Accounting for Insurance Contracts
Pounder, Bruce, Strategic Finance
The joint FASB/IASB project on accounting for insurance contracts could impact reporting entities of all kinds.
For the past three years, the Financial Accounting Standards Board (FASB) and the International Accounting Standards Board (IASB) have been working together to improve and converge the insurance-accounting provisions of U.S. Generally Accepted Accounting Principles (GAAP) and International Financial Reporting Standards (IFRS). In this month's column, I'll summarize the Boards' current views on the issues they're addressing. I'll also explain how the impact of the Boards' decisions could extend well beyond traditional insurance companies to all kinds of reporting entities.
U.S. GAAP currently contains specific guidance on accounting for insurance contracts (such as life insurance policies) from the insurer's perspective. The guidance is located in Topic 944, Financial Services -- Insurance, of the FASB Accounting Standards [Codification.sup.[R]] (ASC). The existing provisions of ASC Topic 944 apply only to "insurance entities" as specified in ASC Section 944-10-15. In general, ASC Topic 944 requires insurance entities to employ one of several accounting models to each insurance contract issued depending on the nature and duration of the contract.
Under IFRS, guidance on accounting for insurance contracts from the insurer's perspective is currently found in IFRS 4, Insurance Contracts. At the time it was issued in 2004, IFRS 4 didn't do much more than formally document the variety of ways insurers then accounted for insurance contracts. But the IASB had already begun planning improvements to the standard, and the Board's improvement efforts led it to issue the Discussion Paper (DP) Preliminary Views on Insurance Contracts in May 2007. The DP focused on a comprehensive accounting model in which an insurer's assets and liabilities would better reflect the rights and obligations arising from its insurance activities.
The IASB's efforts to improve IFRS 4 attracted the FASB's attention. In August 2007, the FASB issued an Invitation to Comment (ITC) titled An FASB Proposal: Accounting for Insurance Contracts by Insurers and Policyholders, which incorporated the IASB's DP. Based on stakeholders' comments submitted in response to the ITC, the FASB decided in October 2008 to add an insurance contracts project to its agenda and to conduct the project jointly with the IASB.
On July 30, 2010, the IASB issued an ED of its proposed replacement for IFRS 4 (editorial corrections were issued on August 2, 2010). Then on September 17, 2010, the FASB issued the DP Preliminary Views on Insurance Contracts, which included a comparison of the IASB's ED, the FASB's own preliminary views, and current U.S. GAAP. After the comment period for the IASB's ED ended on November 30, 2010, the Boards conducted additional outreach to their stakeholders through public roundtable meetings and e-mail inquiries.
The Boards' goal for their joint project is to develop a common, high-quality accounting standard that addresses recognition, measurement, presentation, and disclosure requirements for insurance contracts. There are three significant implications of the Boards' chosen goal:
1. The scope of the new standard will be based on the characteristics of the contract between the reporting entity and another party, not on the characteristics of the reporting entity.
2. Other current or proposed standards, such as standards on revenue recognition or financial instruments, won't apply to insurance contracts.
3. The new standard will apply only to accounting for insurance contracts, not for assets that may back such contracts.
As a result of their joint efforts so far, the FASB and the IASB have tentatively defined an insurance contract as a contract under which one party (the insurer) accepts significant insurance risk from another party (the policyholder). …