Educational Publication: HKFRS 17 Insurance Contracts

STANDARDSETTINGHKFRS 17 Insurance Contracts -Journal EntriesJUNE 2023Table of ContentsAbbreviationsAbout this publication

1.General Measurement Model (GMM)

1.1Base scenario

1.2Change in expenses or claims

1.3Change in premium

1.4Insurance Acquisition Cash Flows (IACF)

1.5Investment components

2.Premium Allocation Approach (PAA)

2.1Base scenario with IACF

2.2Change in expenses or claims

2.3Change in premium

3.Comparison between GMM and PAA

4.Variable Fee Approach (VFA)

4.1Base scenario

4.2Change in market interest rate

5.Comparison between GMM and VFAList of diagramsDiagram 1:

Determination of the measurement approach for insurance contractsDiagram 2:

Measurement of liability of a group of insurance contracts on initialrecognitionDiagram 3:

Subsequent measurement of insurance contract liability of a group ofinsurance contractsDiagram 4:

Profit or loss of insurer’s income statement (extract)

Diagram 5:

Subsequent measurement of contractual service margin of a group ofinsurance contractsDiagram 6:

Initial measurement of contractual service margin of a group of insurancecontractsDiagram 7:

Measurement of the carrying amount of LRC under PAADiagram 8:

Variable Fee Approach – obligation to the policyholder under insurancecontracts with direct participation featuresDiagram 9:

Subsequent measurement of CSM of a group of insurance contractsunder VFAAbout the Standard Setting DepartmentAbbreviationsThe following abbreviations are used within this publication:

BELBest Estimate LiabilityCSMContractual Service MarginDPFDiscretionary Participating FeaturesFCFFulfilment Cash FlowsGMMGeneral Measurement ModelIACFInsurance Acquisition Cash FlowsIASBThe International Accounting Standards BoardIFRS ICThe IFRS Interpretations CommitteeIFIEInsurance Finance Income or ExpensesIRInsurance RevenueISEInsurance Service ExpensesLICLiability for Incurred ClaimsLRCLiability for Remaining CoverageNDICNon-distinct Investment ComponentPAAPremium Allocation ApproachPCAPre-Coverage AssetsP&LProfit and LossRARisk Adjustment for Non-financial RiskVFAVariable Fee ApproachAbout this publicationHKFRS 17 Insurance Contracts is a comprehensive new insurance contracts financial reportingstandard which fundamentally changes the accounting for insurance contracts. It is effective forannual periods beginning on or after 1 January 2023, with earlier application permitted providedthat entity also applies HKFRS 9 Financial Instruments at the same time.Journal entries are the cornerstone of accounting. This publication focuses on just that byillustrating the journal entries for basic insurance contract transactions, showing how these journalentries map to the movements in the insurance contract liability and how they are reflected in theincome statement.This publication aims to help the readers understand insurance accounting under HKFRS 17 ‘fromthe ground up’ before they tackle the more complicated areas of HKFRS 17. It is a usefulsupplement to the illustrative examples accompanying HKFRS 17, and other related technicalresources.In this publication, we explain the application of the three measurement models in HKFRS 17, i.e.GMM, PAA and VFA for direct insurance contract issued. PAA is an optional simplified model ofGMM which is specifically applicable for certain types of insurance contracts whereas VFA is avariation of the GMM and shall be mandatorily applied for insurance contracts with directparticipation features. The backbone of this publication is built on GMM followed by comparisonsof its key differences with the other two models (PAA and VFA). For each model, the illustration isstructured in three parts so that readers can more easily understand the application of HKFRS 17:

Part 1 sets out the journal entries with narrative explanations of the relevant financialreporting concepts.Part 2 shows how the journal entries map to the changes in the carrying amount of insurancecontract liability comprising LRC and LIC. The reconciliation provided is for illustrativepurpose only and not for meeting the disclosure requirements of HKFRS 17.97-116.Part 3 shows an extract of statement of financial performance resulting from the journalentries recorded in Part 1.In each scenario, journal entries made on initial recognition of insurance contracts and the samerecurring subsequent entries are in purple boxes. New journal entries different from recurringentries are in orange boxes.While the publication mainly aims to explain HKFRS 17 through the use of simplified illustrativeexamples, there are ‘Notes for further insights’ (denoted with ☼) for those readers who areinterested in gaining deeper understanding and knowledge of HKFRS 17 in discussions of therelevant areas.Users of the publication should note that the examples in this publication are developed based onhighly simplified fact patterns for educational purposes only. As such, the illustrative approachesin this publication may not necessarily be applicable to other circumstances or fact patterns.Entities should exercise judgement and carefully consider their specific contractual terms,facts, and circumstances when applying HKFRS 17. This publication does not prescribe,nor should it be interpreted as requiring, a specific approach to applying the requirements.There could be other possible ways to record the journal entries for compliance with HKFRS 17with regard to the fact pattern and assumptions given. In light of this, this publication also sets outsome examples of alternative journal entries that we observe in the market practice for readers’references.Scope of HKFRS 17HKFRS 17 Insurance Contracts defines insurance contract as a contract under which one party(the issuer) accepts significant insurance risk from another party (the policyholder) by agreeing tocompensate the policyholder if a specified uncertain future event (the insured event) adverselyaffects the policyholder. Accordingly, an entity assesses whether the contract transfers significantinsurance risk to determine whether the contract meets the definition of an insurance contract1.Furthermore, an entity needs to assess and analyze whether an insurance contract falls into thescope exclusions set out in HKFRS 17.72 to ascertain whether such insurance contract is withinthe scope of HKFRS 17.An entity shall apply HKFRS 17 to:

(a)

Insurance contracts, including reinsurance contracts, that it issues;

(b)

Reinsurance contracts it holds; and(c)

Investment contracts with discretionary participation features it issues, provided theentity also issues insurance contracts.[HKFRS 17.3]A point to note is that HKFRS 17 deals with the accounting for insurance contracts and hence allentities, not only insurance companies, need to apply HKFRS 17 to the extent they issue contractsthat meet the definition of insurance contracts and those contracts do not fall into the scopeexclusions in HKFRS 17.7. HKFRS 17 also allows an entity a choice of applying HKFRS 17 oranother HKFRS Standard to some contracts, specifically (1) applying HKFRS 17 or HKFRS 15 tosome fixed-fee service contracts; and (2) applying HKFRS 17 or HKFRS 9 to specified contractssuch as loan contracts with death waivers3.Different scenarios for category (a) above are discussed in this publication for illustrative purposesonly. Consistent with other HKFRSs, HKFRS 17 is principle-based and therefore there may bemore than one possible approach to applying certain requirements of HKFRS 17.

1.General Measurement ModelThis section focuses on application of the General Measurement Model (GMM) under HKFRS 17.It is the default approach for all insurance contracts irrespective of life or non-life insurancecontracts, unless the contract is eligible for and the entity elects to apply PAA or the contractshave direct participation features for which the VFA needs to be applied (see ☼).1 The significance of the insurance risk is assessed on a (1) contract-by-contract; and (2) present-value basis under which thediscount rate used should reflect the time value of money, the characteristics of the cash flows and the liquidity characteristicsof the insurance contracts. HKFRS 17.B17-B23 provide further guidance.2 HKFRS 17.7 sets out the transactions that may meet the definition of insurance contracts for which another HKFRS shall beapplied instead (HKFRS 17.BC87).3 See HKFRS 17.8, 8A, BC88, BC95-97 and BC94D-BC94F.Notes for further insights☼In practice, GMM may probably be less relevant for non-life insurers as many non-life insurance contractsare generally eligible to apply the simplified approach, i.e. PAA. Even so, they should bear in mind that GMMalways applies to the recognition and measurement of the LIC and it is also relevant when a group ofinsurance contracts under PAA becomes onerous, in which case insurers shall calculate the LRC usingGMM and recognize a loss in profit or loss with corresponding increase in LRC if the amount so calculatedunder GMM is greater than LRC determined under PAA [HKFRS 17.57-58]. Accordingly, non-life insurersstill need to acquire a good understanding of the mechanism of GMM, even though they are eligible to applyPAA in most cases. See more discussions in Sections 2 and 3 of this publication for the eligibility of PAAand comparison between GMM and PAA.The following diagram sets out the thinking process for determining the approach that should beapplied by an insurer.Note: An entity shall apply HKFRS 17.30-52 to all groups of insurance contracts within the scope of HKFRS 17,with a few exceptions under which other paragraphs of HKFRS 17 shall be applied. Please refer to HKFRS

17.29 for those exceptions.Notes for further insights☼HKFRS 17 does not prohibit an entity from applying PAA to eligible groups of insurance contracts whichwould otherwise be required to apply the VFA (‘VFA contracts’). However, in practice, it is generally notexpected that VFA contracts would meet the eligibility criteria of PAA (see Section 2 of this publication). Inorder to apply PAA, VFA contracts should have a coverage period of one year or less. If they have acoverage period of more than one year, the entity needs to demonstrate that the measurement of the LRCunder the PAA will not be materially different from that under the VFA. Accordingly, either of the criteria maynot be met for VFA contracts given the specific nature of contracts with direct participation features.GMM is also known as the ‘Building Block Approach’ because it is developed using four buildingblocks for measuring a group of insurance contracts. Before we go into details of the illustrativeexamples, the following diagram provides a recap of the four blocks.NotesThe diagram shows that FCF are estimates of amounts that the insurer expects to collect from premiumsand pay out for claims, benefits and expenses (Block 1) and the expectations also include an adjustment forthe timing and risk of those amounts (Blocks 2 and 3).Although HKFRS 17.36 sets out the criteria for discount rate, HKFRS 17 does not prescribe a particularestimation technique for determining the discount rate [HKFRS 17.B78]. Hence, either a bottom-up approachor a top-down approach may be used [HKFRS 17.B80-B81].The risk adjustment for non-financial risk conveys information to users of financial statements about theamount charged by the entity for the uncertainty arising from non-financial risk affecting the amount andtiming of cash flows [HKFRS 17.B87]. It is an entity-specific assessment which relies on an entity’s ownperception of its degree of risk aversion, rather than on a market participant’s perception [HKFRS 17.BC215].A group of insurance contracts is onerous if total FCFs (i.e. Blocks 1, 2 and 3) at the date of initial recognitionare a net cash outflow. Such net cash outflow represents an onerous insurance contract which isimmediately recognized in profit or loss.CSM is a new concept under HKFRS 17. As shown in the diagram, it is a component of the asset or liabilityfor a group of insurance contracts. On initial recognition of a group of insurance contracts, it is the equaland opposite amount of the net inflow that arises from the total of (a) the initial recognition of the FCF, (b)

any cash flows arising from the contracts in the group at that date; and (c) the derecognition at the date ofinitial recognition of any asset recognized for IACF and any other assets or liability previously recognizedfor cash flows related to the group of contracts. This treatment ensures that no income or expenses arisesfrom the group of contracts on initial recognition [HKFRS 17.38].On subsequent measurement, insurance contract liability (which consists of the four blocks asreferred to in Diagram 2) is split into a liability for remaining coverage (LRC) and a liability forincurred claims (LIC).LRC is an insurer’s obligation to provide insurance contract services and therefore represents FCFrelating to future services that will be provided under the contract in future period as well as CSM[HKFRS 17.32, 40(a)]. CSM is the unearned profit component of the insurance contract liabilitypresented in the statement of financial position and is recognized in the income statement as anentity provides services under insurance contracts. On the other hand, LIC is the insurer’sobligation to pay amounts related to services already provided, and therefore FCF of the LIC relateto past services for incurred claims and expenses.NotesLRC is defined in HKFRS 17, LRC = FCF + CSMi.e. LRC = BEL4 (Blocks 1 and 2) + RA (Block 3) + CSM (Block 4) [HKFRS 17.32]. The changes in thecarrying amount of the LRC are recognized in insurance revenue, insurance service expenses in the caseof changes in the loss component of the LRC for groups of onerous contracts or IFIE as appropriate [HKFRS

17.41(a), (b) & (c)].As with initial recognition, CSM (Block 4) cannot be negative. At each reporting date, the changes in FCFrelating to future service for insurance contracts without direct participation features as specified in HKFRS

17.B96-B100 are accounted for against the CSM [HKFRS 17.44(c)]. If such changes in FCF exceeds thecarrying amount of the CSM, any excess will be separately recognized as a loss within the insurance serviceexpense line item in profit or loss [HKFRS 17.44(c)(i), 48(a)].LIC comprises the same building blocks as LRC except that LIC does not contain CSM because LIC relatesto past services only (e.g. FCF for claims and expenses already incurred but not yet paid). The changes inthe carrying amount of the LIC are recognized as insurance service expenses or IFIE as appropriate [HKFRS

17.42(a), (b) &(c)].LIC is subsequently measured by applying HKFRS 17.33-37 and B36-B92 [HKFRS 17.40(b)].This diagram assumes that the sum of LRC and LIC results in insurance liability position. HKFRS 17 requiresan entity to present separately in the statement of financial position the carrying amount of portfolios ofinsurance contracts issued that are assets and portfolios of insurance contracts issued that are liabilities[HKFRS 17.78]5.4 BEL (Best Estimate Liability) referred to in this publication represents estimates of the present value of future cash flows.5 Before the 2020 amendments to IFRS 17 (HKFRS equivalent), an entity was required to present separately groups of insurancecontracts issued that are assets and groups of insurance contracts issued that are liabilities. Feedback on the 2019 ExposureDraft on the 2020 amendments, including from users of financial statements, suggested that the amendments would notsignificantly diminish the usefulness of information compared to that which would have been provided without the amendments[HKFRS 17.BC328, BC330A-B].We illustrate the journal entries and related impact on the presentation of financial statements inrespect of the following five highly simplified scenarios. Scenarios 1.2 to 1.5 are developed basedon changes in some fact pattern and assumptions of the base scenario:

Scenario 1.1: Base scenarioScenario 1.2: Change in expenses or claimsScenario 1.3: Change in premiumScenario 1.4: IACFScenario 1.5: Investment componentsScenario 1.1 – Base scenario: accounting on initial recognition and subsequent periodsEntity A issues a group of insurance contracts with the following simplified fact pattern andassumptions. This table will be referred to again in other scenarios (which are developed basedon the base scenario) to be discussed later.Fact pattern and assumptionsReporting environmentHKFRSCoverage periodThree yearsStarts when the insurance contracts are issued (1 January of Year 1)

Expected cash flowsi.Expected cash inflows Generated from premiums of HK$3,000 Due at the beginning of the coverage period and expected to be receivedimmediately after initial recognition of the group of insurance contracts;

therefore the estimate of the present value of future cash inflows isHK$3,000ii.Expected cash outflows Comprise expected pay-outs of claims of HK$700 per year, amounting toHK$2,100 in total during the coverage period All amounts settled when incurred at the end of each year No other expenses in this example for simplicityiii. No differences in expected and actual future cash flowsInsurance contractservicesProvided evenly throughout the coverage periodFinancial statementitemsNo profit or loss nor balance sheet items other than items arising fromaccounting for insurance contractsForeign exchangeAll cash flows in the group of insurance contracts are in a single currency, whichis also the same as the functional currency of the insurer (see ☼ below)

Risk adjustment fornon-financial riski.LRC At initial recognition = HK$180 Recognized evenly during the coverage periodii.LIC NegligibleTime value of moneyNone for simplicity, so no discount rate is applied (i.e. Block 2 in Diagram 2 isnot reflected in this example)

ExperienceadjustmentsNoneInvestmentcomponentsNoneAcquisition cash flowsNoneOnerous contract ornotNon-onerousNotes for further insights☼The group of insurance contracts of this simplified example generates cash flows in the same currency of thecontracts. Note that an entity shall apply HKFRS 17.30 & 92 to measure insurance contracts involving foreigncurrency cash flows. In particular, HKFRS 17.30 specifies that an entity shall treat the group of insurancecontracts, including CSM, as a monetary item when applying HKAS 21 The Effects of Changes in ForeignExchange Rates to a group of insurance contracts that generate cash flows in a foreign currency.Recent development of IFRS 17In practice, the transactions of insurance contracts are far more complex. An entity that issues insurancecontracts often conducts activities in more than one currency, e.g. it may issue insurance contracts in morethan one jurisdiction with contracts denominated in the currency of the jurisdiction in which they are issued.Other entities may issue an individual contract with cash flows in more than one currency; or issue insurancecontracts in only one currency but incur costs in a different currency. The IFRS IC received a request abouthow to account for insurance contracts that generate cash flows in more than one currency and concludedits discussions at its September 2022 meeting. Readers may refer to the project page for the latestdevelopment regarding this agenda decision by the IFRS IC.The unit of account for recognition and measurement under HKFRS 17 is a group of insurancecontracts [HKFRS 17.24]. HKFRS 17 requires an entity to identify portfolios of insurance contractsand, in each portfolio, an entity divides the contracts into at least three separate groups, i.e. (1)

onerous at initial recognition; (2) no significant possibility of becoming onerous subsequently and

(3)remaining contracts in the portfolio6. An entity may further subdivide these three groups if itconsiders that it is appropriate for its internal reporting but this is not compulsory. We can imaginethat a group is a subset of a portfolio and insurance contracts are measured at the group levelwithin each portfolio7.Insurers should also pay attention to the ‘annual cohort’ requirements, under which entities are notpermitted to group contracts issued more than one year apart [HKFRS 17.22].An entity shall not reassess the composition of the groups subsequently once they have beenestablished at initial recognition. However, an entity can add contracts to the groups applyingHKFRS 17.28 [HKFRS 17.24].Part 1 – illustration of the journal entries with narrative explanation(a)

Initial recognitionAn entity shall recognize a group of insurance contracts it issues from the earliest of the following:

(a) the beginning of the coverage period of the group of contracts;

(b)

the date when the first payment from a policyholder in the group becomes due; and(c)

for a group of onerous contracts, when the group becomes onerous.[HKFRS 17.25]6 Although a portfolio is required to be further disaggregated into the three minimum groups as specified in HKFRS 17.16, theremight be situations in practice where there are no contracts in one or even two of the three minimum groups for an individualportfolio because, e.g. there is no onerous contract in the portfolio.7 A portfolio comprises contracts subject to similar risks and managed together. Subdividing the portfolio into separate groups isa challenging task which should be performed based on reasonable and supportable information. Please refer to HKFRS 17.14-24 for detailed guidance on level of aggregation of insurance contracts.In the base scenario, Entity A recognizes the group of insurance contracts when the premium isdue [HKFRS 17.25(b)] which is also the beginning of the coverage period [HKFRS 17.25(a)]. Thegroup of contracts is not onerous. The following are the accounting entries:

JE1 – Initial measurement of a group of insurance contracts [HKFRS 17.32, 37 & 38]HK$HK$DRLRC – BEL(a)

CRLRC – RA(b)

CRLRC – CSM(c)

(a)

BEL comprises expected cash inflows of premium of HK$3,000 and expected cash outflows of HK$2,100.The balance is recorded under LRC as it relates to future insurance contract services.(b)

Entity A adjusts the estimates of present value of future cash flows to reflect the compensation that it requiresfor bearing the uncertainty about the amount and timing of the cash flows that arises from non-financial risk(e.g. insurance risk) [HKFRS 17.37].(c)

On initial recognition, Entity A measures the CSM of a group of insurance contracts at an amount that resultsin no income or expenses, i.e. FCF (DR) + CSM (CR) = 0. In this base scenario, CSM = BEL (HK$900) –RA (HK$180) = HK$720. [HKFRS 17.38]JE2 – Recognition of premium receivedHK$HK$DRCash3,000CRLRC – BEL3,000(b)

Subsequent measurementWhen an entity provides insurance contract services in a period, it reduces LRC for the servicesprovided and recognizes insurance revenue [HKFRS 17.B123]. This is consistent with therequirement in HKFRS 15 that an entity derecognizes the performance obligation for servicesprovided and recognizes revenue. A point to note is that a reduction in LRC giving rise to insurancerevenue excludes changes8 in the liability that do not relate to services expected to be coveredby the consideration received by the entity.The following accounting entries show the recognition of insurance revenue and associatedchanges in insurance contract liabilities at each reporting date after the initial recognition of thegroup of insurance contracts. There are no changes in current estimates in the subsequentaccounting periods.8 Please refer to HKFRS 17.B123 (a) and (b) for the list of examples of the changes which do not relate to services provided inthe period. See Scenario 1.4 for illustration of an example of such changes due to accounting for IACF asset.End of Year 1, Year 2 and Year 3The same sets of entries, i.e. JE3 to JE7 are posted at the end of Year 1 to 3:

JE3 – Release of risk adjustment for the year [HKFRS 17.41(a), B121(a)(ii), B124(b)]HK$HK$DRLRC – RA(d)

CRInsurance revenue(d)

(d)

Insurance revenue results from the reduction in the carrying amount of LRC because of services providedin the period, measured applying HKFRS 17.B120-B124 [HKFRS 17.41(a)]. This entry illustrates Entity A’srelease of RA for non-financial risk (Block 3) expired in Year 1 to insurance revenue. In the base scenario,RA released to insurance revenue = HK$180 / 3 = HK$60 per year, applying HKFRS 17.B121(a)(ii) andB124(b).JE4 – Release of expected claims for the year [HKFRS 17.41(a), B124(a)]HK$HK$DRLRC – BEL(e)

CRInsurance revenue(e)

(e)

BEL (Blocks 1 and 2) is a component of LRC and therefore reduction of BEL because of insurance contractservices provided leads to recognition of insurance revenue. In this base scenario, expected claimsreleased = HK$2,100 / 3 = HK$700 per year, applying HKFRS 17.B124(a).JE5 – Release of CSM for the year [HKFRS 17.44(e), B119, B124(c)]HK$HK$DRLRC – CSM(f)

CRInsurance revenue(f)

(f)

Applying HKFRS 17.B119, Entity A recognizes an amount of CSM for a group of insurance contracts asinsurance revenue in each period to reflect the insurance contract services provided under the group ofinsurance contracts in that period.Such amount is determined by (1) identifying the coverage units (see ☼) in the group, (2) allocating theCSM at the end of the period (before recognizing any amounts in profit or loss to reflect the insurancecontract services provided in the period) equally to each coverage unit provided in the current period andexpected to be provided in the future; and (3) recognizing in profit or loss the amount allocated to coverageunits provided in the period.In this base scenario, the CSM (HK$720) is allocated equally to each coverage unit in the group of insurancecontracts in accordance with HKFRS 17.B119. Revenue is recognized over time on a straight-line basis, i.e.HK$720 / 3 = HK$240 for Year 1 and HK$720 / 3 X 2 = HK$480 as the remaining total amount for servicesexpected to be provided in Year 2 and Year 3 and Entity A recognizes in profit or loss (HK$240) the amountallocated to coverage units provided in Year 1.Notes for further insights☼Determination of coverage units to reflect the services provided under a group of insurance contracts is oftena complex topic. It is not an accounting policy choice but involves judgements and estimates based on factsand circumstances to best achieve the principle of reflecting the services provided in each period. Thosejudgements and estimates should be applied reasonably and systematically.HKFRS 17.B119(a) requires an entity to determine the services provided by the group of insurance contracts‘by considering for each contract the quantity of benefits under a contract and its expected coverage period’.There are no prescribed methods in HKFRS 17 for determining the quantity of benefits provided in the groupof insurance contracts and thus involves more judgement. At its February 2018 and May 2018 meetings, theIASB’s Transition Resource Group (TRG)9 for IFRS 17 discussed the definition of ‘quantity of benefits’ inIFRS 17.B119(a) and how coverage units should be determined to reflect the service provided under a groupof contracts. Readers are recommended to refer to the meeting materials of both meetings for moreunderstanding of the determination of coverage units.The pattern of release of CSM may not be the same as the straight-line basis as illustrated in the basescenario (i.e. based on the passage of time) if coverage units as determined based on the quantity of benefitsand expected coverage period are different in all periods. Example 6 to HKFRS 17 illustrates the allocationof CSM in a situation when the entity expects contracts in a group to have different durations10.The HKICPA published the following guidance on determination of CSM illustrated by common challengeswhen applying the relevant HKFRS 17 requirements:

-HKFRS 17 Insurance Contracts – Contractual service margin educational guidance-A Plus: HKFRS 17 Insurance Contracts: Contractual service marginJE6 – Recognition of actual incurred claims and other expenses [HKFRS 17.42(a)]HK$HK$DRInsurance service expenses(g)

CRLIC – BEL(g)

(g)

Entity A recognizes actual claims incurred during Year 1. Given that the amount of actual claims is the sameas originally expected in this base scenario, the amount equals HK$2,100 / 3 years = HK$700 per year,being the same amount as in JE4 above.JE7 – Payment of actual claims and other expensesHK$HK$DRLIC – BEL(h)

CRCash(h)

(h)

Entity A fully settles the actual claims incurred at each reporting date, resulting in no outstanding LIC.At the end of each reporting period, the measurement of insurance contract liability should reflectcurrent estimates of the LRC and LIC (see ☼).9 TRG is one of the ways the IASB is supporting the implementation of the new standard. The purpose of the group is to providepublic forum for stakeholders to follow the discussion of questions raised on implementation; and inform the IASB in order to helpthe IASB determine what, if any, action will be needed to address those questions. Possible actions include providing supportingmaterials such as webinars, case studies and/or referral to the IASB or IFRS IC.10 IFRS 17 (HKFRS 17 equivalent) requires the CSM remaining at the end of the reporting period to be allocated equally to thecoverage units provided in the period and the expected remaining coverage units. IFRS 17 does not specify whether an entityshould consider the time value of money in determining that equal allocation and consequently does not specify whether thatequal allocation should reflect the timing of the expected provision of the coverage units. The IASB concluded that should be amatter of judgement by an entity (HKFRS 17.BC282).Notes for further insights☼In this simplified base scenario, it is assumed that the time value of money is negligible. However, this isunlikely to be the case in real life. Accordingly, after initial recognition, there would be an interest accretion toreflect the time value of money and other financial risks (assuming there is no change in the discount rates)

for BEL (i.e. Dr. IFIE, Cr. LRC – BEL, or Dr. LRC – BEL, Cr. IFIE) and CSM (i.e. Dr. IFIE, Cr. LRC – CSM) inYear 1, 2 and 3 to reflect the time value of money for the respective years. For the RA, if the technique tomeasure it uses the time value of money, there will be a third component in the IFIE (i.e. Dr. IFIE, Cr. LRC –RA)11. The resulting BEL, RA and CSM released to insurance revenue when services are provided would beafter having accounted for the accreted interests.At the reporting date, an entity re-measures the FCF (i.e. BEL + RA) using updated assumptions (i.e. currentestimates) including the discount rate. The discount rate is a yield curve estimated in line with therequirements of HKFRS 17.B79-B85. However, the way in which a financing effect is included in CSM differsbetween insurance contracts without direct participation features and insurance contracts with directparticipation features [HKFRS 17.BC271]. For insurance contracts without direct participation features,HKFRS 17 requires an entity to calculate interest on CSM, i.e. CSM is accreted using a ‘locked-in’ discountrate, which is not adjusted (remeasured) subsequently. The reference to a ‘locked-in’ discount rate refers tothe discount rate determined on initial recognition of the group of insurance contracts and that the rate shouldbe a rate applicable to nominal cash flows that do not vary based on asset returns [HKFRS 17.44(b), B72(b),BC273]. On the other hand, the VFA applies for insurance contracts with direct participation features. UnderVFA, an entity remeasures CSM for an entity’s share in the change in the fair value of the underlying items.The remeasurement of CSM reflects current rates and changes in the value of the consideration received[HKFRS 17.45(b), BC276]. The application of VFA are explained in more detail in Sections 4 and 5 of thispublication.Part 2 – Movements in insurance contract liabilitiesHKFRS 17.100 requires an entity to disclose a reconciliation from the opening to closing balancesseparately for each of (a) the net liabilities (or assets) for the remaining coverage component,excluding any loss component, (b) any loss component, and (c) the LIC. In this example, there isno relevant disclosure of the reconciliation of the loss components as the group of insurancecontracts is profitable. HKFRS 17.101 further requires that, for insurance contracts other thanthose to which PAA has been applied, an entity shall also disclose a reconciliation from the openingto the closing balances separately for each of (a) the estimates of the present value of the futurecash flows (BEL); (b) the risk adjustment for non-financial risk (RA); and (c) the contractual servicemargin (CSM).HKFRS 17.98 to 109A set out detailed disclosure requirements regarding explanation ofrecognized amounts.The following table demonstrates how the accounting entries discussed in Part 1 above arereflected in the changes of Entity A’s insurance contract liabilities comprising the LRC and LIC inthe statement of financial position. The reconciliation provided is for illustrative purpose only andnot for meeting the disclosure requirements of HKFRS 17.97-116.11 This entry is not mandatory. An entity shall include the entire change in RA as part of the insurance service result if it appliesHKFRS 17.81 not to disaggregate the change in RA between the insurance service result and IFIE.Scenario 1.1: Insurance contract liabilities recognized in the statement of financial positionLRC(Dr) / CrLIC(Dr) /CrTotal insurancecontract liabilitiesBELJERAJECSMJETotal LRCJE(a)

(b)

(c)

(d) = (a) + (b) + (c)

(e)

(f) = (d) + (e)

HK$HK$HK$HK$HK$HK$Beginning of Year 1------New contracts recognized

(900)

---Premium received3,000--3,000-3,000Insurance service expenses incurred in the period (measured at theamounts expected at the beginning of the period)

(700)

Release of RA for risk expired to insurance revenue-

(60)

Release of CSM to insurance revenue when services provided--

(240)

Actual incurred claims and other expenses as insurance service expenses----Actual claims and other expenses paid----

(700)

End of Year 1 / Beginning of Year 21,4002,000-2,000Insurance service expenses incurred in the period (measured at theamounts expected at the beginning of the period)

(700)

Release of RA for risk expired to insurance revenue-

(60)

Release of CSM to insurance revenue when services provided--

(240)

Actual incurred claims and other expenses as insurance service expenses----Actual claims and other expenses paid----

(700)

End of Year 2 / Beginning of Year 31,000-1,000Insurance service expenses incurred in the period (measured at theamounts expected at the beginning of the period)

(700)

Release of RA for risk expired to insurance revenue-

(60)

Release of CSM to insurance revenue when services provided--

(240)

Actual incurred claims and other expenses as insurance service expenses----Actual claims and other expenses paid----

(700)

End of Year 3------Part 3 – Statement of financial performanceThe following table shows how the accounting entries discussed in Part 1 are reflected in therelevant items in Entity A’s statement of financial performance (extract), applying HKFRS 17.41(a)

and 42(a)12.Scenario 1.1: Illustrative statement of financial performance (extract)

Year 1JEYear 2JEYear 3JETotalHK$HK$HK$HK$Insurance revenue #1,0001,0001,0003,000Insurance service expenses

(700)

(2,100)

Insurance service resultInvestment income @----Insurance finance income orexpenses----Net finance result----Profit or loss#Analysis of insurance revenue arising from changes in LRC:

HK$JEHK$JEHK$JEHK$ Risk adjustment for the riskexpired Release of expected claims2,100 Release of CSM1,0001,0001,0003,000@ For the purpose of this scenario, these numbers are not included because they are accounted for applyinganother HKFRS.The above is an illustration based on the simplified base scenario. There are more complicationsin reality. The following diagram summarizes the composition of insurance revenue and insuranceservice expenses recognized from changes in the carrying amount of LRC and LIC as required byHKFRS 17. We have selected some of the items in the diagram for further illustrations of therelevant accounting entries and financial impact. See Notes 1 to 3 in the diagram for those items.12 HKFRS 17.41(a) and 42(a) explain that an entity shall recognize insurance revenue for the reduction in the carrying amount ofLRC because of services provided in the period, measured applying HKFRS 17.B120-B124; and recognize insurance serviceexpenses for the increase in the carrying amount of LIC because of claims and expenses incurred in the period, excluding anyinvestment components.Notes:

The total insurance revenue for a group of insurance contracts is the consideration for the contracts, i.e. theamount of premium paid to the entity: (a) adjusted for a financing effect; (b) excluding any investmentcomponents [HKFRS 17.B120]. As such, the receipts and repayments of investment components are notrecognized as insurance revenue and incurred claims. See Scenario 1.5: Investment components forillustration of the journal entries for accounting for a group of insurance contracts with investmentcomponents.A change in the premium affects the amount of CSM to be recognized as insurance revenue. See Scenario

1.3: Change in premium for illustration of how a change in premium affects the accounting for insurancecontracts.HKFRS 17.B125 requires an entity to determine insurance revenue related to IACF by allocating the portionof the premiums that relate to recovering those cash flows to each reporting period in a systematic way onthe basis of the passage of time. An entity shall recognize the same amount as insurance service expenses.See Scenario 1.4: IACF for illustration of how the IACF is accounted for under HKFRS 17.Changes relating to past services affect ISE and LIC. See Scenario 1.2: Change in expenses or claimsfor illustration of the impact on the accounting due to changes in actual and expected expenses or claimsrelating to future services.IFIE may or may not include changes in risk adjustment for non-financial risk. Under HKFRS 17.81, an entityis not required to disaggregate the change in the risk adjustment for non-financial risk between the insuranceservice result and IFIE. If an entity does not make such a disaggregation, it shall include the entire changein the risk adjustment for non-financial risk as part of the insurance service result.An insurer has an accounting policy choice either to present the entire amount of IFIE for the period in theprofit or loss, or disaggregate the amount partly in profit or loss and partly in other comprehensive income.An entity shall apply its policy choice to portfolios of insurance contracts [HKFRS 17.88-89, B129].Scenario 1.2: Change in expenses or claimsExcept for the following, Scenario 1.2 uses the same fact pattern and assumptions as those in thebase scenario.Changes in fact pattern and assumptionsActual and future cashflowsIn Year 2, the actual claim is HK$500, instead of HK$700. In view of this, EntityA revises its expected claims in Year 3 to HK$600No differences in the actual claims and revised expected claims in Year 3 (i.e.HK$600)

Risk adjustment fornon-financial risk (RA)

At the end of Year 2, RA related to estimates of future cash flows in Year 3 ischanged to HK$40 per year, instead of HK$60 per year initially estimatedRA release for Year 2 is assessed to be still HK$60Part 1 – illustration of the journal entries with narrative explanationGiven that the changes occur in Year 2, we demonstrate the accounting entries from Year 2.Please refer to the base scenario for the accounting entries (JE 1 to JE7) in Year 1.End of Year 2JE8 – Release of risk adjustment for the year [HKFRS 17.41(a), B121(a)(ii), B124(b)]HK$HK$DRLRC – RA(a)

CRInsurance revenue(a)

(a)

The same set of accounting entries is made as in the base scenario. Entity A recognizes its release of RAfor non-financial risk in Year 2, applying HKFRS 17.B121(a)(ii) and B124(b).JE9 – Release of expected claims for the year [HKFRS 17.41(a), B124(a)]HK$HK$DRLRC – BEL(b)

CRInsurance revenue(b)

(b)

The same set of accounting entries is made as in the base scenario. Under HKFRS 17, the release of LRC– BEL to insurance revenue is measured at the amount expected at the beginning of the period (i.e. HK$700,which is HK$2,100/3) and not the actual claims incurred (HK$500) in the current period [HKFRS 17.B124(a)].In other words, the change in actual claims in Year 2 from HK$700 to HK$500 does not affect the amountof LRC – BEL that should be released to insurance revenue for Year 2.For insurance contracts without direct participation features, CSM at the end of the reporting periodof a group of insurance contracts is adjusted for changes in FCF that relate to future service[HKFRS 17.44(c), B96]. Accordingly, the change in the future estimates of cash flows in Year 3will have an impact on the CSM as shown in the following accounting entries.JE10 – Change in expected claims [HKFRS 17.44(c), B96(b)]HK$HK$DRLRC – BEL(c)

CRLRC – CSM(c)

(c)

Entity A adjusts CSM for the decrease in FCF because of expected claims in Year 3 are estimated to reduceby HK$100 (i.e. HK$700 – HK$600).JE11 – Change in risk adjustment for non-financial risks [HKFRS 17.44(c), B96(d)]HK$HK$DRLRC – RA(d)

CRLRC – CSM(d)

(d)

Given that RA related to estimates of future cash flows for Year 3 has reduced to HK$40, the associatedimpact on CSM is calculated as follows:

HK$RA estimated on initial recognition of the group of insurance contractsLess: RA released to insurance revenue in Year 1

(60)

Less: RA released to insurance revenue in Year 2

(60)

RA before adjustment of revised estimatesLess: Revised estimates of RA to be released in Year 3

(40)

Adjustment of RA to CSM at the end of Year 2 (see JE11 above)

JE12 – Release of CSM for the year [HKFRS 17.44(e), B119, B124(c)]HK$HK$DRLRC – CSM(e)

CRInsurance revenue(e)

(e)

The release of CSM in Year 2 is calculated after considering the impact of adjustments to the CSM (JE10,JE11) in Year 2. For the sake of simplicity, we assume the coverage is provided evenly over the remainingservice period. See the calculation below:

HK$CSM recognized on initial recognition of the group of insurance contractsLess: Release of CSM at the end of Year 1

(240)

Add: Related adjustment to BEL (see JE10)

.Add: Related adjustment to RA (see JE11)

CSM at end of Year 2 before release to IRRelease of CSM to IR for Year 2 (HK$600 / 2 = HK$300) (see JE12)

The following diagram summarizes the items of adjustments in the subsequent measurement ofCSM [HKFRS 17.44(a) to (e)].NoteThe adjustment item (d) may lead to increase or decrease in CSM. In this diagram, we hypothetically assume that item(d) decreases CSM.In respect of item (c), please note the following:

subsequent increases in FCF relating to future service that adjust CSM are subject to a floorof zero CSM. The excess of any increase in FCF over the carrying amount of CSM gives riseto a loss [HKFRS 17.44(c)(i), 48(a)],once a loss component has been recognized, subsequent decreases in FCF relating to futureservice are allocated to the loss component of the LRC for the onerous group of contractsuntil the loss component is reduced to zero [HKFRS 17.44(c)(ii), 50(b)].HKFRS 17.B96 set outs the changes in FCF that relate to future services which adjust CSM.The changes in FCF set out in HKFRS 17.B97 that do not relate to future services do notadjust CSM and are recognized in P&L (or OCI if the entity elects to disaggregate IFIE inaccordance with HKFRS 17.88 and B129) in the relevant financial reporting period.After recording the adjustments to CSM and the recognition of insurance revenue, we move on topost the accounting entries of actual incurred claims and other expenses.JE13 – Recognition of actual incurred claims and other expenses [HKFRS 17.42(a)]HK$HK$DRInsurance service expenses(f)

CRLIC – BEL(f)

(f)

The amount of actual claims incurred in Year 2 is less than expected by HK$200.JE14 – Payment of actual claims and other expensesHK$HK$DRLIC – BEL(g)

CRCash(g)

(g)

Entity A fully settles the actual claims incurred, resulting in no outstanding LIC at the end of Year 2.End of Year 3JE15 – Release of risk adjustment (revised) for the year [HKFRS 17.41(a), B121(a)(ii),B124(b)]HK$HK$DRLRC – RA(h)

CRInsurance revenue(h)

(h)

Entity A releases the revised estimated RA to insurance revenue in Year 3.JE16 – Release of expected claims (revised) for the year [HKFRS 17.41(a), B124(a)]HK$HK$DRLRC – BEL(i)

CRInsurance revenue(i)

(i)

Entity A recognizes insurance revenue for the reduction in LRC because of services provided in the period,measured applying HKFRS 17.B120-B124 [HKFRS 17.41(a)]. We extract the relevant part in the table inPart 2 below for ease of reference.(Dr) / CrHK$LRC – BEL recognized on initial recognition of the group of insurancecontracts

(900)

Premium received3,000Release of expected ISE for the period to IR.

(700)

LRC – BEL at the end of Year 11,400Release of expected ISE for the period to IR

(700)

Changes in FCF relating to future service (see JE10)

(100)

LRC – BEL at the end of Year 2Release of expected ISE for the period (revised after JE10) to IR

(600)

LRC – BEL at the end of Year 3-Extractedfrom thetable inPart 2JE17 – Release of CSM for the year [HKFRS 17.44(e), B119, B124(c)]HK$HK$DRLRC – CSM(j)

CRInsurance revenue(j)

(j)

As shown in JE12(e), the remaining amount of CSM to be released to IR in Year 3 is HK$300.JE18 – Recognition of actual incurred claims and other expenses [HKFRS 17.42(a)]HK$HK$DRInsurance service expenses(k)

CRLIC – BEL(k)

(k)

In this example, the amount of actual claims incurred in Year 3 is same as the revised estimation, i.e.HK$600.JE19 – Payment of actual claims and other expensesHK$HK$DRLIC – BEL(l)

CRCash(l)

(l)

Entity A fully settles the actual claims incurred, resulting in no outstanding LIC at the end of Year 3.Part 2 – Movements in insurance contract liabilitiesThe following table demonstrates how the accounting entries discussed in Part 1 are reflected inthe changes of Entity A’s insurance contract liabilities comprising the LRC and LIC in the statementof financial position.Scenario 1.2: Insurance contract liabilities recognized in the statement of financial positionLRC(Dr) / CrLIC(Dr) / CrTotal insurancecontract liabilitiesBELJERAJECSMJETotal LRCJE(a)

(b)

(c)

(d) = (a) + (b) + (c)

(e)

(f) = (d) + (e)

HK$HK$HK$HK$HK$HK$End of Year 1 / Beginning of Year 2 (Note)

1,4002,000-2,000Insurance service expenses incurred in the period (measured at theamounts expected at the beginning of the period)

(700)

Release of RA for risk expired to insurance revenue-

(60)

Change in expected claims related to future service

(100)

----Change in RA related to future service-

(20)

---Release of CSM to insurance revenue when services provided--

(300)

Actual incurred claims and other expenses as insurance service expenses----Actual claims and other expenses paid----

(500)

End of Year 2 / Beginning of Year 3-Insurance service expenses incurred in the period (measured at theamounts expected at the beginning of the period)

(600)

Release of RA for risk expired to insurance revenue-

(40)

Release of CSM to insurance revenue when services provided--

(300)

Actual incurred claims and other expenses as insurance service expenses----Actual claims and other expenses paid----

(600)

End of Year 3------NoteThis table only shows the movements of insurance contract liabilities from Year 2 when the changes in fact pattern occur. Please refer to the basescenario for the movements of insurance contract liabilities before Year 2.Part 3 – Statement of financial performanceThe following is an extract of Entity A’s statement of financial performance as a result of theaccounting entries made in Part 1.Scenario 1.2: Illustrative statement of financial performance (extract)

Year 1JEYear 2JEYear 3JETotalHK$HK$HK$HK$Insurance revenue #1,0001,0603,000 ☼Insurance service expenses

(700)

(500)

(600)

(1,800)

Insurance service result1,200Investment income @----Insurance finance income orexpenses----Net finance result----Profit or loss1,200#Analysis of insurance revenue arising from changes in LRC:

HK$JEHK$JEHK$JEHK$ Risk adjustment for the riskexpired Release of expected claims2,000 Release of CSM1,0001,0603,000@ For the purpose of this scenario, these numbers are not included because they are accounted for applyinganother HKFRS.Notes for further insights☼The total insurance revenue for a group of insurance contracts is the consideration for the contracts, i.e.the amount of premiums paid to the entity (a) adjusted for a financing effect; and (b) excluding any investmentcomponents [HKFRS 17.B120]. Accordingly, although there are changes in the amount of insurance revenuerecognized in Year 2 and Year 3 due to changes in estimates, the total amount of the insurance revenue forthree years altogether remains at HK$3,000 provided there is no financing effect nor investment component.Recent development of IFRS 17 – Interim reporting.The above scenarios discussed in this publication assume that Entity A only performs annual reporting andthe changes in assumptions occur in the subsequent annual period. However, in practice there may be caseswhere an entity is required or elects to publish an interim financial report in accordance with IFRSs (HKFRSsequivalent) and in that case the entity shall apply IAS 34 (HKAS 34 equivalent) Interim Financial Reportingin the preparation of the interim report and there might be changes in estimates during the interim periods.In June 2020, the IASB amended IFRS 17 to permit an entity to develop an accounting policy choice toelect whether to change the treatment of accounting estimates made in the previous interim financialstatements when applying IFRS 17 in subsequent interim financial statements and in the annual reportingperiod [HKFRS 17.B137]. That means, an entity can choose either of the following approaches:

(i)

Year-to-date (YTD) approach:

-The changes in estimates related to future services are assessed on a year-to-date basis, as ifthe previous interim periods did not exist. Accordingly, the expectations at the beginning of theperiod are determined by the amounts expected at the beginning of the annual period.-CSM is released for insurance contract services provided on an annual reporting basis, i.e.applying coverage units for the annual period to the year-end date. For entities that prepare interimfinancial statements, the differences between actual and prior-period estimates during the year isrecognized in profit or loss of the same year. There might be situations where the release of CSMto insurance revenue in an interim period comes up with a negative figure in order to arrive at thetotal amount of annual release being the same as that is determined on the YTD basis.(ii)

Period-to-date (PTD) approach:

-The changes in estimates related to future services are assessed at each of the distinct interimperiod. Accordingly, the entity does not change the treatment of accounting estimates made in theprevious financial statements. Experience adjustments for the current interim period aredetermined by the amounts expected at the beginning of the current interim period.-CSM is released for insurance contract services provided on an interim period-to-date basis,applying coverage units for the distinct interim period.Before the 2020 amendments to IFRS 17, only the PTD approach was permitted.Depending on the frequency of reporting of the entity, there could be differences in the accounting resultsbetween the YTD approach and the PTD approach under the same set of FCF. HKFRS 17.B137 requires anentity to consistently apply its accounting policy choice to all groups of insurance contracts it issues andgroups of reinsurance contracts it holds. Accordingly, entities should carefully assess the practical difficultiesand rigorously weigh the cost and benefits brought by the two approaches before making the choice, inparticular for consolidated groups where there may be more complexities arising from varying frequencies ofreporting among the group companies.Scenario 1.3: Change in premiumExcept for the following, Scenario 1.3 uses the same fact pattern and assumptions as those in thebase scenario. Those changes discussed in Scenario 1.2 are not relevant here.Changes in fact pattern and assumptionsFuture cash flowsOn 1 January of Year 2, Entity A receives an extra premium of HK$500 relatedto future services. This increase in premium for increased coverage was notincluded in the original expectation of FCF on initial recognition of the group ofinsurance contracts13.Part 1 – illustration of the journal entries with narrative explanationGiven that the changes occur in Year 2, we demonstrate the accounting entries from the beginningof Year 2. For the journal entries in Year 1, please refer to JE1 to JE7 in the base scenario.On 1 January of Year 2JE8 – Receipt of additional premium [HKFRS 17.44(c), B96(a)]HK$HK$DRLRC – BEL(a)

CRLRC – CSM(a)

DRCash(a)

CRLRC – BEL(a)

(a)

Entity A adjusts the additional premium (HK$500) received relating to future services to CSM [HKFRS

17.44(c)]. As such change in FCF is not expected in the initial recognition of the group of insurance contracts,it is regarded as ‘experience adjustment’ [HKFRS 17.B96(a)]. Please refer to Diagram 5 above for illustrationof the items relating to future services that adjust CSM in subsequent measurement of the group of insurancecontracts as specified in HKFRS 17.44.13 We assume that the receipt of additional premium for increased insurance coverage in this example does not constitutemodification to be accounted for as a derecognition applying HKFRS 17.72.Readers should note that the example is highly simplified, which is set up solely for illustrating the impact on the journalentries as a result of a change in premium applying HKFRS 17.B96(a) under the GMM. Accordingly, the fact pattern givenmay not be consistent with reality. For instance, the example assumes that the receipt of extra premium on 1 January, Year 2 isnot expected at the end of Year 1 and hence the extra premium has not been included in the estimation of future cash inflows atthe end of January, Year 1. It is also assumed that there is no increase in expected claims and RA despite there is an increasedcoverage from receipt of extra premium.End of Year 2 and Year 3The following three sets of the journal entries are posted at the end of both Years 2 and 3:

JE9 – Release of risk adjustment for the year [HKFRS 17.41(a), B121(a)(ii), B124(b)]HK$HK$DRLRC – RA(b)

CRInsurance revenue(b)

(b)

The same set of the journal entries is made as in the base scenario given there is no change in the RAexpected.JE10 – Release of expected claims for the year [HKFRS 17.41(a), B124(a)]HK$HK$DRLRC – BEL(c)

CRInsurance revenue(c)

(c)

The same set of accounting entries is made as in the base scenario given there is no change in theexpectation of the claims.JE11 – Release of CSM for the year [HKFRS 17.44(e), B119, B124(c)]HK$HK$DRLRC – CSM(d)

CRInsurance revenue(d)

(d)

The release of CSM in each of Year 2 and Year 3 is calculated after considering the impact of adjustmentto CSM (JE8) at the beginning of Year 2. For simplicity, we assume that the coverage is provided evenlyover the remaining service period. See the calculation below:

HK$CSM recognized on initial recognition of the group of insurance contractsLess: Release of CSM at the end of Year 1

(240)

Add: Related experience adjustment arising from additional premium (seeJE8)

.CSM at the end of Year 2 before release to IRRelease of CSM to IR for each of Year 2 and 3 (HK$980 / 2 = HK$490)

(see JE11)

JE12 – Recognition of actual incurred claims and other expenses [HKFRS 17.42(a)]HK$HK$DRInsurance service expenses(e)

CRLIC – BEL(e)

(e)

Entity A recognizes actual claims incurred during the year. The same set of accounting entries is made asin the base scenario given the amount of actual claims incurred are the same as originally expected.JE13 – Payment of actual claims and other expensesHK$HK$DRLIC – BEL(f)

CRCash(f)

(f)

As with the base scenario, Entity A fully settles the actual claims incurred at each reporting date, resultingin no outstanding LIC.Part 2 – Movements in insurance contract liabilitiesThe following table demonstrates how the numbers gone through in the accounting entries discussed in Part 1 above are reflected in the changes of EntityA’s insurance contract liabilities which comprise LRC and LIC in the statement of financial position.Scenario 1.3: Insurance contract liabilities recognized in the statement of financial positionLRC(Dr) / CrLIC(Dr) / CrTotal insurancecontract liabilitiesBELJERAJECSMJETotal LRCJE(a)

(b)

(c)

(d) = (a) + (b) + (c)

(e)

(f) = (d) + (e)

HK$HK$HK$HK$HK$HK$End of Year 1 / Beginning of Year 2 (Note)

1,4002,000-2,000Experience adjustments arising from premium received relating to futureservices

(500)

----Additional premium received---Insurance service expenses incurred in the period (measured at theamounts expected at the beginning of the period)

(700)

Release of RA for risk expired to insurance revenue-

(60)

Release of CSM to insurance revenue when services provided--

(490)

Actual incurred claims and other expenses as insurance service expenses----Actual claims and other expenses paid----

(700)

End of Year 2 / Beginning of Year 31,250-1,250Insurance service expenses incurred in the period (measured at theamounts expected at the beginning of the period)

(700)

Release of RA for risk expired to insurance revenue-

(60)

Release of CSM to insurance revenue when services provided--

(490)

Actual incurred claims and other expenses as insurance service expenses----Actual claims and other expenses paid----

(700)

End of Year 3------NoteThis table only shows the movements of insurance contract liabilities from Year 2 when the change in fact pattern occurs. Please refer to the basescenario for the movements of insurance contract liabilities before Year 2.Part 3 – Statement of financial performanceThe following is an extract of Entity A’s statement of financial performance as a result of theaccounting entries made in Part 1.Scenario 1.3: Illustrative statement of financial performance (extract)

Year 1JEYear 2JEYear 3JETotalHK$HK$HK$HK$Insurance revenue # (Note 1)

1,0001,2501,2503,500Insurance service expenses

(700)

(2,100)

Insurance service result1,400Investment income @----Insurance finance income orexpenses----Net finance result----Profit or loss1,400# Analysis of insurance revenue arising from changes in LRC:

HK$JEHK$JEHK$JEHK$ Risk adjustment for the riskexpired Release of expected claims2,100 Release of CSM1,2201,0001,2501,2503,500@For the purpose of this scenario, these numbers are not included because they are accounted for applyinganother HKFRS.NoteHKFRS 17.B120 states that the total insurance revenue for a group of insurance contracts is theconsideration for the contracts, i.e. the amount of premiums paid to the entity adjusted for a financingeffect and excluding any investment components. Since Entity A receives an extra premium of HK$500, thetotal insurance revenue is increased by HK$500 from HK$3,000 (base scenario) to HK$3,500.Scenario 1.4: IACFAn entity may incur various costs before it could successfully acquire an insurance contract. IACFas referred to in HKFRS 17 are cash flows arising from the costs of selling, underwriting andstarting a group of insurance contracts (issued or expected to be issued) that are directlyattributable to the portfolio of insurance contracts to which the group belongs. IACF also includecash flows that are not directly attributable to individual contracts or groups of insurance contractswithin the portfolio [HKFRS 17 Appendix A]. Judgement may be required to determine which cashflows meet the definition of IACF.IACF incurred before recognition of the related group of contracts are initially recognized as anasset and accounted for under HKFRS 17. An entity shall include any IACF assets recognizedapplying HKFRS 17.28B in the carrying amount of the related portfolios of insurance contractsissued [HKFRS 17.79]. Once the related group of contracts is recognized, the IACF asset isallocated to the group of insurance contracts. Here are some points to note for IACF:

Some key points to note:

A.Characteristics of IACFCan arise internally (e.g. incurred in internal sales department) or externally (e.g. incurred throughoutsourcing sales to external agents) [HKFRS 17.BC182(a)]Include both incremental costs and other direct costs and a proportion of indirect costs incurred inoriginating insurance contracts e.g. costs of underwriting, medical tests and inspection and issuingthe policy [HKFRS 17.BC182(b)]Include cash flows related to both successful and unsuccessful acquisition of new or renewedinsurance contracts [HKFRS 17.BC183]B.Accounting implicationRecognize an asset for IACF paid or incurred relating to a group of existing or future insurancecontracts, before such group of contracts is recognized. Derecognize these assets (or a portion ofthem) when the group of insurance contracts to which the cash flows are allocated is recognized aspart of determining CSM on initial recognition [See Diagram 6 below] [HKFRS 17.28B-C]Included as part of FCF of the group of insurance contracts if IACF are expected to be paid orincurred after that group is recognized [HKFRS 17.33]Can choose to recognize all IACF as an expense as incurred when PAA is applied, provided thatthe coverage period of each contract in the group at initial recognition is no more than one year[HKFRS 17.59(a)]Apply a systematic and rational method to allocate IACF:

If IACF directly attributable to a group of contractsThen allocate IACF to that group and to the groups that will include contracts expected toarise from renewals of contracts in that groupii)

If IACF directly attributable to a portfolio of contracts but not to individual contracts or a groupof contractsThen allocate IACF to existing and future groups within that portfolio [HKFRS 17.B35A]Perform impairment assessment at each reporting date if facts and circumstances indicate that anasset arising from IACF may be impaired [HKFRS 17.28E, B35D]As highlighted in the second point of Part B in the above table, IACF are included as part of FCFof the group of insurance contracts if they are expected to be paid or incurred after the recognitionof the related group. Furthermore, IACF is deducted from CSM on the initial recognition of thegroup of insurance contracts if they are paid or incurred at that date [HKFRS 17.38(c)]. For thesereasons, IACF affects the initial measurement of CSM. The following diagram expands on the initialmeasurement of CSM which is developed based on Block 4 in Diagram 2.NoteThe adjustment items (b) and (c)(ii) may increase or decrease CSM in practice. In this diagram, we hypothetically assumethat these two items increase CSM.The following example illustrates how IACF impacts the journal entries of a group of insurancecontracts after modifying the base scenario. Scenario 1.4 uses the same fact pattern andassumptions as those in the base scenario except for following changes:

Changes in fact pattern and assumptionsIACFEntity A incurred expenses of HK$90 which are directly attributable to a futuregroup of insurance contracts, i.e. the expenses were incurred prior to the initialrecognition of that group of insurance contracts. These expenses have been paidat the time of incurrence.Future cash flowsExpected cash outflowsAcquisition cash flows of HK$170, including HK$120 that are directly attributableto the portfolio to which the group of insurance contracts belongs, are incurredand paid at the beginning of the coverage period. The remaining HK$50 relatesto acquisition costs that are not directly attributable acquisition costs.Part 1 – illustration of the journal entries with narrative explanationWe first illustrate the accounting starting from the recognition of the IACF paid prior to the initialrecognition of a group of insurance contracts14. Under GMM, the initial recognition of IACF paid orincurred has no P&L effect. Under PAA, an entity may elect to recognize IACF as expenses whenit incurs those costs under specific circumstances [HKFRS 17.59]. GMM is applied in this example.The accounting for IACF under PAA is discussed in Section 2.JE0 – Recognition of IACF asset paid [HKFRS 17.28B]HK$HK$DRIACF asset (see ☼)

(a)

CRCash(a)

(a)

In practice, some entities call the assets IACF paid (or IACF for which a liability has been recognizedapplying another HKFRS) as Pre-coverage Assets (PCA), which are the same as ‘IACF asset’ as referredto in this publication. Under HKFRS 17.28B, an entity shall recognize such asset for each related group ofinsurance contracts. In this example, Entity A recognizes an IACF asset of HK$90 incurred and paid beforethe related group of insurance contracts is recognized, applying HKFRS 17.28B. If the IACF asset is unpaid,a liability applying another HKFRS (e.g. HKFRS 9) is recognized, i.e. Cr. Liability, instead of Cr. Cash, inJE0 above.Notes for further insights☼IACF assets, being the main cash flows before the initial recognition of a group of insurance contracts, maybe material assets in some insurance companies and therefore the impairment assessment of IACF assetsis an important topic.In June 2020, the IASB issued Amendments to IFRS 17 for a number of specific areas including specificrequirements in relation to IACF assets recognized before a group of insurance contracts is recognized. TheHKICPA issued equivalent Amendments to HKFRS 17 in October 2020. The Amendments specify therequirements for impairment tests and the accounting for impairment losses. An entity assesses therecoverability of the IACF asset if facts and circumstances indicate that the asset may be impaired. [HKFRS

17.28E] Note that once the related group of insurance contracts is recognized, the IACF asset isderecognized and forms part of the measurement of the group of contracts and thus no longer subject to animpairment test.Applying HKFRS 17.B35D, the Amendments require an entity to perform two impairment tests:

at the level of a group of insurance contracts [HKFRS 17.B35D(a)]2)

an additional impairment specific to IACF allocated to expected contract renewals [HKFRS 17.B35D(b)]The impairment assessment of IACF assets is not covered in this publication. However, given theimportance of this topic, readers are advised to refer to HKFRS 17 for a full understanding of therequirements.14 For this example, we note that there are alternative possible ways in practice to account for the group of insurance contractswith IACF that would also arrive at the same accounting result. Please refer to Part 4 – Supplementary illustration of alternativejournal entries for information.(a)

Initial recognitionJE1 – Initial measurement of a group of related insurance contracts with derecognitionof IACF asset [HKFRS 17.28C, 32, 37, 38(c)(i), B65(a), (b)&(e)]HK$HK$DRLRC – BEL(b)

CRLRC – RA(c)

CRIACF asset(d)

CRLRC – CSM(e)

(b)

Cash flows within the boundary of an insurance contract are those that are directly to the fulfilment of thecontract (i.e. FCF). LRC = FCF + CSM = BEL + RA + CSM.LRC – BEL of HK$780 is arrived at by:

HK$Expected cash inflows from premium [HKFRS 17.B65(a)]3,000Less: Expected cash outflows of future claims [HKFRS 17.B65(b)](2,100)

LRC – BEL before IACF allocation (same as the base scenario)

Less: An allocation of IACF attributable to the portfolio to which thecontract belongs (see note #) [HKFRS 17.B65(e)]

(120)

LRC – BEL after IACF allocation (see JE1 as above)

#HKFRS 17.B65(e) requires entities to include an allocation of IACF that are attributable to the portfolioto which an insurance contract belongs in the FCFs of an insurance contract.(c)

The recognition of LRC – RA is the same as in the base scenario [HKFRS 17.37].(d)

HKFRS 17.B65(e) requires entities to include an allocation of IACF that are directly attributable to theportfolio to which an insurance contract belongs in the FCF of an insurance contract. Thus, Entity Aderecognizes IACF asset of HK$90 and includes IACF in the initial measurement of the insurance contractliability [HKFRS 17.28C]. Entity A also includes the directly attributable acquisition cost of HK$120 paid atthe beginning of the coverage period. In total, IACF allocated to the group amounts to HK$210 (HK$90 +HK$120). See also Diagram 6, item (c)(i) and point (e) below for the related impact on the initialmeasurement of CSM [HKFRS 17.38(c)(i)].(e)

No gain or loss is recognized on initial recognition of a group of insurance contracts. CSM, being theunearned profit of a group of insurance contracts, is calculated as follows on initial recognition [HKFRS

17.38]HK$LRC – BEL (see (b) above)

Less: LRC – RA (see (c) above)

(180)

Less: Derecognition of IACF asset (see (d) above)

(90)

CSM (see JE1 as above)

Alternatively, CSM can be reconciled by accounting for the changes in Scenario 1.4 on top of the basescenario:

HK$CSM determined in the base scenario on initial recognitionLess: Derecognition of IACF asset (see (d) above)

(90)

Less: IACF incurred and paid at the beginning of the coverage period anddirectly attributable to the portfolio

(120)

CSM (see (e) above)

CSM in this example is lower as compared to the base scenario because of the incurrence of IACF relatingto the group of contracts which represents an additional cost to the entity and thus, impacting the profitabilityof the group of contracts.JE2 – Recognition of premium receivedHK$HK$DRCash(f)

3,000CRLRC – BEL(f)

3,000(f)

The same set of accounting entries is used in the base scenario as there is no change in the amount ofpremium (i.e. HK$3,000) received.JE3 – Payment of acquisition cash flows of HK$170, including HK$120 which are cashflows directly attributable to the portfolio to which the group of insurance contractsbelongs, are made at the beginning of the coverage periodHK$HK$DRLRC – BEL(g)

DROther expenses(h)

CRCash(g)

As required by HKFRS 17, the reduction in LRC that gives rise to insurance revenue excludes changes inthe liability that do not relate to services expected to be covered by the consideration received by the entity.The changes in LRC relating to IACF does not go against revenue because such changes do not relate toprovision of services in the period [HKFRS 17.B123(a)(v)]. Entity A determines its insurance revenue relatedto IACF by allocating a portion of premiums that relates to recovering those cash flows to each accountingperiod in a systematic way on the basis of the passage of time (see JE9 below). In addition, unlike thetreatment of other expenses (e.g. claims) which is charged to LIC (see JE7 below), the cash payment ofIACF is charged against LRC as shown in JE3 here.(h)

Acquisition cash flows not directly attributable to the portfolio of insurance contracts to which the contractsbelong is expensed immediately or accounted for in accordance with the relevant HKFRS as appropriate.[HKFRS 17.IE79(c)].(b) Subsequent measurement – End of Year 1, Year 2 and Year 3JE4 – Release of risk adjustment for the year [HKFRS 17.41(a), B121(a)(ii), B124(b)]HK$HK$DRLRC – RA(i)

CRInsurance revenue(i)

(i)

The same set of the journal entries as in JE3 of the base scenario is put through here as there is no changein the assumption on RA for non-financial risk.JE5 – Release of expected claims for the year [HKFRS 17.41(a), B124(a)]HK$HK$DRLRC – BEL(j)

CRInsurance revenue(j)

(j)

The same set of the journal entries as in JE4 of the base scenario is put through here. As in the basescenario, expected claims released = HK$2,100 / 3 = HK$700 per year, applying HKFRS 17.B124(a).JE6 – Release of CSM for the year [HKFRS 17.44(e), B119, B124(c)]HK$HK$DRLRC – CSM(k)

CRInsurance revenue(k)

(k)

As shown in JE1, CSM is initially recognized as HK$510. Hence, the release of CSM for the year is HK$510/ 3 years = HK$170 per year, assuming the coverage is provided evenly over the period of 3 years.JE7 – Recognition of actual incurred claims and other expenses [HKFRS 17.42(a)]HK$HK$DRInsurance service expenses(l)

CRLIC – BEL(l)

(l)

Entity A recognizes the actual claims incurred in Year 1, putting through the same set of the journal entriesas in JE6 of the base scenario. Given that the amount of actual claims is the same as originally expected,the amount equals HK$2,100 / 3 years = HK$700 per year, being the same amount as in JE5.JE8 – Payment of actual claims and other expensesHK$HK$DRLIC – BEL(m)

CRCash(m)

(m)

The same set of the journal entries as JE7 of the base scenario. Entity A fully settles the actual claimsincurred at each reporting date, resulting in no outstanding LIC.JE9 – Allocation of a portion of premiums that relates to the recovery of IACF [HKFRS

17.B121(b) & B125]HK$HK$DRInsurance service expense(n)

CRInsurance revenue(n)

(n)

Applying HKFRS 17.B121(b), the entity should reflect the amounts for IACF as part of the total considerationthat is reflective of the insurance revenue for that group.Entity A determines its insurance revenue related to the IACF by allocating a portion of the premiumsthat relates to recovering those cash flows to each accounting period in a systematic way on thebasis of the passage of time. Entity A recognizes the same amount as insurance services expenses[HKFRS 17.B125].In this example, the coverage period of the insurance contracts is three years. Entity A determines andrecognizes the insurance service expense with insurance revenue of the same amount in each of the threeyears over the passage of time as follows:

HK$Acquisition cash flows directly attributable to the group of insurance contracts (seeJE1)

Inclusion of IACF in the initial measurement of LRC from derecognizing the IACFasset (see JE1)

Total IACF (see note ^)

IACF recognized as insurance revenue in each year (HK$210 / 3 years = HK$70)

(see JE9)

^As IACF is no longer a separate asset after being allocated as part of LRC, Entity A needs to keep trackof the unamortized portion of IACF, e.g. in a separate spreadsheet in the simplest scenario in order torecognize a relevant portion in insurance revenue and insurance service expense every period.Part 2 – Movements in insurance contract liabilitiesThe following table demonstrates how the accounting entries discussed in Part 1 above arereflected in the changes of Entity A’s insurance contract liabilities comprising the LRC and LIC inthe statement of financial position.Scenario 1.4: Insurance contract liabilities recognized in the statement of financial positionLRC(Dr) / CrLIC(Dr) / CrTotal insurancecontract liabilitiesBELJERAJECSMJETotal LRCJE(a)

(b)

(c)

(d) = (a) + (b) + (c)

(e)

(f) = (d) + (e)

HK$HK$HK$HK$HK$HK$Beginning of Year 1------New contracts recognized with derecognition of IACF asset

(780)

(90)^^-

(90)

Premium received3,000--3,000-3,000Payment of IACF at the beginning of the coverage period

(120)

Insurance service expenses incurred in the period (measured at theamounts expected at the beginning of the period)

(700)

Release of RA for risk expired to insurance revenue-

(60)

Release of CSM to insurance revenue when services provided--

(170)

Actual incurred claims and other expenses as insurance service expenses----Actual claims and other expenses paid----

(700)

End of Year 1 / Beginning of Year 21,4001,860-1,860Insurance service expenses incurred in the period (measured at theamounts expected at the beginning of the period)

(700)

Release of RA for risk expired to insurance revenue-

(60)

Release of CSM to insurance revenue when services provided--

(170)

Actual incurred claims and other expenses as insurance service expenses----Actual claims and other expenses paid----

(700)

End of Year 2 / Beginning of Year 3-Insurance service expenses incurred in the period (measured at theamounts expected at the beginning of the period)

(700)

Release of RA for risk expired to insurance revenue-

(60)

Release of CSM to insurance revenue when services provided--

(170)

Actual incurred claims and other expenses as insurance service expenses----Actual claims and other expenses paid----

(700)

End of Year 3------Note ^^ The corresponding credit side of HK$90 is IACF asset. See JE1.Part 3 – Statement of financial performanceThe following is an extract of Entity A’s statement of financial performance as a result of theaccounting entries made in Part 1.Scenario 1.4: Illustrative statement of financial performance (extract)

Year 1JEYear 2JEYear 3JETotalHK$HK$HK$HK$Insurance revenue #1,0001,0001,0003,000Insurance service expense **

(770)

(2,310)

Insurance service resultInvestment income @----Insurance finance income orexpenses----Other expenses (Note 1)

(50)

Net finance result----Profit or loss#Analysis of insurance revenue arising from changes in LRC:

HK$JEHK$JEHK$JEHK$ Risk adjustment for the riskexpired Release of expected claims2,100 Release of CSM Allocation of a portion of premiumthat relates to recovery of IACF(gross up accounting)

1,0001,0001,0003,000** Analysis of the composition of ISE:

HK$JEHK$JEHK$JEHK$ Recognition of actual claimsincurred2,100 Allocation of a portion of premiumthat relates to recovery of IACF(gross up accounting)

2,310@ For the purpose of this scenario, these numbers are not included because they are accounted for applyinganother HKFRS.NoteThe amount refers to the acquisition cash flows that are not directly attributable to the portfolio of insurancecontracts to which the contracts belong and is fully recognized as expense as incurred in Year 1 in P&L inthis example.Part 4 – Supplementary illustration of alternative journal entriesReferring to the earlier discussions in this Section, in practice, there may be alternative possiblejournal entries to account for the group of insurance contracts with IACF under GMM. The followingsets out the other possible alternatives, which are not exhaustive, for readers’ reference only.Readers should read HKFRS 17 carefully and take into account their accounting system design indetermining the appropriate journal entries for the compliance with HKFRS 17.For the two alternatives set out below, JE0 – recognition of IACF asset is the same as Part 1.Alternative 1 – initial recognitionThe insurer records JE1(a) separated from the derecogniton of the IACF asset to arrive at the roll-forward effect of new contracts to be 0.JE1(a) – Initial measurement of a group of related insurance contracts andderecognition of IACF asset [HKFRS 17.28C, 32, 37, B65(a), (b)&(e)]HK$HK$DRLRC – BELCRLRC – RACRLRC – CSMDRLRC – BELCRIACF assetAlternative 2 – Initial recognition and subsequent measurementHKFRS 17.38 sets out the requirements for the measurement of CSM on initial recognition of agroup of insurance contracts, which include how IACF impacts on the amount of CSM to berecognized. It is considered that CSM effectively comprises two amounts: a ‘gross of IACF CSM’amount and the IACF amount that reduces the former to the amount reported as a component ofthe LRC. Applying HKFRS 17.B125, an insurer shall amortize IACF and include that amortizationexpense in insurance service expense line item in the statement of profit or loss, while an equaland opposite amount is included in the insurance revenue line item. It is observed that there aremarket practices where the insurer makes use of ‘suspense accounts’ to control the amortizationof IACF and corresponding insurance revenue recognition. Please see the following journal entriesfor illustration of the above practices:

(a) Initial recognitionJE1(a) – Initial measurement of a group of related insurance contracts [HKFRS 17.28C,32, 37, B65(a), (b)&(e)]HK$HK$DRLRC – BEL (excluding IACF)

(a)

CRLRC – BEL – IACF(b)

CRLRC – RA(c)

CRLRC – CSM (net ofIACF)

(d)

(a)

Cash flows within the boundary of an insurance contract are those that are directly attributable to thefulfilment of the contract (i.e. FCF). LRC = FCF + CSM = BEL + RA + CSM. LRC – BEL, excluding IACF ofHK$900 is arrived at by:

HK$Expected cash inflows from premium [HKFRS 17.B65(a)]3,000Less: Expected cash outflows of future claims [HKFRS 17.B65(b)](2,100)

LRC – BEL before IACF allocation (same as the base scenario) (seeJE1(a) as above)

(b)

HKFRS 17.B65(e) requires entities to include an allocation of acquisition cash flows that are attributable tothe portfolio to which an insurance contract belongs in the FCFs of an insurance contract. Entity A hadexpenses of HK$90 incurred and paid prior to the initial recognition of the related group of insurancecontracts as well as the directly attributable cost of HK$120 paid at the beginning of the coverage period.Therefore, total IACF = HK$90 + HK$120.(c)

The recognition of LRC – RA is the same as in the base scenario [HKFRS 17.37].(d)

17.38].HK$LRC – BEL (see (a) above)

Less: LRC – RA (see (c) above)

(180)

Less: Derecognition of IACF asset (see (b) above)

(90)

Less: IACF paid at the beginning of the coverage period and directlyattributable to the portfolio (see (b) above)

(120)

CSM (see JE1(a) as above)

JE1(b) – Initial recognition for both LRC – CSM – IACF (to be amortized throughinsurance services expenses) and LRC – CSM – recovery of IACF (to be amortizedthrough insurance revenue) [HKFRS 17.B125]HK$HK$DRLRC – CSM – IACF(e)

CRLRC – CSM –Recovery of IACF(e)

(e)

The above accounting entry is created and posted for subsequent amortization to IR and ISE for thepurposes of compliance with HKFRS 17.B125.CSMdeterminedat initialrecognitionin the basescenario i.e.HK$720JE1(c) – Payment of acquisition cash flows of HK$170, including HK$120 which arecash flows directly attributable to the portfolio to which the group of insurancecontracts belongs, are made at the beginning of the coverage periodHK$HK$DROther expenses(f)

DRLRC – BEL – IACF(g)

CRCashJE1(d) – Derecognition of IACF asset and inclusion into the measurement of therelated group of contractsHK$HK$DRLRC – BEL – IACF(g)

CRIACF asset(g)

(f)

Entity A derecognizes IACF asset of HK$90 and includes IACF in the initial measurement of the insurancecontract liability [HKFRS 17.28C].JE2 – recognition of premium received is the same as Part 1. JE3 – payment of IACF at thebeginning of the coverage period in Part 1 is replaced by JE1(c) above.(b) Subsequent measurement – End of Year 1, Year 2 and Year 3The following entries are the same as Part 1:

JE4 – release of risk adjustment for the yearJE5 – release of expected claims for the yearJE6 – release of CSM for the yearJE7 – recognition of actual incurred claims and other expensesJE8 – payment of actual claims and other expensesThe following entries are different from Part 1:

JE9(a) – Allocation of a portion of premiums that relates to the recovery of IACF[HKFRS 17.B121(b) & B125]HK$HK$DRLRC – CSM – Recovery ofIACF(h)

CRInsurance revenue(h)

JE9(b) – Amortization of IACF [HKFRS 17.B125]HK$HK$DRInsurance service expense(h)

CRLRC – CSM – IACF(h)

(h)

Entity A determines its insurance revenue related to the IACF by allocating a portion of the premiumsthat relates to recovering those cash flows to each accounting period in a systematic way on thebasis of the passage of time. Entity A recognizes the same amount as insurance services expenses[HKFRS 17.B125].Same as Part 1, the IACF recognized as insurance revenue in each year = HK$210 / 3 years and the sameamount is recognized as insurance service expense.Scenario 1.5 – Investment componentsAn insurance contract may contain one or more components that would be within the scope ofanother HKFRS if they were separate contracts. For example, an insurance contract may includean investment component or a component for services other than insurance contract services (orboth). An entity shall apply HKFRS 17.11-13 to identify and account for the component of thecontract.This section talks about investment components. HKFRS 17 Appendix A defines investmentcomponent as the amounts that an insurance contract requires the entity to repay to thepolicyholder in all circumstances, regardless of whether an insured event occurs. This alsomeans that an insurance contract includes an investment component only if a payment would occurin all circumstances. Saving-type insurance contracts which have a repayable contract feature areexamples of insurance contracts which have investment components.At inception, investment components are required to be separated from the host insurance contractfor accounting if they are distinct and are accounted for under HKFRS 9, unless the investmentcomponent is an investment contract with discretionary participation features within the scope ofHKFRS 17 [HKFRS 17.3, 10-11] in which case such investment component is accounted forseparately applying HKFRS 17 15 . However, when separation is not required because theinvestment component is not distinct, the entity is not permitted to do such separation and applyHKFRS 9 to account for that investment component [HKFRS 17.BC114]. HKFRS 17 providesguidance on determination of whether the investment component is distinct [HKFRS 17.11(b), B31-B32].Non-distinct investment components (NDIC) in an insurance contract are not separated from theinsurance contract but are accounted for together with the insurance contract. This section focuseson illustration of the accounting entries for a group of insurance contracts which contain NDIC.Except for the following, Scenario 1.5 uses the same fact pattern and assumptions as those in thebase scenario.Changes in fact pattern and assumptionsFuture cash flowsExpected future cash outflowsComprise pay-outs of expected claims and investment components of HK$700each year, amounting to a total of HK$2,100 in the 3-year coverage periodInvestment componentHK$300 out of HK$700 outflow in each year is expected to relate to investmentcomponents, so HK$900 in total for the 3-year coverage. The investmentcomponents are NDIC (See ☼)

For simplicity, the actual NDIC is the same as the expected amount15 In June 2020, the IASB amended IFRS 17.11(b) to clarify that an entity applies IFRS 17 to a separated investment componentif that component meets the definition of an investment contract with discretionary participation features within the scope of IFRS17 [HKFRS 17.BC109].Notes for further insights☼At inception, an entity shall assess whether an insurance contract includes a NDIC. Only when insurancerevenue and incurred claim are recognized16 does HKFRS 17 require an entity to determine (1) howmuch of that claim is an investment component, and (2) whether it was expected to become payable in thatperiod. The amounts so identified are excluded from insurance revenue and incurred claims.Any unexpected repayment (or unexpected non-repayment) of an investment component adjusts the CSM[HKFRS 17.B96(c)], meaning that an entity would have to be able to determine the differences between anyinvestment component expected to become payable in the period (calculated as an amount equal to theexpected payment at the start of the period plus related IFIE before the amount becomes payable) and theactual investment component that becomes payable in the period. The CSM is also adjusted for changesin future estimates of cash flows, which will include the changes in expected future repayments of investmentcomponents [HKFRS 17.B96(b)]. The net effect of the application of both HKFRS 17.B96(b) and HKFRS

17.B96(c) on the CSM therefore reflects the changes in timing of the repayment of the investmentcomponent (e.g. interest accretion).Part 1 – illustration of the journal entries with narrative explanation(a)

Initial recognitionJE1 – Initial measurement of a group of insurance contracts [HKFRS 17.32, 37 & 38]HK$HK$DRLRC – BEL(a)

CRLRC – RA(b)

CRLRC – CSM(c)

The same set of the journal entries to initially recognize the group of insurance contracts is posted here as in thebase scenario.(a)

BEL comprises expected cash inflows of premium of HK$3,000 and expected cash outflows of HK$2,100.The expected outflows of HK$2,100 include estimated investment components of HK$900 during thethree-year coverage period.(b)

LRC – RA represents the adjustments made by Entity A for the estimates of present value of future cashflows to reflect the compensation that it requires for bearing the uncertainty about the amount and timing ofthe cash flows that arises from non-financial risk.(c)

On initial recognition, Entity A measures CSM of a group of insurance contracts at an amount that results inno income or expenses.JE2 – Recognition of premium receivedHK$HK$DRCash(d)

3,000CRLRC – BEL(d)

3,00016 TRG had a discussion on the determination of the amount of an investment component in its April 2019 meeting. TRG membersobserved that (i) an entity identifies amounts of NDIC only when insurance revenue and incurred claims are recognized; (ii) IFRS17 does not specify how to determine those amounts; (iii) in some cases, it may be reasonable to determine those amounts usingthe explicit amounts identified by the contractual terms; and (iv) in other cases, it may be appropriate to determine the amounton a present value basis at the time of making the determination. Please see meeting agenda paper and meeting summary fordetails.(d)

The same set of the journal entries to recognize the premium received is put through here as in the basescenario.(b)

Subsequent measurement – End of Year 1, 2 and 3The following entries, i.e. JE3 to JE9 below are posted at the end of Year 1 to 3:

JE3 – Release of risk adjustment for the year [HKFRS 17.41(a), B121(a)(ii), B124(b)]HK$HK$DRLRC – RA(e)

CRInsurance revenue(e)

(e)

The same set of the journal entries to recognize the premium received is posted here as in the base scenario.JE4 – Release of expected claims for the year, net of investment components [HKFRS

17.41(a), B124(a)]HK$HK$DRLRC – BEL(f)

CRInsurance revenue(f)

(f)

Given receipts and payments of investment components are excluded from insurance revenue andexpenses presented in P&L, the amount of expected claims released to insurance contract revenue in eachyear is net of the investment components, i.e. HK$700 (total outflow) – HK$300 (investment components)

= HK$400 [HKFRS 17.85, B120(b), B123(a)(ii), BC108(b)].Notes for further insights☼The exclusion of investment components from insurance revenue in P&L might have a significant effect onsome entities that previously recognized insurance revenue merely based on premium received (whichincluded investment components) before the adoption of HKFRS 17.JE5 – Actual NDIC payable for the year [HKFRS 17 Appendix A]HK$HK$DRLRC – BEL (see ☼)

(g)

CRLIC – BEL (see ☼)

(g)

In this example, the actual payout of NDIC is the same as the expected amount, i.e. HK$300. As defined inHKFRS 17 Appendix A, the LIC includes amounts relating to any investment components or other amountsthat are not related to the provision of insurance contract services, and that are not in the LRC.Notes for further insights☼An investment component is defined as the amount that the insurer must repay to a policyholder in allcircumstances, regardless of whether an insured event occurs [HKFRS 17 Appendix A]. Accordingly,HKFRS 17 requires that any NDIC that is not separated from an insurance contract has to be excluded fromboth insurance revenue and insurance service expenses. Instead, the recognition and derecognition ofa NDIC only gives rise to a balance sheet movement.As discussed in its meeting in April 2019 (Agenda paper no. 1), the TRG observed that the amount ofpayments by the insurer could be zero in some scenarios. However, this does not necessarily mean that noinvestment component exists and that settling amounts due on a net or gross basis should not affect theoutcome of the assessment of whether an investment component exists.JE6 – Release of CSM for the year [HKFRS 17.44(e), B119, B124(c)]HK$HK$DRLRC – CSM(h)

CRInsurance revenue(h)

(h)

Entity A recognizes an amount of CSM as insurance revenue, same as in the base scenario.JE7 – Recognition of actual incurred claims and other expenses, net of investmentcomponents [HKFRS 17.42(a)]HK$HK$DRInsurance service expenses(i)

CRLIC – BEL(i)

(i)

The amount of actual incurred claims is the same as the expected amount, i.e. HK$400 (see JE4), whichdoes not include investment component.JE8 – Payment of actual incurred claims and other expenses, net of investmentcomponentsHK$HK$DRLIC – BEL(j)

CRCash(j)

(j)

The amount of actual incurred claims and other expenses is paid.JE9 – Repayment of NDIC for the yearHK$HK$DRLIC – BEL(k)

CRCash(k)

(k)

The amount of actual NDIC repaid is the same as expected. Together with JE8, there is no outstanding LICat the reporting date.Part 2 – Movements in insurance contract liabilitiesThe following table demonstrates how the accounting entries discussed in Part 1 above arereflected in the changes of Entity A’s insurance contract liabilities comprising the LRC and LIC inthe statement of financial position.Scenario 1.5: Insurance contract liabilities recognized in the statement of financial positionLRC(Dr) / CrLIC(Dr) / CrTotal insurancecontractliabilitiesBELJERAJECSMJETotal LRCJE(a)

(b)

(c)

(d) = (a) + (b) + (c)

(e)

(f) = (d) + (e)

HK$HK$HK$HK$HK$HK$Beginning of Year 1------New contracts recognized

(900)

---Premium received3,000--3,000-3,000ISE incurred in the period (measured at the amounts expected at thebeginning of the period, net of investment component)

(400)

Release of RA for risk expired to insurance revenue-

(60)

NDIC payable in the period

(300)

-Release of CSM to insurance revenue when services provided--

(240)

Actual incurred claims and other expenses, excluding NDIC, as ISE----Actual claims and other expenses paid and repayment of NDIC----

(700)

8, 9

(700)

End of Year 1 / Beginning of Year 21,4002,000-2,000ISE incurred in the period (measured at the amounts expected at thebeginning of the period, net of investment component)

(400)

Release of RA for risk expired to insurance revenue-

(60)

NDIC payable in the period

(300)

-Release of CSM to insurance revenue when services provided--

(240)

Actual incurred claims and other expenses, excluding NDIC, as ISE----Actual claims and other expenses paid and repayment of NDIC----

(700)

8, 9

(700)

End of Year 2 / Beginning of Year 31,000-1,000ISE incurred in the period (measured at the amounts expected at thebeginning of the period, net of investment component)

(400)

Release of RA for risk expired to insurance revenue-

(60)

NDIC payable in the period

(300)

-Release of CSM to insurance revenue when services provided--

(240)

Actual incurred claims and other expenses, excluding NDIC, as ISE----Actual claims and other expenses paid and repayment of NDIC----

(700)

8, 9

(700)

End of Year 3------Part 3 – Statement of financial performanceThe following is an extract of Entity A’s statement of financial performance as a result of theaccounting entries made in Part 1.Scenario 1.5: Illustrative statement of financial performance (extract)

Year 1JEYear 2JEYear 3JETotalHK$HK$HK$HK$Insurance revenue # (Note 1)

2,100Insurance service expense (Note 1)

(400)

(1,200)

Insurance service resultInvestment income @----Insurance finance income orexpenses----Net finance result----Profit or loss#Analysis of insurance revenue arising from changes in LRC:

HK$JEHK$JEHK$JEHK$ Risk adjustment for the riskexpired Release of expected claims1,200 Release of CSM2,100NoteHKFRS 17.85 clearly states that insurance revenue and insurance service expenses presented in P&Lshall exclude any investment components. Accordingly, the line items insurance revenue and ISE bothare derived after excluding NDIC of HK$900, i.e.Grosspremium/paymentNDICNet of NDICHK$HK$HK$(a)

(b)

(a) – (b)

Insurance revenue3,0002,100ISE2,1001,200@For the purpose of this scenario, these numbers are not included because they are accounted for applyinganother HKFRS.

2.Premium Allocation Approach (PAA)

As shown in Diagram 1, PAA is one of the measurement models under HKFRS 17 to measure agroup of insurance contracts. It is an optional simplified model of GMM but permitted to be appliedonly when either of the following two criteria is satisfied at inception:

(a)

The coverage period17 of each contract in the group of insurance contracts is one year orless; or(b)

The entity reasonably expects that PAA would produce a measurement of LRC for a groupthat would not differ materially from the one that would be produced applying the GMMrequirements (i.e. LRC = FCF + CSM under GMM).The eligibility is assessed for each group of insurance contracts and the election is made for eacheligible group (see ☼).Many non-life insurance contracts are expected to be eligible to meet criterion (a) mainly becauseof their short duration. Some life insurance contracts with a duration longer than one year may stillbe eligible for applying the PAA so long as the life insurer can justify how criterion (a) or (b) is met18.However, if FCF are expected to vary significantly during the coverage period, or if there are anysignificant derivatives embedded in the contracts, management would not be able to reasonablyexpect that PAA would produce a measurement of LRC for a group of insurance contracts thatwould not differ materially from the LRC derived from the application of the GMM [HKFRS 17.54].In this situation, application of appropriate management judgement is critical in assessing the likelyvariability of FCF of contracts with a coverage period longer than one year.In respect of criterion (b), if the coverage period is more than one year and an entity expects thatthe measurement of LRC is expected to differ materially from GMM, the entity cannot apply PAA.The assessment is made at inception and is not reassessed subsequently. Also, materiality asreferred to in criterion (b) should be considered at the group of contracts level.Notes for further insights☼The assessment of eligibility criteria is performed for each group and the election is made for each groupmeeting the criteria at inception. HKFRS 17 does not require or permit reassessment of the eligibility criteriaor the election to apply PAA subsequent to the initial recognition of the group of insurance contracts19, exceptfor cases where contracts have been modified, resulting in the modified contracts being not eligible to bemeasured under the PAA.PAA is a simpler and more straightforward approach. A large benefit of PAA is that insurers are not requiredto estimate future claims or measure and track the CSM.17 Coverage period includes the insurance contract services arising from all premiums within the contract boundary determinedat that date applying HKFRS 17.34 and B61-B71.18 Life insurers may be able to apply PAA for contracts with long duration under criterion (a) because of contractual terms suchas insurer’s unilateral right to cancel the contract subject to a notice period, annual repricing mechanisms. Such contract termsmay render the insurance contracts to have coverage period of one year or less.19 The matter under IFRS 17 is discussed in TRG April 2019 meeting, Agenda Paper No.2, Log#S123, which also applies toHKFRS.Generally, the main difference between GMM and PAA is the initial and subsequent measurementof LRC. Other than in specified circumstances (e.g. an entity chooses not to adjust the expectedcash flows for the time value of money under HKFRS 17.59(b)), the measurement of LIC isgenerally the same in GMM and PAA. The following diagram shows the determination of LRCunder PAA. No CSM is required to be measured and recognized under PAA.NotesThere were discussions in TRG meetings in February (Agenda paper no.7, log#S23) and May (Agendapaper no.6, log#S27) 2018. At the meetings, TRG members agreed with the IASB staff views that it ispremium ‘actually received’ rather than due or expected based on literal reading of the standard.There may be implication for the accounting systems built based on I/HKFRS 4 which recognized LRCbased on receivable premiums and if so, insurers should update their systems to recognize LRC based onreceived premium only.LRC is derived after deducting any IACF paid or incurred at that date (on initial recognition) or during theperiod (after initial recognition), unless the entity chooses to recognize the payments as an expense applyingHKFRS 17.59(a), i.e. with a coverage period of one year or less.LRC is derived after adding amount of amortizing IACF recognized as an expense in the reporting period,unless the entity is eligible and chooses to recognize the IACF as an expense upon incurred.Section 3 provides an overall comparison between GMM and PAA.The following scenarios illustrates the accounting entries applying PAA from initial recognition tosubsequent measurement till the end of the coverage period. Scenarios 2.2 and 2.3 are developedbased on Scenario 2.1.Scenario 2.1: Base scenario with IACFScenario 2.2: Change in expenses or claimsScenario 2.3: Change in premiumScenario 2.1: Base scenario with IACFEntity B issues a group of insurance contracts with the following simplified fact pattern andassumptions. There is no onerous contract in the group. This table will be referred to again indiscussions of other scenarios (which are developed based on this base scenario) to be discussedlater in this section.Fact pattern and assumptionsReporting environmentHKFRSCoverage periodThree monthsStarts when the insurance contracts are issued on 1 January of Year 1 andends on 31 March of Year 1Future cash flowsi.Expected cash inflows Generated from premiums of HK$3,000 Due at the beginning of the coverage period. Entity B receives all thepremium (HK$3,000) immediately after initial recognitionii.Expected cash outflows Comprise expected pay-outs of claims amounting to HK$2,100 in total whichare incurred evenly during the coverage period All amounts settled at the end of March, Year 1 No other expenses in this example for simplicityiii. No differences in expected and actual future cash flowsIACFEntity B incurred and paid directly attributable acquisition cash flows of HK$120on the date of initial recognition of the group of insurance contractsAccounting policy choice adopted [HKFRS 17.55(b)(iii)]: amortize IACF as anexpense over the coverage periodRisk adjustment fornon-financial riski.LRC Not applicableii.LIC RA recognized at the end of January, Year 1 is reduced in the followingmonth because the example has short-tail claims RA at the end of January, Year 1 = HK$60 which is reduced to HK$25 at theend of February of the same year RA for claims incurred in February, Year 1 = HK$25, which is the sameamount of the reduced RA for the claims incurred in January, Year 1because they are expected to have the same risk pattern and remainingsettlement period No RA recognized for the claims incurred in March, Year 1 because allclaims are settled at the end of March, Year 1Insurance contractservicesProvided evenly throughout the coverage periodFinancial statementitemsNo profit or loss nor balance sheet items other than items arising fromaccounting for insurance contractsTime value of moneyNo discount rate is applied for both LRC and LIC (Note 1)

Foreign exchangeNo effect of any exchange differences because the same currency is used (i.e.the insurance contracts generate cash flows in the same currency of thecontracts)

ExperienceadjustmentsNoneNoteAn entity is not required to adjust the carrying amount of the LRC to reflect the time value of money andthe effect of financial risk if, at initial recognition, the entity expects that the time between providing eachpart of the services and the related premium due date is no more than one year [HKFRS 17.56].A similar requirement for LIC is set out in HKFRS 17.59(b) under which an entity is not required to adjustfuture cash flows for the time value of money and the effect of financial risk if those cash flows are expectedto be paid or received in one year or less from the date the claims are incurred. However, this election isindependent of the election of not discounting / reflecting the effect of financial risk for the LRC mentionedabove.The above simplifications are only applicable for PAA. Entities applying GMM are required to adjust theestimates of future cash flows to reflect the time value of money and the effect of financial risk, subject tomateriality considerations20.In this base scenario, the LRC is not discounted because the difference between the timing of premium due(1 January of Year 1) and the coverage (Q1 of Year 1) does not exceed one year [HKFRS 17.56]. Similarly,the LIC is not discounted because the claims are paid within one year after they are incurred [HKFRS

17.59(b)].Part 1 – illustration of the journal entries with narrative explanationGiven that the coverage period of each contract in the group is three months (i.e. within one-yearcoverage period), the group qualifies for PAA regardless of whether criterion (b) discussed aboveis met (i.e. the entity can demonstrate that applying PAA is a reasonable approximation of GMM).For better understanding, readers may refer to Diagram 7 to follow through the accounting entriesfrom initial recognition to subsequent measurement.(a)

Initial recognitionJE1 – Recognition of premium received [HKFRS 17.55(a)(i)]HK$HK$DRCash(a)

3,000CRLRC – Premium(a)

3,000(a)

Entity B recognizes premium received of HK$3,000 in the carrying amount of LRC. (See ☼)

JE2 – Payment of IACF at the beginning of the coverage period [HKFRS 17.55(a)(ii)]HK$HK$DRLRC – IACF(b)

CRCash(b)

(b)

As Entity B chooses to defer IACF instead of recognizing the amount paid as an expense, the carryingamount of LRC is deducted by the IACF paid at initial recognition of the group (i.e. any acquisition cash flowis subsumed within LRC, unless Entity B elects to expense IACF. (See ☼). Accordingly, under HKFRS 17,no separate asset is recognized for deferred acquisition cost except for IACF paid or incurred prior to therelated group of insurance contracts is recognized.TRG September 2018 meeting, Agenda paper no.11, Log#S64.Notes for further insights☼If the premiums were not received on initial recognition (i.e. they are receivable at a later date) and the IACFare expensed as incurred instead of over time, then LRC is HK$0 on initial recognition.(b)

Subsequent measurementThe following entries, i.e. JE3 to JE8, are posted in the subsequent months:

JE3 – Amortization of IACF for January, February and March [HKFRS 17.55(b)(iii)]HK$HK$DRInsurance service expense(c)

CRLRC – IACF(c)

(c)

Given Entity B chooses not to recognize the payment of IACF as an expense on initial recognition, the debitbalance included in LRC – IACF (see JE2) is amortized evenly over the 3-month coverage period, i.e.HK$120 / 3 months = HK$40 each month.JE4 – Recognition of insurance revenue for January, February and March [HKFRS

17.55(b)(v), B126]HK$HK$DRLRC – Premium(d)

1,000CRInsurance revenue(d)

1,000(d)

In this base scenario, Entity B recognizes the amount of expected premium receipts as insurance revenuefor the month based on the basis of the passage of time [HKFRS 17.B126(a)], i.e. HK$3,000 / 3 months =HK$1,000 per month. However, if the expected pattern of release of risk during the coverage period differssignificantly from the passage of time (e.g. due to seasonality of claims), then Entity B should recognize theinsurance revenue on the basis of the expected timing of incurred insurance service expenses [HKFRS

17.B126(b)].Furthermore, if facts and circumstances change, Entity B shall change the basis of allocation (i.e. passageof time versus incurred insurance service expenses) as necessary [HKFRS 17.B127]. Such change will beaccounted for prospectively as a change in accounting estimates if the change arises from new information.JE5 – Recognition of actual incurred claims and other expenses for January, Februaryand March [HKFRS 17.42(a)]HK$HK$DRInsurance service expense(e)

CRLIC – BEL(e)

(e)

LIC under PAA is measured the same way as LIC under GMM. Entity B recognizes the actual claims incurredfor the period, i.e. HK$2,100 / 3 months = HK$700 each month, on the assumption that the claims areincurred evenly during the coverage period and the actual amount is the same as expected.JE6 – Accounting for risk adjustment for non-financial risk related to the actual incurredclaims and other expenses for the month [HKFRS 17.59(b)]End ofJanuaryFebruaryMarchHK$HK$HK$DRInsurance service expense(f)

-CRLIC – RA(f)

-(f)

Entity B records the corresponding risk adjustment for non-financial risk on the actual incurred claims for themonth. See the table below which shows the movements of LIC – BEL and LIC – RA under PAA fromJanuary to March, Year 1.BELRAHK$HK$At 1 January, Year 1--Add: Actual claims incurred and corresponding RA(see JE5 & 6)

At the end of January, Year 1Less: Changes in RA for actual claims incurred inJanuary (see JE7)

(35)

Add: Actual claims incurred and corresponding RA(see JE5 & 6)

^^25At the end of February, Year 1Add: Actual claims incurred-Less: Settlements of all claims and changes in RAfor all settled incurred claims (see JE7 & 8)

(2,100)

**(50)

At the end of March, Year 1--^^ The newly recognized RA for the claims incurred in February is set at the same amount of the reducedRA for the claimed incurred in January (i.e. HK$25) because they are expected to have the same riskpattern and remaining settlement period.** No RA is recognized for the claims incurred in March because all claims are settled at the end of March.JE7 – Changes in risk adjustment for non-financial risk related to past services at the endof February and MarchEnd ofJanuaryFebruaryMarchHK$HK$HK$DRLIC – RA(g)

-CRInsurance service expense(g)

-(g)

The amount represents the changes in RA in February and March, Year 1. The full remaining amount isreleased at the end of March, Year 1 because by that time all claims are settled.HK$60-HK$35= HK$25JE8 – Payment of actual claims and other expenses at the end of MarchHK$HK$DRLIC – BEL(h)

2,100CRCash(h)

2,100(h)

Entity B fully settles the actual incurred claims at the end of March, Year 1.Part 2 – Movements in insurance contract liabilitiesThe following table demonstrates how the accounting entries discussed in Part 1 above arereflected in the changes of Entity B’s insurance contract liabilities comprising the LRC and LIC inthe statement of financial position.Scenario 2.1: Insurance contract liabilities recognized in the statement of financial positionLRC (Note)

(Dr) / CrLIC(Dr) / CrTotalinsurancecontractliabilitiesPremiumJEIACFJETotal LRCBELJERAJETotal LIC(a)

(b)

(d)

(e)

(f) = (d) + (e)

(g) = (c) + (f)

HK$HK$HK$HK$HK$HK$HK$1 January, Year 1-------Premium received3,000-3,000---3,000IACF paid-

(120)

---

(120)

Amortization of IACF for the month--Recognition of expected premium receipts as insurancerevenue for the month(1,000)

-(1,000)

---(1,000)

Actual incurred claims and other expenses and related RA fornon-financial risk as insurance service expense---End of January, Year 12,000

(80)

1,9202,680Amortization of IACF for the month----Recognition of expected premium receipts as insurancerevenue for the month(1,000)

-(1,000)

---(1,000)

Changes in RA for actual claims incurred in January, Year 1----

(35)

Actual incurred claims and other expenses and related RA fornon-financial risk as insurance service expense---End of February, Year 11,000

(40)

1,4001,4502,410Amortization of IACF for the month----Recognition of expected premium receipts as insurancerevenue for the month(1,000)

-(1,000)

---(1,000)

Actual incurred claims and other expenses as insuranceservice expense----Payment of actual claims and other expenses and changes inRA for non-financial risk---(2,100)

(50)

(2,150)

End of March, Year 1-------NoteAs compared to GMM, no CSM is recognized under PAA.Part 3 – Statement of financial performanceThe following is an extract of Entity B’s statement of financial performance as a result of theaccounting entries made in Part 1.Scenario 2.1: Illustrative statement of financial performance (extract)

End ofJanuary,Year 1JEEnd ofFebruary,Year 1JEEnd ofMarch,Year 1JETotalHK$HK$HK$HK$Insurance revenue1,0001,0001,0003,000Insurance serviceexpenses# (Note 1)

(800)

(730)

(690)

(2,220)

Insurance service resultInvestment income @----Insurance finance income orexpenses----Net finance result----Profit or loss#Analysis of insurance service expenses:

HK$JEHK$JEHK$JEHK$ Amortization of IACF Actual incurred claimsand other expenses andrelated RA for non-financial risk5, 65, 65, 62,185 Changes in RA for non-financial risk-

(35)

(50)

(85)

2,220@ For the purpose of this scenario, these numbers are not included because they are accounted for applyinganother Standard.NoteIn this example, the total insurance service expenses for the group of insurance contracts represents:

HK$Actual incurred claims and other expenses (see JE5, HK$700 X 3)

2,100Amortization of IACF (see JE3. HK$40 X 3)

Total insurance service expense2,220Scenario 2.2: Change in expenses or claimsExcept for the following, Scenario 2.2 uses the same fact pattern and assumptions as those in thebase scenario.Changes in fact pattern and assumptionsFuture cash flowsExpected cash outflowsOn 1 February of Year 1 (i.e. beginning of the 2nd month), Entity B revises itsestimates of expected total pay-out of incurred claims from HK$2,100 toHK$2,500 (i.e. claims for February and March are expected to each increase byHK$200).Note: We assume no change in the corresponding risk adjustment for incurred claims as in thebase scenario.Part 1 – illustration of the journal entries with narrative explanation(a)

Initial recognitionAs there is no change in the assumptions regarding initial recognition, the same journal entriesJE1 to JE2 as in the base scenario (Scenario 2.1) are recorded.(b)

Subsequent measurementExcept for the following sets of entries (i.e. JE5* and JE8*) to reflect the change in expenses andclaims, all other journal entries are the same as in the base scenario. JE5* and JE8* are markedwith asterisk (*) to differentiate them from the base scenario.End of February and March, Year 1:

All other journal entries remain the same.JE5* – Recognition of actual incurred claims and other expenses [HKFRS 17.42(a)]HK$HK$DRInsurance service expenses(a)

CRLIC – BEL(a)

(a)

Entity B recognizes the revised actual incurred claims and other expenses as follows:

HK$Original estimated actual incurred claimsAdd: Revised estimatesRevised insurance service expense for the month (see JE5*)

JE8* – Payment of actual claims and other expensesHK$HK$DRLIC – BEL(b)

2,500CRCash(b)

2,500(b)

Entity B fully settles the actual incurred claims at the end of March, Year 1. The amount of actual incurredclaims paid is the same as the revised estimates.Part 2 – Movements in insurance contract liabilitiesThis table serves demonstrates how the accounting entries in Part 1 affect the changes of Entity B’s insurance contract liabilities.Scenario 2.2: Insurance contract liabilities recognized in the statement of financial positionLRC(Dr) / CrLIC(Dr) / CrTotalinsurancecontractliabilitiesPremiumJEIACFJETotal LRCBELJERAJETotal LIC(a)

(b)

(d)

(e)

(f) = (d) + (e)

HK$HK$HK$HK$HK$HK$HK$1 January, Year 1-------Premium received3,000-3,000---3,000IACF paid-

(120)

---

(120)

Amortization of IACF for the month--Recognition of expected premium receipts as insurancerevenue for the month(1,000)

-(1,000)

---(1,000)

Actual incurred claims and other expenses and related RA fornon-financial risk as insurance service expense---End of January, Year 12,000

(80)

1,9202,680Amortization of IACF for the month----Recognition of expected premium receipts as insurancerevenue for the month(1,000)

-(1,000)

---(1,000)

Changes in RA for actual claims incurred in January, Year 1----

(35)

Actual incurred claims and other expenses and related RA fornon-financial risk as insurance service expense---5*End of February, Year 11,000

(40)

1,6001,6502,610Amortization of IACF for the month----Recognition of expected premium receipts as insurancerevenue for the month(1,000)

-(1,000)

---(1,000)

Actual incurred claims and other expenses and related RA fornon-financial risk as insurance service expense---5*-Payment of actual claims and other expenses and changes inRA for non-financial risk---(2,500)

(50)

(2,550)

End of Year 1-------Part 3 – Statement of financial performanceThe following is an extract of Entity B’s statement of financial performance as a result of theaccounting entries made in Part 1.Scenario 2.2: Illustrative statement of financial performance (extract)

End ofJanuary,Year 1JEEnd ofFebruary,Year 1JEEnd ofMarch,Year 1JETotalHK$HK$HK$HK$Insurance revenue1,0001,0001,0003,000Insurance serviceexpenses #

(800)

(930)

(890)

(2,620)

Insurance service resultInvestment income @----Insurance finance incomeor expenses----Net finance result----Profit or loss#Analysis of insurance service expenses:

HK$JEHK$JEHK$JEHK$ Amortization of IACF Actual incurred claimsand other expenses andrelated RA for non-financial risk5, 65*, 65*2,585 Changes in RA for non-financial risk-

(35)

(50)

(85)

2,620@ For the purpose of this scenario, these numbers are not included because they are accounted for applyinganother Standard.Scenario 2.3 – Change in premiumExcept for the following, Scenario 2.3 uses the same fact pattern and assumptions as those in thebase scenario. Those changes discussed in Scenario 2.2 are not relevant here.Changes in fact pattern and assumptionsFuture cash flowsExpected cash inflowsOn 1 February of Year 1 (i.e. beginning of the 2nd month), Entity B receives anextra premium of HK$400 related to future services21Part 1 – illustration of the journal entries with narrative explanation(a)

Initial recognitionAs there is no change in the assumptions relating to initial recognition, the same two sets of thejournal entries (JE1 to JE2) as those in the base scenario (Scenario 2.1) are recorded.(b)

Subsequent measurementExcept for the following sets of entries (i.e. JE1* and JE4*) to reflect the extra premium received,all other journal entries are the same as in the base scenario.Beginning of February, Year 1:

The receipt of extra premium is JE1* with asterisk (*) added to differentiate the receipt of premium(JE1) recorded at the beginning of the coverage period.JE1* – Receipt of extra premium at the beginning of February, Year 1HK$HK$DRCash(a)

CRLRC – Premium(a)

(a)

Entity B recognizes the extra premium received.21 We assume that the receipt of additional premium in this example does not constitute modification to be accounted for as aderecognition applying HKFRS 17.72.Readers should note that the example is highly simplified, which is set up solely for illustrating the impact on the journalentries as a result of a change in premium applying HKFRS 17.B126 under the PAA. Accordingly, the fact pattern givenmay not be consistent with reality, e.g. we assume that the receipt of extra premium on 1 February, Year 1 is not expected at theend of January, Year 1 and hence the extra premium has not been included in the expected premium receipts at the end ofJanuary, Year 1. We also assume that there is no increase in expected claims and RA despite there is an increased coveragefrom receipt of extra premium.End of February and March, Year 1:

JE4* with asterisk (*) added to differentiate it from JE4 recorded in the base scenario.JE4* – Recognition of insurance revenue for February and March [HKFRS 17.55(b)(v),B126]HK$HK$DRLRC – Premium(b)

1,200CRInsurance revenue(b)

1,200(b)

Entity B recognizes the revised insurance revenue for the month, i.e. HK$1,000 (base scenario) +HK$400/2 (extra premium).Part 2 – Movements in insurance contract liabilitiesThe following table demonstrates how the accounting entries in Part 1 are reflected in the changesof Entity B’s insurance contract liabilities comprising the LRC and LIC.Scenario 2.3: Insurance contract liabilities recognized in the statement of financial positionLRC(Dr) / CrLIC(Dr) / CrTotalinsurancecontractliabilitiesPremiumJEIACFJETotal LRCBELJERAJETotal LIC(a)

(b)

(d)

(e)

(f) = (d) + (e)

(g) = (c) + (f)

HK$HK$HK$HK$HK$HK$HK$1 January, Year 1-------Premium received3,000-3,000---3,000IACF paid-

(120)

---

(120)

Amortization of IACF for the month--Recognition of expected premium receipts as insurancerevenue for the month(1,000)

-(1,000)

---(1,000)

Actual incurred claims and other expenses and related RA fornon-financial risk as insurance service expense---End of January, Year 12,000

(80)

1,9202,680Additional premium received1*----Recognition of expected premium receipts as insurancerevenue for the month(1,200)

4*-(1,200)

---(1,200)

Amortization of IACF for the month----Changes in RA for actual claims incurred in January, Year 1----

(35)

Actual incurred claims and other expenses and related RA fornon-financial risk as insurance service expense---End of February, Year 11,200

(40)

1,1601,4001,4502,610Amortization of IACF for the month----Recognition of expected premium receipts as insurancerevenue for the month(1,200)

4*-(1,200)

---(1,200)

Actual incurred claims and other expenses and related RA fornon-financial risk as insurance service expense----Payment of actual claims and other expenses and changes inRA for non-financial risk---(2,100)

(50)

(2,150)

End of Year 1-------Part 3 – Statement of financial performanceThe following is an extract of Entity B’s statement of financial performance as a result of theaccounting entries made in Part 1.Scenario 2.3: Illustrative statement of financial performance (extract)

End ofJanuary,Year 1JEEnd ofFebruary,Year 1JEEnd ofMarch,Year 1JETotalHK$HK$HK$HK$Insurance revenue [Note 1]1,0001,2004*1,2004*3,400Insurance service expenses #

(800)

(730)

(690)

(2,220)

Insurance service result1,180Investment income @----Insurance finance income orexpenses----Net finance result----Profit or loss1,180#Please refer to the ‘Illustrative statement of financial performance’ in the base scenario (Scenario 2.1) for theanalysis of insurance service expenses.@ For the purpose of this scenario, these numbers are not included because they are accounted for applyinganother HKFRS.NoteIn this example, the total insurance revenue for the contracts equals the total premium received including theextra premium received on 1 February, Year 1:

HK$Premium received at the beginning of the coverage period (see JE1)

3,000Extra premium received on 1 February, Year 1 (see JE1*)

Total insurance revenue3,400

3.Comparison between GMM and PAAThe following table provides a high-level comparison of GMM and PAA, focusing on the recognition and measurement of insurance contract liabilitiesbetween the two models based on the scenarios discussed in Sections 1 and 2 above. The comparison also recaps the main basic requirements of thetwo models in terms of accounting entries. Time value of money and the effect of financial risks are ignored.GMMPAANature ofinsurancecontractsMandatorily applies to all insurance contracts except for thefollowing contracts:

Contracts eligible for and the entity elects to apply PAAContracts with direct participation features for which VFA shallbe appliedEligible for specified types of contracts (optional)

Each contract in the group has a coverage period of one yearor less, orThe entity reasonably expects that PAA would produce ameasurement of LRC that does not differ materially from theone applying GMMLRC – initialrecognitionSeparately identify and recognize the four building blocks:

(1)expected future cash flows, (2) time value of money andother financial risks, (3) RA, (4) CSM. (1) & (2) constitute BEL.No need to separately identify the four building blocks butdetermine a total amount of the LRC (i.e. premium lessacquisition cost) on initial recognition. See the journal entriesbelow.No CSM.Typical journal entries are set out below:

Dr. LRC – BEL #Cr. LRC – RA #Cr. LRC – CSM *# FCF = BEL + RA* CSM, being the unearned profit and can never be negative, is determinedon initial recognition of the group of insurance contractsRecognition of premium receivedDr. CashCr. LRC – BELDr. CashCr. LRC – Premium<Increase LRC when the premium is received, not when due orexpected>GMMPAAAccounting for IACFDr. IACF assetCr. Cash<When IACF is paid prior to the initial recognition of the group of insurancecontracts. However, when the IACF asset is incurred but not yet paid, then aliability applying another HKFRS (e.g. HKFRS 9) is recognized.>Dr. LRC – BELCr. LRC – RACr. IACF asset *Cr. LRC – CSM* Allocate IACF asset to the group of insurance contracts by Dr. LRC –CSM, Cr. IACF asset.IACF paid is not allowed to be expensed off in P&L on initialrecognition of the group of insurance contracts.See also Part 4 of Scenario 1.4 for information of alternativepossible JEs to account for IACF which include the use of twoaccounts ‘LRC – CSM – IACF’ and ‘LRC – CSM – Recovery ofIACF’ to control the amortization of IACF to insurance serviceexpense and related recognition of insurance revenue.When IACF is paid at the beginning of the coverage period(Expected cash outflows already included in BEL):

Dr. LRC – BEL – IACFCr. CashDr. IACF assetCr. Cash<When IACF is paid prior to the initial recognition of the group ofinsurance contracts. However, when the IACF asset is incurred but notyet paid, then a liability applying another HKFRS (e.g. HKFRS 9) isrecognized.>When IACF is paid at the beginning of the coverage periodDr. LRC – IACFCr. CashCr. IACF asset *<Reduce LRC If the insurer chooses not to expense off the IACF whenpaid. When IACF is incurred but not yet paid, then a liability applyinganother HKFRS (e.g. HKFRS 9) is recognized.>* Allocate IACF asset to the group of insurance contracts by Dr. LRC, Cr.IACF asset.Dr. Insurance service expenseCr. Cash<Debit expense in P&L if the insurer chooses to expense off the IACFwhen paid. When IACF is incurred but not yet paid, then a liabilityapplying another HKFRS (e.g. HKFRS 9) is recognized.>LRC –subsequentmeasurementInsurance revenue recognitionRelease of components in LRC to insurance revenue as servicesare provided during the period:

Dr. LRC – RACr. Insurance revenue<Release of risk adjustment for risk expired>Release of expected premium as services provided during theperiod:

Dr. LRC – PremiumCr. Insurance revenue ^GMMPAADr. LRC – BELCr. Insurance revenue<Release of expected claims>Dr. LRC – CSM *Cr. Insurance revenue<Release of CSM>* CSM is recognized as insurance revenue over the coverage period basedon coverage units reflecting the expected quantity of benefits and theexpected coverage period of each contract in the group. The amount willchange if there are subsequent changes related to the provision of futureservices.^ Insurance contract revenue is the amount of expected premiumreceipts allocated to the period (excluding investment components andadjusted to reflect the time value of money and the effect of financial risk,if applicable). The allocation to each period of insurance contractservices is based on the passage of time; unless the expected pattern ofrelease of risk during the coverage period differs significantly from thepassage of time, in which case, it is recognized based on the expectedtiming of incurred claims and benefits.Amortization of IACF based on allocation of a portion ofpremium that relates to the recovery of IACFAmortization of IACF over the coverage period if the insurerchooses not to expense off the IACF paidDr. Insurance service expenseCr. Insurance revenue<Gross up accounting of ISE and insurance revenue>See also Part 4 of Scenario 1.4 for information of alternativepossible JEs to account for IACF under HKFRS 17.B125 whichinclude the use of two accounts ‘LRC – CSM – IACF’ and ‘LRC –CSM – Recovery of IACF’ to control the amortization of IACF toinsurance service expense and related recognition of insurancerevenue.Dr. Insurance service expense @Cr. LRC – IACF<Amortization of IACF paid>@ It is often considered appropriate to recognize the amortization ofIACF by applying the same pattern as that is used for recognizinginsurance revenue under HKFRS 17.B126.LIC –recognitionRecording the actual incurred claims and related risk adjustment during the periodDr. Insurance service expenseCr. LIC – BELDr. Insurance service expenseCr. LIC – RADr. Insurance service expenseCr. LIC – BELDr. Insurance service expenseCr. LIC – RAGMMPAALIC –settlementRecording the payment of actual incurred claims and release of related risk adjustmentDr. LIC – BELCr. CashDr. LIC – RACr. Insurance service expenseDr. LIC – BELCr. CashDr. LIC – RACr. Insurance service expenseThe measurement of LIC is the same under the two models. Readers should bear in mind that IFIE and discount rate which are not discussed hereshould also be considered in the subsequent measurement of LRC and LIC.

4.Variable Fee Approach (VFA)

An insurer shall apply the Variable Fee Approach (VFA) to account for insurance contracts withdirect participation features. Insurance contracts with direct participation features are insurancecontracts that are substantially investment-related service contracts under which an entitypromises an investment return based on underlying items. Accordingly, HKFRS 17 definesinsurance contract with direct participation features as ‘An insurance contract for which, atinception:

(a)

the contractual terms specify that the policyholder participates in a share of a clearlyidentified pool of underlying items;

(b) the entity expects to pay to the policyholder an amount equal to a substantial share of thefair value returns on the underlying items; and(c)

the entity expects a substantial proportion of any change in the amounts to be paid to thepolicyholder to vary with the change in fair value of the underlying items’.[HKFRS 17.45, B101, Appendix A]In other words, insurance contracts that meet all the above three eligibility criteria (see ☼) aremandatorily accounted for using VFA. Reinsurance contracts issued or held cannot be insurancecontracts with direct participation features for the purposes of HKFRS 17 [HKFRS 17.B109].Notes for further insights☼The following areas are relevant in the assessment of whether the three criteria are met. Such assessmentis only performed at inception at the individual contract level, using entity’s expectation at inception of thecontract and not reassessed subsequently unless the contract is modified applying HKFRS 17.72 [HKFRS

17.B102].(i)

Criterion (a) [HKFRS 17.B105-B106]-The effect of law and regulation should be considered. This is because HKFRS 17.2 states that anentity shall consider its substantive rights and obligations, whether they arise from a contract, law orregulations, when applying HKFRS 17. A contract is an agreement between two or more parties thatcreates enforceable rights and obligations and such enforceability is a matter of law. Contractualterms include all terms in a contract, explicit or implied but an entity shall disregard terms that haveno commercial substance.-Underlying items may be a portfolio of assets, net assets of the entity or a subset of assets of theentity.-It is not necessary for an entity to hold the underlying items nor to be held by the entity, providedthat the items are clearly defined in the contracts and how returns are shared between the entityand the policyholder.-This criterion is not met if the entity can change the underlying items with retrospective effect or nounderlying items are identified.(ii) Criteria (b) and (c) [HKFRS 17.B107-B108]-The assessment should be based on the present value of probability-weighted average of expectedscenarios i.e. quantitative assessment with consideration given to the full range of possibleoutcomes is required [HKFRS 17.B37-B41].-The insurance contracts may still satisfy these criteria and qualified for using VFA if the underlyingitems are not measured on a fair value basis (e.g. amortized cost basis) in an entity’s financialstatements. The assessment depends on the expectation of payments of a substantial share of thefair value returns to the policyholder rather than the accounting measurement of the underlyingitems22.- HKFRS 17 does not provide any specific quantitative threshold for the term ‘substantial’ in criteria(b) and (c). However, ‘substantial’ is considered in the context of the objective of insurance contractswith direct participation features being contracts under which the entity provides investment-relatedservices and is compensated for the services for a fee that is determined by reference to theunderlying items [HKFRS 17.B107(a)]. Judgement is required in the determination of ‘substantial’based on the guidance given in HKFRS 17.B107(b)(i)&(ii).(iii) All insurance contracts should be separately analyzed based on the three criteria to identify whetherany of them needs to be accounted for using VFA [HKFRS 17.BC249D].(iv) The following contracts are generally expected to require VFA accounting:

-unit-linked contracts, US variable annuities and certain equity index-linked contracts-continental European 90/10 contracts-UK with-profits contractsThe accounting for insurance contracts with direct participation features under VFA differs fromother participating and non-participating contracts for which GMM should instead be applied (see☼). The VFA modifies the measurement of CSM under the GMM to accommodate the directparticipation features of VFA contracts so that the accounting reflects the issuer’s obligation to paythe policyholder an amount equal to the fair value of the underlying items, minus a variable fee forservices provided by the insurance contract over time [HKFRS 17.B104(a)&(b), BC238-BC249].This is further illustrated in the journal entries to be discussed later in this section.Notes for further insights☼Investment contracts with discretionary participating features (DPFs) are investment contracts which do nottransfer significant insurance risk and hence they are not insurance contracts. However, they are within thescope of HKFRS 17 if the entity also issues insurance contracts [HKFRS 17.71, BC86, Appendix A].The definitions of insurance contracts with direct participation features and investment contracts with DPFshave similarities in that both types of contracts participate in a pool of underlying items. When the investmentcontracts with DPFs are assessed as being within the scope of HKFRS 17, these contracts are measuredapplying VFA if all three criteria under HKFRS 17.B101 are met. Accordingly, entities should assess thecontractual features including those for the investment contracts with DPFs to determine the appropriateaccounting model.22 In February 2018 TRG meeting, the TRG members agreed with IASB staff’s view that entities’ expectation of returns would beassessed over the duration of the contracts and therefore returns measured based on amortized cost might equal returnsmeasured based on the fair value of the underlying items over that duration. Accordingly, the VFA criteria could still be met whenthe return is measured at amortized cost of the underlying items. See TRG meeting February 2018, Agenda paper no.7, Log#S26.On initial recognition, the accounting for insurance contracts with direct participation features is thesame as in GMM for contracts without direct participation features. The differences between GMMand VFA arise from the treatment of CSM which is mostly driven by movements in the fair value ofunderlying items (see note 2 to Diagram 9) subsequently.Notes:

These adjustment items may lead to increase or decrease in CSM in practice. In this diagram, wehypothetically assume that item (b) and (d) increase CSM whereas item (c) decreases CSM.The adjustment should be made, except to the extent that(i)

HKFRS 17.B115 (on risk mitigation) applies;

(ii)

the decrease in the amount of the entity’s share of the fair value of the underlying items exceeds thecarrying amount of CSM, giving rise to a loss (see HKFRS 17.48); or(iii)

the increase in the amount of the entity’s share of the fair value of the underlying items reverses theamount in (ii).The adjustment should be made, except to the extent that(i)

HKFRS 17.B115 (on risk mitigation) applies;

(ii)

such increases in FCF exceed the carrying amount of CSM, giving rise to a loss (see HKFRS 17.48);

or(iii)

such decreases in FCF are allocated to the loss component of LRC applying HKFRS 17.50(b).The amount of insurance revenue is determined by the allocation of CSM remaining at the end of thereporting period (before any allocation) over the current and remaining coverage period, applying HKFRS

17.B119.The following scenarios illustrates the journal entries of groups of insurance contracts with directparticipation features and hence accounted for under VFA:

Scenario 4.1: Base scenarioScenario 4.2: Change in market interest rateScenario 4.1: Base scenario – accounting on initial recognition and subsequent periodsEntity C issues a group of insurance contracts with the following simplified fact pattern andassumptions. The contracts issued are assessed to have met the criteria for insurance contractswith direct participation features applying HKFRS 17.B101.Fact pattern and assumptionsReporting environmentHKFRSInsurance coveragePolicyholders will receive either:

HK$1,600, or the account balance if it is higher, if the insured person diesduring the coverage period; orThe value of the account balance at the end of the coverage period if theinsured person survives until the end of the coverage period (see ‘Expectedcash outflows’ below for the determination of the account balance)

For simplicity, no insured person actually dies during the coverage period, which isthe same as the insurer’s expectation during the period.It is assumed that the account balance represents the NDIC which is repayable topolicyholders in all circumstances. The policyholders have the option to surrender,with the surrender value equals the account balance less the surrender charge. Thesurrender change in this example is assumed to be nil for simplicity.Coverage periodSix yearsStarts when the insurance contracts are issuedNo lapse of contracts during the periodExpected cash flows

1.Expected cash inflowsPremium of HK$1,000 received at inception of the insurance contracts

2.Expected cash outflowsThe contract promises the policyholder a return equivalent to an investmentin a debt instrument (see ‘Underlying items’ below for details of theinvestments)

The amount payable to policyholders on maturity is determined by the fairvalue of equivalent investments (see ‘Underlying items’ below for details ofthe investments) at the end of the sixth year after deducting 5% of those fairvalues as a service fee for the entityFact pattern and assumptionsUnderlying itemsEntity C invests premium received in bond investments on which the promise tothe policyholder is based. That means, the underlying items are held by Entity Cas assets. The fair value of the bond investments at inception is HK$1,000Debt instrument is accounted for by applying HKFRS 9 at fair value throughprofit or loss and the related fair value change is recognized in P&LDispose of the bond investments at end of the sixth yearBondsMarket interest rate23 = 8% at inceptionDuration = 6 years, i.e. having the same duration with that of Entity C’sinsurance contracts with direct participation features in this base scenarioAt maturity at the end of Year 6:

Proceed of the bonds at the end of Year 6= HK$1,000 X 1.086= HK$1,586.87Payment to policyholders= HK$1,586.87 X 95%= HK$1,507.53Amount retained by Entity C= HK$1,586.87 X 5%= HK$79.34Risk adjustment fornon-financial risk,IACF and otherexpensesIgnored for simplicity24Service provisionInsurance coverage and investment-related services are evenly provided throughoutthe coverage period25.Market interest rate8% throughout the coverage period23 The debt instrument is similar to a zero coupon bond with an effective interest rate of 8% which is the same as the marketinterest rate at the date of inception of the insurance contracts. The coupon and principal of the Bonds are paid at the end of thesixth year.24 These elements are ignored in the illustration of this highly simplified VFA example. Readers should be aware of the existenceof these elements in accounting for VFA contracts and account for them appropriately based on the relevant requirements ofHKFRS 17.25 In this simplified example, we assume that the services are provided evenly throughout the coverage period. Readers shouldnote that the release of CSM to insurance revenue should be based on coverage units determined under relevant requirementsof HKFRS 17. Refer to note (f) and ‘Notes for further insights’ under Scenario 1.1 – JE5 for more discussions.Part 1 – illustration of the journal entries with narrative explanation(a)

Initial recognitionJE1 – Recognition of the group of insurance contracts and the premium received [HKFRS

17.32 & 38]26HK$HK$DRCash1,000CRLRC – BEL(a)

CRLRC – CSM(a), (b)

(a)

The amount of LRC – BEL and LRC – CSM on initial recognition is determined as follows:

Account itemHK$Inflow of premium received at inception which are used to invest inbondsCash1,000Less: Outflows of the amount to be paid to policyholder discounted atpresent valueHK$1,507.53 / (1 + 8%)6LRC – BELNet unearned profit at present value, i.e. HK$79.34 / (1 + 8%)6LRC – CSM(b)

Same as GMM, on initial recognition, Entity C measures CSM of a group of insurance contracts at an amountthat results in no income or expenses.There is no risk adjustment in this scenario.JE2 – Purchase of bondsHK$HK$DRInvestment in bonds(c)

1,000CRCash(c)

1,000(c)

Entity C accounts for the purchase of bonds using the premium received from the policyholder.(b)

Subsequent measurement – End of each reporting period from Year 1 to Year 6JE3 – Recognition of change in fair value in the bond investments under HKFRS 9Year 1Year 2Year 3Year 4Year 5Year 6HK$HK$HK$HK$HK$HK$DRBond investments(d)

CRFair value gains(d)

(d)

Entity C accounts for the fair value change in the bond investments (represented by accrual of bond ininterest). See the table below for the interest income calculation.26 The initial recognition of VFA contracts is the same as GMM. As shown in JE1 and JE2 of Scenario 1.1, the initial recognitionof the VFA contract and premium received for this example can be split into two JEs as follows, i.e. DR. LRC – BEL HK$50, CRCSM HK$50; DR. Cash HK$1,000, CR. LRC – BEL HK$1,000.End ofInceptionYear 1Year 2Year 3Year 4Year 5Year 6HK$HK$HK$HK$HK$HK$Discount rate8%8%8%8%8%8%8%Fair value of the bondsat end of reporting periodHK$1,0001,0801,1661,2591,3601,4691,587Change in fair value ofunderlying items (JE3)

JE4 – Recognition of changes in FCF (LRC – BEL) [HKFRS 17.B104(a), B111]Year 1Year 2Year 3Year 4Year 5Year 6HK$HK$HK$HK$HK$HK$DRIFIE(e)

CRLRC – BEL(e)

(e)

Entity C applies HKFRS 17.B104(a) to adjust the change in FCF (LRC – BEL, no RA in this example) inorder to reflect the change in the obligation to pay an amount equal to the fair value of underlying items (i.e.bond investments in this scenario). Refer to (A) of Diagram 8. (See ☼ also). HKFRS 17.B111 states thatchanges in the obligation to pay the policyholder an amount equal to the fair value of the underlying items(HKFRS 17.B104(a)) do not relate to future service and do not adjust CSM.Notes for further insights☼The numbers in JE3 and JE4 are the same, but they are opposites. JE3 recognizes increase in fair value ofbond investments (assets) with corresponding credit to fair value gains whereas JE4 recognizes the sameamount as expenses and increases LRC – BEL (liability). Accordingly, there is no change in net profit andnet assets after putting through JE3 and JE4. It is considered that the benefit of VFA is to eliminateaccounting mismatch and reflects the substance of a direct participation feature.JE5 – Recognition of variable fee for future services adjusting CSM [HKFRS 17.45(b)&(c),B104(b), B112-B113]Year 1Year 2Year 3Year 4Year 5Year 6HK$HK$HK$HK$HK$HK$DRLRC – BEL(f)

4.0

4.3

4.7

5.0

5.4

5.9CRLRC – CSM(g)

4.0

4.3

4.7

5.0

5.4

5.9(f)

Applying HKFRS 17.45(b) & (c) and B104(b), Entity C deducts a variable fee from LRC – BEL in exchangefor future services to be provided under the insurance contracts and adjusts CSM. Refer to (B) of Diagram

8.In this example, the variable fee is calculated as 5% of the numbers in the table of JE4.(g)

See JE6 for the table of the movements of CSM over the coverage period.JE6 – Recognition of insurance revenue [HKFRS 17.45(e), B119]Year 1Year 2Year 3Year 4Year 5Year 6HK$HK$HK$HK$HK$HK$DRLRC – CSM(h)

9.0

9.9

11.0

12.7

15.4

21.3CRInsurance revenue(h)

9.0

9.9

11.0

12.7

15.4

21.3(h)

An entity applies HKFRS 17.45(e) and B119 to recognize insurance revenue which is determined byallocating CSM at the end of reporting period to reflect the insurance contract services provided in theperiod27.The table below shows the movements of CSM over the coverage period. For insurance contracts with directparticipation features, CSM is adjusted to reflect the variable nature of the fee. Hence, changes in theamounts set out in HKFRS 17.B104 are treated as set out in HKFRS 17.B111-B114 [HKFRS 17.B110].Refer to (B) of Diagram 8 and Diagram 9 for the adjustments that give rise to changes in CSM during theperiod. An entity is not required to identify adjustments to CSM required by HKFRS 17.B112 and B113separately. Instead, a combined amount may be determined for some or all of the adjustments [HKFRS

17.45, B114].End ofInception(JE1)

Year 1Year 2Year 3Year 4Year 5Year 6HK$HK$HK$HK$HK$HK$HK$Opening balance (A)

50.0

45.0

39.4

33.1

25.4

15.4Variable fee for service(B) (JE5)

4.0

4.3

4.7

5.0

5.4

5.9CSM release toinsurance revenue^^(JE6)

(9.0)

(9.9)

(11.0)

(12.7)

(15.4)

(21.3)

Closing balance

50.0

45.0

39.4

33.1

25.4

15.4-^^ See the calculation in the following table.Under both GMM and VFA, the release of CSM is reflected in insurance revenue based on coverage units.In this example, we assume that the insurance contract services are provided evenly over the coverageperiod and there is no discounting applied to coverage units for simplicity. The following table shows thecalculation of release of CSM to insurance revenue from Year 1 to Year 6:

For the yearTotal for 6yearsYear 1Year 2Year 3Year 4Year 5Year 6HK$HK$HK$HK$HK$HK$HK$(A) + (B) = (C) **

54.0

49.3

44.1

38.1

30.8

21.3Number of years forrecognizing insurancerevenue (D)

CSM release toinsurance revenue forthe period(C) ÷ (D)

79.3#

9.0

9.9

11.0

12.7

15.4

21.3** (A) and (B) refer to the numbers in the immediate preceding table.# Check point: The present value of HK$79.3 on day 1 = HK$79.3 / 1.086 = HK$50 (same as the amountrecognized on inception given there is no change in interest rate).27 In this simplified example, if there is an expectation of deaths and actual deaths occur, then there would be journal entries toaccount for the release of the amount relating to expected death benefits for the period to insurance revenue, i.e. DR. LRC –BEL, CR. Insurance revenue (for the amount of expected claims excluding NDIC); and to recognize the incurrence of deathbenefits, i.e. DR. Insurance service expense, CR. LIC – BEL (for the actual incurred claims excluding NDIC).(c)

Subsequent measurement – End of Year 6JE7 – Disposal of bond investments and repayment to the policyholders in Year 6HK$HK$DRCash(i)

1,587CRBond investments(i)

1,587DRLRC – BEL(j)

1,508CRLIC – BEL(k)

1,508DRLIC – BEL(k)

1,508CRCash(k)

1,508(i)

See the table in JE3(d) for the fair value of the bond investment at the end of Year 6.(j)

The amount is calculated as HK$950 (JE1(a)) X 1.086 = HK$1,508, as it is assumed that the accountbalance represents the NDIC which is repayable to the policyholders in all circumstances.(k)

The amount of cash for repayment to the policyholders= fair value of the investment minus 5% of those fair value= HK$1,587 X (1-5%)

= HK$1,508Part 2 – Movements in insurance contract liabilities and related investmentsThis table demonstrates how the accounting entries in Part 1 affect the changes of Entity C’sinsurance contract liabilities and the carrying amount of the related bond investments (assets).Scenario 4.1: Insurance contract liabilities and bond investmentsLRC – liability side(Dr) / CrLIC – liabilityside(Dr) / CrBondinvestments –asset sideDr / (Cr)

BELJECSMJETotal LRCJEJE(a)

(b)

(d)

HK$HK$HK$HK$HK$Beginning of Year 1----New contracts recognized and premiumreceived1,000-1,000Fair value adjustment----Changes in FCF to reflect change inEntity C’s obligation due to change infair value of underlying items---Recognition of variable fee for futureservices(4.0)

4.0---Release of CSM to insurance revenuewhen services provided-(9.0)

(9.0)

--End of Year 11,026

45.01,071-1,080Fair value adjustment----Changes in FCF to reflect change inEntity C’s obligation due to change infair value of underlying items---Recognition of variable fee for futureservices(4.3)

4.3---Release of CSM to insurance revenuewhen services provided-(9.9)

(9.9)

--End of Year 21,107.7

39.41,147.1-1,166Fair value adjustment----Changes in FCF to reflect change inEntity C’s obligation due to change infair value of underlying items---Recognition of variable fee for futureservices(4.7)

4.7---Release of CSM to insurance revenuewhen services provided-(11.0)

(11.0)

---End of Year 31,196

33.11,229.1-1,259Fair value adjustment----Changes in FCF to reflect change inEntity C’s obligation due to change infair value of underlying items---Recognition of variable fee for futureservices(5.0)

5.0---Release of CSM to insurance revenuewhen services provided-(12.7)

(12.7)

--End of Year 41,292

25.41,317.4-1,360Fair value adjustment----Changes in FCF to reflect change inEntity C’s obligation due to change infair value of underlying items---Recognition of variable fee for futureservices(5.4)

5.4---Scenario 4.1: Insurance contract liabilities and bond investmentsLRC – liability side(Dr) / CrLIC – liabilityside(Dr) / CrBondinvestments –asset sideDr / (Cr)

BELJECSMJETotal LRCJEJE(a)

(b)

(d)

HK$HK$HK$HK$HK$Release of CSM to insurance revenuewhen services provided-(15.4)

(15.4)

--End of Year 51,395.6

15.41,411-1,469Fair value adjustment----Changes in FCF to reflect change inEntity C’s obligation due to change infair value of underlying items---Recognition of variable fee for futureservices(5.9)

5.9---Release of CSM to insurance revenuewhen services provided-(21.3)

(21.3)

--Recognition of LIC for NDIC(1,507.7)

-(1,507.7)

1,507.7-Disposal of bond investments andrepayment to policyholders---(1,507.7)

(1,587)

End of Year 6-----Part 3 – Statement of financial performanceThe following is an extract of Entity C’s statement of financial performance as a result of the accounting entries made in Part 1.Scenario 4.1: Illustrative statement of financial performance (extract)

Year 1JEYear 2JEYear 3JEYear 4JEYear 5JEYear 6JETotalHK$HK$HK$HK$HK$HK$HK$Insurance revenue

9.0

9.9

11.0

12.7

15.4

21.3

79.3Insurance service expenses-------Insurance service result

9.0

9.9

11.0

12.7

15.4

21.3

79.3Investment gains and losses [Note 1]Insurance finance income or expenses[Note 2]

(80)

(86)

(93)

(101)

(109)

(118)

(587)

Net finance result-------Profit or loss

9.0

9.9

11.0

12.7

15.4

21.3

79.3NotesInvestment gains and losses relating to the assets (i.e. bond investments) held by Entity C is accounted for applying a different HKFRS (i.e. HKFRS 9).Applying HKFRS 17.B111, changes in the obligation to pay the policyholder an amount equal to the fair value of underlying items do not relate to future service and do notadjust CSM. Applying HKFRS 17.87, Entity C recognizes those changes as IFIE.Scenario 4.2: Change in market interest rateExcept for the following, Scenario 4.2 uses the same fact pattern and assumptions as those in thebase scenario.Fact pattern and assumptionsBondsMarket interest rate at inception = 7%Market interest rate at the end of Year 2 = 5%At maturity at the end of Year 6:

Proceeds of the bonds at the end of Year 628= HK$1,000 X 1.076= HK$1,500.73Payment to policyholders= HK$1,500.73 X 95%= HK$1,425.69Amount retained by Entity C= HK$1,500.73 X 5%= HK$75.04Part 1 – illustration of the journal entries with narrative explanation(a)

Initial recognitionThe same set of the journal entries is posted as in JE1 of the base scenario, i.e. same amount ofpremium (HK$1,000) is received and Entity C retains 5% of fair value of bond investments asunearned service fee.JE1 – Recognition of the group of insurance contracts and the premium received [HKFRS

17.32 and 38]29HK$HK$DRCash1,000CRLRC – BEL(a)

CRLRC – CSM(a)

(a)

Although the same amount of LRC – BEL and LRC – CSM is determined as in the base scenario on initialrecognition, they are calculated differently as follows:

Account itemHK$Inflow of premium received at inception which are directly used to investin bondsCash1,000Less: Outflows of the amount to be paid to policyholder discounted atpresent valueHK$1,425.69 / (1 + 7%)6LRC – BELNet unearned profit at present value, i.e. HK$75.04 / (1 + 7%)6LRC – CSM28 The debt instrument is similar to a zero coupon bond with an effective interest rate of 7% which is the same as the marketinterest rate at the date of inception of the insurance contracts. The coupon and principal of the Bonds are paid at the end of thesixth year.29 As mentioned in Scenario 4.1 for VFA contracts, the initial recognition of the VFA contract and premium received for thisexample can be split into two JEs as follows, i.e. DR. LRC – BEL HK$50, CR. CSM HK$50; DR. Cash HK$1,000, CR. LRC –BEL HK$1,000.JE2 – Purchase of bondsHK$HK$DRInvestment in bonds(b)

1,000CRCash(b)

1,000(b)

The same set of the journal entries as in the base scenario is recorded.(b)

CRFair value gains(c)

(c)

Entity C records the increase in fair value in the bond investments. See the table below for the calculationof the change in fair value of the bond investments reflecting the decrease in the market interest rate from7% to 5% at the end of Year 2.End ofInceptionYear 1Year 2Year 3Year 4Year 5Year 6HK$HK$HK$HK$HK$HK$Discount rate7%7%5%5%5%5%5%Fair value of the bonds atend of reporting period(see the table below)

HK$1,0001,0701,2351,2971,3621,4301,501Change in fair value ofunderlying items (JE3)

End ofInceptionYear 1Year 2Year 3Year 4Year 5Year 6HK$HK$HK$HK$HK$HK$Calculation formulaN/A1,000X 1.071,297÷ 1.051,362÷ 1.051,430÷ 1.051,501÷ 1.051,000X 1.076Fair value of the bonds atthe end of reportingperiod1,0701,2351,2971,3621,4301,501##The maturity value of the bond investments (i.e. HK$1,501) and related payment to the policyholders(i.e. HK$1,426) at the end of the insurance contracts remain unchanged as a fixed coupon is paid atthe end of the sixth year.JE4 – Recognition of changes in FCF (LRC – BEL) [HKFRS 17.B104(a), B111]Year 1Year 2Year 3Year 4Year 5Year 6HK$HK$HK$HK$HK$HK$DRIFIE(d)

CRLRC – BEL(d)

(d)

As in the base scenario, Entity C adjusts the change in FCF (i.e. LRC – BEL, no RA in this example) toreflect the change in its obligation to pay an amount equal to the fair value of the underlying items and hencethe numbers in the entries are the same as those in JE3 but in opposite directions (i.e. Fair value gainsversus IFIE; Bond investments versus LRC – BEL) resulting in no net profit nor net asset effect to Entity C.JE5 – Recognition of variable fee for future services adjusting CSM [HKFRS 17.45(b)&(c),B104(b), B112-B113]Year 1Year 2Year 3Year 4Year 5Year 6HK$HK$HK$HK$HK$HK$DRLRC – BEL(e)

3.5

8.2

3.1

3.2

3.4

3.6CRLRC – CSM(f)

3.5

8.2

3.1

3.2

3.4

3.6(e)

Entity C deducts a variable fee from LRC – BEL in exchange for future services as set out in insurancecontracts thereby adjusting CSM. In this example, the variable fee is calculated as 5% of the numbers inthe table of JE4.(f)

See JE6 for the table of movements of CSM over the coverage period.JE6 – Recognition of insurance revenue [HKFRS 17.45(e), B119]Year 1Year 2Year 3Year 4Year 5Year 6HK$HK$HK$HK$HK$HK$DRLRC – CSM(g)

8.9

10.6

11.3

12.4

14.1

17.7CRInsurance revenue(g)

8.9

10.6

11.3

12.4

14.1

17.7(g)

As with the base scenario, CSM is released to insurance revenue when insurance contract services areprovided evenly over the coverage period applying HKFRS 17.45(e) and B11930.The table below shows the movements of CSM over the coverage period, which arise from change invariable fee for future services.End ofInception(JE1)

Year 1Year 2Year 3Year 4Year 5Year 6HK$HK$HK$HK$HK$HK$HK$Opening balance (A)

50.0

44.6

42.2

34.0

24.8

14.1Variable fee for service(B) (JE5)

3.5

8.2

3.1

3.2

3.4

3.630 In this simplified example, if there is an expectation of deaths and actual deaths occur, then there would be journal entries toaccount for the release of the amount relating to expected death benefits for the period to insurance revenue, i.e. DR. LRC –BEL, CR. Insurance revenue (for the amount of expected claims excluding NDIC); and to recognize the incurrence of deathbenefits, i.e. DR. Insurance service expense, CR. LIC – BEL (for the actual incurred claims excluding NDIC).CSM release toinsurance revenue^^(JE6)

-(8.9)

(10.6)

(11.3)

(12.4)

(14.1)

(17.7)

Closing balance

50.0

44.6

42.2

34.0

24.8

14.1-^^ See the calculation in the following table.Under both GMM and VFA, the release of CSM is reflected in insurance revenue based on coverage units.In this example, we assume the insurance contract services are provided evenly over the coverage periodand there is no discounting applied to coverage units for simplicity. The following table shows the calculationof release of CSM to insurance revenue from Year 1 to Year 6:

For the yearTotal for 6yearsYear 1Year 2Year 3Year 4Year 5Year 6HK$HK$HK$HK$HK$HK$HK$(A) + (B) = (C) **

53.5

52.8

45.3

37.2

28.2

17.7Number of years forrecognizing insurancerevenue (D)

CSM release toinsurance revenue forthe period(C) ÷ (D)

75.0#

8.9

10.6

11.3

12.4

14.1

17.7** (A) and (B) refer to the numbers in the immediate preceding table.# Check point: Present value of HK$75.0 on day 1 = HK$75.0 / 1.076 = HK$50 (same as the amountrecognized on inception).(c)

Subsequent measurement – End of Year 6JE7 – Disposal of bond investments and repayment to the policyholders in Year 6HK$HK$DRCash(h)

1,501CRBond investments(h)

1,501DRLRC – BEL(i)

1,426CRLIC – BEL(j)

1,426DRLIC – BEL(j)

1,426CRCash(j)

1,426(h)

See the table in JE3 for the fair value of the bond investments at the end of Year 6.(i)

The amount is calculated as HK$950 (JE1(a)) X 1.076 = HK$1,426, as it is assumed that the accountbalance represents the NDIC which is repayable to the policyholders in all circumstances.(j)

The amount of cash for repayment to the policyholders= fair value of the investment minus 5% of those fair value= HK$1,501 X (1-5%)

= HK$1,426Part 2 – Movements in insurance contract liability and related investmentsThis table demonstrates how the accounting entries in Part 1 affect the changes of Entity C’sinsurance contract liabilities and the carrying amount of the related bond investments (assets).Scenario 4.2: Change in market interest rateLRC – liability side(Dr) / CrLIC – liabilityside(Dr) / CrBond investments– asset sideDr / (Cr)

BELJECSMJETotal LRCJEJE(a)

(b)

+ (b)

(d)

HK$HK$HK$HK$HK$Beginning of Year 1-----New contracts recognized andpremium received1,000-1,000Fair value adjustment----Changes in FCF to reflect change inEntity C’s obligation due to change infair value of underlying items---Recognition of variable fee for futureservices(3.5)

3.5---Release of CSM to insurancerevenue when services provided-(8.9)

(8.9)

--End of Year 11,016.5

44.61,061.1-1,070Fair value adjustment----Changes in FCF to reflect change inEntity C’s obligation due to change infair value of underlying items---Recognition of variable fee for futureservices(8.2)

8.2---Release of CSM to insurancerevenue when services provided-(10.6)

(10.6)

--End of Year 21,173.3

42.21,215.5-1,235Fair value adjustment----Changes in FCF to reflect change inEntity C’s obligation due to change infair value of underlying items---Recognition of variable fee for futureservices(3.1)

3.1---Release of CSM to insurancerevenue when services provided-(11.3)

(11.3)

--End of Year 31,232.2

34.01,266.2-1,297Fair value adjustment----Changes in FCF to reflect change inEntity C’s obligation due to change infair value of underlying items---Recognition of variable fee for futureservices(3.2)

3.2---Release of CSM to insurancerevenue when services provided-(12.4)

(12.4)

End of Year 41,294

24.81,318.8-1,362Fair value adjustment----Changes in FCF to reflect change inEntity C’s obligation due to change infair value of underlying items---Recognition of variable fee for futureservices(3.4)

3.4---Scenario 4.2: Change in market interest rateLRC – liability side(Dr) / CrLIC – liabilityside(Dr) / CrBond investments– asset sideDr / (Cr)

BELJECSMJETotal LRCJEJE(a)

(b)

+ (b)

(d)

HK$HK$HK$HK$HK$Release of CSM to insurancerevenue when services provided-(14.1)

(14.1)

--End of Year 51,358.6

14.11,372.71,430Fair value adjustment---Changes in FCF to reflect change inEntity C’s obligation due to change infair value of underlying items---Recognition of variable fee for futureservices(3.6)

3.6---Release of CSM to insurancerevenue when services provided-(17.7)

(17.7)

--Recognition of LIC for NDIC(1,426)

-(1,426)

1,426-Disposal of bond investments andrepayment to policyholders---(1,426)

(1,501)

End of Year 6-----Part 3 – Statement of financial performanceThe following is an extract of Entity C’s statement of financial performance as a result of the accounting entries made in Part 1.Scenario 4.2: Illustrative statement of financial performance (extract)

Year 1JEYear 2JEYear 3JEYear 4JEYear 5JEYear 6JETotalHK$HK$HK$HK$HK$HK$HK$Insurance revenue

8.9

10.6

11.3

12.4

14.1

17.7Insurance service expenses-------Insurance service result

8.9

10.6

11.3

12.4

14.1

17.7Investment gains and losses [Note 1]Insurance finance income or expenses[Note 2]

(70)

(165)

(62)

(65)

(68)

(71)

(501)

Net finance result-------Profit or loss

8.9

10.6

11.3

12.4

14.1

17.7NotesInvestment gains and losses relating to the assets (i.e. bond investments) held by Entity C is accounted for applying a different HKFRS (i.e. HKFRS 9).Applying HKFRS 17.B111, changes in the obligation to pay the policyholder an amount equal to the fair value of underlying items do not relate to future service and do notadjust CSM. Applying HKFRS 17.87, Entity C recognizes those changes as IFIE.

5.Comparison between GMM and VFAThe following table provides a high-level comparison of GMM and VFA31, focusing on recognitionand measurement of LRC between the two models. The measurement of LIC is the same underboth approaches and so no comparison is provided.GMMVFANature ofinsurancecontractsMandatorily applies to all insurancecontracts except for the followingcontracts:

Contracts eligible for and the entityelects to apply PAAContracts with direct participationfeatures for which VFA shall beappliedContracts with direct participationfeatures, including investmentcontracts with discretionaryparticipation features in the scope ofHKFRS 17 that meet the three criteriaunder HKFRS 17.B101LRC – initialrecognitionSeparately identify and recognize the four building blocks:



(1)expected future cash flows, (2) time value of money and otherfinancial risks, (3) RA, (4) CSM. (1) & (2) constitute BEL.Recognition of premium receivedDr. LRC – BELCr. LRC – RACr. LRC – CSMDr. CashCr. LRC – BELAccounting is the same as GMM.At inception, CSM is the same asunder GMM.LRC –subsequentmeasurementInsurance revenue recognitionRelease of components in LRC toinsurance revenue as services areprovided during the period [Note 1]Dr. LRC – RACr. Insurance revenue<Release of risk adjustment for risk expired>Dr. LRC – BELCr. Insurance revenue<Release of expected claims>Dr. LRC – CSMCr. Insurance revenue<Release of CSM based on coverage units in theperiod>Dr. LRC – RACr. Insurance revenue<Release of risk adjustment for risk expired>Dr. LRC – BELCr. Insurance revenue<Release of expected claims>Recognition of changes in FCFDr. IFIECr. LRC – BEL<Adjust changes in FCF to reflect the change inthe insurer’s obligation to pay an amount equalto the fair value of the underlying items>Dr. LRC – BELCr. LRC – CSM [Note 2]<Recognition of a variable fee for futureservices, changes go to CSM>Dr. LRC – CSM [Notes 2, 3]Cr. Insurance revenue<Release of CSM based on coverage units inthe period>31 The comparison is only based on Scenario 1.1 for GMM and Scenario 4.1 for VFA.GMMVFADisposal of investments and repayments to policyholders where applicableN/A [Note 4]Dr. CashCr. Investments [Note 5]<Disposal of the relevant investments>Dr. LRC – BELCr. LIC – BEL<Recognize the amount to be repaid to thepolicyholder> [Note 6]Dr. LIC – BELCr. Cash<Repayments to policyholders>NotesAs discussed in ‘Notes for further insights’ under JE7 of Scenario 1.1, after initial recognition, there would be an interestaccretion for BEL and CSM to reflect the time value of money and other financial risks. For the RA, the related interestaccretion will be presented as IFIE (i.e. Dr. IFIE, Cr. LRC – RA) if the technique to measure it uses the time value of money32.The resulting BEL, RA and CSM released to insurance revenue when services are provided would be after having accountedfor the accreted interests.At subsequent measurement, CSM measurement under VFA differs from GMM. Please refer to Diagram 9 and HKFRS

17.45 for guidance.Under both GMM and VFA, the release of CSM is reflected in insurance revenue based on coverage units. Refer to note (f)

and ‘Notes for further insights’ under Scenario 1.1 – JE5 for more discussions. However, a significant portion of CSMunder VFA originates from an entity’s share of the fair value of the underlying items.This table illustrates that there are disposals of investments and repayments to policyholders under VFA contracts but thatdoes not mean that there are no investments for non-VFA contracts. Generally, there would also be supporting assets fornon-VFA contracts. If so, these journal entries (i.e. Dr. Cash, Cr. Investments; Dr. LRC – BEL, Cr, LIC – BEL (see Note 6below); Dr. LIC – BEL, Cr. Cash) will also be recorded under GMM.This is a simplified entry. There could be more account line items impacted in real life situations.This entry is made on the assumption that the related amount is considered as NDIC, being repayable to policyholders inall circumstances.Time value of money and the effect of other financial risks are not discussed in this publication butthey have different impacts on accounting under GMM and VFA and briefly set out below.GMMVFAChanges inBEL arisingfrom timevalue ofmoney andother financialrisksTreated as unrelated to services and sorecognized immediately in thestatement of comprehensive income asIFIEInsurer’s share regarded as part of thevariability of the fee for future serviceadjusting CSMInterestaccretion toCSM in eachreportingperiodLock-in interest rate determined oninitial recognition of the group ofinsurance contractsCSM is effectively remeasured when itis adjusted for changes in financialrisks. Hence, CSM is not explicitlyadjusted for accretion of interest andis determined based on currentdiscount rates except to the extentthat HKFRS 17.B115 applies.32 According to HKFRS 17.81, an entity is not required to disaggregate the change in the risk adjustment for non-financial riskbetween the insurance service result and insurance finance income or expenses. If an entity does not make such a disaggregation,it shall include the entire change in the risk adjustment for non-financial risk as part of the insurance service result.About the Standard Setting DepartmentThe Hong Kong Institute of Certified Public Accountants (HKICPA) is the only body authorized bylaw to set and promulgate standards relating to financial reporting, auditing, ethics andsustainability disclosures for professional accountants in Hong Kong. The due process documentsof the Standard Setting Department (SSD) explain the processes and procedures for developinglocal standards and adopting international standards.To find out more about how SSD contributes to international standard-setting, please visit:

https://www.hkicpa.org.hk/en/Standards-setting/Standards/How-we-set-standards-and-contribute-to-international-standardsTo access SSD’s latest publications and webcasts, please visit:

https://www.hkicpa.org.hk/en/Standards-setting/Standards/Whats-News/2023Connect with us on social media:

HKICPA SSD@hkicpa.officialThis guidance is developed by the SSD of the HKICPA and is for general reference only. TheHKICPA, its staff, Council and its committees do not accept any responsibility or liability in respectof the publication or any consequence that may arise from any person acting or refraining fromaction as a result of any materials in the publication. Members of the HKICPA and other users ofthis publication should also read the full HKFRS Standard, as found in the HKICPA Members’Handbook for further reference and seek professional advice where necessary when applying thereferences contained in this publication. The SSD welcomes your comments on this publication.They can be sent to commentletters@hkicpa.org.hk.2083_20230614AuthorCarrie LauAssociate Director,Standard Setting,HKICPAHong Kong Institute of Certified Public Accountants37th Floor, Wu Chung House213 Queen’s Road East, Wanchai, Hong KongTel: (852) 2287 7228Fax: (852) 2865 6603Email: hkicpa@hkicpa.org.hkWebsite: www.hkicpa.org.hkThe author thanks members of the Financial Reporting Standards Committee and the InsuranceAdvisory Panel and their supporting teams for their input in reviewing this publication.

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PDFEducational Publication: HKFRS 17 Insurance Contracts - Journal Entries

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