IAA Committee on Insurance Accounting and Subcommittee on Actuarial Standards Minutes from Meeting in Paris on 25-27 May 2006

1) Attendees. Félix Arias Bergadà (), Victor Bagnati (Belgium), Maria Barroso (), Tom Behar (), Ralph Blanchard (U.S.), Amy Bouska (U.S.), Guy Castagnoli (Switzerland), Mo Chambers (Canada), Peter Clark (IASB), Kevin Cronin (U.S.), Peter Diethelm (Switzerland), Rianto Djojosugito (Indonesia), Stefan Engeländer (), Rob Esson (U.S. – IAIS), Jiri Fialka (Czech Republic), Dave Finnis (Australia), Gaida Pettere (Latvia), Alexandre Guchet (France), Marika Guralnik (Estonia), Sam Gutterman (U.S. – chair), Morten Harbitz (Norway), William Hines (U.S.), Harold Hugel (Canada), Stephen Humphreys (Canada), Hiroyuki Iijima (Japan), Burt Jay (U.S.), R Kannan (India), Steve Kellison (U.S.), Kurt Lambrechts (Belgium), Barbara Lautzenheiser (U.S.), Mustapha Lebbar (Morocco), Steve Lehmann (U.S.), Chris Lewis (Australia), Mike Lombardi (Canada), Paul McCrossan (Canada – vice-chair; co- chair of Subcommittee), Bob Miccolis (U.S.), Jim Milholland (U.S.), Kesh Mittal (U.K.), Markku Paakkanen (), Alexander Omanadze (Georgia), John Poole (India), Tatjana Racic-Zlibar (Croatia), Anna Maria Ramirez (Mexico), Fred Rowley (Australia), Stewart Ritchie (U.K.), Richard Roth (U.S.), Francis Ruygt (The – vice- chair; co-chair of Subcommittee), Junichi Sakamoto (Japan), Kenneth Shih (Taipei), Masaaki Shigehara (Japan), Krzysztof Stroinski (Poland), Shigeru Taguchi (Japan), Tuomo Virolainen (), Peter Withey (South Africa), Derek Wright (U.K.), Eng Kim Yeoh (Canada), Masaaki Yoshimura (Japan).

2) Minutes of the last meeting were not prepared. As a result, no minutes were approved.

3) Paul McCrossan. a) Paul McCrossan, who will be retiring from the Committee and the Subcommittee at the end of the Paris Council meeting, was thanked with much appreciation for his long service, not only to the Committee and Subcommittee, but also for the international profession as a whole. A gift was given. b) Paul provided background and history of the entire IASB and IAA standards setting process, including the role of the IAIS. It began with the IAA involvement with the proposed IASC amendment of IAS 19 (Pensions) in 1996 and is expected to continue for some time into the future.

4) International Actuarial Standards of Practice (IASPs). The first morning of the meeting addressed IASP practice. a) Professional Committee’s recommended due process paper i) It was generally agreed that there should be a distinction between International Actuarial Standards of Practice and educational material. The Subcommittee far preferred the term “International Actuarial Educational Notes” rather than the proposed “International Actuarial Practice Notes” ii) Sam suggested that there should be one class of IASP rather than a two class system that had been proposed. He saw no need for a “mandatory” class of IASP, although if a local association decided that their members should be required to comply, they could do so. IAA Committee on Insurance Accounting and Subcommittee on Actuarial Standards Minutes from Meeting in Paris on 25-27 May 2006

(1) Paul suggested as an alternative that we have a mandatory class just in case it is needed in the future iii) Some expressed the feeling that the draft revised due process for IASP developed from an IAEN (IAPN) needs to be clarified. iv) A brief discussion was held regarding the use of the first seven IASPs. Kesh indicated that he wasn’t aware of anyone in the U.K. or Germany who has declared that they had followed the IASPs, but that isn’t surprising since they were intended for educational purposes. v) There has been some confusion in certain IAA member associations regarding the options that are available to them regarding the IASPs: adopt/adapt/ endorse. (1) Sam indicated that these options are more relevant to class 3 IASPs, rather than class 4 IASPs (2) Stefan indicated that language (local) was not considered in these options (3) A suggestion made was that “recognize” might be a more appropriate term than “endorse” vi) A discussion of the applicability of subsidiarity was held. A possible distinction between the applicability of this principle to practice and technical type standards may exist (1) IASPs that are technical or educational in nature and applicable to international practice should not vary in applicability and should not be affected by subsidiarity (2) Those IASPs that relate to actuarial practice may be affected (3) Educational / Practice Notes should not have to be approved by member associations, as long as they are for education purposes (4) There appeared to be a consensus that consistent practice relative to the same accounting standards was desirable. vii) A possible alternative organizational structure of the contents of future IASPs that should be considered: (1) A summary / synthesis of applicable accounting standards / guidance (2) Clarification of areas that are not clear (3) Summary of current practice with regarding the accounting standards / guidance. Discussion regarding the use of best practice rather than current practice was held, but since best practice can change over time, vary from one jurisdiction to another, and judgment can vary regarding what constitutes best practice, this might prove difficult. viii) The Professionalism Committee expects to conduct a survey of member associations regarding practice with respect to the IASPs. The consensus was that this is a good idea. Comments regarding practice included: (1) Australia – the IASPs don’t apply if practice involves Australian practice; they do apply if the actuary’s client applies IFRS outside Australia (2) South Africa – has endorsed the IASPs and communicated that fact to its members.

2 IAA Committee on Insurance Accounting and Subcommittee on Actuarial Standards Minutes from Meeting in Paris on 25-27 May 2006 b) Current draft IASPs i) Given the short time between comments being provided and the Paris meeting, the Subcommittee was unable to complete its review in a timely manner. As a result, the four outstanding IASPs were not being presented for approval of IAA Council at this meeting. ii) The IAA received several quite valuable sets of comments regarding them from both actuarial and other organizations. Katy Martin had compiled those comments in a single document, attached to the agenda of this meeting. iii) The general reaction on each preliminary IASP was mixed, with some respondents indicating that they were acceptable as is, while others suggested a number of changes and areas that needed elaboration, refinements or correction. iv) The only suggested changes to the preliminary IASPs had been prepared by Stefan regarding the Embedded Derivative IASP. These suggestions had not been distributed to the Subcommittee as it was felt that it was premature to discuss the detailed suggested changes at this meeting v) Some of the more significant concerns raised included: (1) The preliminary Embedded Derivative IASP was too complicated and may not be worthwhile given its limited application under IFRS 4. (a) However, most felt that its complexity was a direct result of the complexity of the topic, that it was quite appropriate, and educational material on this topic was needed in any case. In addition, actuaries needed to recognize situations in which embedded derivatives need not be bifurcated, as well as those few cases in which they may or have to be recognized in this manner. (2) The preliminary Disclosure IASP was somewhat unwieldy and hard to get through, particularly because it attempted to address multiple practice areas together. In part it was felt that where appropriate, the areas that concerned only life insurance or only property and casualty insurance be discussed in separate sections. This thought applied to all IASPs. (3) One view was that it focused too much on accounting policy rather actuarial practice. (a) However, several actuaries working for accounting firms disagreed with this view, in that if actuaries are to work in the area of financial reporting, they have to understand the financial reporting context in order to provide valuable actuarial services. (b) In addition, in many instances, those charged with the application of accounting practice do not understand the business of insurance and therefore need the assistance of actuaries in developing, managing and applying this practice in developing and managing their accounting policy. (c) In fact, the intention of the preliminary IASP is not to tell actuaries what to do, but rather provide the context and educational practice guidance in which to apply the accounting standards and guidance. (d) The CIA had suggested that much of this material would be better if it came from IFRIC. Sam indicated that he disagreed with this suggestion,

3 IAA Committee on Insurance Accounting and Subcommittee on Actuarial Standards Minutes from Meeting in Paris on 25-27 May 2006

as IFRIC only deals with interpretations of IFRSs, which the IASPs are specifically designed to avoid. (e) Kim indicated that they were useful as a reference document, but would not in most cases be read altogether at one time. There was general agreement with this, although this would not always apply if someone just entered this area of practice. (f) Although in some cases actuaries are not involved in the development of an entity’s accounting policy, in some cases they have been key contributors to this policy. After discussion, it was felt that this was an important area of actuarial involvement for many insurance companies. In addition, the context for the standards provided may not be available from certain other sources. (i) Ralph indicated that in some companies there was a distinction between development of accounting policy and its application. Actuaries may be involved in both, but certainly the latter. (ii) If possible, it was felt that a distinction should be made between adoption of an entity’s accounting policy, changing it, and its application. (iii) It was felt that a sound understanding of an entity’s accounting policy was very useful, particularly if an entity had adopted an actuarial policy with respect to measurement of accounting items. Several people indicated that this was a good idea. vi) Updating the IASPs to match new accounting requirements (1) Certain accounting standards had been updated since the initiation of the Subcommittee’s IASPs. It was felt that applicable updates to IFRS 4, IAS 32 and IFRS 7 would be appropriate to include in the Disclosure IASP, as they would be effective in 2007, with early adoption possible. On the other hand, it was felt premature to consider any updates to IFRS 3, as the proposals in the business combination area were still being discussed by the IASB. vii) Disclosure – detailed comments: (1) The use of the phrase “normal practice” may create legal problems that are not necessary, as it can create expectations that may not be appropriate or applicable. The phrase “in many cases” would be better. (2) The issue of disclosure of confidential information was discussed. If an entity believes that certain information should be treated as confidential (e.g., trade secrets), not disclosing it may be acceptable if it isn’t required. However, the facts, circumstances and current practice would normally be considered before a decision was made. (3) It was felt that if restructured, this preliminary could prove to be valuable. This includes not being as “listy” as it currently is. viii) Reinsurance – detailed comments: (1) It was generally felt that this was valuable and currently reasonably well written, although some felt that should be written from a broader perspective. It was felt that it should focus on practical guidance.

4 IAA Committee on Insurance Accounting and Subcommittee on Actuarial Standards Minutes from Meeting in Paris on 25-27 May 2006

(2) Asset (ceded reinsurance) credit risk. The current IFRS 4 differs from the current proposal for Phase 2, in that it requires that some event has to occur to trigger an asset haircut (e.g., a credit rating downgrade or litigation). FEE suggested that practice varies in this area. Phase 2 may require a haircut on an expected value basis. (3) Risk margin regarding reinsurance assets compared with the risk margin for the corresponding liability. Although company practice varies in this area currently, this would generally be consistent. ix) Embedded Derivatives – detailed comments: (1) Mixed reaction was received, with some indicating that it was quite valuable as is, while others felt that there were errors and needed major updates in certain areas. (2) It was felt that this is a good topic to be treated in an educational manner, but that the current treatment might be overly complex. (3) It was felt that one or two examples would help guidance significantly. The problem is that there are relatively few current practical examples to use. One possibility mentioned was to apply the material to an embedded derivative for which bifurcation was not needed because it contained an insurance element – such an example would be able to demonstrate most of the issues identified in the IASP. (4) South African actuaries felt that it needed a lot of work and an example; otherwise its language made it unusable. (5) It was felt that it would prove valuable even if it only concluded that an embedded derivative did not need separate measurement. (6) It was also pointed out that actuaries may want such information in order to design a product to avoid the requirement for bifurcation. (7) A suggestion was made that a reordering might help and that the chart needed correction. Stefan indicated that he felt that he could respond to these concerns. x) Business combinations – detailed comments: (1) There was no consensus as to whether to move this IASP forward, although everyone who expressed an opinion felt that there was a real need for guidance in this area. (2) Ideas regarding issues that should address should focus on practical business combination problems that are being seen in real life were needed that need attention in educational material, features of which included: (a) Examples. (b) Treatment of investment contracts. (c) Goodwill impairment tests and differences in amortization between goodwill and VOBA where applicable. (d) Measurement of value of customer lists, which typically involve IAS 36 and 38 applications. (e) Measurement of fair value, including non-life renewals and discounting.

5 IAA Committee on Insurance Accounting and Subcommittee on Actuarial Standards Minutes from Meeting in Paris on 25-27 May 2006

(3) One view was that both identification and treatment of inconsistencies between IFRS 3 and 4 needed to be discussed, some of which may be treated in the current Business Combination 2 project or IFRIC interpretations. (4) One person felt that there exists a need to discuss how to apply the standards, rather than simply representing a summary or highlights of what the standards say. (5) Although it was felt that guidance in this area was really needed, a useful IASP might prove to be more of a research project than an educational project. xi) IASPs – next steps (1) Embedded Derivatives – Stefan indicated that he would prepare a revised draft by early July. Harold, Stephen and Kim volunteered to review Stefan’s draft. (2) Reinsurance – Bob indicated that he would prepare a revised draft by the end of July. (3) Disclosure – Sam, together with Dave and Ralph, would prepare a revised version by the end of July. (4) Business Combinations – Jim indicated that he would help identify issues that should be covered. Ralph volunteered to review a draft from a property and casualty perspective. Possibly a revised format would be appropriate. The date for a new version will depend on the revised scope of this effort. c) Educational material: i) Stochastic modeling (1) Dave Finnis discussed the status of our efforts in this area. Several months ago he sent an outline of a proposed monograph to four non-life experts and one financial expert. (2) The four non-life experts indicated that they were only interested in pursuing it if they could go beyond current practice, which in their opinion typically only tweaked current deterministic assumptions and approaches, rather than assessing and measuring the underlying stochastic processes involved. Dave thought that they might be more interested in looking into true stochastic heaven rather than developing practical educational material. (3) Mary Hardy on the life/finance side had expressed interest, but was waiting for further information from us. (4) It was thought that a request for proposal might be an appropriate approach to take. It was suggested that we talk with Allan Brender and Glenn Meyers about this. (5) Topics to be evaluated might include scenario generators, volatility measures, calibration, correlations between variables, and reversion to the mean assumptions. (6) Volunteers either to help Dave or as a writer/researcher are urgently requested. Let Sam know if anyone is interested. (7) It might include a survey of current stochastic methods used in practice. (8) The treatment of real options was briefly discussed, with the thought that this might form the basis of a separate educational/research project.

6 IAA Committee on Insurance Accounting and Subcommittee on Actuarial Standards Minutes from Meeting in Paris on 25-27 May 2006

ii) Other possible topics to address: (1) Embedded Values. Peter Withey volunteered to look into this topic. Kesh indicated that he would be able to assist in such an effort. d) Spanish translation. i) The Mexican actuaries will are expecting to have a draft in Spanish of three current IASPs by the end of June. It will be reviewed by actuaries from Spain and Argentina. It was noted that because of language differences, some of the terminology may be different for these countries. These differences will be further discussed in the upcoming months. ii) Developing one or more Spanish glossaries of terms. Félix and Jesus will coordinate their efforts on this, possibly obtaining some assistance from the IASB on their Spanish translations of technical accounting terms. e) Management of standards. We did not discuss other IASP management issues, such as corrections of errors in the standards, necessary editorial or substantive updates, etc. It was felt that this should be discussed at our next meeting. f) Communication. All member associations are encouraged to communicate with their individual members about the existence of our IASPs. The IAA website includes downloadable IASPs, the status of exposure drafts, links to relevant sources such as the IASB, and the due process used by the IAA.

5) IAA Comments Prepared by Committee a) The Committee recently provided comments on the Canadian research paper on initial measurement, using the IAA Fast Track due process procedures. We attempted to be consistent with the IAA comments on the IAIS’s 2nd liabilities paper. b) The FASB has just issued an exposure draft of a standard that includes risk transfer for reinsurance. Although normally actuarial comments would come from the American Academy of Actuaries, due to convergence efforts and the possible effect on IFRS, we should at least review it and coordinate any efforts we should undertake with the AAA. c) There are several future IFRS exposure drafts and discussion papers that the IAA might comment on, including amendments to IAS 1, fair value measurement and phase A of the IASB/FASB Conceptual Framework project. d) More assistance is requested in the development of our comments on these drafts and papers. Please let Sam know if you are willing to help in drafting our initial comments.

6) Financial Instruments Working Group a) No significant activity has occurred in the last six months. b) It has addressed the question of whether fair value should be a long term accounting objective. Banking representatives on the Working Group have had mixed reactions to this objective, at best.

7 IAA Committee on Insurance Accounting and Subcommittee on Actuarial Standards Minutes from Meeting in Paris on 25-27 May 2006

7) IAASB a) We have been primarily following two IAASB projects regarding measurement of accounting elements in a financial report: estimates and estimates of fair value. These will be further addressed in the November meeting of the Consultative Advisory Group of the IAASB, for which Sam is the IAA representative. b) The IAASB project regarding the role of an expert in the audit. Jim Milholland and Sam have been actively involved in these discussions. Their Task Force’s discussions appear to be moving in a reasonable direction although they still have a lot of work to do before formal exposure.

8) IASB Insurance Contracts – Phase 2 Issues a) A key meeting of the Insurance Working Group will be held at the end of June in which prior preliminary decisions of the IASB will be discussed. After that meeting, the Committee should decide on its strategy to develop information useful for subsequent phase 2 discussions and in anticipation of the Discussion Draft. This discussion will be provided on our listservers. b) Other issues discussed included: i) Risk/profit margins. This topic will continue to be developed by the IAA’s Risk Margin Working Group. The Committee will take this up once the Working Group completes its current task in response to the IAIS request. ii) Participating discretionary features/bonuses/dividends… (1) We decided to form a small group to further study these issues with respect to Phase 2. (2) Those who volunteered to work on this effort included Guy Castagnoli, Stefan Engeländer, Masaaki Shigehara, Peter Withey, Derek Wright and Jesus Zuñiga. Although this group should not be too large, additional volunteers are welcome. Their terms of reference will be the first thing that the group will produce. Hopefully it will be organized in the next few weeks. iii) Revenue recognition / performance reporting. Two aspects were discussed: (1) What is revenue, particularly if any unbundling will be performed? Involved is the identification of the services and other functions that an insurer undertakes in providing and managing insurance contracts. Unfortunately, historically banks and insurers have been somewhat inconsistent in some of their accounting. These inconsistencies may be difficult to resolve. Some insurers want as much premium counted as revenue as possible. (2) No profit at issue. If a customer consideration model is used, no profit may be permitted at issue. Feelings on this are currently mixed on the use of this concept. It was felt that if this approach is likely to be adopted, further discussion of how this would be defined would be needed. iv) Unbundling / Premium-deposits (1) Someone indicated that there is a Swiss paper that indicates that savings premiums should be treated like deposits and not revenue. Someone having this paper was encouraged to distribute it to the Committee list serve.

8 IAA Committee on Insurance Accounting and Subcommittee on Actuarial Standards Minutes from Meeting in Paris on 25-27 May 2006

(2) Either all, some, or no part of the considerations for the savings element of an insurance contract will be treated as revenue. This is an important issue to many jurisdictions and entities. (i) Australia has experienced a mixed system in disclosure and in the income statement (only recently has this system been reflected in the income statement). Reaction to this approach was sought. (ii) It would be useful to specify the needs, underlying principles and criteria for recognizing premium as income. Then it could be usefully discussed. (3) A key question is what type of revenue information might be most useful for financial decision-making. It was decided to further explore this issue. There will be separate groups formed to address this review for life and non-life insurance applications. v) Performance reporting: we need to identify and distinguish the needs of financial institutions with respect to performance reporting. In particular, whether these needs are different than those for non-financial institutions. Then we need to determine whether this should have significant effects on performance reporting. (1) The Committee should examine practical issues, particularly with respect to the income statement. For example, Dave Sandberg has identified the determination of the proper treatment of the effect of voluntary terminations as a significant financial reporting issue. vi) Framework issues: (1) A discussion paper on group A of the IASB’s Conceptual Framework project should available in the near future. This will include the definition of assets and liabilities. (2) A discussion paper on group B of the IASB’s Conceptual Framework project may be available in 2007. (3) A small IAA working party has been looking at the Conceptual Framework project and has prepared some information, but has decided to wait to send it to the IASB until they distribute their discussion papers on these important long-term projects. (4) This issue is broader in scope and extends its application to practice areas such as pensions. The Committee discussed how to coordinate efforts with them. vii) Own Credit Standing (OCS) (1) This has proven to be a divisive and emotional issue (not to mention one that has generated many emails on our listservers. (2) At this time, we will not form a small group to further discuss this. (3) A separate IAA listserve has been established solely devoted to this issue viii) Entry vs. exit value (1) Exit value was approved by the IASB on a preliminary basis on a 7-6-1 vote regarding presentation in its Discussion Paper. Dissenters were concerned with reliability issues, especially regarding gains at issue, which might prove

9 IAA Committee on Insurance Accounting and Subcommittee on Actuarial Standards Minutes from Meeting in Paris on 25-27 May 2006

inconsistent with other conclusions that the IASB might reach in its revenue recognition project. (2) Market calibration of insurance liabilities is a key issue for the actuarial profession, particularly if an exit model is used. (3) The IAA will need to develop a process for addressing this issue prior to the next meeting in November, to be able to respond to the IASB discussion paper to be issued in December. (4) A dialogue on this topic will be opened this summer on the IAA listserve. (5) There is a need for increased national participation and possibly funding for research on this issue. c) Miscellaneous i) Rob Esson mentioned that the IAIS may obtain some time at the June IASB Board meeting for educational purposes. If they do, he suggested that it might be appropriate to have an IAA representative providing further insight to supplement the IAIS’s presentation. This will be further discussed over the next two weeks. ii) Non-life discounting. Some opposition has been expressed by U.S. non-life regulatory actuaries against discounting. There may be a need to reflect the cost and risk of liquidity if investing shorter than liability cash flows. iii) Rob asked the question of whether risk margins should be discounted. The consensus answer was yes.

9) Future committee meeting. The next regular meeting of the Committee is currently scheduled for 16-19 November 2006 in Edinburgh. Depending on the progress of our IASP review effort, we may have a meeting of the Standards Subcommittee before then, but that will not be decided until at least July when we receive their next drafts.

Respectfully submitted, Sam Gutterman, Chair, IAA Committee on Insurance Accounting, and William Hines 10 June 2006

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