LRC and LC
Hi,
It says: if there are no changes in underlying assumptions then LC is expected to be systematically decreased. Where am I wrong in my thinking: My understanding is that the losses of non-onerous groups get recognized immediately. Does the LC not represent the losses here? I thought they get recognized immediately as a insurance service expense but it is saying LC is expected to systematically decrease at subsequent measurements
EDIT: is it because it gets recognized IMMEDIATELY in P&L (income statement) but it systematically decreases from LRC (which is part of the B/S)
Comments
Under IFRS 17, insurance contracts are categorized into onerous, non-onerous, and potentially onerous. The treatment of losses differs based on these categories. Your understanding that losses from non-onerous groups are recognized immediately is correct. These are recognized in the profit and loss statement (P&L) as an expense.
The Liability for Incurred Claims (LC) represents the obligation to pay for insurance claims that have already occurred but have not yet been paid or settled. It's important to distinguish this from the Liability for Remaining Coverage (LRC). The LRC relates to future service periods and is more concerned with the fulfillment cash flows related to future coverage and benefits, including the release of the risk adjustment over the coverage period.
Your edited understanding seems more aligned with the standard's framework. The immediate recognition of losses in the P&L applies to changes in the estimates of fulfillment cash flows (which include the LC for claims incurred but not yet settled). However, for the LRC, if there are no changes in underlying assumptions, the LRC (which is part of the Balance Sheet) is expected to decrease systematically over time as the entity provides insurance services, because part of the LRC is recognized as revenue as the entity satisfies its performance obligations under the insurance contracts.
So, in summary:
This treatment ensures that the financial statements reflect both the immediate impact of losses and the ongoing provision of insurance services.
Sorry I meant LC as in loss component not Liability for Incurred claims (LIC). Where I saw these things were in reference to the LC, not LIC. Section 4.8 in the LRC paper states:
if there are no changes in underlying assumptions:
→ LC is expected to be systematically decreased
I was confusing that with the fact that LC is booked immediately in P&L
Sorry about that. I misread it.
Immediate Recognition in Profit and Loss (P&L): When a group of insurance contracts is determined to be onerous, meaning the expected costs exceed the expected benefits, the entity recognizes this loss immediately in the P&L. This action reflects the principle that financial statements should promptly indicate any deterioration in the profitability of the insurance contracts.
Systematic Decrease of LC: Post the initial recognition of the loss in the P&L, the LC is then amortized over the coverage period. The statement you referred to, that the LC is expected to be systematically decreased if there are no changes in underlying assumptions, pertains to this phase. The decrease in LC occurs as the entity fulfills its insurance service obligations over time. This assumes that there are no further adverse changes in the underlying assumptions.
To summarize, the immediate recognition of losses for onerous contracts in the P&L is a distinct process from the subsequent management of the LC in the balance sheet. Initially, the loss is recognized in the P&L. Following this, the LC in the LRC decreases systematically over the coverage period, reflecting the entity’s fulfillment of its insurance service obligations, provided the underlying assumptions remain stable.