Summary of Board decisions made by FASB & IASB at Board meeting June 15-17, 2010. June 15, 2010 FASB/IASB Joint Board Meeting
Insurance contracts. See the summary for the June 16th meeting.
June 16, 2010 FASB/IASB Joint Board Meeting
Insurance contracts. At this meeting the Boards discussed:
- Draft application guidance on cash flows
- Insurance contracts with cash flows denominated in foreign currency
- Draft application guidance on risk adjustment techniques
- Reinsurance follow-up issues
- An overview of the proposed model for insurance contracts, focusing on the main differences between the tentative decisions of the Boards.
Draft Application Guidance on Cash Flows
The Boards discussed draft application guidance on estimating future cash flows. The Boards provided some high-level comments and directed the staff to refine the overall principle as well as the section of the guidance related to future events.
Foreign Currency Cash Flows
The Boards addressed insurance contracts with cash flows denominated in foreign currency and discussed whether those contracts are monetary items or nonmonetary items. The Boards tentatively decided that an insurance contract is a monetary item in its entirety.
Draft Guidance on Risk Adjustment Techniques
The Boards discussed draft guidance on risk adjustment techniques, for inclusion in the approach that uses a risk adjustment plus a residual margin, and tentatively decided:
- That the objective for the risk adjustment should refer to the maximum amount that the insurer would rationally pay to be relieved of the risk that the ultimate fulfillment cash flows may exceed those expected
- To permit the following techniques for determining risk adjustments and no others:
- Confidence interval
- Conditional tail expectation
- Cost of capital.
The Boards addressed these follow-up reinsurance issues arising from the joint meeting on February 10, 2010:
- Initial measurement of reinsurance assets
- Ceding commissions.
The Boards tentatively decided that when a cedant measures a reinsurance contract at initial recognition:
- The cedant should remeasure the underlying insurance liability and apply that measurement in the initial measurement of the reinsurance asset under the building-block approach, taking account of the risk of nonperformance by the reinsurer.
- If the consideration paid by the cedant to the reinsurer exceeds that measurement under the building-block approach, the cedant should treat that excess as the residual margin or composite margin at initial measurement.
- If that measurement under the building-block approach exceeds the consideration paid by the cedant to the reinsurer, the cedant should recognize that difference as a gain in profit or loss at initial recognition of the reinsurance contract.
The Boards also discussed ceding commissions paid by a reinsurer to the cedant and:
- The IASB tentatively decided that the cedant should treat them as a reduction in the premium ceded to the reinsurer.
- The FASB tentatively decided that the cedant should recognize them as a gain in profit or loss, to the extent that those ceding commissions relate to the reinsurer’s share of the cedant’s incremental acquisition costs. The cedant should recognize that gain at the earlier of the day on which it recognized the reinsurance contract and the day on which it incurred the incremental acquisition costs. The cedant should treat the remainder of the ceding commissions as a reduction in the premium ceded to the reinsurer. The FASB noted that its tentative decision was subject to a review, at a future meeting, of its decision on acquisition costs.
The staff also presented information to clarify two points raised at the joint meeting on February 10, 2010. No decisions were made on these two issues, which related to:
- Impairment testing for reinsurance assets
- Non-proportional reinsurance contracts.
Main Differences in Tentative Decisions
The Boards discussed the main differences between their tentative decisions:
- Acquisition costs
- Composite margin or residual margin plus risk adjustment approach
- Interest accretion on residual or composite margins
- Participating contracts
- Notion of insurance risk
- Embedded derivatives
- Portfolio transfers.
- The Boards discussed how to account for the possible recoverability of acquisition costs if an insurance contract lapses. No decisions were reached.
- The Boards affirmed their previous tentative decision that an insurer should recognize all acquisition costs as an expense as incurred.
- The IASB also tentatively decided that an insurer should, at inception, recognize as revenue an amount equal to the incremental acquisition costs incurred.
- The FASB indicated that it would reconsider, at a future meeting, whether to maintain its previous decision that an insurer should not recognize any revenue at inception pending a more general future discussion on the nature of the cash flows to be included in the measurement of insurance contracts.
Regarding the different approaches to margins in the proposed measurement of insurance contracts, the Boards affirmed their previous tentative decisions:
- [IASB] to include a residual margin plus a risk adjustment, and to accrete interest on the residual. The staff will investigate whether the interest rate should be a current rate or the rate determined at inception of the contract.
- [FASB] to include a single composite margin and not to accrete interest on this margin.
The Boards affirmed their tentative decisions on the treatment of participating contracts:
- [IASB] to include participating payments in the same way as any other contractual cash flow.
- [FASB] to include participating payments to the extent that the insurer has an obligation to pay. The FASB noted that this conclusion was provisional, pending a more general future discussion on the nature of the cash flows to be included in the measurement of insurance contracts.
The Boards discussed the notion of insurance risk in the context of the definition of an insurance contract. The FASB affirmed, and the IASB tentatively decided, to add a further condition to the existing criteria in IFRS 4, Insurance Contracts—that a contract does not transfer insurance risk if there is no scenario in which the present value of net cash outflows can exceed the present value of premiums.
The Boards have tentatively adopted an unbundling principle that requires an insurer to account separately for components of an insurance contract, unless the components are so interdependent that they cannot be measured separately. The Boards reconsidered their previous decisions on the interaction of this principle with existing requirements for embedded derivatives and:
- The FASB affirmed that the proposed unbundling principle would apply to embedded derivatives, so that an insurer would separate them from the host insurance contract unless they are so interdependent that they cannot be measured separately from the host contract. This would replace existing requirements to bifurcate some derivatives embedded in insurance contracts.
- The IASB noted that if a derivative embedded in an insurance contract does not qualify for separate accounting under the proposed unbundling principle, existing requirements in IAS 39, Financial Instruments: Recognition and Measurement, would never require the insurer to account for the derivative separately. Accordingly, the proposed unbundling principle would suffice and it would be unnecessary to apply the criteria in IAS 39 as well.
Regarding the derecognition principle for insurance contracts, the Boards tentatively decided that an insurer should derecognize an insurance liability when it is extinguished, that is, when the obligation is discharged or cancelled or expires. The supporting guidance should note that when this occurs, the insurer is no longer at risk and is, therefore, no longer required to transfer any economic resources for the insurance obligation.
Finally, on insurance portfolio transfers, the Boards tentatively decided that if the present value of net cash outflows [plus a risk adjustment, in a residual margin approach] exceeds the consideration received, the insurer that assumes the portfolio should recognize that excess as a loss in profit or loss; however, in assessing whether such a loss arose, the insurer should ascertain whether it has recognized all intangible or other assets acquired in the portfolio transfer and should review its measurement at initial recognition of the portfolio of insurance liabilities.
The Boards will continue their discussion of this project at an additional joint Board meeting on June 23.
Leases. The Boards discussed:
- Transition under the partial derecognition approach to lessor accounting
- Accounting for arrangements with service and lease components under a derecognition approach to lessor accounting.
Transition under the Partial Derecognition Approach to Lessor Accounting
The Boards tentatively decided that lessors should recognize and measure all outstanding leases at the date of initial application of the proposed new leases requirements. The recognized lease receivable should be measured at the present value of the remaining lease payments. The recognized residual asset should be measured at fair value.
Accounting for Arrangements with Service and Lease Components under a Derecognition Approach to Lessor Accounting
The Boards discussed how lessors should separate services from leases when the services and leases are not distinct. No decisions were made at this meeting. The Boards will discuss this issue at the joint meeting with the FASB on Thursday.
Balance sheet—offsetting. The Boards discussed:
1. Whether the project’s scope should include all assets and liabilities or just financial assets and financial liabilities
The Boards tentatively decided that the focus of the project should be on financial instruments and other instruments falling within the scope of a financial instruments standard to achieve greater convergence of the criteria for balance sheet offsetting under IFRS and U.S. GAAP.
2. Information needed by the Boards before the next meeting
The Boards requested that the staff obtain more information on the following:
- The legal enforceability of the offsetting provisions in International Swaps and Derivatives Association (ISDA) and other similar master netting agreements, especially in different jurisdictions
- The legal enforceability of the right of offset when it is included in a contract other than in a master netting arrangement, for example, a bank’s right to offset a deposit payable against a loan receivable with the same customer when the customer is in default of the loan
- The usefulness of offsetting assets and liabilities in general and in particular the different types of risks (for example, credit risk, liquidity risk, and market risk)
- The operations of central counter parties (CCP), the extent of protection provided by CCPs for transactions that clear through them, and the legal basis of their operations.
The Boards will continue their discussion on this project at a future meeting.
June 17, 2010 FASB/IASB Joint Board Meeting
Leases. The Boards discussed:
- Lessor accounting models
- Accounting for arrangements with service and lease components
- Accounting for purchase options.
Lessor Accounting Models
The Boards tentatively decided to use a hybrid lessor accounting model. Under that hybrid model, the lessor would use a performance obligation approach to lessor accounting for leases that expose the lessor to significant risks and benefits associated with the underlying asset. A derecognition approach would be applied to all other leases.
Accounting for Arrangements with Service and Lease Components
The Boards discussed how lessors should account for lease arrangements that contain both lease components and service components. The Boards asked the staff to provide examples of how to apply two different approaches to separating the lease components from the service components of a contract for a lessee and for a lessor under both approaches to lessor accounting. Those examples should include instances when the lease components are distinct and when they are not distinct from the service components.
Accounting for Purchase Options
The Boards tentatively decided that both lessees and lessors should account for purchase options only when they are exercised.
Accounting for financial instruments. This meeting was informational only; no decisions were made.