A Fresh Look at Accounting for Reinsurance of Universal Life

Link: https://www.soa.org/sections/financial-reporting/financial-reporting-newsletter/2022/september/fr-2022-09-malerich/


Under LDTI, DAC amortization will no longer obscure the relationship between direct and ceded accounting. It is now possible to align ceded accounting with direct, without any noise from DAC amortization. With poor alignment, distortions within the results reported to management and financial statement users will be different, sometimes greater than before. Whether the goal is to improve reporting or to avoid making it worse, a fresh look can help.

Most of the approaches that have been used to account for UL reinsurance can still be used. One exception is the implicit approach where, in lieu of explicit accounting for reinsurance, the gross profits used to amortize DAC were adjusted to be net of reinsurance. With the elimination of gross profits as an amortization base, this approach no longer has meaning.

For surviving approaches, it is now easier to evaluate their effectiveness in presenting the economic protection provided by reinsurance.

In this article, I begin an evaluation by examining the fundamentals of accounting for the insurance element of universal life. After that, I consider the economic protection provided by reinsurance and look for an ideal—a way to effectively account for that protection.

In a second article to be published later this year, I’ll evaluate several reinsurance approaches in terms of noise from missing the ideal, then end with some thoughts on what might be done to eliminate noise.

The focus of both articles is on the insurance element. Accounting for the deposit element, embedded derivatives, and market risk benefits is beyond the scope of these articles. Also outside of scope is the requirement, in Accounting Standards Codification (ASC) Topic 326, to recognize a current estimate of credit losses from the failure of a reinsurer to reimburse reinsured benefits.

Author(s): Steve Malerich

Publication Date: Sept 2022

Publication Site: Financial Reporting newsletter, SOA

GASB Fact Sheet: Financial Reporting Model Improvements

Link: https://www.gasb.org/cs/Satellite?c=Document_C&cid=1176176133242&pagename=GASB%2FDocument_C%2FDocumentPage

Executive Summary: https://www.gasb.org/cs/Satellite?c=Document_C&cid=1176176134838&pagename=GASB%2FDocument_C%2FDocumentPage


Would the GASB’s proposal treat borrowing as revenue?

No. In fact, the proceeds of bond sales, bank loans, and other forms of borrowing are not reported as revenue in the governmental funds under the existing standards. Under the proposal, those proceeds increase fund balance in the governmental funds but are reported as inflows (not revenues) in the resource flows statement. The governmental funds
statements are intended to report inflows and outflows of short-term financial resources, not revenues and expenses; that is the purpose of the government-wide financial statements. In the government-wide financial statements, the borrowing proceeds are recorded as an increase in cash and an increase in long-term debt.

Fund balance is the difference between assets and liabilities in the governmental funds. The portion of fund balance that comes from borrowing should not be mistaken for resources that can be used by a government for any purpose, such as paying bills or employee
salaries—that would be assigned fund balance and unassigned fund balance. Unspent borrowing proceeds are reported in accounts such as fund balance restricted for capital projects; in other words, in this example, those resources can be used only for investment in roads, buildings, equipment, and other capital assets.

Date Accessed: 22 February 2021

Publication Site: GASB