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10.2 Financial statement presentation for long-duration contracts
Publication date: 31 May 2022 (updated 31 Mar 2023)
us Insurance guide
ASC 944 provides specific guidance on the appropriate presentation of certain items related to long-duration contracts in the balance sheet, income statement, and statement of other comprehensive income of an insurance or reinsurance entity.
A long-duration contract is one that generally is not subject to unilateral changes in its provisions and requires the performance of various functions and services (including insurance protection) for an extended period. Long-duration contracts or their additional features are classified into the following broad categories based on the product terms for accounting and presentation guidance in ASC 944.
- Traditional insurance contracts and limited-payment contracts
- Universal life-type contracts
- Annuitization, death, or other insurance benefits
- Investment-type contracts
- Market risk benefits
- Variable annuity and variable life insurance separate account structures
- Participating life insurance contracts
The category dictates the accounting model as well as the applicable presentation requirements in ASC 944.
10.2.1 Presentation — traditional insurance and limited-payment contracts
Premiums on nonparticipating traditional long-duration insurance contracts are recorded in revenue when due. The liability for future policyholder benefits is recorded in the balance sheet using a net level premium measurement approach, which means the liability is accrued in proportion to the premium revenue recognized, with the amount being included as benefit expense. However, in the limited-payment model, the collection of premium does not represent the completion of the earnings process, so any gross premium received in excess of net premium must be deferred in accordance with ASC 944-605-25-4A. The deferred revenue amount is known as the deferred profit liability (DPL). The guidance does not specify how to present the DPL. The DPL is generally recorded within the liability for future policy benefits in the balance sheet with an offset to premium revenues. Subsequent amortization of the deferred profit would then be reflected as premiums. Alternatively, in the absence of guidance, it would also be acceptable to record the offset to the DPL as benefit expense, with subsequent amortization recorded as a reduction of benefit expense. Insurance entities must record subsequent amortization of the DPL within the same revenue or expense category used to record it initially (i.e., premium or benefit expense). Refer to IG 5.3 for further discussion of the limited-payment model.
10.2.1.1 Separate presentation — liability remeasurement gains/losses for certain long-duration contracts
Remeasurement gains and losses arise as a result of updating assumptions in the net premium ratio (sometimes referred to as unlocking) as of the beginning of the current reporting period, as required in ASC 944-40-35-6A. Refer to IG 5.2.4 for further guidance related to the meaning of “beginning of the current reporting period” when remeasuring the liability for future policy benefits. Presentation of these remeasurement gains or losses separate from total benefit expense is required in the income statement for the following long-duration contracts and benefits:
- Nonparticipating traditional insurance contracts
- Limited-payment contracts
- Death or other insurance benefits
- Annuitization benefits
The presentation is intended to provide transparency to users of the financial statements as to the effect in the current period of actual and expected policyholder activity separate from changes due to updates in assumptions related to future cash flows.
The remeasurement gains or losses resulting from the unlocking of the liability for future policy benefits, the deferred premium liability on limited-payment policies, and liabilities for annuitization benefits and death or other insurance benefits are permitted to be combined in the remeasurement gains/losses income statement line item or the amounts can be disclosed parenthetically as part of total benefits expense.
Reinsurance recoverable amounts that are remeasured using the net premium approach should also be included in the remeasurement gain or loss.
Cash flows from premiums and claims relating to traditional long duration contracts and limited payment contracts are classified as operating cash flows in the statement of cash flows.
10.2.1.2 Presentation — changes in discount rate for certain long-duration contracts
The discount rate used to measure the liability for future policy benefits for nonparticipating traditional and limited-payment contracts is required to be a “single A” interest yield that reflects the duration characteristics of the liability. The contract/cohort inception date discount curve is locked in for benefit expense (interest accretion) recognition purposes. However, the liability for future policy benefits is required to be remeasured at each reporting date based on a single A interest rate curve. The difference between the liability measured using the locked-in discount rate and the liability measured at the current curve is presented in accumulated other comprehensive income (AOCI), and the change for the period is presented in the statement of other comprehensive income (OCI).
Question IG 10-1
Is the change in discount rate related to the remeasurement of ceded reinsurance recoverables recorded in OCI?
Is the change in discount rate related to the remeasurement of ceded reinsurance recoverables recorded in OCI?
PwC response
Yes. Ceded reinsurance transactions of nonparticipating traditional contracts and limited-payment contracts are required to be recognized and measured in a manner consistent with the underlying direct insurance contracts, including using consistent assumptions (e.g., locked-in discount rate for the income statement and updated discount rate for balance sheet remeasurement) in accordance with ASC 944-40-25-34. Therefore, a change in measurement of the reinsurance recoverable due to a change in the current period discount rate should also be recorded in OCI.
The changes can be netted with the change recorded for the underlying direct insurance contracts. Market risk benefits (MRBs) can be present in both insurance and reinsurance contracts. Refer to IG 5.6 for further discussion on the measurement of reinsured MRBs.
10.2.2 Presentation — universal-life type contracts
The revenue recorded on a universal life-type contract consists of mortality (or other insurance) fees and contract administration assessments. Such revenue is generally recorded when due as policy charges and fee income. Unlike traditional insurance contracts, the premiums collected are considered deposits and not recorded as revenue. The premiums are part of the account balance of the policyholder and recorded on the balance sheet as a liability.
ASC 944-40-30-14 specifies that the liability for policyholders’ account balances related to universal life type contracts is equal to the sum of the following four elements:
- Benefit of the policyholder at the balance sheet date (e.g., stated account balance or similar internal explicit or implicit contract value)
- Amounts previously assessed against policyholders for services to be performed in the future (e.g., deferred revenue, including front-end or initiation fees)
- Amounts previously assessed against policyholders that are refundable on contract termination
- Any amounts provided for premium deficiencies
The most significant component of a universal life-type contract is the policyholder account balance, as the other remaining elements may not always be present.
The policyholder’s account balance changes each period for deductions for fees and assessments and increases for interest credited to the policyholder’s account balance. Any interest credited to the policyholder’s account balance is as an expense within the income statement in the period it is credited to the policyholder account.
Any fees and assessments collected from the policyholder in advance of services rendered are deferred as an unearned revenue reserve on the balance sheet in the liability for policyholders’ account balances and recognized in income over the period benefitted in policy charges and fee income.
Insurance benefits (e.g., death and surrender benefits) in excess of the account balance are generally recognized as expenses in the period they are incurred unless the design of the product is such that future charges are insufficient to cover the benefits. In this case, an additional liability is accrued over the life of the contract generally within the liability for future policy benefits. See IG 10.2.3 for presentation considerations for the additional liability.
Universal life-type contracts can also contain features that would be classified as an embedded derivative or MRB, which would require bifurcation under ASC 815 or separate accounting under ASC 944, respectively. Embedded derivatives are generally recorded on the balance sheet and in the income statement with the host instrument. MRBs are required to be separately presented in the financial statements. See IG 10.2.5 for further information on the presentation of MRBs.
Premiums and returns of account balance payments are classified as financing activities in the statement of cash flows. There is diversity in practice on how the ultimate payment to the policyholder of accrued interest and assessments are classified.
10.2.3 Presentation — additional liability for annuitization, death, or other
The additional liability represents insurance benefits (death or surrender benefits) or annuitization benefits (two-tiered annuity) that are in excess of the related account balance and future charges are insufficient to cover benefits. The additional liability for annuitization, death, or other insurance benefits is recorded on the balance sheet as a liability for future policy benefits based on a benefit ratio (present value of total expected excess payments or annuitization benefits over the present value of total expected assessments).
Estimates used to establish the additional liability must be evaluated at each reporting date and updated if actual experience suggests earlier assumptions should be revised. When revising estimates, the benefit ratio must include historical experience from the issue date to the balance sheet date and estimated experience thereafter. Consistent with the traditional insurance and limited-payment model, the remeasurement gains/losses on the additional liability for annuitization, death, or other insurance benefits must be disclosed as a separate component of benefit expense on the income statement. However, the remeasurement gains and losses of the additional liability for annuitization, death, or other insurance benefits may be combined in the same line as those remeasurement gains and losses on traditional insurance and limited payment contracts. See IG 10.2.1.1 for the guidance on the presentation of remeasurement gains/losses on traditional insurance and limited-payment contracts.
Unlike the traditional insurance and limited-payment models, the discount rate is not required to be locked-in at inception for additional annuitization, death, or other insurance benefits, but is reflected in the benefit ratio used to determine benefit expense. Alternatively, an entity may use the contract rate in effect at inception of the book of contracts to discount certain expected cash flows, with no remeasurement of the liability through OCI.
Benefits paid in excess of account balances are classified as operating cash flows in the statement of cash flows.
10.2.4 Presentation — investment contracts
ASC 944-825-25-1 through ASC 944-825-25-2 requires that long-duration insurance contracts, which have been classified as investment contracts, be accounted for in a manner consistent with the accounting for interest-bearing or other financial instruments that result in payments received being recorded as liabilities and not as revenue. If the investment contract has a stated account balance, it should generally be accrued as the liability for policyholders’ account balances.
In accounting for investment contracts in a manner similar to other interest bearing obligations, revenue represents investment income generated by the investment of the funds received from the policyholder and surrender charges. Expenses are comprised primarily of interest credited to the policyholder's account balance.
Embedded derivatives and market risk benefits can exist in these contracts and require bifurcation under ASC 815 and ASC 944. See IG 10.2.5 for the presentation requirements for market risk benefits.
Premiums received and return of premiums upon maturity and surrender payments are classified as financing activities in the statement of cash flows. Interest paid is classified as operating cash outflows.
10.2.5 Presentation — market risk benefits (MRBs)
Insurance entities are required to present the carrying amount of the MRB liability and MRB asset separately on the face of the balance sheet. Because market risk benefits follow a fair value recognition and measurement model, which is different from the “spreading” model used to measure the liability for future policyholder benefits or the deposit model used for policyholder account balances, these measurements have to be presented separately in the balance sheet.
The changes in the fair value of MRB assets and liabilities are also required to be presented as a separate line in both the income statement and statement of other comprehensive income for the applicable changes in fair value of MRB assets and liabilities. The changes in fair value are recognized in the income statement each period, except for the component of the change relating to the instrument-specific credit risk of MRBs, which is recognized in OCI.
MRB assets and liabilities must be separately presented on the balance sheet since there is no legal right of offset between the contracts.
Many preparers reinsure or economically hedge exposures to certain MRBs. The assets and liabilities from the reinsurance or derivatives used to economically hedge MRBs cannot be netted against MRB assets and liabilities in the balance sheet since there is no legal right of offset between them. However, we believe it is appropriate to include the changes in the value of the reinsurance asset (or liability) or derivatives that economically hedge MRBs within the MRB income statement line item.
Payments of MRB benefits are generally classified as financing activities in the statement of cash flows unless the payments are associated with death benefits in excess of account balances released, in which case they should generally be classified as operating activities.
10.2.6 Presentation — separate account structures (variable annuity and life)
Separate account assets and liabilities must be included in an insurance entity’s financial statements as the insurance entity owns the assets and is contractually obligated to pay the amount to the policyholders. For separate account arrangements that meet the criteria in ASC 944-80-25-2, separate account assets and liabilities have to be presented separately, each as a single line, on the balance sheet. The qualifying separate account assets are measured at fair value. Therefore, the disclosures required by ASC 820, Fair Value Measurements, apply to separate account assets.
ASC 944-80-45-2 requires that separate account liabilities be reported on the balance sheet at an amount equal to the amount credited to the contract holder, which is typically determined as the contract holder deposits less withdrawals, less fees and charges assessed, plus or minus the change in fair value of the corresponding separate account assets. This is not equivalent to a fair value measurement of the contract, as it does not consider the fair value associated with other components of the contract, such as annuity purchase rate guarantees, minimum account guarantees, and future fees and other assessments. Therefore, ASC 820 does not apply to the valuation of separate account liabilities.
For qualifying separate account arrangements, ASC 944-80-45-3 requires that the related investment performance (i.e., investments, dividends, realized gains/losses, changes in unrealized gains/losses) and the corresponding amount credited to the contract holder be offset within the same income statement line.
For separate account structures that do not meet the criteria in ASC 944-80-25-2, the assets and liabilities associated with the arrangement should be measured, presented, and disclosed consistent with the other general account assets and liabilities of the reporting entity.
See IG 10.3.4 for further information on the required disclosures for qualifying separate accounts.
10.2.7 Presentation — participating life insurance contracts
Participating life insurance contracts include certain contracts issued by mutual life insurance entities and certain stock life insurance entities that pay dividends to policyholders based on the actual experience of the insurance entity.
The premiums are recorded in revenue when due. The liability for future policyholder benefits is recorded in the balance sheet for the contracts using a net level premium measurement approach. This is similar to the accounting for nonparticipating traditional insurance contracts except that the net premium ratio is based on locked-in assumptions based on contractual terms (including a terminal dividend). The offset for the liability is reflected as benefit expense in the income statement. Because the net premium ratio is not required to be updated, there is no remeasurement gain/loss recorded in income. The annual dividends are accrued and recognized in the income statement as a policyholder expense when declared.
Cash flows from participating life insurance contracts are classified as operating cash flows in the statement of cash flows.
PwC. All rights reserved. PwC refers to the US member firm or one of its subsidiaries or affiliates, and may sometimes refer to the PwC network. Each member firm is a separate legal entity. Please see www.pwc.com/structure for further details. This content is for general information purposes only, and should not be used as a substitute for consultation with professional advisors.
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