract features that were previously embedded derivatives may now be market risk benefits

2. Increased volatility in the P&L due to changes in FV



— Retrospective application to all prior periods- Maximize the use of relevant observable information as of contract inception- Hindsight may be used for assumptions that are unobservable or unavailable

— Difference between fair value and carrying value at the transition date, excluding changes in instrument-specific credit risk, recognized in opening retained earnings

— Cumulative effect of changes in instrument-specific credit risk recognized in accumulated OCI

Transition

Long Duration Contracts with Market risk Benefits (continued)Insurance: Targeted Improvements to the Accounting for Long-Duration Contracts


Deferred Acquisition Costs (DAC)

― Accruing interest on the unamortized balance of DAC― Adjusting DAC for the effect of investment performance or changes in expected future

liability cash flows (shadow adjustments) ― Impairment analysis on DAC

Concepts eliminated under the proposed standard:


DAC amortization method replaced with a principle in which:— DAC amortized on a constant basis over the expected life of the contract— Profitability of the contract would not be considered— Contracts may be grouped together — DAC written off when actual experience exceeds expected experience

Under current US GAAP, DAC is amortized in proportion to premiums, gross profits or gross margins

IMPACT: Simplifies the amortization of DAC


— Apply to existing carrying amounts at the transition date, adjusted to remove related amounts in accumulated OCI (prospective basis)

— Option to apply the guidance retrospectively, with a cumulative adjustment to opening retained earnings

— Required to elect DAC transition method and issue-year level consistent with the liability for future policy benefits

Transition

Deferred Acquisition Costs (DAC) (continued)Insurance: Targeted Improvements to the Accounting for Long-Duration Contracts

IMPACT: Availability of historical information may limit the use of retrospective application for all issue years


DisclosuresAdditional disaggregated disclosures for the future policy benefit reserves and DAC would include rollforwards of opening and closing balances and quantitative and qualitative information about significant inputs, judgments and assumptions used in the measurement of the liabilities for future policy benefits and DAC.

— Provides a principle for determining how to disaggregate the new disclosures to provide meaningful information without requiring a large amount of insignificant detail or aggregation of items with significantly different characteristics

— Provides examples of disaggregation characteristics (e.g. type of coverage, etc.)— Consider how information about future policy benefit reserves or DAC has been

disaggregated for other purposes when determining which categories would be the most relevant and useful

— Clarifies that the aggregation of the disclosures would at a minimum be consistent with segment-related disclosures

IMPACT: The proposed ASU would significantly expand the disclosure requirements for long-duration contracts in the annual and interim financial statements


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