IFRS 17 for product development and pricing teams

Closeup of a contract

IFRS 17 has brought actuarial, finance and IT teams together in an unprecedented way. Some actuaries have been more affected than others, however, with valuation teams being a lot closer to the new reporting standard than other departments.  

Until now, actuaries in product development and pricing teams might have had fairly little to do with the preparations that are on the forefront of the minds of their valuation counterparts. 

But once IFRS 17 implementation is in full swing, product actuaries may find themselves having to consider IFRS 17, both in terms of product design and pricing.

The bullet points below set out what we think are some of the main points product development actuaries may need to think about when designing and pricing products in an IFRS 17 world.

Product Design

Contract terms

Generally, the longer the duration of the contract, the greater the impact IFRS 17 will have in terms of metrics such as recognition of revenue.  Insurers may start to favour shorter term products or set contract terms to shorten contract boundaries.

Product volatility

High volatility products, such as participating contracts may need to be redesigned, replaced, or repriced.  These volatile products have the potential to become unattractive because IFRS 17 requires the immediate reflection of economic changes – and what many insurers may see as short term or artificial volatility – in reported profit.

Cost of long-term guarantees

Under IFRS 17, the higher levels of transparency required mean that insurers need to carefully consider the design of products with guarantees, given the treatment of onerous contracts, the need for granularity and the diminished allowance for cross-subsidisation. 

Reinsurance

IFRS 17 requires reinsurance contracts to be measured independently from underlying contracts, which means that the risk mitigating impact of reinsurance is not shown on the balance sheet.  Product development teams may opt to incorporate alternative methods of risk mitigation in their products going forward.

Innovate with mixed features

On the bright side, it has been suggested[1] that IFRS 17 may give rise to new products with mixed features (e.g. insurance or service features) being introduced and there may be more transparency in the way in which tariffs are calculated.  This greater transparency may eliminate redundancies in reporting and increase efficiencies, the benefits of which will eventually absorb the short-term costs.

Pricing

Impact of grouping on cross-subsidisation

Losing the ability to allow cross-subsidisation between profitable and onerous contracts, as well as intergenerational cross-subsidisation due to IFRS 17 grouping requirements may lead to higher premiums for high risk contracts, or a change in product offering altogether.

Shift of pricing strategy focus

The objective of pricing strategies may shift focus to avoiding losses rather than making profits in the long term, due to the requirement to recognise losses on onerous contracts at inception.

Reinsurance pricing

The impacts of IFRS 17-compliant reinsurance pricing, such as accounting mismatches between insurance and reinsurance contracts, may affect pricing.

Expense allocation

The IFRS 17 Standard does not provide details of how to allocate fixed expenses, leaving room for discretion.  This element of discretion may lead to expense allocation playing a greater role in pricing strategy.

Deferral of shareholder profit

The deferral of profit recognition under IFRS 17 may lead to a lower present value of profit than under IFRS 4 for the same internal rate of return (IRR).  In order to achieve the same profits as before, premiums will need to be raised, or shareholders will need to accept a lower IRR.

Different measurement of cash flows

Different rules for contract boundaries, discount rates, cash flows to be included and run-off patterns will most likely have an impact on pricing models.

Inclusion of risk adjustment

Depending on the methodology selected for the calculation of the risk adjustment, the setting of premiums under IFRS 17 may need to include provision for non-financial risk.

It has been said many times that the impacts of IFRS 17 will be far-reaching, and product development teams will not be spared.  We recommend that all actuarial teams in companies affected by IFRS 17 be provided a basic level of training on this new accounting standard to empower them to ask the right questions and participate in the conversation.  

To discuss the points mentioned above in more detail, or to find out about our IFRS 17 training services, please contact me at pamelah@mbe-intl.com.


[1] Reference: paragraph 27 of EFRAG’s paper entitled IFRS 17 Insurance Contracts Potential impact on the insurance market

Pamela Hellig