What's the issue?
Insurers may unconditionally pay insurance acquisition cash flows – e.g. commissions paid to sales agents – for contracts initially written with the expectation that they will be renewed. Sometimes these acquisition cash flows paid exceed the initial premium charged for the contract.
The insurer generally expects to recover these costs from future renewals. However, if those cash flows are outside the contracts’ boundaries, then they cannot be included when measuring the initially written contracts under IFRS 17.
This raises the question of whether future premiums can be allocated to insurance acquisition cash flows that are unconditionally paid when the contract is issued, if they are partly associated with future renewals.
What did the TRG discuss?
TRG members appeared to agree that any insurance acquisition cash flows that are:
should be included in the measurement of the group containing those contracts. Because the costs are paid unconditionally for each initially written contract, they cannot be allocated to future groups recognised on renewal or other groups that do not contain these contracts.
Various TRG members believed that the accounting outcome would not reflect the economic substance of the contract because it would not reflect the insurer’s long-term expectations.
The TRG members observed that if the facts and circumstances were different, then the outcome could be different. For example, if the insurance acquisition cash flows were not paid unconditionally, then it might be appropriate to allocate a part to future renewals.
What's the impact?
If a part of the insurance acquisition cash flows cannot be allocated to future renewals, then these types of contracts are more likely to be considered onerous on initial recognition. This is because the entire insurance acquisition cash flow would be reflected in the measurement of the initially written contracts.
When these cash flows result in an onerous contract on initial recognition, it will be in a group of contracts that are onerous at initial recognition. Therefore, contracts within the portfolio that are renewed, and that are expected to be profitable, would not be included within the same group.
Some insurers currently use cost allocation techniques to allocate some insurance acquisition cash flows. These techniques may need to be reviewed and potentially adapted to reflect the approach described above. Insurers may also consider adjusting their terms and conditions for commission payments to make them conditional on future renewals.
This topic page is part of our Insurance – Transition to IFRS 17 series, which covers the discussions of the IASB's Transition Resource Group (TRG) for Insurance Contracts.
You can also find more insight and analysis on the new insurance contracts standard at kpmg.com/ifrs17.