S&P Global Ratings, the London-based subsidiary of rating agency Standard & Poor’s, says it will analyze insurers’ capitalization differently when the IFRS 17 standard for insurance contracts takes effect on January 1, 2023.

Fitch Ratings will also change the way it estimates insurance companies’ reserves due to IFRS 9. The financial instruments standard took effect in 2018, but insurers were authorized to delay applying it until the effective date of IFRS 17. The two standards must function simultaneously.

In the past few years, the implementation of IFRS 17 has sent shockwaves through the global insurance industry: opposition and deferral requests have led the International Accounting Standards Board (IASB) to make several changes to it and defer the effective date of the standard.

Not a game changer but…

S&P Global Ratings does not plan to adjust the ratings of insurers that implement IFRS 17, “all else being equal,” it says in its introduction to the FAQ section on the standard.

S&P Global Ratings adds that an accounting change should not reshape the fundamental risk of insurance operations. All the same, the firm says it may take ratings actions on insurers that modify their strategies or operations unexpectedly because of IFRS 17.

Questions about capitalization

S&P Global Ratings fielded questions about how important capitalization will be in insurers’ credit analyses. Capitalization is a key factor, it maintains, but it is not the only one. It says it is basing its analytical model on assessment of the regulatory capital margins and on its own judgment.

S&P assured life insurers concerned about the treatment of long-term insurance contracts under IFRS 17 that reported capitalization could be lower than it was under the old standard, IFRS 4. The agency will place greater importance on treatment of the contractual service margin and risk adjustment on an “IFRS 17 balance sheet.”

The contractual service margin is a new element that IFRS 17 is introducing in insurers’ financial statements. It serves to measure the profit that an insurer can expect to make on a contract over its remaining life span. This measure is more significant for insurers that write long-term business. In Canada, permanent life and critical illness insurance, along with guaranteed disability insurance, are prime examples of such contracts.

IFRS 9 focuses on quality

In another press release obtained by the Insurance Portal, the London division of Fitch Ratings noted that IFRS 9 financial instruments has prompted it to adopt a qualitative approach to assess the sufficiency of reserves for financial guarantors and mortgage insurers.

The rating agency already applies this approach to companies that operate without being regulated as insurance companies because IFRS 9 has been in force since 2018. Only insurance companies were permitted to delay the application of IFRS 9 until IFRS 17 takes effect on January 1, 2023.

Notably, IFRS 9 obliges companies to establish credit loss reserves, Fitch Ratings explains. The standard can change the measurement and presentation of several financial instruments, including mortgages, and amortization must be recorded earlier, the agency adds.

Although the new guidelines can “lead to increased earnings volatility,” the agency points out, no rating changes are expected.