Contracts entered into by entities that are not insurers may fall within the scope of the new insurance standard.
AASB 17 Insurance Contracts is the most significant new accounting standard to become effective since the last major new standard, AASB 16 Leases. It supersedes AASB 4 Insurance Contracts and fundamentally changes the way insurance contracts are accounted for. The new standard applies to annual reporting periods beginning on or after 1 January 2023.
Understandably, non-insurers may have given the new insurance standard very little thought on the basis that it will not apply to them. While this may be true in many cases, AASB 17 should not be completely ignored as some contracts that non-insurers enter into on a regular basis may fall within the scope of this complex new standard. This is because AASB 17 applies to insurance contracts regardless of the entity that issues them.
In a series of articles, we will explore the scope of AASB 17 with non-insurers in mind. The focus will be on key definitions and concepts, transactions that are explicitly carved out of the scope of the standard, and optional exemptions that allow certain contracts that meet the definition of an insurance contract to be accounted for under another accounting standard.
Part 4: Optional scope exemptions
If a non-insurer issues a contract that meets the definition of an insurance contract (i.e., it transfers significant insurance risk), the mandatory scope exclusions should be considered first. If none of these apply, it does not necessarily mean the contract is within the scope of AASB 17; there may be an option to account for the contract under another accounting standard if certain conditions are met.
Fixed-fee contracts
Non-insurers may issue fixed-fee service contracts that they currently account for under AASB 15 Revenue from Contracts with Customers. The primary purpose of these contracts is the provision of services for a fixed fee. The level of service to be provided by the service provider under the contract depends on an uncertain future event.
Examples include roadside assistance programmes and maintenance contracts in which the service provider agrees to repair specified equipment after a breakdown. Such contracts meet the definition of an insurance contract because:
- It is uncertain whether, or when, assistance or a repair will be needed;
- The owner is adversely affected by the occurrence; and
- The service provider compensates the owner if assistance or repair is needed.
Even where a fixed-fee service contract meets the definition of an insurance contract, there is a choice to apply AASB 15, but only if all the following conditions are met:
- The price of the contract is not based on an individual customer’s risk assessment (i.e., all customers are charged a similar price for a similar service contract);
- Compensation to the customer is in the form of a service rather than a cash payment; and
- Insurance risk in the contract arises mainly from the customer’s use of services rather than from uncertainty over the cost those services.
The irrevocable accounting policy choice to apply AASB 15 instead of AASB 17 is made on a contract-by-contract basis.
Financial guarantee contracts
Financial guarantee contracts may or may not be within scope of AASB 17.
Under a financial guarantee contract, the issuer grants the counterparty the right to be reimbursed for a loss that the counterparty incurs when a specified debtor fails to make a payment when due under the terms of a debt instrument. These types of financial guarantees are common in groups (e.g., between a parent and a subsidiary) and usually meet the definition of an insurance contract.
An entity can elect to apply AASB 17 to its existing issued financial guarantees if, and only if, it has previously explicitly asserted that it considers such contracts to be insurance contracts and has accounted for them on that basis. The choice is available on a contract-by-contract basis but once the choice is made, it is irrevocable for that contract.
If AASB 17 is not applied, then financial guarantee contracts are accounted for under the financial instruments standards, namely AASB 7 Financial Instruments: Disclosures, AASB 9 Financial Instruments, and AASB 132 Financial Instruments: Presentation.
Loan contracts with limited compensation
Certain loan contracts may meet the definition of an insurance contract if they transfer significant insurance risk. An example includes a loan with a death waiver.
If a contract limits the compensation for an insured event to the amount otherwise required to settle the counterparty’s obligation created by the contract, the issuer can elect to apply AASB 9 instead of AASB 17 (provided no other scope exclusions apply). This choice is made irrevocably on a portfolio-by-portfolio basis.
Wish to learn more?
Download the four-part series or contact your HLB Mann Judd adviser.