The IFRS 17 challenge (and opportunity) ahead for insurers

January 1st, 2019

From 1st January, 2021, insurance companies will have to apply a new accounting standard, known as International Financial Reporting Standard 17 (IFRS 17), which will change the way revenue and profits are recognised for insurance contracts. IFRS 17 represents the most significant change to insurance accounting requirements in 20 years. Where previously each regional market disclosed financial reporting figures in their own way, from 2021 regulators will be able to compare the outputs of an insurance company in UK, with any other insurer in the world. The harmonised system demands a complete overhaul of insurers’ financial statements and will come at a cost to insurance companies. This will be a complex compliance project to the deadline date.

It’s an impactful change for insurers affecting many areas from actuarial models, accounting systems, product design and financial statements to taxation and operations. These fundamental changes, especially to their system will be both time-consuming and costly.

While the implementation date of 1st January 2021 may seem a long way off, the journey to IFRS 17 compliance will be time consuming and organisation need to act now if they haven’t done so yet.

The regulation represents a systemic change in the valuation of insurance contracts and will require a significant overhaul of financial and actuarial systems, processes, accounting and disclosure policies. IFRS17 compliance has quickly become a high business priority. The ripple effects of which will be felt throughout the finance value chain: from finance calculations to accounting, costing, planning, forecasting and reporting.

In a nutshell, IFRS 17 requires the revenue and profit earned from an insurance contract be recognised over the period the insurer provides coverage. Insurers do so by amortising unearned profits on a straight-line basis over the lifetime of a contract. The general effect of IFRS 17 is that it spreads the revenue as well as the profit over the lifespan of a contract as opposed to the current practice of taking most of the profit on Day 1.

Phil Keet, Managing Director at Millennium Consulting states, “The impact of this is that it raises certain challenges for insurance companies. It will have an impact on their profit statement, especially in the first year of implementation. The underlying economics don’t change, the risk is the same and the premium is the same, and it should generate the same profit over the duration of the contract. However, senior management and investors prefer to recognise profit now rather than spread over a 20 or 30 year period”.

97% of senior UK insurance professionals believe business is going to become more complex and costlier to operate in as a result of the regulation, and 90% believe that the cost of compliance will be more than the Solvency II Directive, according to research from data firm SAS.

Given the large scale and complexity involved, the time period to implement the necessary changes is tight. Finance and actuary functions will need to collaborate and work together closer than ever before to map their journey to compliance and assess the architecture gaps within the IT infrastructure. Most businesses do not have the computational ability to cope with the complex calculations.

The cost of compliance with IFRS 17 is significant, resulting in smaller companies potentially struggling. The top 10 global life insurance companies, combined, are expected to spend in excess of US$2 billion on this new standard. Half the compliance cost is expected to comprise in investment in systems.

To deliver on IFRS17, insurers will have to generate and process much higher volumes of data. There will need to be a complete shift in the way that information is collected, stored and analysed. Finance, actuarial and risk management IT architectures used within insurance companies are often siloed and rely on legacy tools that are not flexible enough to handle the detailed requirements of IFRS17. The temptation is to attempt to patch up the existing separate solutions, which may seem like a simple and cost-effective answer but one which will more than likely prove incredibly costly and risky. The siloes make for very manually intensive and error prone data management, trying to trace the reported figures back to the calculation models and assumptions that produced them.

“IFRS 17 compliance will be difficult to achieve by simply adapting legacy systems. Due to the complexity of the regulatory requirements and the large amount of good quality data that is needed, pursuing minimum compliance at minimal cost will leave insurers highly exposed” says Phil Keet.

IFRS17 also requires businesses to look and plan to the future. It introduces the concept of a forward-looking view on the finance data. Cash-flow modelling and forecasting and the ability to simulate the impact of a new product or a change in pricing on the IFRS17 financial statements are becoming key functionality requirements for technology under the new regulation. Trying to achieve this with legacy systems would be nearly impossible.

2021 seems like a long way off but in reality companies only have until the end of 2019 to design, build, test and implement all their system changes, as the transition adjustment and opening balance must be calculated effective of 1st January 2020, in order to derive the first-year comparatives.

Complying with this new regulation will force insurers to collate and store a huge amount of data from multiple source systems. A benefit of this bi-product of compliance will be a hugely valuable resource which insurers can use to give a clearer view of their insurance contracts’ performance. Combining data on a single platform for planning and forecasting, will eliminate silos across the organisation and ease data reconciliations, allowing more accurate results which the business can have confidence in. It will also enhance the comparability of the financial reporting and help insurers benchmark themselves against competitors.

Insurance companies need to look at a unified data platform to support the large volume of data required to achieve the regulatory requirements. The current reliance on heavily, manual processes and legacy systems has to change. Insurers need to look towards collaborative and open platform solutions that can mine and orchestrate the data from across the business, support the implementation of the core reporting requirements and be agile enough to respond to scenario modelling and the what-if analyses required during the transition period.

Starting implementation programmes early can help insurers seize new IFRS 17 market opportunities. I will be a time consuming and costly journey but will ultimately be one worth taking.