IFRS 17 – The Long and Arduous Path that Promises a World of Change

IFRS 17, issued by the International Accounting Standards Board (IASB) in May 2017 to replace the existing IFRS 4 standard, will finally be effective globally from January 2023. Having been in the making for almost 20 years, it will ensure greater transparency in all insurance and reinsurance contracts by defining the principles for recognition, aggregation, accounting, valuation, and reporting of insurers’ assets and liabilities. IFRS 17, therefore, renders the integration between the financial, actuarial, and risk aspects even more imperative.

A Long-Felt Need

These standards aim to broadly improve the overall level of disclosure for insurers. Typically, insurance contracts are considered liabilities until the end of their term. As such, premiums are not treated as ‘revenue’ in terms of immediately bookable income. Given the complex nature of insurance revenues, insurers in different jurisdictions value their contracts differently, which in turn creates a certain degree of opacity. The need for a standard that could level this field and offer greater transparency had long been felt.

To add to this capricious aspect, insurers have historically circumvented revealing the nooks and crannies of their contractual risks. IFRS 17 will make it mandatory for insurers to provide more details to investors about these risks in their contract portfolio and how they are provisioning for each. Even onerous contracts – those that pay out more than the premium value – will have to be accounted for in much more detail.

Insurers Face Clear Challenges

Although it was issued almost five years ago, the path to its transition and implementation is significantly arduous. Companies have been investing huge amounts of time, effort, and money in design, implementations, dry runs, and optimizations of systems and processes for IFRS 17. To put things in perspective, a 2018 Deloitte IFRS 17 global survey revealed insurers were budgeting to spend anywhere from $7.5 million to over $150 million on IFRS 17 compliance.

There is copious complexity in IFRS 17’s transition requirements, both technical and operational, and the effort that will be required to build the opening IFRS 17 balance sheet. Valuations of assets and liabilities under IFRS 17 will be based on market value rather than historic or book value, rendering them prone to more fluctuations with market conditions and giving rise to increased balance sheet volatility.

Insurers will also seemingly struggle with the treatment of Contractual Service Margin (CSM), which represents the unearned profit for future services to be provided by a specific group of contracts, as it remains a significantly complex area.

Challenges further arise from the need to have retrospective application for IFRS 17 – this means applying IFRS 17 to all business in force on the transition date as though it had always been in effect.

Technology and Data – Areas with Trials as well as Significant Opportunities

IFRS 17 will have a ubiquitous impact across the architecture and requirements of IT systems and the finance function. Insurers will need to bring about technology upgrades for existing architecture components including insurance policy administration systems (PAS), actuarial models, general ledger, EPM tools, finance and actuarial data warehouses, and reporting tools. New architecture components will need to be implemented with accounting rules engines, IFRS17 sub-ledgers or IFRS17 calculation engines. This presents an inherent opportunity for insurance software solution providers as insurers of all sizes will seek to create robust technology platforms for the transition.

A 2021 KPMG survey of 25 leading insurers shows almost all of them have finalized the design of their target finance architecture and selected and designed the relevant IT solutions. Mid-sized and smaller insurers will likely constitute the bulk of the potential market for these technology providers. Also, designs for updated processes and controls might present a lucrative pasture as it is the least advanced suite of tasks among all insurers.

IFRS 17 will also result in large volumes of increasingly granular data that will drive complexity of the data architecture. Challenges regarding data quality, master data management, data reconciliations and end-to-end integration during implementation presents innovative opportunities for data analytics companies.

However, this transition to and implementation of IFRS 17, which necessitates extensive data collection, management, reporting, and testing will come at an extensive cost to insurers. The implementation of new systems will create a knock-on impact on insurers’ end-to-end processes, risks, and controls. Consequently, the people element will also get impacted – employees may need to undergo training for the new systems and requirements while additional resources may be required to support the transition and for business-as-usual purposes.

In Conclusion – Still a Long Way to Go

This long-haul implementation of IFRS 17 will make insurers incur additional costs for systems and technology as well as training and recruitment. With 42% of respondents in a 2021 PwC survey saying it might take three years from the date of implementation for IFRS 17 to fully stabilize in their business, the impact of additional costs might be anything but mild. As strategic counterweights, insurers will likely turn to raising policy premiums while also pushing hard for lower prices in their contracts with technology vendors.

IFRS 17 was issued by IASB in 2017 and amended in 2020, given the issues that companies encountered during dry runs and implementation. The requirements of IFRS 17 and how they should ideally be implemented are still rife with some degree of uncertainty – some areas are, in fact, still open to interpretation. Technology upgrades and new systems architectures might add several layers of cost for insurers; however, increased transparency and granular data streams might result in possible reviews of unprofitable business lines and improvements in overall data analytics. Insurers will even have to be prepared to alter solutions and tools that have already been implemented in their systems as IFRS 17 interpretations and practices evolve.