From the IFRS Institute – December 4, 2020
Insurers have just over a year to get ready to present their opening balance sheet (as of January 1, 2022) under IFRS 171, which introduces a completely new financial reporting basis. A US insurer might report to a foreign parent under IFRS® Standards or be a US parent looking to centralize the accounting policies of its foreign subsidiaries and branches that report locally under IFRS Standards. In this article, we highlight how US dual reporters and US parents can accelerate their IFRS 17 implementation projects, minimize operational disruption, and manage implementation costs.
The final amendments to IFRS 17 were published in June 2020, and the new standard will replace IFRS 42 in 2023. IFRS 4 was introduced as an interim standard designed to limit changes to existing insurance accounting practices under IFRS Standards. It focused on the definition of an insurance contract and types of contracts in scope. IFRS 4 also allowed insurers to maintain existing accounting policies when accounting for insurance contracts under local GAAP. For example, this is the case for US dual reporters who currently use US GAAP as the basis for IFRS 4 financial reporting.
In order to comply with IFRS 17, US dual reporters need to develop significantly different accounting policies and actuarial methodologies for measuring and accounting for insurance contracts. Further, US dual reporters are faced with the challenges of implementing IFRS 17, while still focusing on their primary basis of financial reporting – US GAAP and/or US statutory accounting principles (US STAT).
Under US GAAP, many US dual reporters will have the additional challenge of implementing ASU 2018-123, which differs significantly from IFRS 17. According to Michael Lammons, Co-Leader of KPMG’s Insurance Accounting Change practice, “IFRS 17 is very different from US GAAP. With just 13 months to get ready to present an opening balance sheet and amongst all the COVID-19 related diversions now, more than ever, the pressure is on to get to the finish line.”
Considerations for US dual reporters
Leveraging our experience in working with insurers in the US and across the globe, we highlight our view of the best practices and priorities for US dual reporters to consider in order to accelerate IFRS 17 implementation and minimize disruption to their operations and timelines related to their primary basis of reporting.
- Focus on operational complexities
IFRS 17 significantly affects both operational (e.g. change management or data sourcing and system enhancements) and financial (e.g. shareholder, profit, tax or capital management) aspects of a business A challenging aspect of an IFRS 17 implementation program is striking the appropriate balance across these competing factors.
We’ve seen many US dual reporters prioritize operational impacts over financial impacts. This is because their primary basis of reporting – US GAAP and/or US STAT – continues to drive solvency levels, capital management and other key metrics. As such, we’ve seen operational considerations drive many of the key decisions made throughout IFRS 17 programs, from developing accounting policies to system design and execution.
Key takeaway: Being laser focused on operational impacts may expedite the process of resolving implementation issues. For those US dual reporters in the earlier stages of their IFRS 17 programs, emphasizing operational considerations could help them to quickly scale and appropriately manage both the costs and risks to their programs.
- Develop technical working assumptions early in the project life cycle
The development of working assumptions is an early critical step. A working assumption is an informed hypothesis of a technical result used to maintain implementation momentum. It enables insurers to progress into subsequent stages of the program while continually assessing whether the initial views need to be revised. This is important under IFRS 17 because of the technical complexities and the significant level of interdependencies between technical topics, data availability and requirements, and system capabilities – meaning that conclusions may require several iterations as new information comes to light or changes are made elsewhere.
Key takeaway: Once developed and approved, working assumptions should only be revised under limited circumstances; for instance, when the assumption significantly deviates from actual findings or data or system constraints require a revised approach. While it is common to fine-tune working assumptions during the implementation phase, it is critical to develop guidelines on when to evaluate and potentially revise working assumptions throughout the project life cycle. A thorough governance process supported by internal controls should be designed to ensure the monitoring program is robust and guidelines are appropriately followed.
- Design and execute streamlined end-to-end system testing
Most insurers are implementing new systems or enhancing existing ones to address many of the challenges posed by IFRS 17. As with all system changes, dry runs and end-to-end testing are critical to success. Testing strategies vary depending on the system being implemented and the extent of the changes. A key objective for many US dual reporters is to achieve compliance while minimizing cost and effort. This may be done through targeted end-to-end testing, such as focused pilots or enhanced use cases.
Certain insurers plan to conduct focused pilots on targeted entities or portfolios representative of the business and the complexities created by IFRS 17. In this situation, testing the whole process on an end-to-end basis may be preferable; this involves sourcing and evaluating data, applying the accounting policies, generating cash flows and executing planned calculations and related validation through the testing process.
Enhanced use cases may also be used as an alternative, or complementary, approach to focused pilots. Use cases are common in implementation programs and involve defining the steps to be performed in a process from end to end. However, incorporating more detail (e.g. quantitative effects) to develop enhanced use cases may provide sufficient confidence compared to the greater level of effort and cost associated with dry runs.
Key takeaway: Instead of running extensive and costly dry runs, US dual reporters should consider streamlining end-to-end testing by using focused end-to-end pilots and/or enhanced use cases to minimize cost and effort. This type of approach will allow US dual reporters to extrapolate lessons learned and apply them to the rest of their IFRS 17 programs.
- Effective program management and governance
Program management is fundamental for large-scale projects to achieve compliance and deliver on time and on budget. The most successful projects we’ve seen feature the following.
- A cross-functional program management office (PMO) that ensures all perspectives are considered.
- A practical and effective governance framework that empowers the team to successfully execute the plan and stay focused on the bigger picture; clear escalation mechanisms help resolve issues and process change requests quickly.
- A detailed project plan with realistic program milestones that ensure the program stays on track; milestones should be sufficiently granular so that progress can be appropriately measured.
- Significant interdependencies across workstreams that are flagged at the onset. For example, initial accounting policy development involves significant input from the actuarial and data workstreams for various topics (e.g. premium allocation approach eligibility, grouping and determining discount rates and risk adjustments) and therefore progress depends on multiple workstreams with, in many cases, multiple hand-offs between them.
- An adaptable budget to embrace the complexity of the IFRS 17 implementation, yet strictly managed to timely flag overruns.
- A commitment and support of the implementation effort by senior leadership, including the Audit Committee, that includes ongoing communication and monitoring between the PMO and leadership.
Key takeaway: Do not underestimate the importance of a PMO; many accounting change programs are not successful without one. Develop the appropriate governance frameworks for the business but remain agile and practical. Given tight timelines for implementation, burdensome governance processes could be detrimental to progress. Ensure there is a detailed project plan with effective monitoring of cross-workstream dependencies to maintain momentum and meet milestones. Have a broader long-term budgeting vision and monitor progress against budget while also having a more granular short-term outline (e.g. one to three months) to limit overruns.
Considerations for US parents
Although not IFRS preparers themselves, US parents may be strategically vested in their subsidiaries’ IFRS 17 reporting. This reporting may be the basis for dividend distribution from the subsidiary up to the US parent; therefore, IFRS 17 may directly affect the US parent’s capital and, for listed parents, the ability to distribute dividends to shareholders. Subsidiaries may also have local capital regimes and/or taxation based on IFRS Standards, so IFRS 17 is critical to their solvency level and tax reporting requirements.
This is why some US parents lead centralized IFRS 17 programs to ensure consistent application of policies by their foreign subsidiaries and/or branches reporting under IFRS Standards. In this case, the points discussed above for US dual reporters apply to US parents. However, US parents also should consider devising standardized solutions to satisfy the needs of all relevant foreign subsidiaries and/or branches.
It is critical to ensure that the requirements set by local regulators are met. US parents should invest time and effort in monitoring the developments of relevant local regulators as they determine whether and how to adopt IFRS 17 overseas. Having to satisfy a variety of regulatory regimes is a challenge. Each regulator has different levels of engagement with regard to IFRS 17; for example, some regulators are requiring quantitative studies while others have yet to initiate discussions in the market. Each regulator also may have its own timeline for the evaluation of IFRS 17, which may potentially mean different effective dates within the US parent group. Further, each regulator has the potential to mandate technical accounting deviations that will require consideration when developing standardized solutions. Consequently, the least operationally complex solutions may not be optimal for some subsidiaries.
Key takeaway: To factor in and stay up to date on local regulatory developments, US parents should work closely with their subsidiary management teams – local knowledge and involvement is essential. US parents should also consider how best to achieve their target operating model and incorporate potential regulatory differences into their programs; for some, applying the differences to a standardized solution on an ad hoc basis may be costly but more manageable. Conversely, others may prefer to allow subsidiaries to deal with differences in local requirements.
Since IFRS 17 was announced, insurers in the US and across the globe have been preparing for this major evolution in insurance reporting. While multiple deferrals have provided some breathing space, a sense of urgency is needed to get to the finish line given that there is just over a year until the opening balance sheet date.
“The key measure of success will be effective management of costs and minimal disruption to the existing US GAAP / US STAT financial reporting bases,” says Laura Gray, Co-Leader of KPMG’s Insurance Accounting Change practice. To achieve this in the time remaining before the adoption date, US insurers should: focus on operational complexities and balance them with financial ones; identify working assumptions early on; design and execute streamlined end-to-end testing; and ensure effective program management and governance.
The reality is that it will take a significant level of effort and expertise over a very tight timeframe to achieve a successful IFRS 17 implementation.
|Amendments:||IFRS 17 guide and illustrative disclosures|
- IFRS 17, Insurance Contracts
- IFRS 4, Insurance Contracts
- ASU 2018-12, Targeted Improvements Related to the Accounting for Long-Duration Insurance Contracts