1. Overview and Activities related to Accounting IAIS Overview and Activities related to Accounting1 GDNL Program – Module 25 (1) 16 May 2006 Dynamics in Accounting and Auditing related to Insurance Supervision Peter Cooke, Member of Secretariat International Association of Insurance Supervisors 16 May 2006

2. Overview and Activities related to Accounting IAIS Overview and Activities related to Accounting2 GDNL Program – Module 25 (1) 16 May 2006 Outline of Presentation Outline of Presentation 1.Introduction to IAIS and its working parties on accounting issues 2.Insurance Core Principles 3.IFRS from perspective of insurance supervisors 4.Insurance Contracts Phase I 5.Insurance Contracts Phase II 6.Supervisory Framework and roadmap for solvency assessment

3. Overview and Activities related to Accounting IAIS Overview and Activities related to Accounting3 GDNL Program – Module 25 (1) 16 May 2006 International Association of Insurance Supervisors IAIS objectives: cooperate to contribute to improved supervision of the insurance industry on a domestic and international level in order to maintain efficient, fair, safe and stable insurance markets and for the benefit and protection of policyholders promote development of well regulated insurance markets contribute to global stability

4. Overview and Activities related to Accounting IAIS Overview and Activities related to Accounting4 GDNL Program – Module 25 (1) 16 May 2006 IAIS Primary Activities Develop international standards for insurance supervision Assist supervisors in implementation of standards Promote cooperation between insurance supervisors Coordinate with other financial sector and international organisations

5. Overview and Activities related to Accounting IAIS Overview and Activities related to Accounting5 GDNL Program – Module 25 (1) 16 May 2006 IAIS organisation chart (as of April 2006) Secretariat ACCOUNTING SUBCOMMITTEE Enhanced Disclosure Subcommittee Financial Conglomerates Subcommittee Solvency & Actuarial Issues Subcommittee Insurance Fraud Subcommittee Reinsurance and Other Forms of Risk Transfer Subcommittee Reinsurance Transparency GroupINSURANCE CONTRACTS SUBCOMMITTEE Executive Committee General Meeting Technical Committee Implementation Committee Regional Coordination Subcommittee Insurance Laws, Regulations, Practices & Standards Subcommittee Task Force on Insurance Core Curriculum Budget Committee Financial Outlook Task Force Pension Coordination Group

6. Overview and Activities related to Accounting IAIS Overview and Activities related to Accounting6 GDNL Program – Module 25 (1) 16 May 2006 IAIS working parties on accounting Insurance Contracts Subcommittee IASB projects: –Insurance Contracts (Phase II - valuation of insurance liabilities for general purpose accounting) –Financial instruments –Revenue recognition –Chaired by Rob Esson (US)

7. Overview and Activities related to Accounting IAIS Overview and Activities related to Accounting7 GDNL Program – Module 25 (1) 16 May 2006 IAIS working parties on accounting Accounting Subcommittee IASB projects not covered by Insurance Contracts Subcommittee Currently undertaking survey on impact of IFRS 4 implementation upon supervisors Auditing Liaison with other bodies, and any other accounting-related issues Chaired by Tomoko Amaya (Japan)

8. Overview and Activities related to Accounting IAIS Overview and Activities related to Accounting8 GDNL Program – Module 25 (1) 16 May 2006 IAIS Standard Setting Process Core Principles Principles Supervisory Standards Guidance & Issues Papers Two tier approach

9. Overview and Activities related to Accounting IAIS Overview and Activities related to Accounting9 GDNL Program – Module 25 (1) 16 May 2006 Insurance Core Principles Most relevant to Accounting: ICP 20: Liabilities ICP 21: Investments ICP 23: Capital adequacy & solvency ICP 26: Information, disclosure & transparency towards the market

10. Overview and Activities related to Accounting IAIS Overview and Activities related to Accounting10 GDNL Program – Module 25 (1) 16 May 2006 ICP 20: Liabilities The supervisory authority requires insurers to comply with standards for establishing adequate technical provisions and other liabilities, and making allowance for reinsurance recoverables. The supervisory authority has both the authority and the ability to assess the adequacy of the technical provisions and to require these provisions be increased, if necessary. ICP 21: Investments The supervisory authority requires insurers to comply with standards on investment activities. These standards include requirements on investment policy, asset mix, valuation, diversification, asset-liability matching, and risk management Insurance Core Principles

11. Overview and Activities related to Accounting IAIS Overview and Activities related to Accounting11 GDNL Program – Module 25 (1) 16 May 2006 ICP 23: Capital adequacy & solvency The supervisory authority requires insurers to comply with the prescribed solvency regime. This regime includes capital adequacy requirements and requires suitable forms of capital that enable the insurer to absorb significant unforeseen losses ICP 26: Information, disclosure & transparency towards the market The supervisory authority requires insurers to disclose relevant information on a timely basis in order to give stakeholders a clear view of their business activities and financial position and to facilitate the understanding of the risks to which they are exposed Insurance Core Principles (cont)

12. Overview and Activities related to Accounting IAIS Overview and Activities related to Accounting12 GDNL Program – Module 25 (1) 16 May 2006 IAIS input to IASB IAIS representation on IASB working groups: Standards Advisory Council – member (Tomoko Amaya) Insurance Working Group – 2 seats as official observer (Tomoko Amaya & Rob Esson) Financial Instruments Working Group – official observer (Rob Esson) Comment letters and papers

13. Overview and Activities related to Accounting IAIS Overview and Activities related to Accounting13 GDNL Program – Module 25 (1) 16 May 2006 IAIS views on IASB standards IAIS supports harmonised accounting principles Consistent approach to measurement of assets and liabilities is essential to meaningful disclosure IAIS would prefer consistent methodologies for regulatory and general-purpose financial reporting IAIS is concerned about the possible mismatch in accounting models in phase I of IFRS 4 IAIS members unanimously against the use of own credit rating in measurement of liabilities

14. Overview and Activities related to Accounting IAIS Overview and Activities related to Accounting14 GDNL Program – Module 25 (1) 16 May 2006 IFRS 4 – IAIS survey on implementation Qualitative study by Accounting Subcommittee Impact on supervisors of implementation of IFRS 4 Due for publication Q2 2006 Main themes from survey responses: –Definition of an insurance contract –‘Mismatch’ between assets and liabilities

15. Overview and Activities related to Accounting IAIS Overview and Activities related to Accounting15 GDNL Program – Module 25 (1) 16 May 2006 IFRS 4 – IAIS survey on implementation Main themes from survey responses (cont): –Catastrophe and equalisation provisions –Discretionary participation features –Impact of application of IAS 39

16. Overview and Activities related to Accounting IAIS Overview and Activities related to Accounting16 GDNL Program – Module 25 (1) 16 May 2006 First ‘Liabilities Paper’ issued May 2005: Preferable if the methodologies for financial and regulatory reporting are substantially consistent Inappropriate for prudential regulatory purposes to require total financial resources (net liability plus equity) backing an insurance contract at less than its current surrender value Allowing for own credit worthiness is inconsistent with the valuation of insurance liabilities in a going concern and unacceptable for both regulatory and general purpose financial reporting Insurance Contracts Phase II

17. Overview and Activities related to Accounting IAIS Overview and Activities related to Accounting17 GDNL Program – Module 25 (1) 16 May 2006 First ‘Liabilities Paper’ (cont): Asset / Liability measurement consistency is especially important in the insurance sector A bottom up approach is preferable but profit should only be recognised where an appropriate and sufficiently reliable risk margin has been provided for in the value of liabilities Risk free discount rate utilising the entire yield curve is appropriate, except where the benefits are contractually dependent upon the performance of the underlying assets. For prudential purposes, expected earning rate should be verified against the discount rate Insurance Contracts Phase II

18. Overview and Activities related to Accounting IAIS Overview and Activities related to Accounting18 GDNL Program – Module 25 (1) 16 May 2006 Second ‘Liabilities Paper’ – draft under consultation, expected to be issued end May 2006. Key principles and observations: Measurement of an insurance liability should be based upon the future cash flows relating to full settlement with the claimant/beneficiary The IAIS supports an approach to modelling whereby observable market inputs are used to the fullest extent possible, and the remaining elements are modelled. A common framework is appropriate to model non- observable inputs as objectively as possible. Where the amount or timing of future cash flows in uncertain, probability is a crucial factor in measuring the cash flows relating to the contract. Insurance Contracts Phase II

19. Overview and Activities related to Accounting IAIS Overview and Activities related to Accounting19 GDNL Program – Module 25 (1) 16 May 2006 An exit model is preferable but profit on inception should be recognised only where an appropriate and sufficiently reliable risk margin in the liability measurement. Similar obligations with similar risk profiles should redult in similar liabilities. Any methodology for calculating the margin should share certain characteristics. The margin should determined in such a way as to promote transparency and comparability between different insurers in an objective manner. Probabilities which reflect policyholder behaviour regarding the contracts as a whole are needed to achieve meaningful results. No requirement for application of surrender value floor to insurance liabilities for general purpose accounting. IASB Insurance Contracts Project - Phase II

20. Overview and Activities related to Accounting IAIS Overview and Activities related to Accounting20 GDNL Program – Module 25 (1) 16 May 2006 Future cash inflows should be taken into account in the measurement, if integral to the obligations under the contract. Cash inflows should be offset against outflows The IAIS would prefer full expensing of acquisition costs at inception with allowance for the future income to recover the costs taken into the measurement. Discretionary benefits should be treated as liabilities based upon expected future cash flows, as treatment as equity would misrepresentthe financial position. Derivatives embedded in insurance contracts should be taken into account in the valuation methodology. The credit standing of an insurer is not relevant to the valuation of insurance liabilities. Insurance Contracts Phase II

21. Overview and Activities related to Accounting IAIS Overview and Activities related to Accounting21 GDNL Program – Module 25 (1) 16 May 2006 IAIS Framework for Insurance Supervision A new framework for insurance supervision: Towards a common structure and common standards for the assessment of insurer solvency (Framework paper)

22. Overview and Activities related to Accounting IAIS Overview and Activities related to Accounting22 GDNL Program – Module 25 (1) 16 May 2006 IAIS Framework for Insurance Supervision financialgovernancemarket conduct supervisory assessment and intervention Preconditions Regulatory requirements Supervisory action LEVEL 3 LEVEL 2 LEVEL 1 the insurance sector and insurance supervision basic conditions for the effective functioning of the insurance supervisory authority

23. Overview and Activities related to Accounting IAIS Overview and Activities related to Accounting23 GDNL Program – Module 25 (1) 16 May 2006 IAIS Common structure for solvency assessment ‘Cornerstones Paper’ Sets out key ‘cornerstones’ for regulatory financial requirements of supervisory framework (October 2005) ‘Roadmap Paper’ Workplan for the IAIS Solvency project (February 2006) ‘Structure Paper’ (in progress) Outlines a more detailed philosophy on assessment of insurer solvency, and analysis of main aspects and elements

24. Overview and Activities related to Accounting IAIS Overview and Activities related to Accounting24 GDNL Program – Module 25 (1) 16 May 2006 International Association of Insurance Supervisors Sources of Information 1.Website www.iaisweb.org 2.Newsletter (quarterly) 3.IAIS published papers 4.Working party meetings 5.IAIS annual conference 6.Training seminars 7.Contact IAIS iais@bis.org

25. Overview and Activities related to Accounting IAIS Overview and Activities related to Accounting25 GDNL Program – Module 25 (1) 16 May 2006 TitleIAIS papers Framework paper  A new framework for insurance supervision: Towards a common structure and common standards for the assessment of insurance solvency (2005) Cornerstones paper  Towards a common structure and common standards for the assessment of insurer solvency: cornerstones for the formulation of regulatory financial requirements (2005) Roadmap paper  Roadmap for a common structure and common standards for the assessment of insurer solvency (2006) Principles  Insurance core principles and methodology (2003) Comment paper  Issues arising as a result of the IASB ’ s Insurance Contracts Project – Phase II: Initial IAIS Observations (2005) Forthcoming papers  Issues arising as a result of the IASB ’ s Insurance Contracts Project – Phase II: Second set of IAIS Observations (Draft – expected end May 2006)  The IAIS common structure for the assessment of insurer solvency (Draft – expected October 2006) IAIS papers most relevant to accounting and financial assessment IAIS papers most relevant to accounting and financial assessment

26. Overview and Activities related to Accounting IAIS Overview and Activities related to Accounting26 GDNL Program – Module 25 (1) 16 May 2006 IAIS Standard Setting Activities Questions??? Thank you!! peter.cooke@bis.org