2023 is a very important year for the insurance industry: The complex set of rules IFRS 17 will come into force on January 1, 2023, replacing the interim standard IFRS 4 Phase I, which has been in force since 2005. The new standard governs the principles of identification, recognition, measurement, presentation and disclosures for insurance contracts.

Alma will support the implementation of IFRS 17 in the insurance industry. Therefore, Alma will publish short and easy-to-understand articles on IFRS 17 from time to time.

Part 7: Contract Boundary (CB)

The “contract boundaries” (CB) play a central role for the valuation, as do the “units of accounts”. This is because only the cash flows that are within the CB are to be taken into account for the valuation.

For example, consider an insurance contract that has a policy term of one year, an expected combined ratio of 80%, and includes a renewal option. Let us also assume for simplicity that each year 1/10 of the initial stock makes use of the renewal and that the risk adjustment and interest are zero. In this case, the initial CSM (contractual service margin) results in

    • of 20% of the premium, if you do not take into account the renewals and
    • a proud CSM of 110% of the premium when renewals are factored in.

Thus, each company is required to determine the CB for their groups, the regulations for this are formulated as follows:

Cash flows are within the scope of an insurance contract if they arise from substantial rights and obligations that exist during the reporting period in which the entity can compel the policyholder to pay premiums or in which the entity has a substantial obligation to provide insurance contractual services to the policyholder.

A substantial obligation to provide insurance contract services ends when:

(a) the entity has the practical ability to reassess the risks of the particular policyholder and, as a result, establish a price or level of benefits that adequately reflects those risks; or

(b) both of the following criteria are met

(i) the entity has the practical ability to reassess the risks of the portfolio of insurance contracts that includes the contract and, as a result, can set a price or benefit level that fully reflects the risk of that portfolio; and

(ii) the pricing of premiums up to the point at which risks are reassessed does not take into account risks relating to periods after the date of reassessment.

An entity shall not recognize amounts relating to expected premiums or expected claims outside the limits of the insurance contract as either a liability or an asset. Such amounts relate to future insurance contracts.

A clearer way to determine the CB is to use the following presentation: