IFRS 17 to trigger product changes for Hong Kong, China insurers

The adoption of the new IFRS 17 accounting standard is still in its early days in China and Hong Kong, but it is already clear that whole life products, reinsurance treaties and bancassurance will be among the areas impacted.

IFRS 17 affects when profits from insurance contracts are recognized, particularly for life and other long-term policies. Profit is recognized over the lifetime of a policy rather than being booked up front when premiums are collected.

The new standard will force some insurers to adjust certain products to "accelerate profits" or help them qualify for specific measurement models, Tze Ping Chng, Asia-Pacific consulting insurance sector leader at EY, said via email. Carriers may make the pool of underlying items for some whole life products more clear so they qualify for the variable fee approach (VFA), Tze said.

The VFA, one of IFRS 17's three accounting approaches, can be used to account for certain contracts where policyholders have a share in the returns of underlying items, for example, in some unit-linked life products. One eligibility criteria for using the VFA is that the policyholder participates in a clearly identified pool of underlying items. A benefit of using the VFA is that profits can be less volatile.

The contract boundary under IFRS 17 indicates when, for the purpose of accounting for expected cash flows, the contract ends or can be renegotiated. Recapture clauses allow risk ceded to a reinsurer to be returned to the insurer under certain conditions.

Tze said reinsurance is an interesting and important aspect of business management impacted by IFRS 17 because insurers are evaluating their reinsurance strategy and are discussing the possibility of amending treaty agreements with reinsurers to make them more amenable to the new standard. Contract boundary is a key area, and many insurers have been negotiating with their reinsurers to make the recapture clause more flexible and aligned with IFRS 17.

New concepts

Widely known metrics such as gross written premium and underwriting profit have been replaced by "insurance services revenue" and "insurance service result," which are different in content and name. The combined ratio persists but is calculated with IFRS 17 metrics, which include or exclude elements that their IFRS 4 analogues did not.

Because insurers can no longer book profits up front under IFRS 17, expected future profits must be reported under a new heading — the contractual service margin (CSM) — and released gradually into profit over the duration of the contract.

Insurance giant Ping An Insurance (Group) Co. of China Ltd. said in its 2022 annual report that revenue from long-term life insurance contracts will decrease significantly under IFRS 17. For insurance contracts subject to the VFA, the insurer's share of the change in the fair value of the underlying items and changes in other financial risks shall be regarded as changes in future service, for which the CSM shall be adjusted. CSM will be more volatile under IFRS 17, Ping An said.

The insurer said July 19 that, under IFRS 17, the insurance contract revenue of the life and health segment is impacted by the exclusion of the investment component, as well as revenue being recognized over the coverage period. This has led to a significant decrease in revenue from long-term life insurance contracts, whereas premium income as a business scale indicator will not be affected.

The property and casualty (P&C) business is "relatively less impacted" by the transition. Generally, the P&C business is still subject to the premium allocation approach under IFRS 17, and the combined operating ratio is still a key profitability metric, Ping An said.

The company's first-quarter net profit attributable to shareholders of the parent company jumped 48.9% year over year to 38.35 billion yuan from 25.76 billion yuan. Transitioning to reporting under IFRS 17, Ping An logged first quarter insurance service revenue of 133.11 billion yuan, up from 130.34 billion yuan a year earlier, while insurance service expense rose year over year to 105.96 billion yuan from 100.02 billion yuan.

Net results from reinsurance contracts held went up to 1.06 billion yuan from 1.05 billion yuan in the first quarter of 2022. The insurance service result declined year over year to 26.09 billion yuan from 29.27 billion yuan.

Bancassurance exposure

The adoption of IFRS 17 could have a greater negative impact on near-term profits of insurers with greater bancassurance exposure compared with peers, CGS CIMB analyst Michael Chang said.

China Pacific Insurance (Group) Co. Ltd.'s first quarter net profit attributable to shareholders of the parent grew year over year to 11.63 billion yuan from 9.13 billion yuan. The bancassurance channel reported 12.29 billion yuan in written premiums, a decrease of 12.8% from 14.09 billion yuan a year earlier.

"The company seeks to diversify its channel mix, strives to secure the new business model of bancassurance, [and] focuses on value-oriented banking outlets, products and high-quality teams to boost value growth," China Pacific said.

China Pacific recorded first-quarter insurance service revenue of 65.39 billion yuan, up from 61.19 billion yuan a year earlier, while insurance service expense increased year over year to 55.62 billion yuan from 51.70 billion yuan.

New China Life Insurance Co. Ltd. saw its net profit attributable to shareholders of the company jump to 6.92 billion yuan in the first quarter from 3.22 billion yuan in the prior-year period. The bancassurance channel achieved total premiums of 22.49 billion yuan, representing a year-over-year increase of 5.9% from 21.24 billion yuan.

New China Life's first-quarter net profit rise is notably higher than peers that have announced negative net profit impacts from IFRS 17 adoption, Chang wrote in a research note. These include HSBC Insurance, which estimated that its first-half 2022 insurance pretax profit would have been 50% lower as a result of IFRS 17 adoption.