Financial Condition of Insurers
Overview: Evaluating Insurance Accounting Changes
The Potential Consequences of Proposed Reporting Changes
Dr. Steven Weisbart, CLU, of the Insurance Information Institute talks about a proposed change to accounting standards.
In the U.S., insurance companies are governed by an accounting system known as the Statutory Accounting Principles (SAP). SAP is similar to the Generally Accepted Accounting Procedures (GAAP), but insurance companies must provide more detailed balance sheet information.
Since 2001, the London-based International Accounting Standards Board (IASB) has been formulating a set of global accounting standards. The European Union (EU) has also started work on Solvency II, a framework directive aimed at streamlining and strengthening solvency requirements across the EU in an effort to create a single market for insurance. In turn, the Financial Accounting Standards Board (FASB), the accounting governance entity for the U.S., has been considering adoption of IASB and Solvency II standards.
The new accounting rules include a complex “exit value” approach to accounting for liabilities that raises several concerns for the insurance industry.
Key Concerns about “Exit Value” Valuation
The “exit value” concept relies on the presence of a strong secondary market and a reliable price for insurance policies, as there are for securities of various kinds. Theoretically, then, a profit or loss can be calculated immediately after an insurance policy has been issued. In practice, such transfers of liability virtually never occur, particularly in the case of property/casualty insurance contracts. As a result, the insurance industry has raised several concerns:
- Decreased Investor Interest in Insurance Companies—The volatility and complexity of the “exit value” approach may dampen the enthusiasm of some potential investors who will be discouraged by the difficulty of evaluating financial statements. As a result, some companies fear it will be more challenging to raise money, and this could lead to higher insurance prices.
- Undue Revelation of Proprietary Business Practices—The “exit value” approach may force companies to reveal proprietary information, which could result in a competitive disadvantage.
- The Need for Field Testing—The insurance industry advocates a field test of “exit value” accounting, with companies using this approach on a trial basis in their actual filed financial statements. This test would determine whether the new approach creates unintended or unrepresentative results, whether they can be reliably audited, whether the approach is expensive or unreasonably difficult to implement, and whether there are ambiguities that might produce inconsistent interpretations of desired practices from one company to another.
- III White Paper—Accounting: International Standards and Solvency II
An in-depth review of accounting standards and proposed changes impacting the insurance industry.