Life Insurance Act 1995 Audit Obligations

Auditing and Assurance Guidance Statement AGS 1024 (December 2002) Life Insurance Act 1995 Audit Obligations Prepared by the Auditing & Assurance Standards Board of the Australian Accounting Research Foundation Issued by the Australian Accounting Research Foundation on behalf of CPA Australia and The Institute of Chartered Accountants in Australia

The Australian Accounting Research Foundation was established by CPA Australia and The Institute of Chartered Accountants in Australia, and undertakes a range of technical and research activities on behalf of the accounting profession as a whole. A major responsibility of the Foundation is the development of Australian Auditing and Assurance Standards and Statements. Auditing and Assurance Guidance Statements are issued by the Auditing & Assurance Standards Board where the Board wishes to provide guidance on procedural matters, guidance on entity or industry specific issues, or believes an underlying principle in an Auditing and Assurance Standard requires clarification, explanation or elaboration. Auditing and Assurance Guidance Statements do not establish new Auditing and Assurance Standards, do not amend existing Auditing and Assurance Standards, and are not mandatory. Australian Accounting Research Foundation Level 10, 600 Bourke Street Melbourne Victoria 3000 AUSTRALIA Phone: (03) 9641 7433 Fax: (03) 9602 2249 E-mail: standard@aarf.asn.au Website: www.aarf.asn.au COPYRIGHT 2002 Australian Accounting Research Foundation (AARF). The text, graphics and layout of this Statement are protected by Australian copyright law and the comparable law of other countries. No part of this Statement may be reproduced stored or transmitted in any form or by any means without the prior written permission of the AARF except as permitted by law. ISSN 1324-4191

AUDITING AND ASSURANCE GUIDANCE STATEMENT AGS 1024 LIFE INSURANCE ACT 1995 AUDIT OBLIGATIONS CONTENTS Paragraphs Introduction....01-.02 Legislation....03 Role of the Auditor....04-.06 In Accordance with the Act....07 Books and Records....08 Truly Represent....09-.10 Using the Work of an Actuary....11-.13 Assessing Competence, Objectivity and Integrity of the Actuary....14 Appropriateness of the Actuary s Work....15 Apportionment of Income and Outgoings....16-.18 Auditor s Obligation to Report to the Entity and APRA....19 Reporting to the Entity....20-.24 Reporting to APRA....25-.28 Audit Committees....29 Operative Date....30 Compatibility with International Standards and Statements on Auditing....31 Appendix: Example Audit Report - 3 -

Introduction.01 This Auditing and Assurance Guidance Statement (AGS) has been prepared by the Auditing & Assurance Standards Board (AuASB) to assist the auditor of a life insurance company operating under the Life Insurance Act 1995 (the Act). This AGS has been endorsed by the Australian Prudential Regulation Authority (APRA)..02 This AGS has been developed to assist the auditor of a life insurance company in discharging reporting obligations under the Act and not in relation to the audit of a financial report under the Corporations Act 2001 (Cth.), guidance for which is provided by AUS 702 The Audit Report on a General Purpose Financial Report. This AGS is not intended to limit or supplant individual professional judgement and initiative or to limit the application of Auditing and Assurance Standards on such engagements. Legislation.03 As stated in section 3, the object of the Act is to protect the interests of the owners and prospective owners of life insurance policies in a manner consistent with the continued development of a viable, competitive and innovative life insurance industry. The Act has been in operation since 1 July 1995. Role of the Auditor.04 Sections 84 and 85 of the Act outline the mechanism for appointing an auditor to a life insurance company. These sections include factors such as whether the person is a registered company auditor within the meaning of the Corporations Act 2001, and whether the person has the experience to be deemed suitable for appointment as the auditor of a life company. The Act specifies that only an individual who has been approved by APRA as an approved auditor may hold an appointment as the auditor of a life company..05 Section 82 1 of the Act indicates that every life company must give APRA financial statements as at the end of each financial year of the company. This section specifies that the financial statements must be consistent with the actuarial report given to the company at the end of the financial year; 1 S.82 will be repealed under the provisions of the Financial Sector (Collection of Data Consequential and Transitional Provisions) Act 2001 at such time when APRA determines reporting standards applicable to life companies pursuant to Section 13 of the Financial Sector (Collection of Data) Act 2001. - 4 -

(c) be in the form required by and signed in accordance with the Prudential Rules; and be given to APRA within 3 months after the time as at which they are prepared..06 These financial statements however, will only be effective under that section if they are accompanied by a report signed by the auditor of the company (Section 83(3)). This report is required to state: (c) that the statements have been prepared in accordance with the Act; that the records of the company on which the statements are based record properly the affairs and transactions of the company; and that the statements truly represent the financial position of the company. In Accordance with the Act.07 AUS 304 Knowledge of the Business states that The auditor should have or obtain a knowledge of the business sufficient to enable the auditor to identify and understand the events, transactions and practices that, in the auditor s judgement, may have a significant effect on the financial report or on the audit or audit report. In addition to this, the scope of the audit is extended by the Act requiring the auditor to express an opinion as to compliance with the Act 2. The auditor considers whether the auditor has or is able to obtain adequate knowledge to express such an opinion. Where the auditor is unable to meet this obligation the engagement may not be accepted. 2 In forming an opinion as to compliance with the Act, the auditor also refers to Prudential Standard No. 3 Prudential Capital Requirement and Actuarial Standard 6.02 applicable for registered life companies from 30 June 2002. These standards can be found on the APRA website www.apra.gov.au. - 5 -

Books and Records.08 The requirement to maintain financial records that properly record the affairs and transactions of the company is similar to the requirement under section 286 of the Corporations Act. The auditor would therefore perform similar procedures to those performed in a statutory audit under the Corporations Act, adapted as necessary to the nature of the engagement. In forming an opinion the auditor considers the requirements of section 75 and 76 of the Act, which deal with the records that must be kept in relation to the income and outgoings of each statutory fund 3 and of an overseas fund. Unlike the Corporations Act, the Act does not adopt the exception reporting principle. The Act requires the auditor s report to make specific reference to the records. Truly Represent.09 An audit report must be issued in respect of the special purpose financial report comprising financial statements including the notes prepared pursuant to section 82 for lodgement with APRA along with the annual statistical return. Section 83 of the Act requires the auditor to state that the financial statements truly represent the financial position of the company. AUS 802 The Audit Report on Financial Information Other than a General Purpose Financial Report states that the auditor s report should clearly express the auditor s opinion whether the financial information is presented fairly in accordance with an identified financial reporting framework. AUS 802 also indicates that where the audit mandate makes the use of the presents fairly in accordance with... wording inappropriate, the auditor would ensure that the wording required by the mandate, supplemented if necessary and read in conjunction with the scope section of the audit report clearly advises its user of the financial reporting framework within which the professional opinion of the auditor has been reached. For the purpose of reporting under this Act, the auditor would express the audit opinion as truly represents in accordance with (identify framework) to advise the user of the framework within which the professional opinion of the auditor has been reached. Following consultation between the AuASB and APRA, it has been agreed that this wording 3 Section 31 of the Life Insurance Act 1995, sets out the requirements for the establishment of statutory funds by a life company in respect of its life insurance business. Sections 34 to 40 of the Act define the nature of assets of a statutory fund, allowable expenditure and application of statutory funds. Details pertaining to investment of statutory funds and transfer of assets between funds are contained in Sections 43 and 45 of the Act respectively. - 6 -

should be taken as the equivalent of presents fairly in accordance with (identify framework)..10 The audit report communicates to the user that the auditor has applied professional judgement when considering the application of the framework (provided by the Act) and that the provision of an audit by its very nature cannot provide absolute assurance. (Refer to the Appendix for an example of an unqualified audit report issued in respect of financial statements prepared pursuant to Section 82 forming part of the special purpose financial report). Using the Work of an Actuary.11 Section 83(4) of the Act indicates that the auditor for the purpose of the audit may accept a valuation by the appointed actuary. The auditor however, does not consider the requirements of the Act in isolation. The auditor also considers the requirements of AUS 524 The Auditor s Use of the Work of the Actuary and the Actuary s Use of the Work of the Auditor in Connection with the Preparation and Audit of a Financial Report. In using the work of an actuary it is recommended that the auditor of a life company consider the guidance that is provided in AUS 524. The auditor has an overriding obligation to ensure that at all times the audit is conducted in accordance with Australian Auditing and Assurance Standards. Where the Act permits the adoption of a different standard than prescribed by the Auditing and Assurance Standards, this does not relieve the auditor from compliance with the professional standards and guidance. Although the auditor may use the work of an expert as audit evidence, the auditor retains full responsibility for the audit opinion expressed. In discharging the auditor s professional obligations the auditor considers those factors outlined in paragraphs.14 -.15..12 The Act requires that the financial statements prepared as at the end of the financial year must be consistent with the actuarial report prepared as at the same time under section 113. Under section 113 the life company must appoint an actuary to conduct an annual investigation in relation to at least those matters specified in the section. In order for the auditor to form an opinion as to whether the financial statements are prepared in accordance with the Act (section 83(3)), the auditor must examine the actuarial report issued under section 113..13 Although the Act requires that the financial statements be consistent with the actuarial report, the auditor considers those factors outlined in AUS 606 Using the Work of an Expert and AUS 524 The Auditor s Use of the Work of the Actuary and the Actuary s Use of - 7 -

the Work of the Auditor in Connection with the Preparation and Audit of a Financial Report. The auditor may have a reasonable basis for using the work of the actuary and obtains sufficient appropriate audit evidence that such work is adequate for the purposes of the audit. Assessing Competence, Objectivity and Integrity of the Actuary.14 The auditor assesses the competence, objectivity and integrity of the actuary. Factors that the auditor would consider include: (c) professional qualifications (for example prima facie evidence would be Fellowship or Accredited Membership of The Institute of Actuaries in Australia); the relationship between the life insurance company and the actuary (employee or related in some other manner). AUS 502 Audit Evidence indicates that generally, external evidence is more reliable than that generated internally; where the actuary is an employee, or related to the company, whether there are any factors that may compromise the objectivity of the actuary. In circumstances where such objectivity may be compromised this may be compensated for by other factors, for example: (i) (ii) (iii) (iv) professional qualifications and membership of the Institute of Actuaries of Australia and/or the Life Insurance Actuarial Standards Board where appropriate; the requirement to provide an opinion and a detailed report on the appropriateness of the actuarial liabilities to regulatory authorities, and to provide an opinion on the appropriateness of the actuarial liabilities to, for example policy holders and/or members; formal appointment of the actuary by the governing body and access to the governing body by the actuary; and legislation requiring that regulatory authorities are informed of the actuary s appointment by the governing body and of any change in appointment; and - 8 -

(d) whether there is a need to perform more extensive procedures or engage an independent specialist to review some or all of the work of the actuary. Appropriateness of the Actuary s Work.15 The auditor assesses the appropriateness of the actuary s work. In doing this the auditor would need to obtain an understanding of the assumptions and methods used by the actuary and consider whether in the auditor s professional judgement these are reasonable based upon the auditor s knowledge of the business and the results of other audit procedures. In circumstances where the auditor does not agree with the assumptions or methods adopted by the actuary, and the life company prepares financial statements in accordance with section 82(3) that are consistent with the actuarial report, the auditor may need to issue a modified audit report in relation to section 83(3)(c). The auditor only issues a modified audit report in those circumstances where the auditor is unable to obtain sufficient appropriate audit evidence from other sources. Apportionment of Income and Outgoings.16 Section 78 and 79 of the Act require certain apportionments to be made in the following circumstances: where a life company carries on other business as well as its life insurance business; and where a life company has income or outgoings in relation to the business of two or more statutory funds..17 The apportionments referred to in paragraph.15 relate to: income and outgoings of each statutory fund which must be allocated to that particular fund; income and outgoings of other business which should be apportioned between the other business and statutory fund to which it relates..18 Section 80(1) requires that the apportionments be made on an equitable basis and in accordance with generally accepted accounting principles. The directors of the company must obtain written advice from the appointed actuary as to the appropriateness of the basis of apportionment (section 80(2)). The apportionment is not effective unless the approved auditor states in the auditor s - 9 -

report that the apportionment has been made equitably and in accordance with generally accepted accounting principles. Auditor s Obligation to Report to the Entity and APRA.19 In addition to the reporting requirements under section 83 of the Act, section 88 imposes two additional reporting obligations on the auditor, in relation to matters of which the auditor becomes aware during the conduct of the audit. They are to: draw certain matters to the attention of the company, or the directors or officers of the company; and inform APRA in writing of other matters as specified in the section. Reporting to the Entity.20 The auditor is required under section 88 to draw to the attention of the company, or the directors or officers of the company, any matter that comes to the attention of the auditor and that the auditor thinks requires action to be taken by the company or its directors to avoid: a contravention of the Act; or prejudice to the interests of the owners of policies issued by the company..21 The duty to inform relates to matters discovered in the normal course of performing audit procedures for the purpose of reporting under section 83 of the Act. The obligation of the auditor to report the matters described in AGS 1024 paragraph.20 relates to matters that come to the auditor s attention. The auditor is therefore not required to perform procedures specifically designed to detect these matters, however the auditor does have a general duty of care in relation to matters that could reasonably be expected to have come to the auditor s attention in the conduct of an audit, and are recognised as matters of concern..22 In discharging a reporting obligation that arises under section 88(1) the auditor refers to the matters outlined in AUS 710 Communicating with Management on Matters Arising from an Audit. AUS 710 requires that the auditor report significant matters relating to the audit, or identified as a result of the audit procedures performed to an appropriate level of management on a timely basis. Given the nature and significance of the matters to which section 88-10 -

applies, and the consequence of the lack of action being taken, such matters would normally be reported to the Board of Directors..23 The identification and reporting of matters in accordance with section 88 of the Act does not absolve the auditor from the need to consider the effect of such matters on audit procedures and the possible effect upon the audit opinion..24 When acting under section 88(1) the matters identified may not, in the auditor s judgement, be of such significance to require a written report. In these circumstances, the auditor documents the details of any matter the auditor has communicated in an oral report in order to discharge the reporting obligation under this section. The auditor is aware that the obligation under section 88(1) is triggered by circumstances where the auditor thinks that action is required by the company to avoid a contravention of the Act, or to avoid prejudice to the interests of policy holders. In considering the application of section 88(1) the auditor is concerned about classes of policy holders and not only policy holders as a whole. Reporting to APRA.25 Section 88(2) requires that if the auditor of a life company thinks: that there are reasonable grounds for believing that the company or a director of the company may have contravened the Act or any other law; and that the contravention is of such a nature that it may affect significantly the interest of the owners of policies issued by the company the auditor must inform APRA in writing of the auditor s opinion and the information on which it is based..26 Section 88(2) deals with circumstances where a particular event has occurred of which the auditor is aware. This sub-section appears to impose a higher standard of proof than section 88(1) because: the auditor must think that there are reasonable grounds for believing that a contravention has occurred unlike section 88(1) which only requires the auditor to think a matter requires action; the application of the section is only triggered in circumstances where both section 88(2) and 88(2) are satisfied; and - 11 -

(c) the contravention must significantly affect policy holders which appears to suggest that the type of matter envisaged by this section is more significant than a matter that would prejudice the interests of policy holders. If the conditions of this section are satisfied the auditor is also required to form an opinion, which together with the information on which it is based, must be reported to APRA in writing. As in section 88(1), in considering the application of section 88(2), the auditor is concerned with classes of policy holders and not only policy holders as a whole..27 Section 88(3) requires that if an auditor has acted under section 88(1), and the auditor is satisfied that there has been reasonable time for the taking of action but that the action has not been taken, the auditor must inform APRA in writing..28 What constitutes reasonable time is a matter of professional judgement in light of the particular circumstances. For example, this may be affected by: (c) the significance of the matter; the urgency of the matter; and the extent to which the matter is dependent upon a future event. Audit Committees.29 Section 90 of the Act states that a life company must at all times have an audit committee. Section 91(3) also requires that a majority of members should not be executive officers of the company. The Act however, does not impose any requirements upon the auditor in relation to dealings with the audit committee. Section 92(1) of the Act states that the audit committee must be given the following functions: to assist the directors of the life company to ensure that financial statements prepared by the company for the purposes of section 82 are effective for the purposes of that section; and to assist the directors of the life company to ensure that the company at all times has a proper system of management and financial controls. - 12 -

Operative Date These functions, to varying degrees, will affect the work conducted by the auditor and will require the auditor to communicate with the audit committee at various stages of the audit. This will assist in ensuring that there are no misunderstandings about each party s responsibilities and also to ensure that both parties have similar expectations The auditor would refer to AUS 710 Communicating with Management on Matters Arising from an Audit for guidance on communicating with management, including an audit committee, on matters arising from the audit..30 This AGS is operative from the date of issue. This version of AGS 1024 supersedes AGS 1024 Life Insurance Act 1995 Audit Obligations, as revised in February 1999. Compatibility with International Standards and Statements on Auditing.31 There is no corresponding International Standard or Statement on Auditing. - 13 -

APPENDIX INDEPENDENT AUDIT REPORT To [addressee] Scope EXAMPLE AUDIT REPORT We have audited the attached financial statements, comprising a profit and loss statement, for the financial year ended 30 June 20XX, a balance sheet as at 30 June 20XX, a statement of cash flows for the financial year ended 30 June 20XX and accompanying notes, being a special purpose financial report, of [name of entity] for the year ended 30 June 20XX as set out on pages X to Y. The [members of the governing body] are responsible for the financial statements and have determined that the accounting policies used and described in Note 1 to the financial statements are appropriate to meet the requirements of the Life Insurance Act 1995. We have conducted an independent audit of the financial statements in order to express an opinion on it to [addressee]. No opinion is expressed whether the accounting policies used, and described in Note 1, are appropriate to the needs of the members. The financial statements have been prepared for the Australian Prudential Regulation Authority (APRA) and for the purpose of fulfilling the directors financial reporting requirements under the Life Insurance Act 1995 and prevailing Prudential Rules. We disclaim any assumption of responsibility for any reliance on this report or on the financial statements to which it relates to any person other than APRA, or for any purpose other than that for which it was prepared. Our audit has been conducted in accordance with Australian Auditing and Assurance Standards. Our procedures included examination, on a test basis, of evidence supporting the amounts and other disclosures in the financial statements and the evaluation of significant accounting estimates. These procedures have been undertaken to form an opinion whether, in all material respects, the financial statements are presented fairly in accordance with the Life Insurance Act 1995 and Prudential Rules. (The Act and Rules do not require the application of all Accounting Standards and UIG Consensus Views). The audit opinion expressed in this report has been formed on the above basis. - 14 -

Audit Opinion In our opinion, the financial statements of [name of entity] for the year ended 30 June 20XX are drawn up so as to truly represent in accordance with the Life Insurance Act 1995 and Prudential Rules, the financial position of the company, the financial performance of the company and cash flows ; and (c) (d) Date Address the records of the company record properly the affairs and transactions of the company; the apportionments made under Part 6, Division 2 of the Act have been made equitably and in accordance with generally accepted accounting principles; and no part of the assets of the Statutory Funds has been applied directly or indirectly in contravention of the provisions of the Act relating to the application and investments of Statutory Funds. Firm Partner - 15 -