Alexandra Gedge, Marsh Captive Solutions
13 July 2020Accounting & tax analysis

Preparing captive owners for new accounting legislation

In May 2017, the International Accounting Standards Board issued IFRS 17 Insurance Contracts, an international accounting standard for insurance companies that comes into effect on January 1, 2023, with companies encouraged to be compliant by January 1, 2022. It is the first international standard for insurers, and will have significant implications for captive insurance companies.

IFRS 17 was created to provide an international standard for how insurance companies measure and represent their financial position. The standard also applies to reinsurance contracts. In return, this should make it easier to analyse results between insurance companies and make meaningful comparisons.

How does it align with IFRS 4?

IFRS 4 is the current standard used for insurance companies. This was implemented as a temporary measure and is now replaced by IFRS 17. There are a few variations with the new standard.

The key changes include that under IFRS 4 accounting varies depending on a country-by-country basis, where under IFRS 17 this will no longer be the case. Moreover, multinational companies will now measure insurance contracts consistently within the same business, which also helps with drawing comparisons and analysis.

The other big difference is how revenue is shown. This will now be on the basis of insurance coverage, which is more similar to accounting in other industries such as banking or investment management.

This new legislation means there is a change in how insurance liabilities will be valued, and thus how much capital captives need to keep in reserve for potential future claims. This is an enormous shift for those impacted captives, so adequate preparation needs to be made.

What captives need to do

Around 120 countries globally have adopted IFRS, including many in the EU. The standard will affect captives based in domiciles where the regulation has been adopted. This will be the case even where the parent company is based somewhere which has not adopted IFRS legislation.

For those captives, there could be onerous work involved in becoming IFRS 17 compliant.

As explained above, the change includes how insurance liabilities are valued, impacting the amount of capital captives need to keep in reserve. This means that insurance and reinsurance contracts will now be reported based upon the present value of the amount of money the captive expects from premiums and claims, once factoring in other running costs based upon the timing and risks involved (for example, for long-term liabilities this will make a change).

This assessment of the cash flow, and expected profits from insurance cash flow—referred to as the Contractual Service Margin (CSM)—will be key reporting requirements.

The timing of contracts will now be considered as well and will be measured at their current value, and specifically the value at the current time will be reviewed for claims estimates and reserves. This will show the difference between profit and loss-making contracts and will account for these differences as soon as they are realised, and thus be accounted for at key reporting dates. This will mean captives will assess the risks to their balance sheets.

More broadly, this will involve reviewing key areas of a captive, to include:

  • Contract boundary analysis.
  • Assess cash flows.
  • Premium allocation tests.
  • Level of aggregation.
  • Discounting
  • Risk adjustment.
  • CSM
  • Transition decisions.
  • Drafting documents.

All this information will provide consistency to the information given from captives included in the standard.

Data capture

One of the biggest changes that could be seen with captives, particularly for smaller companies affected by IFRS 17, is in data capture and management information.

IFRS 17 has considerable data requirements which will need to be met. Some captives have very sophisticated management systems in place which will already be able to provide this information, but some smaller captives to which IFRS 17 will apply may have to implement additional resources for data and information.

This is a good opportunity for captives to demonstrate value to their parent companies. Captives can be huge providers of data and information to parent companies on the organisation and its risk. In preparing for IFRS 17, the requirements brought in present a good opportunity to make sure the captive’s data management system is working effectively and able to provide all the relevant information for the parent.

It can also give captive managers the opportunity to fully utilise their data to show the asset that the captive is to the business.

What should captive owners do?

There will be some big changes for affected companies, so captives will need to leave adequate time to prepare for the new legislation. It is expected that preparation for, and implementation of, the changes to the legislation will be time-intensive. As it is a large change and a complex legislation taking adequate time will allow the captive owner to fully understand, comprehend, and interpret how the legislation affects their captive.

Captive owners should speak to their captive manager and auditors to make sure the captive can meet these regulations before the new deadline, and can then be compliant and up to date for the future.

Alex Gedge is business development and captives executive at Marsh Captive Solutions. She can be contacted at: