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6C > COMPARISON OF ACCOUNTING FRAMEWORKS > Flashcards

COMPARISON OF ACCOUNTING FRAMEWORKS Flashcards

1
Q

SECT C: COMPARISON OF ACCOUNTING FRAMEWORKS

KEY CONCEPTS OF ACCOUNTING FRAMEWORKS

A
  1. Liquidation vs going concern – users
    • Liquidation/run-off view => regulators
    • Ongoing business view => investors
  2. Fair value vs historical cost – value
    • Fair value – value traded in open market
    (+) accurate; consistent with market value
    • Historical cost = depreciated cost
    (+) reliable; objectively verifiable
  3. Principle vs rule-based – interpretation of input
    • Principle – users need to interpret
    (+) adaptable to business changes
    • Rule – specific guidance users must follow
    (+) easier to interpret, audit, compare against competitors
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2
Q

SECT C: COMPARISON OF ACCOUNTING FRAMEWORKS

ACCOUNTING FRAMEWORKS

A
  1. Generally accepted accounting principles (GAAP)
    • For all companies
  2. Statutory accounting principles (SAP)
    • Insurance companies only
    • More conservative to protect insureds
  3. International financial reporting standards (IFRS)
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3
Q

SECT C: COMPARISON OF ACCOUNTING FRAMEWORKS

FOCUS

A 
•	GAAP: measuring earning emergence
o	Income statement
o	Going-concern basis
•	SAP: insurer’s ability to pay claims (PHS adequacy)
o	Balance sheet
o	liquidity
•	IFRS:
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4
Q

SECT C: COMPARISON OF ACCOUNTING FRAMEWORKS

RESERVES

A
  • GAAP: gross of reinsurance
  • SAP: net of reinsurance
  • IFRS:
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5
Q

SECT C: COMPARISON OF ACCOUNTING FRAMEWORKS

PREMIUM

A
  • GAAP: earned over duration of contract
  • SAP: earned over duration of contract
  • IFRS: recognizes PV of all premium as soon as contract is signed (even before effective date)
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6
Q

SECT C: COMPARISON OF ACCOUNTING FRAMEWORKS

ACQUISITION COSTS

A
  • GAAP: deferred (DAC) to match EP
  • SAP: expensed as incurred (no DAC) – unable to get “unearned” acquisition cost back in liquidation
  • IFRS: recognizes PV of all expenses as soon as contract is signed (even before effective date)
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7
Q

SECT C: COMPARISON OF ACCOUNTING FRAMEWORKS

NON-ADMITTED ASSETS

A
  • GAAP: N/A
  • SAP: exclude value of highly illiquid assets (furniture, fixtures, equipment)
  • IFRS:
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8
Q

SECT C: COMPARISON OF ACCOUNTING FRAMEWORKS

DEFERRED TAX ASSETS (DTA)

A

• Temporary difference between accounting and tax treatment of assets and liabilities
• GAAP: fully recognized
o If unlikely that DTA will be recognized, a valuation allowance is created
• SAP: strict admissibility test to recognize DTA in addition to valuation allowance
o Include valuation allowance if it is expected to be reversed in the coming year
• IFRS:

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9
Q

SECT C: COMPARISON OF ACCOUNTING FRAMEWORKS

INVESTED ASSETS

A

• GAAP:
o Available for sale = fair value
o Held for trading = fair value
o Held to maturity = amortized cost
• SAP:
o Investment-grade bonds & higher-rated redeemable stocks = amortized cost
o Lower-rated bonds & preferred stocks = min [amortized cost, fair value]
o Common stocks & higher-rated non-redeemable preferred stock = fair value
• IFRS:
o Available for sale = changes in market value recorded as reserves
o Held for trading = changes in market value recorded as income
o Held to maturity = historical cost less amortization

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10
Q

SECT C: COMPARISON OF ACCOUNTING FRAMEWORKS

REINSURANCE COLLECTIBILITY

A
  • GAAP: management estimates
  • SAP: provision for reinsurance
  • IFRS:
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11
Q

SECT C: COMPARISON OF ACCOUNTING FRAMEWORKS

PROSPECTIVE REINSURANCE

A
  • GAAP: asset to recognize ceded recoverables
  • SAP: reserves net of anticipated recoverables
  • IFRS: no offsetting allowed for the recoverables
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12
Q

SECT C: COMPARISON OF ACCOUNTING FRAMEWORKS

RETROACTIVE REINSURANCE

A

• GAAP: ceded reserves treated as reinsurance recoverable asset
o Gain is deferred
• SAP: undiscounted ceded reserves recorded as negative write-in liability
o Gain is immediately recognized
o Schedule P is not impacted
• IFRS:

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13
Q

SECT C: COMPARISON OF ACCOUNTING FRAMEWORKS

STRUCTURED SETTLEMENTS

A

• GAAP:
o Release of liability signed – purchase price of annuit is recorded as paid loss and claim closed
o Release not signed – settlement treated like reinsurance contract (create reinsurance recoverable asset)
• SAP:
o Purchase price of annuit is recorded as paid loss and claim closed
o Disclose any unsigned releases of liability
• IFRS:

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14
Q

SECT C: COMPARISON OF ACCOUNTING FRAMEWORKS

ANTICIPATED S&S

A
  • GAAP: amounts recorded net of S&S
  • SAP: option to record Schedule P as gross or net
  • IFRS:
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15
Q

SECT C: COMPARISON OF ACCOUNTING FRAMEWORKS

RESERVE DISCOUNTING

A

• GAAP: use SAP or other reasonable discount rate
• SAP:
o Only tabular discounting allowed; otherwise, undiscounted
o Tabular – usually 3.5%
o Non-tabular – capped at min [investment yield – 1.5%, US Treasury debt yield]
• IFRS: reserves must be discounted, but risk margin must be added

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16
Q

SECT C: COMPARISON OF ACCOUNTING FRAMEWORKS

GOODWILL

A

• Generated in a business combination (M&A)
• GAAP = Purchase price – [fair value of assets – fair value of liability]
• SAP = Purchase price – Statutory surplus
o Capped at 10% of aging company, amortized over 10 years
• IFRS:

17
Q

SECT C: COMPARISON OF ACCOUNTING FRAMEWORKS

CATASTROPHE RESERVES

A
  • GAAP: not allowed to maintain reserves for unknown future cats
  • SAP:
  • IFRS: not allowed to maintain reserves for unknown future cats
18
Q

SECT C: COMPARISON OF ACCOUNTING FRAMEWORKS

RISK MARGIN

A
  • GAAP: none
  • SAP: none
  • IFRS: required
19
Q

SECT C: COMPARISON OF ACCOUNTING FRAMEWORKS

DESIRABLE CHARACTERISTICS OF RISK MARGINS

A
  1. Consistent methodology of contract lifetime
  2. Consistent assumptions to those made int eh calculation of liability
  3. Consisted with sound insurance pricing
  4. Vary by product to reflect difference in risk of different products
  5. Higher when
    a. Less is known about the estimate
    b. Low frequency/high severity
    c. Longer duration
    d. Wide probability distribution
    e. Emerging experience increases uncertainty
20
Q

SECT C: COMPARISON OF ACCOUNTING FRAMEWORKS

TYPES OF BONDS/STOCKS

A
  • Available for sale – purchased with the intention of selling before maturity, but after 1 year
  • Held for trading – purchased with the intention of selling within hours or days
  • Held to maturity – purchased with intention and ability of holding until maturity

6C (5 decks)

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