Financial Reporting of General Insurance Activities

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1 Accounting Standard AASB 1023 November 1996 Financial Reporting of General Insurance Activities Issued by the Australian Accounting Standards Board

2 Obtaining a Copy of this Accounting Standard Copies of this Standard are available for purchase from the Australian Accounting Standards Board by contacting: The Customer Service Officer Australian Accounting Research Foundation 211 Hawthorn Road Caulfield Victoria 3162 AUSTRALIA Phone: (03) Fax: (03) COPYRIGHT 1996 Australian Accounting Standards Board. The copying of this Standard is only permitted in certain circumstances. Enquiries should be directed to the Australian Accounting Standards Board. ISSN AASB

3 CONTENTS MAIN FEATURES OF THE STANDARD... page 5 Section and page number 1 Application Operative Date Purpose of Standard Premiums Claims Recognition and Measurement Expected Future Payments Discount Rate Levies and Charges Reinsurance Premiums Portfolio Transfers Underwriting Pools and Coinsurance Assets Investments Land and Buildings Other Assets Acquisition Costs Amortisation of Acquisition Costs Revenues Receivable Disclosures Comparative Information Transitional Provisions Definitions CONFORMITY WITH INTERNATIONAL AND NEW ZEALAND ACCOUNTING STANDARDS... page 32 AASB

4 APPENDIX Extracts from Example Financial Report for a General Insurer... page 33 BACKGROUND TO REVISION... page 45 Defined words appear in italics the first time they appear in a section. The definitions are in Section 14. Standards are printed in bold type and commentary in light type. AASB

5 MAIN FEATURES OF THE STANDARD Major Requirements Premiums Premiums are required to be recognised from the attachment date and to be measured over the period of insurance in a pattern in accordance with the incidence of risk. Liability for Outstanding Claims A liability for outstanding claims is required to be recognised for direct and inwards reinsurance business and measured as the present value of expected future payments. Investments Integral to General Insurance Activities Investments that are integral to the entity's general insurance activities are required to be measured at net market values and changes in the measured amounts recognised as revenues or expenses in the financial years in which the changes occur. Revised Claims Development Disclosures The superseded (and original) Standard was issued in The only difference between the requirements of this Standard and the superseded Standard are revised claims development disclosure requirements. This Standard is presented in plain English format, which has changed the location of requirements and commentary. A description of the revised claims development requirements and a table comparing the paragraphs in this Standard with the paragraphs in the superseded Standard is included in the Background to Revision section. AASB

6 ACCOUNTING STANDARD AASB 1023 "FINANCIAL REPORTING OF GENERAL INSURANCE ACTIVITIES" 1 Application 1.1 Subject to paragraph 1.2, this Standard applies to each entity which is required to prepare financial statements in accordance with Part 3.6 of the Corporations Law and which: (a) (b) is a reporting entity; or holds those financial statements out to be, or form part of, a general purpose financial report. 1.2 Where a requirement of this Standard is inconsistent with any provision of the Corporations Law or the Corporations Regulations, the requirement does not apply The standards specified in this Standard apply to the financial report where information resulting from their application is material, in accordance with Accounting Standard AASB 1031 "Materiality". 1.3 This Standard applies to general insurance activities There are various types of insurance. This Standard deals with general insurance (including general reinsurance). General insurance provides protection for a specified period against specified losses resulting from the occurrence of specified types of events that may occur. Such events include theft or storms resulting in property loss or damage, work-related and motor vehicle accidents resulting in injury, and fires or floods resulting in interruptions to business. For certain amounts of premium, the insurer undertakes to accept, either wholly or in part, from the insured the risks of sustaining specified losses arising from such events within a specified period. For many types of insurance business, such as fire and fire-related risks, the specified period is usually one year. For other types of insurance business the specified period relates specifically to the underlying risk, which may be a period less than one year (for example, marine cargo insurance), or a period of many years (for example, mortgage insurance). AASB

7 1.4 This Standard does not apply to accounting for life insurance, medical benefits insurance or self-insurance This Standard does not deal with accounting for life insurance or medical benefits insurance. Life insurance is normally an assurance that a benefit will be paid on the occurrence of a specified event that will definitely take place, but the timing of which may be uncertain. Medical benefits insurance is provided mainly by mutual provident entities established for the benefit of policyholders rather than equityholders This Standard does not deal with accounting for self-insurance. However, the principles adopted in this Standard for measuring the liability to external parties in respect of outstanding claims are appropriate for measuring liabilities resulting from self-insurance. 2 Operative Date 2.1 This Standard applies to financial years ending on or after 31 December This Standard may be applied to financial years ending before 31 December 1997 where an election has been made in accordance with subsection 285(3) of the Corporations Law. 2.3 When operative, this Standard supersedes Accounting Standard AASB 1023 "Financial Reporting of General Insurance Activities" as approved by notice published in Gazette No. S 344 on 27 December Notice of this Standard was published in the Commonwealth of Australia Gazette on 6 November Purpose of Standard 3.1 The purpose of this Standard is to: (a) (b) specify the manner of accounting for the general insurance activities of an entity and for the investment activities of the entity integral to those general insurance activities; and require disclosure of information relating to general insurance activities so that users of general purpose AASB

8 financial reports are provided with information about the financial position and performance of the entity. 4 Premiums 4.1 Premium revenue must be recognised from the attachment date as soon as the amount of the premium can be reliably measured The amount of a premium is determined by a general insurer so as to cover anticipated claims, reinsurance premiums, administrative, acquisition and other costs, and a profit component (having regard to expected revenues from the investment of premiums). The amounts collected in respect of these components are revenue of an insurer on the basis that they are collected in consideration for the insurer rendering services by indemnifying those insured against specified losses For certain classes of general insurance business, government authorities may require the payment of levies and charges. For example, workers' compensation insurance levies, annual licence fees and fire brigade charges may apply. Such levies and charges are expenses of the insurer, rather than government charges directly upon those insured. The insurer is not acting simply as a collector of these levies and charges. Although not compelled to collect these amounts from those insured, the insurer is entitled to include in premiums an amount to cover the estimated amount of the levies and charges. The insurer is usually responsible for paying the levies and charges at a later date. The amount paid by the insurer does not depend on the amounts collected from those insured in relation to the levies and charges. Therefore, the amounts collected to meet levies and charges are revenue of the insurer In most States, stamp duty is charged on individual insurance policies and is separately identified by insurers on policy documents. The insurer normally is required to collect and pass on to the government an equivalent amount. Because such stamp duty is a tax collected on behalf of a third party and there is no choice on the part of the insurer but to collect the duty from the insured, it is not revenue of the insurer Premium revenue needs to be recognised from the date of the attachment of risk in relation to each policy of insurance because insurers earn premium revenue by assuming risks from that date on behalf of those insured. However, for reasons of practicality, many AASB

9 insurers use bases of recognition that attempt to approximate this date. These bases are predicated on assumptions; for example, a AASB

10 direct insurer may assume that risk attaches to all policies from the middle of the month in which they are written, and a reinsurer may assume, in relation to premiums ceded to it, that risk attaches from the assumed attachment date of the underlying direct insurance policies or of the indemnity periods. Such bases are acceptable provided that they do not result in the recognition of a materially different amount of premium revenue in a particular financial year than would be the case if recognition occurred from the date of attachment of risk for each policy. 4.2 Over the period of insurance, premium revenue must be recognised in accordance with the pattern of the incidence of risk or, where the result will not be materially different, evenly over the period of the policy (for direct insurance) or period of indemnity (for reinsurance) Premium revenue is to be recognised in the financial report only when it has been earned. Therefore, the gross written premium for a financial year would normally not equate with premium revenue because the gross written premium would normally include amounts which are unearned at the reporting date. These amounts would be earned by the insurer in the subsequent financial year or years over the remaining durations of the insurance policies Because insurers earn premium revenue by assuming risks on behalf of those insured, the recognition of premium revenue over the period of a policy of insurance needs to be based on the pattern of risk to which the insurer is exposed. An insurer may be able to reliably estimate the pattern of risk for a particular type of insurance business based on past experience Most insurers recognise premium revenue on the basis of the passage of time. This is appropriate where the risk of events occurring that will give rise to claims is much the same throughout the policy period. However, there may be policies for which the risk is not evenly spread throughout the policy period. 4.3 In the case of business where the premium is subject to later adjustment, the adjusted premium must be used, where possible, as the basis for recognising premium revenue. Where this is not possible, the deposit premium adjusted for any other relevant information must be recognised as the premium revenue provided that it is expected that this amount will not be materially different from the actual amount of premium. AASB

11 4.3.1 For some classes of insurance it is usual for the premium to be adjusted as a result of events and information that only become AASB

12 known during or after the policy period. For example, marine cargo insurance is a type of "adjustable" business for which a deposit premium is paid at the beginning of the policy period and subsequently adjusted on the basis of a cargo declaration. Some reinsurance arrangements also typically involve the ceding of an amount of deposit premium, which is subject to subsequent adjustment based on the outcome of the covered insurance policies Where the precise amount of premium revenue is uncertain, insurers often estimate the amount of the premium using the deposit premium adjusted for any other relevant information that may be available, such as the recent claims experience under adjustablepremium policies. Where such estimates and the actual (adjusted) premiums are not expected to be materially different, this approach provides a reliable basis for measuring premium revenue. 4.4 Premium revenue relating to unclosed business must be recognised in accordance with the standards set out in paragraphs 4.1, 4.2 and Frequently, there is insufficient information available at the end of a financial year to enable an insurer to accurately identify the business written close to the reporting date for which the date of attachment of risk is prior to the reporting date. This is often referred to as unclosed business. Consistent with the principle stated in paragraph 4.1 that premium revenue is to be recognised from the attachment date, all unclosed business will need to be estimated and the earned portion of premium relating to unclosed business included in premium revenue Estimates of the amount of unclosed business can be made using information from prior periods adjusted for the impact of recent trends and events. In addition, information about unclosed business may become available between the reporting date and the date of completion of the financial report that may enable more reliable estimates to be made. 5 Claims Recognition and Measurement 5.1 A liability for outstanding claims must be recognised in respect of both direct business and inwards reinsurance business and must be measured as the present value of the expected future payments. AASB

13 5.1.1 The liability for outstanding claims will need to be measured as the present value of expected future payments. This measurement approach is based on the view that the liability for outstanding claims ought to reflect the amount which, if set aside as at the reporting date, would accumulate so as to enable the insurer to pay the amounts of claims as they fall due. The approach requires estimation of the ultimate cost of settling claims and the discounting of those amounts to a present value The longer the expected period from the reporting date to settlement, the more likely it is that the ultimate cost of settlement will be affected by inflationary factors likely to occur during the period to settlement. These factors include changes in specific price levels, for example, trends in average periods of incapacity and in the amounts of court awards for successful claims For claims expected to be settled within one year of the reporting date, including those arising under short-tail business, the impact of events occurring during the period to settlement may not be material. The liability for such claims may be measured as the amount of the expected future payments, provided that the amount of the expected future payments does not differ materially from the present value of those payments. Expected Future Payments 5.2 The expected future payments must include amounts in relation to unpaid reported claims, claims incurred but not reported, adjustments in the light of the most recently available information for claims development and claims incurred but not enough reported, and costs that the insurer expects to incur in settling these claims It is important to identify the components of the ultimate cost to an insurer of settling claims, for the purposes of determining the claims expense for the financial year and determining the liability for outstanding claims as at the reporting date. These components comprise the policy benefit amounts required to be paid to or on behalf of those insured, and claims settlement costs, that is, costs associated with achieving settlements with those insured. Claims settlement costs include costs that can be associated directly with individual claims, such as legal and other professional fees, and costs that can only be indirectly associated with individual claims, such as claims administration costs. AASB

14 5.2.2 Policy benefit amounts and direct claims settlement costs incurred during the financial year are expenses of an insurer, representing the AASB

15 consumption or loss of economic benefits. The liability for outstanding claims includes unpaid policy benefits and direct claims settlement costs relating to claims arising during the financial year, as they are outgoings that an insurer is presently obliged to meet as a result of past events Indirect claims settlement costs incurred during the financial year are also expenses of an insurer, and include a portion of the indirect claims settlement costs to be paid in the future that which relates to handling claims arising during the financial year. The liability for outstanding claims includes these unpaid indirect claims settlement costs It is important to ensure that claims are recognised as expenses and liabilities in the correct financial year. Claims arise from events covered by policies of insurance that occur during the period of the policies. Some events will occur and give rise to claims that are reported to the insurer and settled within the same financial year. Other reported claims may be unsettled at the end of a particular financial year. In addition, there may be events which give rise to claims which, at the end of a financial year, have yet to be reported to the insurer. The latter are termed claims incurred but not reported (claims IBNR) Claims arising from events that occur during a financial year and which are settled during that same period are expenses of that period. In addition, a liability and corresponding expense will need to be recognised for reported claims arising from events of the financial year which have yet to be settled. This involves a process of estimation which includes assessment of individual claims and past claims experience When, based on knowledge of the business, claims IBNR are expected to exist, an estimate would need to be made of the amount of the successful claims that will arise therefrom. This involves recognition of a liability and corresponding expense for the financial year. As in the case of reported but unsettled claims, an estimate of the amount of the current claims incurred but not reported needs to be based on past experience and needs to take into account any changes in circumstances, such as recent catastrophic events and changes in the volume or mix of risks underwritten, that may affect the pattern of unreported claims The recognition as expenses and liabilities of the components of the ultimate cost of settling claims also depends on whether they can be AASB

16 measured reliably. Some insurers use formulae, related to the amount of outstanding claims and based on the past experience of AASB

17 the insurer and the industry, to arrive at an estimate of direct and indirect settlement costs. Provided that such formulae are based on a reasonable number of years and are appropriately adjusted to take account of recent developments, they would normally provide a reliable estimate of the settlement costs Claims expense and the liability for outstanding claims will need to be adjusted on the basis of information, including re-opened claims, that becomes available after the initial recognition of claims, to enable the insurer to make a more accurate estimate of the ultimate cost of settlement. This is often referred to as claims development. As is the case with other liabilities, the effect of the adjustments to the liability for outstanding claims and to claims expense will need to be recognised when the information becomes available Where further information becomes available about reported claims and reveals that the ultimate cost of settling claims has been underestimated, the upwards adjustment to claims expense and to the liability for outstanding claims is often referred to as claims incurred but not enough reported (claims IBNER). Where further information reveals that the ultimate cost of settling claims has been over-estimated, the adjustment is sometimes referred to as negative claims IBNER. Discount Rate 5.3 The discount rate or rates to be used in measuring the present value of the expected future payments must be the rate or rates of return that the insurer anticipates it could earn if sufficient funds were available to meet claims liabilities as they fall due. The discount rate or rates must be determined by reference to market-determined risk-adjusted rates of return appropriate to the insurer The rates being earned on existing assets may be indicative of market-determined risk-adjusted rates of return appropriate to the insurer. Estimated rates of return would need to reflect the investment performance expected to be sustainable for the periods to settlement on the amount of funds sufficient to meet claims liabilities The portion of the increase in the liability for outstanding claims from the previous reporting date to the current reporting date which is due to discounted claims not yet settled being one period closer to settlement, ought, conceptually, to be recognised as interest expense of the current financial year. However, it is considered that the AASB

18 costs of distinguishing this component of the increase in the liability for AASB

19 outstanding claims exceed the benefits that may be gained from its disclosure. Thus, such increase will need to be included in claims expense for the current financial year. 6 Levies and Charges 6.1 A liability for levies and charges must be recognised on the acceptance of risks that result in the requirement to pay those levies and charges. An expense must be recognised for the levies and charges incurred during the financial year on the same basis as the recognition of premium revenue The levies and charges imposed by government authorities in respect of certain classes of insurance business are expenses of the insurer, as discussed in paragraph The amounts of these levies and charges are often calculated as percentages of the insurer's gross written premium for the financial year. A liability for unpaid levies and charges will need to be recognised by the insurer on the acceptance during the financial year from those insured of risks that result in the requirement to pay the levies and charges to the authorities. This liability will need to include an estimate for any levies and charges incurred during the financial year which have not been formally assessed by the authorities As the levies and charges represent a cost to the insurer of earning premium revenue, an expense will need to be recognised for the levies and charges incurred during the financial year on the same basis as the recognition of premium revenue. The portion of the levies and charges incurred that relates to unearned premium therefore will need to be recognised as a prepayment. The levies and charges expense for the financial year needs to be disclosed in the financial report when considered to be useful to users. 7 Reinsurance Premiums 7.1 Premium ceded to reinsurers must be recognised by the direct insurer as outwards reinsurance premium expense in accordance with the pattern of reinsurance service. Retrocessions must be recognised by the ceding reinsurer as expenses in accordance with the pattern of reinsurance service It is common for insurers to reinsure a portion of the risks that they accept. To secure reinsurance cover, the insurer passes on a portion of the premiums received from those insured. This is usually done AASB

20 using reinsurance treaties under which the direct (or ceding) insurer typically agrees to pass on to a reinsurer a specified portion of the risks and premiums for a particular type of business that it underwrites over a specified period. This is known as treaty reinsurance. Reinsurance arrangements are also made in relation to individual risks (rather than whole classes of business) on an ad hoc basis. This is typically known as facultative reinsurance Under reinsurance arrangements, the insurer may cede risk and premium to the reinsurer on a proportional basis. Alternatively, the risk and premium may be ceded on a non-proportional basis, such as for excess of loss reinsurance which typically indemnifies the direct insurer against losses above a specified level on a specified range of business The direct insurer will need to account for direct insurance and reinsurance transactions on a gross basis, so that the extent and effectiveness of the reinsurance arrangements are apparent to the users of the financial report, and an indication of the insurer's risk management performance is provided to users. Thus, the gross amount of premiums earned during the financial year by the direct insurer will need to be recognised as revenue because it undertakes to indemnify the full amount of the specified losses of those it has insured, regardless of the reinsurance arrangements. Correspondingly, the direct insurer will need to recognise the gross amount of claims expense incurred during the financial year because it is obliged to meet the full cost of successful claims by those it has insured Accordingly, premium ceded to reinsurers (outwards reinsurance premium) will need to be recognised as an expense of the direct insurer on the basis that it is an outgoing incurred in undertaking the business of direct insurance underwriting, and is not to be netted against premium revenue. Reinsurance recoveries received or receivable in respect of the financial year from a reinsurer will need to be recognised by the direct insurer as revenue, and are not to be netted against claims expense or outwards reinsurance premium expense Outwards reinsurance premium expense will need to be recognised in the profit and loss account in accordance with the pattern of reinsurance service. For proportional reinsurance, this would normally be consistent with the pattern of risk of the underlying direct insurance policies. For non-proportional reinsurance, the expense would normally be recognised over the period of the reinsurance arrangement. AASB

21 7.1.6 Frequently, a reinsurer will cede a portion of the risk accepted from a direct insurer to another reinsurer. This is generally referred to as retrocession, with the accepting reinsurer referred to as the retrocessionaire and the premiums ceded in these circumstances referred to as retrocessions Retrocessions will need to be recognised by the ceding reinsurer in the same way as a direct insurer recognises outwards reinsurance, that is, as an expense, and claims recovered or recoverable from retrocessionaires in respect of the financial year will need to be recognised as revenue, for the reasons discussed in paragraphs and Similar treatments for premium accepted and reinsured, and claims and claims recoveries would be required for reinsurers further along the reinsurance chain. 7.2 Inwards reinsurance premium revenue and retrocessions revenue must be recognised by the accepting reinsurer in accordance with the standards set out in paragraphs 4.1, 4.2, 4.3 and From the perspective of the reinsurer, reinsurance premiums accepted are akin to premiums accepted by the direct insurer. The reinsurer will need to recognise premiums ceded to it (inwards reinsurance) as revenue in the same way as the direct insurer treats the acceptance of original premiums as revenue. Correspondingly, the reinsurer will need to recognise claims from insurers in the same way as the direct insurer recognises claims from those it has insured, that is, as an expense Premiums accepted by the reinsurer under proportional or nonproportional treaty reinsurance arrangements need to be recognised from the attachment date, that is, the date from which the reinsurer bears its proportion of the relevant risks underwritten by the direct insurer. Reinsurers usually use bases of recognition that approximate the dates of bearing the risks. For example, the reinsurer may assume that its acceptance of risks occurs from the middle of the period for which the aggregate ceded premiums are advised by the direct insurer. This approach is acceptable provided that the premiums received or receivable in respect of the financial year are recognised in that period, whether or not the periodic advice from the direct insurer has been received The periodic advices from each direct insurer also include aggregate information relating to the liability for outstanding AASB

22 claims. The reinsurer will need to measure its liability for outstanding claims on AASB

23 the basis of this information and its past experience of the claims payments made under reinsurance arrangements. As the factors used by the direct insurers in calculating the advised outstanding claims may vary considerably, reinsurers are not required to include proportional treaty reinsurance business in the disclosures of average inflation and discount rates, and average weighted expected term to settlement (refer to paragraph 11.4). 8 Portfolio Transfers 8.1 Where the responsibility in relation to claims on transferred insurance business remains with the transferring insurer, the transfer must be accounted for by the transferring insurer and the accepting insurer as reinsurance business Portfolio transfer is a term used to describe the process by which premiums and claims are transferred from one insurer to another. Transfers may be completed in a number of ways in relation to claims arising from events that occurred before the transfer. The receiving insurer may take responsibility in relation to all claims under the agreement or treaty that have not yet been paid, or it may take responsibility only in relation to those claims arising from events that occur after the date of transfer In relation to the transfer of direct insurance business, while the acquiring insurer agrees to meet the claims of those insured from a particular time, the contractual responsibility of the original direct insurer to meet those claims normally remains. However, in relation to the withdrawal of a reinsurer from a reinsurance treaty arrangement, the contractual responsibility of the reinsurer to the direct insurer in relation to outstanding claims may be passed back to the direct insurer with a return of unearned premium, or may be retained by the withdrawing reinsurer. In the former case, the direct insurer may choose to reinsure the outstanding claims with another reinsurer. This assuming reinsurer would be ceded premium for bearing liability in relation to existing outstanding claims Where the responsibility in relation to claims on transferred insurance business remains with the transferring insurer: (a) the transferring insurer will need to recognise the transferred premium revenue and the relevant outstanding claims in the same way as other outwards reinsurance business; and AASB

24 (b) the accepting insurer will need to recognise the premium revenue ceded to it and the relevant outstanding claims in the same way as other inwards reinsurance business. 8.2 Where the responsibility in relation to claims on transferred insurance business passes from the transferring insurer to the accepting insurer, the transfer must be accounted for as a portfolio withdrawal by the transferring insurer and as a portfolio assumption by the accepting insurer. 8.3 A portfolio withdrawal must be accounted for by the transferring insurer by eliminating the liabilities and assets connected with the risks transferred. A portfolio assumption must be accounted for by the accepting insurer by recognising the relevant amount of unearned premium revenue and the outstanding claims for which the transferring insurer is no longer responsible. 9 Underwriting Pools and Coinsurance 9.1 Insurance business allocated through underwriting pools and coinsurance arrangements by an entity acting as agent must be accounted for by the accepting insurer as direct insurance business Direct insurers or reinsurers may form underwriting pools or enter coinsurance arrangements as vehicles for jointly insuring particular risks or types of risks. Premiums, claims and other expenses are usually shared in agreed ratios by insurers involved in these arrangements Many underwriting pools and coinsurance arrangements involve the acceptance of risks by an entity acting as an agent for pool members or coinsurers. The entity receives premiums and pays claims and expenses, and allocates shares of the business to each pool member or coinsurer in agreed ratios. As the entity acting as agent is effectively not an insurer, the business allocated to pool members and coinsurers is not reinsurance business. Pool members and coinsurers will need to treat such business allocated to them as direct insurance business. 9.2 Business directly underwritten by a member of an underwriting pool or coinsurance arrangement must be accounted for as direct insurance business and the portion of the risk reinsured AASB

25 by other pool members or coinsurers, determined by reference to the extent of the shares in the pool or arrangement of other AASB

26 pool members or coinsurers, must be accounted for as outwards reinsurance. The pool member's or coinsurer's share of insurance business that other insurers place in the pool or arrangement must be accounted for as inwards reinsurance Some underwriting pools and coinsurance arrangements involve members of the pool or coinsurers directly underwriting risks and then passing all of those risks into the pool or arrangement. These risks are then shared among pool members or coinsurers. For this type of underwriting pool or arrangement, this Standard requires an insurer to treat its share of the business that other insurers place with the pool or arrangement as inwards reinsurance, and the business that it writes and passes into the pool or arrangement as direct insurance business which it reinsures to the extent of the shares in the pool or arrangement of the other pool members or coinsurers. This approach results in the insurer's financial report properly reflecting its obligations to those it has directly insured and the substance of the transactions with the pool members or coinsurers. 10 Assets Investments 10.1 Investments integral to the entity's general insurance activities must be measured at net market values as at the reporting date. Any changes in the amounts at which such investments are measured must be recognised as revenues or expenses in the profit and loss account in the financial year in which the changes occur. Accounting Standards AASB 1021 "Depreciation of Non-Current Assets" and AASB 1010 "Accounting for the Revaluation of Non-Current Assets" do not apply to such investments The assets of general insurers normally comprise the following major types: investments, operating assets such as fixtures and fittings, accounts receivable, and deferred acquisition costs. Investments are primarily held as a means of generating revenues. Operating assets are those assets used in the day-to-day operations of the business, some of which may also directly generate revenues for the insurer. Accounts receivable would include premiums, reinsurance recoveries and other recoveries owed at the reporting date by those insured, agents, brokers or reinsurers. The recognition of acquisition costs as assets is discussed below at paragraphs , , and AASB

27 Investments controlled by an entity in the conduct of general insurance activities include investments included in solvency assessments pursuant to legislative requirements and investments available to cover possible adverse results or support anticipated growth in the general insurance activities. Investments controlled by subsidiaries of an entity conducting general insurance activities are also included in investments integral to the entity's general insurance activities Under the historical cost basis, assets are measured at the amount of their original cost (less, where applicable, accumulated depreciation) or, if lower, at their recoverable amount. Reference to market value is normally made only in the initial determination of the carrying amounts of the assets acquired or in subsequent writedowns to recoverable amount. In many cases, the net market values of assets become far removed from their historical cost amounts. This can be of major concern in relation to assets held as investments integral to the entity's general insurance activities because increments in the net market values of such assets may be relied upon by insurers to meet their liabilities for outstanding claims, particularly where long-tail business is concerned An insurer's ability to pay claims and to continue to offer insurance cover to its clients normally depends on the extent of its investments and on its investment performance. The use of net market value as the basis for measuring investments integral to the entity's general insurance activities enables users of the financial report of an insurer to more accurately assess the insurer's past performance and future investment cash flows, and thus its ability to remain in business. This net market value approach is also consistent with the present value measurement approach, using market-related discount rates, for the liability for outstanding claims (refer to paragraphs 5.1 and 5.3) As a consequence of using net market values for measuring all investments integral to the entity's general insurance activities, AASB 1021 does not apply to such investments, because depreciation would be inconsistent with the net market value basis Using a net market value basis means that revenues from investments integral to the entity's general insurance activities would include: (a) unrealised amounts relating to the changes during the financial year in net market values of investments held as at the reporting date; and AASB

28 (b) (c) in respect of investments realised during the financial year, the difference between the carrying amounts of the investments as at the beginning of the financial year (or when acquired, if acquired after the beginning of the financial year) and the net market value when realised (that is, the net disposal proceeds); and amounts such as interest, dividends from post-acquisition profits and property rentals The requirement to include, for investments integral to the entity's general insurance activities, all changes in net market values of investments realised during the financial year in revenues, means that no gain or loss would arise on the disposal of such investments. In concept, such investments would be revalued to net market value immediately prior to their disposal (being equal to the net disposal proceeds), the changes in net market value would be included in revenues, and no gain or loss on disposal would result. Therefore, in applying Accounting Standard AASB 1004 "Disclosure of Operating Revenue", proceeds from the sale of such investments would not be included in the determination of the operating result/profit or loss For general insurers that are subject to income tax, a provision for deferred income tax will arise from, among other sources, the recognition as revenue of unrealised gains on investments integral to the entity's general insurance activities. Such provisions would need to be accounted for in accordance with Accounting Standard AASB 1020 "Accounting for Income Tax (Tax-effect Accounting)". Land and Buildings 10.2 Land and buildings must be accounted for as investments This Standard requires all land and buildings to be classified as investments, whether the buildings are partly or wholly owneroccupied or fully leased. The rationale for this is that all property is normally regarded by an insurer as an investment. Owner-occupied property is therefore not to be accounted for as an operating asset. Other Assets 10.3 Assets other than investments integral to the entity's general insurance activities must be measured at the lower of cost and recoverable amount, subject to the application of AASB 1021 and AASB AASB

29 In relation to operating assets, accounts receivable and deferred acquisition costs, the historical cost basis of measurement is considered to be appropriate (subject to the application of AASB 1021 and AASB 1010). Insurers do not normally rely on increments in the net market values of these assets to meet their outstanding claims, and the changes in the net market values of such assets are not generally of significance in assessing the performance of a general insurer. Acquisition Costs 10.4 Acquisition costs incurred in obtaining and recording policies of insurance must be deferred and recognised as assets where they can be reliably measured and it is probable that they will give rise to premium revenue that will be recognised in subsequent financial years Acquisition costs are incurred in obtaining and recording policies of insurance. They include commission or brokerage paid to agents or brokers for obtaining business for the insurer, selling and underwriting costs such as advertising and risk assessment, the administrative costs of recording policy information and premium collection costs Because such costs are usually incurred at acquisition whilst the pattern of earnings occurs throughout the policy periods, which may extend beyond the reporting date, those acquisition costs which lead to the obtaining of future benefits for the insurer will need to be recognised as assets. The amount of acquisition costs recognised as assets will need to be amortised over the financial years expected to benefit from the expenditure For an asset to be recognised, it must be probable that the future economic benefits will eventuate, and that it possesses a cost or other value that can be measured reliably. Direct acquisition costs such as commission or brokerage are readily measurable. However, it may be difficult to reliably measure indirect costs which give rise to premium revenue, such as administration costs, because it is difficult to associate them with particular policies of insurance. Amortisation of Acquisition Costs 10.5 Deferred acquisition costs must be amortised systematically over the financial years expected to benefit from the acquisition costs incurred. When the recoverable amount of deferred acquisition costs is below cost, that is, when the sum of the AASB

30 deferred acquisition costs and the present value of both expected future AASB

31 claims and settlement costs, in relation to business written to the reporting date, exceeds related unearned premiums, the deferred acquisition costs must be written down to recoverable amount and the write-down must be recognised as an expense The carrying amount of deferred acquisition costs will need to be written down to recoverable amount where this is less than the deferred costs, based on an assessment of the aggregate portfolio of insurance business written by the insurer to the reporting date. Revenues Receivable 10.6 Claims recoveries receivable from reinsurers and other recoveries receivable must be recognised as assets where the amount to be recovered can be reliably measured. Recoveries receivable must be measured as the present value of the expected future receipts Reinsurance and other recoveries receivable satisfy the definition of assets and are usually quantifiable under the terms of reinsurance or direct insurance arrangements. The probability of receiving the recoveries would need to be assessed in the light of prevailing circumstances, including the ability of the debtor to meet its obligations Consistent with the approach set out in paragraphs and 7.1.4, this Standard requires recoveries receivable to be recognised as an asset and not offset against the liability for outstanding claims, subject to any right of set-off as defined in Accounting Standard AASB 1014 "Set-off and Extinguishment of Debt". There is no right of set-off of claims due to those insured and recoveries receivable from reinsurers For some classes of insurance business, recoveries receivable may not be received for a considerable time. In these circumstances, recoveries receivable will need to be inflated and discounted in the same manner as for the liability for outstanding claims. The same factors considered in paragraphs 5.1.1, 5.1.2, and in relation to measuring the liability for outstanding claims are relevant in determining the appropriate carrying amount of recoveries receivable. Recoveries receivable may be measured as the amount of the expected future receipts, provided that the amount of the expected future receipts does not differ materially from the present value of those receipts. AASB

32 Consistent with the treatment of reinsurance by a direct insurer, claims to be recovered by a reinsurer from retrocessionaires will AASB

33 need to be recognised as an asset where they meet the criteria set out in paragraph 10.6 and not offset against the reinsurer's liability for outstanding claims, which needs to be based on the amounts due to other insurers. 11 Disclosures 11.1 In relation to the balance sheet, the financial report must disclose the following items, classified into current and noncurrent categories: (a) (b) (c) (d) (e) (f) investments by class of investment; and operating assets by class of asset; and deferred acquisition costs; and reinsurance and other recoveries receivable; and liability for outstanding claims; and unearned premiums In relation to the profit and loss account, the financial report must disclose: (a) the following items of revenue or expense included in the determination of the operating result/profit or loss before income tax for the financial year: (i) (ii) (iii) (iv) (v) direct premium revenue; and inwards reinsurance premium revenue (including retrocessions); and reinsurance and other recoveries revenue; and investment revenue or expense, and its individual components, including the change in net market value of investments held as at the reporting date and of investments realised during the period; and direct claims expense; and AASB

34 (vi) reinsurance claims expense; and AASB

35 (vii) (viii) outwards reinsurance premium expense (including retrocessions); and acquisition costs expense; and (b) (c) the amount by which deferred acquisition costs have been written down during the financial year to recoverable amount due to the insurer experiencing an unprofitable aggregate portfolio of insurance business, and the circumstances surrounding that unprofitable business; and the underwriting result for the financial year, determined as the amount obtained by deducting the sum of claims expense, outwards reinsurance premium expense and underwriting expenses from the sum of direct and inwards reinsurance premium revenues and recoveries revenue This Standard requires the underwriting result for the financial year to be disclosed. This disclosure gives an indication of an insurer's underwriting performance, including the extent to which underwriting activities rely on investment revenues for the payment of claims Outwards reinsurance premium expense must be disclosed separately as a deduction from total premium revenue, and reinsurance and other recoveries revenue must be disclosed separately as a deduction from total claims expense In relation to the liability for outstanding claims, the financial report must disclose: (a) (b) the undiscounted amount of claims, reconciled to the liability for outstanding claims; and average inflation and discount rates applied for the following periods in measuring the liability for outstanding claims: (i) (ii) the succeeding year; and later than one year from the reporting date; and AASB

36 (c) the average weighted expected term to settlement from the reporting date of the claims included in the liability for outstanding claims; except that reinsurers may exclude proportional treaty reinsurance business from the disclosures required by paragraphs 11.4(b) and (c) Subject to paragraph 11.7, net claims incurred must be disclosed, showing separately the amount relating to risks borne in the current financial year and the amount relating to a reassessment of risks borne in all previous financial years. For each of the current financial year and previous financial years net claims incurred, the following components must be separately disclosed: (a) (b) (c) gross claims incurred undiscounted; and reinsurance and other recoveries undiscounted; and discount movements shown separately for parts (a) and (b) Subject to paragraph 11.7, an explanation must be provided where net claims incurred relating to a reassessment of risks borne in previous financial years are material Paragraphs 11.5 and 11.6 need not be complied with for inwards reinsurance business The information provided by a direct insurer to a reinsurer may be insufficient to allow the reinsurer to make the claims development disclosures required by paragraph On this basis, for inwards reinsurance business, the Standard allows an exemption from the claims development disclosure requirements Segment information must be disclosed in the financial report in accordance with Accounting Standard AASB 1005 "Financial Reporting by Segments", with the exception that geographical segments must be determined on the basis of the location of risks insured General insurers are required by AASB 1005 to provide particular information on industry and geographical segments. The geographical segments are required by this Standard to be determined on the basis of the location of the risks insured, rather AASB

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