The concept of the ‘unit of account’ is an important concept because it establishes the boundary of the element subject to measurement. In some cases, expanding the unit of account may increase the carrying amount of an element by, for instance, encompassing additional cash inflows. In some cases, however, expanding the unit of account can reduce the overall carrying amount of an element, particularly when a consequence of expanding the boundary is the inclusion of cash outflows in the measured amount.
IFRS 17 unit of account
Many IFRS require transactions to be accounted for at the individual contract level. Accordingly, the ‘unit of account’ is the individual contract. For instance, IFRS 15 Revenue from Contracts with Customers specifies the accounting for an individual contract with a customer (IFRS 15.4). Nevertheless, IFRS 15 provides, as a practical expedient, the option of applying the Standard to a portfolio of contracts (or performance obligations) with similar characteristics if the entity reasonably expects that the effects on the financial statements would not differ materially from applying the Standard to the individual contracts (or performance obligations).
In contrast to IFRS (such as IFRS 15) that provide the ability for an entity to account for contracts on a portfolio basis, IFRS 17 requires an entity that issues insurance contracts to account for those contracts on a portfolio basis. While consistent with the manner in which most insurers manage their businesses and the risks to which they are exposed, accounting for insurance contracts at a level above the individual contract increases the probability that the net cash outflows attributable to onerous contracts will be offset (and thereby obscured) by the net cash inflows generated by profitable contracts within the same portfolio. Consequently, IFRS 17 requires that, in addition to insurance contracts being accounted for on a portfolio basis, any groups of contracts that are onerous at initial recognition be accounted for separately from other identifiable groups within the portfolio. Practically, this has a similar effect as the criteria in IFRS 15 that applying the Standard at a portfolio level does not produce materially different outcomes as compared to the outcomes from applying the Standard at the individual contract level.
Accounting for insurance contracts on a portfolio basis
IFRS 17 defines a portfolio of insurance contracts as a group of contracts that are subject to similar risks and are managed together. To assist entities in identifying separate portfolios of insurance contracts, IFRS 17 clarifies, among other things, that:
- Contracts within a product line would be expected to have similar risks and therefore would be expected to be in the same portfolio if they were managed together, and
- Contracts in different product lines (for instance, single premium fixed annuities compared with regular term life assurance) would not be expected to have similar risks and therefore would be expected to be in different portfolios.
To prevent the type of ‘offsetting’ within portfolios noted above, IFRS 17 requires an entity to divide a portfolio of insurance contracts into a minimum of:
- If applicable, those contracts that are onerous at initial recognition
- Those contracts that at initial recognition have no significant possibility of becoming subsequently onerous, and
- The remaining contracts, if any.
Accordingly, the unit of account applied by an entity under IFRS 17 can be, depending on the circumstances, the portfolio level or somewhere between the portfolio level and the individual contract level.
Further disaggregation of insurance contract portfolios
Consistent with the International Accounting Standard Board’s (IASB) desire for insurers to provide useful information to users, IFRS 17 permits entities that issue insurance contracts to subdivide the three groups described above into further sub-groups, subject to the information they generate regarding the groups from their internal reporting systems:
- More groups that are not onerous at initial recognition that distinguishes:
- Different levels of profitability, and
- Different possibilities of contracts becoming onerous after initial recognition, and
- More than one group of contracts that are onerous at initial recognition based on the extent to which the contracts are onerous.
However, to avoid the prospect of ‘perpetually open’ portfolios, and the potential concomitant loss of information about the development (or deterioration) of the profitability of groups of insurance contracts over time, IFRS 17 prohibits entities from including contracts issued more than one year apart in the same group. The following provides a diagrammatical depiction of these disaggregation requirements and options.
It is also relevant to note that IFRS 17 does not permit groups of contracts established on initial recognition to be reassessed. Consequently, a portfolio of contracts that is determined to be onerous at initial recognition will continue to be accounted for separately for the life of the portfolio, even if some of the contracts subsequently become profitable.
Entities currently applying IFRS 4 are not subject to any unit of account requirements. In addition, as noted above, IFRS 4 provides entities with an exemption from the requirements in other IFRS, including paragraphs 10-12 of IAS 8. Accordingly, for some entities currently applying IFRS 4 the transition to the portfolio requirements in IFRS 17 could have significant impacts on the way they account for insurance contracts.