1. Premium Allocation Approach
Darryl Wagner, FSA, MAAA
Insurance IFRS Seminar
December 1, 2016
Bill Horbatt
Session 21

2. Agenda
Premium Allocation Approach
Subsequent measurement

3. Premium Allocation Approach
An entity may simplify the measurement of the liability for the remaining coverage (known in the ED as the “pre-claims liability”) using the premium-allocation approach if
Doing so would produce a measurement that is a reasonable approximation to that which would be produced when applying the building block approach;
The coverage period at initial recognition is approximately one year or less.
Pre-claims liability is the insurer’s stand ready obligation to pay claims for future insured events arising under existing contracts.
When an entity uses the simplified approach, it shall recognize an onerous contract liability (the difference between the liability and the fulfillment cash flow), if, at initial recognition or subsequently, the portfolio of the contracts containing the contract is onerous.
A portfolio of insurance contracts is onerous if, after the entity is bound by the terms of the contract, the sum of the fulfillment cash flows and any pre-coverage cash flows is greater than zero.
The pre-claims liability at initial recognition is the premium received at initial recognition, less the directly attributable acquisition costs and plus any onerous liability.
Consistent with the general measurement model, a current market discount rate would be used in discounting the pre-claims liability (note practical expedient).

4. Modified approach subsequent measurement
Pre-claims liability for subsequent reporting period is the previous carrying amount:
Plus the premium received in the period;
Minus the amount recognized as insurance contract revenue for coverage provided in the period
Plus any onerous liability recognized during the period
Plus (or minus) the effect of any changes in estimates that relate to any onerous liability recognized in previous periods
Plus any adjustment to reflect the time value of money.

5. Premium Allocation Approach
Proposals in Original ED/DP
Proposals in the 2013 ED
FASB and IASB introduced the “modified approach” as an alternative model for certain short duration contracts
Initial pre-claims liability is premiums received less directly attributable acquisition costs
Pre-claims liability is reduced/amortized over the coverage period
Onerous contract test required each period
Liabilities for claims incurred would be measured at the present value of fulfillment cash flows using building blocks 1 and 2
IASB: PAA is permitted as a simplification to BBA
FASB: PAA is required based on comprehensive eligibility criteria
Quantitative onerous contract test and reflection of onerous liability in the pre- claims liability
Discount cash flows if there is a significant financing element; however, there is a practical expedient to not require discounting for contracts that have a duration of 12 months or less at inception

6. Comparison of PAA Eligibility Criteria
IASB
FASB
Objective
Eligible for PAA if measurements are reasonable approximation to BBA.
Insured should apply the BBA instead of PAA, if certain specific criteria are met.
Practical Expedient
Contract meets the objective if the coverage period is one year or less.
Contract is within scope of the PAA if coverage period is one year or less.
Permit/
Require
PAA permitted but not required
PAA required for contracts not BBA eligible.
Eligibility Requirements
The principles based objective does not provide for eligibility requirements.
IASB agreed to application guidance consistent with the FASB’s eligibility requirements – however this would not be included in the main body of the final standard.
Apply the PAA if, at contract inception, either condition is met:
During the period before a claim is incurred, it is unlikely there will be a significant change in the CFs required to fulfill the contract; or,
The coverage period of the insurance contract is one year or less

7. Comparison of PAA Eligibility Criteria
IASB
FASB
Application Guidance
Contracts would not produce BBA comparable measurements if, at contract inception, either condition is met:
[Same as FASB Eligibility Criteria]
It is likely that, during the period before a claim is incurred, there will be a significant change in the CFs required to fulfill the contract; or,
Significant judgment is required to allocate the premium to the insurer’s obligation in each reporting period. Uncertainty examples include:
premium that would reflect the exposure and risk for each reporting period; or
length of the coverage period.
Example contracts would not be included as application guidance.
The following are indicators that the eligibility criteria for BBA are met:
Existence of guarantees or options may indicate there is likely to be a significant change in CFs, unless substantially offset by variations in premiums.
Changes in circumstances will not always significantly change the CFs. Other circumstances are not likely at contract inception.
Significant change in premium pricing for future contracts with similar or identical risks could indicate a significant change in the CFs.
The longer the coverage period of a contract, the more likely it is that there will be a significant change in the CFs.
Refer to the FASB ED for specific examples.

8. IASB Measurement Model
PAA
BBA AC
PAA
BBA
CSM AC
CSM
BB3 RA
Liability for remaining coverage RA ≈
BB2
UPR
PAA
BBA
BB1 RA RA
BB2 RA RA = RA
UPR
BB2
BB2
BB2 =
BB2
Liability for incurred claims
BB1
BB1
BB1 =
BB1
BB1
BB1
Day 0
Coverage Period
End of Coverage AC
Acquisition Costs BB
Building Block
BBA
Building Block Approach
LEGEND
PAA
Premium Allocation Approach RA
Risk Adjustment
CSM*
Contractual Service Margin
UPR
Unearned Premium Reserve, or PAA Pre-Claims Liability
* CSM can be unlocked for favorable and unfavorable changes, resulting in a CSM that can increase and decrease.

9. FASB Measurement Model
PAA
BBA
The single margin relates to both incurred claims and remaining coverage CFs. AC
PAA
BBA
BBA AC SM
BB3 SM AC
PAA
BBA
Liability for remaining coverage
UPR
BB2
Liability for remaining coverage
BB2
UPR SM
BB1
UPR
BB1
BB2
BB2
BB2 =
BB2
Liability for incurred claims
BB1
Liability for incurred claims
BB1
BB1 =
BB1
BB1
BB1
Day 0
Coverage Period
End of Coverage AC
Acquisition Costs BB
Building Block
BBA
Building Block Approach
LEGEND
PAA
Premium Allocation Approach RA
Risk Adjustment
SM*
Single Margin
UPR
Unearned Premium Reserve, or PAA Pre-claims Liability
* There is no explicit unlocking adjustment SM subsequent to initial recognition. Note that the SM equals building block 3 in the FASB model.

10. Thank You