IFRS 17 - What does it mean for Captives?

From 1 January 2023, IFRS 17 enforces changes to the way insurance companies must value and report on insurance contracts. What does this mean for captives and ensuring they are ready in time?

Captives that report under International Financial Reporting Standard (IFRS) will need to prepare for a drastic change in their reporting requirements to ensure they are compliant with the advent of IFRS 17.

What is IFRS 17?

From 1 January 2023, IFRS 17 enforces material changes to the way that insurance companies must value and report on insurance contracts. Issued by the International Accounting Standards Board (IASB), the new standard aims to harmonise the approach of insurers and to create greater transparency. After 20 years in development, the clock is now ticking for insurers to prepare for implementation. The question is, what does IFRS 17 mean for captives and how can they ensure they are ready in time?

Who will be impacted?

All captive insurance companies that publish financial statements according to IFRS will be impacted by IFRS 17. In addition, if a captive does not report under IFRS, but their parent company does, the captive may be required to perform IFRS 17 valuations for consolidation purposes.

How will Captives be affected?

IFRS 17 sets out three measurement models to value insurance contracts.

  • General Measurement Model (GMM): the default measurement model, which defines how insurance contract assets and liabilities should be recognised at contract inception and measured at subsequent reporting periods.
  • Premium Allocation Approach (PAA): a simplified approach to measure a group of insurance contracts that meet the qualifying criteria specified in IFRS 17.
  • Variable Fee Approach (VFA): variation of the GMM allowing for the specificities of participatory contracts. We don’t expect captives to have to use this method.

The following table compares the insurance liabilities measured under IFRS 4 with IFRS 17 GMM and PAA.

The PAA is preferable to use as it vastly simplifies both the calculations and reporting requirements. A captive will qualify for the PAA if it can satisfy the following criteria:

Criteria 1: The insurance contract has a coverage period that is one year or less (automatic qualification). 

  • This is likely to be the case for many captives that issue annual policies with a 12 month boundary.

Criteria 2: The entity reasonably expects the PAA output would not differ materially from that of the GMM.

  • Quantification analysis will be required to prove the GMM would not vary significantly from the PAA.

What do Captives need to be aware of?

Marsh has prepared a summary of some of the key IFRS 17 principles that captive managers should watch out for. Please note this is not an exhaustive list and there are many other principles that need to be complied with.

Contract Boundaries

What is required:

The contract boundary, as defined in paragraph 34 of the IFRS 17 standard, impacts the cash flows that are considered in the valuation, and  the PAA qualification.

Captive managers should watch out for the underlying clauses within the policy terms and conditions. For example, a termination clause or re-underwriting clause could establish a boundary in the contract that differs to the policy expiration date.

Best Estimate Cash Flows

What is required:

IFRS 17 requires entities to estimate the probability-weighted future cash flows of an insurance contract. The concept of discounting is introduced for cash flows that are settled longer than 12 months after coverage is provided or claims/expenses are incurred.

Captive managers should watch out for ensuring all the cash flows attributable to insurance contracts are measured, for example: claims, premiums, expenses, profit commissions, and no claims discounts. In addition, ensuring an appropriate discount rate that reflects the characteristics of the insurance liabilities is selected.

Risk Adjustment

What is required:

An entity-specific calculation to allow for the compensation required for bearing the uncertainty about the amount and timing of the cash flows that arise from non-financial risk as the captive fulfils insurance contracts.

Captive managers should watch out for ensuring they align the risk appetite of the captive with the risk adjustment confidence level selected and disclosed.

Contractual Service Margin (CSM)

What is required:

The CSM represents the expected profit of a contract at the inception date that will be recognised as the insurer provides service under the insurance contract. It will only impact captives that are valuing under the GMM.

Captive managers should watch out for the sensitivity of the modelling of the pattern of service to the underlying terms and conditions of the contract. This is one of the most judgemental areas of IFRS 17.

Next Steps for Captive Managers

If you manage a captive that reports under IFRS, get in touch with the Marsh Actuarial Solutions team to discuss how to prepare for a smooth transition.

Meet the authors

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Holly Deakin

Senior Vice President, Marsh Risk Analytics

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Konrad Farrugia

Vice President

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