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For limited-payment contracts, premiums are paid over a period shorter than the period over which benefits are provided. Profit margin associated with premiums received is deferred and recognized as a liability (DPL). For limited-payment contracts for which the modified retrospective adoption approach is used, the determination of transition date adjustments to the liability for future policy benefits and DPL will depend on whether the contracts in force at the transition date are expected to have future premium receipts. For limited-payment contracts with premiums expected in the post transition date period, absent a net premium ratio greater than 100%, the liability for future policy benefits and DPL balances will not be adjusted at the transition date, consistent with traditional payment contracts. For limited-payment contracts with no remaining premiums expected, absent a situation when the present value of future expected benefits and related claim adjustment expenses exceed the transition date liability for future policy benefits, the difference between the updated liability for future policy benefits and the carrying amount at the transition date would be recognized at the transition date, offset by a corresponding change in the DPL.
The decision tree in Figure IG 11-2 illustrates the potential transition date adjustments for these two types of limited-payment contract situations.
Figure IG 11-2
Decision tree for limited-payment contracts at transition
Under the modified retrospective approach, the present value of future premiums (if any) and future benefits and related claim adjustment expenses at transition and in future periods is determined using the carryover locked-in interest rate assumption rather than the new discount rate. The separate adjustment to AOCI for the remeasurement of the liability for future policy benefits using the current upper-medium grade discount rate is also required. Unamortized DPL will be accreted at the carryover locked-in interest rate assumption. The change in the remeasurement of the liability for future policy benefits due to using the upper-medium grade rate at transition will be recognized in the opening balance of AOCI and not as an adjustment to DPL.
Example IG 11-4 illustrates the transition of a single premium limited-payment insurance contact under the modified retrospective transition method.
EXAMPLE IG 11-4
Pivoting off of the balance at transition (limited-payment insurance contract):
Assume a single premium policy for which the premium was received prior to transition. Assume that the updated present value of future policy benefits at the transition date (January 1, 2020) is $4,500 and the transition date liability for future policy benefits is $4,800.
How would the adjustment to the liability for future policy benefits be calculated at transition assuming the modified retrospective transition approach is elected?
Analysis
Present value of updated future policy benefits and related claim expenses
$4,500
Less: Transition date liability for future policy benefits (after removal of AOCI adjustments)
4,800
($300)
The adjustment to the liability for future policy benefits and DPL at transition would be recognized using the following entry:
Dr. Liability for future policy benefits
$300
Cr. DPL
$300
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