Ramifications of IFRS 17 - the known, the predicted and the unknown

Lee Thorpe, head of risk business solutions at SAS UK & Ireland, looks at some of the ramifications of IFRS 17 and how insurance firms can prepare

Lee Thorpe, SASHow should we approach IFRS 17? Due to come into force in 2021, the new financial reporting standard has been devised by regulators to improve current reporting standards and drive more consistency across the industry.

However, the mandate to deliver more transparent, comparable information will cause a fundamental change in how profit is calculated and balance sheets are defined.

The new regulations will see the insurance industry required to report at a more granular level on how new insurance and reinsurance contracts are affecting their financial outlook and exposure to risk.

This means a considerably greater workload. At the same time, it also requires a step change in the way that insurance companies create their balance sheets. Reporting will move from static accruals of profit and loss to a more dynamic balance sheet that more accurately reflects the current position.

With over three years until IFRS 17 is implemented, it may seem like the sector has plenty of time to prepare. Yet this is to ignore the scale and scope of the new regulations. IFRS 17 goes further than any comparable guidelines previously issued. Those who underestimate the complexity of IFRS 17 will find themselves ill-prepared when the regulations bite in 2021, especially when recognising prior year impacts need to be understood and reflected.

The challenge ahead

Insurers need to start planning for the impact of IFRS 17 today. If they haven't already begun, there are many significant challenges to meeting the new standard's rigorous requirements. These challenges will require investment in new technologies and changes to long-established working practices.

One of the biggest challenges is that current accounting systems and actuarial tools are designed with traditional compliance in mind

The detailed financial reporting, complex calculations and more thorough analysis required under IFRS 17 requires a much greater level of computational capability. However, this is an area where many insurers are currently lagging behind.

One of the biggest challenges is that current accounting systems and actuarial tools are designed with traditional compliance in mind. They were created in isolation and have little or no integration capability. This threatens to cause significant problems as insurance companies seek to understand the full impact of the standard.

In addition, many of these system integration points continue to rely on manual processes. This makes it difficult to scale and add the necessary layers of automation needed to deliver the speed, accuracy and visibility demanded by IFRS 17.

Preparing for fundamental change

To tackle IFRS 17, insurers need to develop a system that can deliver the information it requires while leaving sufficient time to implement and fully test it.

Organisations should be aiming to have such a system in place at least a year – and preferably longer – before the deadline. This will give them enough time to analyse the data they have, understand what gaps exist and whether the system is capable of delivering timely and accurate information.

This would be a great enough challenge on its own, but insurance companies have other considerations that complicate the process.

As insurers gird themselves for these changes, one of the most important tasks will be to ensure that they have the required resources

Shannon Ramnarine, associate partner at EY, a commercial partner of SAS, explains: "Insurance companies are currently involved in a number of strategic and competing projects, such as Solvency II acceleration initiatives. IFRS 17 will fundamentally change the face of profit and loss reporting. It will introduce a new set of KPIs, and change the way that base dividend or gross payments are calculated."

To give an example, gross premiums will no longer be recorded under profit and loss. This is just one of the wide-ranging shifts that insurers must take on board in the way they structure their business to achieve the best possible commercial outcomes.

As insurers gird themselves for these changes, one of the most important tasks will be to ensure that they have the required resources. This could include access to contractors or interim workers, who have both the technical skills and thorough understanding of the new regulations, to implement the necessary systems.

High level IFRS 17 process

Lessons from the banking industry

With IFRS 17 promising to bring unprecedented changes to insurance, where can organisations look for advice and best practice? While there are some important differences, the banking sector's reaction to IFRS 9, which covers financial instruments and hedge accounting, provides a basis for understanding some of the key challenges ahead.

"We worked closely with a number of major banks to help them prepare for IFRS 9," said Shannon, "and one of the main messages that came across was that they spent a significant amount of time on the technical side – in fact, too long."

Different work streams in insurance firms often operate in separate silos; this requires an executive chairing committee to look at the entire end-to-end process

"It's important to invest the time and resources in getting the underlying technology right, but insurers should make sure this focus does not lead them to neglect other equally important systemic change.

It's vital that organisations spend time planning the necessary organisational changes, including securing buy-in from risk, finance, HR and other relevant departments. This is important because IFRS 17 will change everything from capital modelling to performance management to capital planning."

Shannon also advises that insurers create a controlled environment in which they can test processes to ensure that they are robust and reliable enough once implemented 'in the wild'. As EY saw in the banking industry, different work streams in insurance firms often operate in separate silos; this requires an executive chairing committee to look at the entire end-to-end process and take ownership of providing a holistic view of the solution.

Processes and people

There may be a temptation to meet the challenges of IFRS 17 by undertaking a full-scale 'rip and replace' of existing accounting systems and actuarial tools. This may, however, be a costly mistake if the systems in place still provide significant operational effectiveness.

On the other hand, existing tools and systems will almost certainly lack the necessary flexibility to support the new standard without additional investment. Insurance organisations also need to assess whether their IT infrastructure is capable of meeting the new requirements.

One of the changes that IFRS 17 will bring is that calculations must be done on at least a semi-annual basis, and many firms will want to do this more often for management accounts. This data then needs to be fed into the accounting systems to provide a more accurate picture of financial health, and to satisfy auditors.

Insurers will need to find a better way of managing the flow of information between systems

As a result, insurers will need to find a better way of managing the flow of information between systems. An organisation's actuarial and accounting functions have to be fully integrated, and incorporate automated processes.

"Solvency II has brought different functions – such as actuary, finance and accountancy – closer together, but IFRS 17 makes this integration even more important than before," said Shannon. "Under the new regulations, the majority of profit and loss comes from the actuary rather than accountants, and this represents a significant change. Accountants will pull financial statements together, but it is the actuaries who will be playing a now much more significant role in getting the numbers.

"Insurers need to decide who is going to own which part of the process. In the banking industry, it started off with the CFO taking responsibility, but this was soon delegated to risk – who focused too much on the technical details, rather than the people and processes. As insurers prepare for the impact of IFRS 17, much will depend on the kind of technology solution that they end up choosing. This will inform how they organise teams and apportion responsibilities."

IFRS 17 Timeline

Choosing the right technology provider

The good news for insurance firms is they do not have to undertake this journey on their own. There is a wealth of technology providers with the skills and experience to help each company choose the right mix of technology, and provide invaluable advice on how to meet the strict demands of IFRS 17.

In spite of the vendors expertise, implementing IFRS 17-compliant systems will involve a significant degree of agility. Initial decisions will likely need to be constantly reviewed and amended as new challenges and opinions are encountered. Insurers should be prepared for a long and, at times, frustrating process as they try to formulate a robust and reliable solution.

The last thing insurers need is to have to build an entirely new system from scratch, or to build a solution based on a ledger that might not even exist when 2021 arrives

Not all of these challenges will be internal. For example, guidance is lacking around some key questions, such as how to record and report the margins on profits, or how organisations must spread and maintain coverage units. More clarity should come early in 2018, but this gives a flavour of how the industry must be prepared for complications and uncertainty even as the deadline approaches.

Given these obstacles, it is even more important to select a technology platform that provides a high degree of flexibility, and which can support changes made late in the process – without disrupting what is being developed or already in place.

The last thing insurers need is to have to build an entirely new system from scratch, or to build a solution based on a ledger that might not even exist when 2021 arrives. They need a system that is capable of adapting over time, and this should be at the forefront of their minds when selecting a long-term strategic technology partner.

No shortcuts to IFRS 17 compliance

Given all the requirements of IFRS 17 – the new data sources to be analysed, the more rigorous and granular reporting, the complex financial modelling – there is simply no shortcut to compliance. It is highly unlikely, if not impossible, that existing systems will be able to cope with the new requirements in their current state.

At an IT level, change will be required across the actuarial and accounting systems to cope with the data and computational intensity of IFRS 17. Many insurers have recently invested heavily to meet the requirements of Solvency II but simply looking at ways to leverage this investment to meet IFRS 17 may mean sacrificing capability and potentially requiring many manual processes, increasing operational risk.

A new approach is needed. It will be far better to spend the project budget wisely on delivering additional capability rather than risking costly and uncertain amendments to current production systems.

Having a bridging platform in place provides the 'glue' that binds an organisation's actuarial and accounting processes together

It may seem as if IFRS 17 will prove to be a complex and costly exercise, potentially requiring extensive investment in new systems and processes, causing major disruption to insurers' businesses. We at SAS believe, however, that there is a more elegant way to solve the conundrum while adding additional capability to improve data driven decision making.

If insurers can implement a bridging platform between their existing systems, they can keep running their business as usual while continuing to meet all compliance goals. This bridging solution should be tailored to each organisation's interpretation of IFRS 17, providing high-quality governance and control that satisfies the auditors. It should also incorporate efficient data storage and collection, and easily adapt to meet evolving regulatory requirements or industry interpretation.

Having a bridging platform in place provides the 'glue' that binds an organisation's actuarial and accounting processes together, so an organisation can ensure that both data and processes are fully transparent and auditable. Automation is the key to providing high performance and accurate internal and external reporting.

People, processes and technology are all essential for resolving the compliance challenges that lie ahead. Yet the organisational mindset is also important. While IFRS 17 represents one of the biggest technical challenges to affect the insurance industry, it is crucial not to resist the new regulations or see them as a burden. The new rules have been carefully designed over many years to bring much greater transparency and accountability to the industry. This will benefit companies that see IFRS 17 as a catalyst for industry change.

Insurers should look to 2021 with confidence and optimism, and embrace the systems that will provide a solid foundation for their business and industry for years to come.