Long-Duration Contracts Targeted Improvements Overview and Approach

More About | Insurance

In August 2018, the FASB issued Accounting Standards Update (ASU) 2018-12, Targeted Improvements to the Accounting for Long-Duration Contracts. The objective of the update is to improve, simplify and enhance the financial reporting of long-duration contracts, thus providing financial statement users with more useful information about the amount, timing and uncertainty of cash flows related to those contracts. These amendments affect all insurance and reinsurance companies that issue long duration contracts, including life insurance, long term care, disability income and annuities.

Liability for Future Policy Benefits

Under current GAAP, original assumptions used to measure the liability for future policy benefits are locked at contract inception and held constant over the term of the contract. The liability includes a provision for risk of adverse deviation, and assumptions are unlocked if a premium deficiency arises.

The improvements require the insurance company to review assumptions at least annually and, if necessary, update the assumptions accordingly. The provision for risk of adverse deviation and premium deficiency (or loss recognition) testing are eliminated. When the cash flow assumptions are updated, the corresponding change in the liability estimate is required to be recognized in net income.

Currently, a rate based on an insurance company’s expected yield on its invested assets (an unobservable discount rate) is used to discount future cash flows. The amendments require that an insurance company discount expected future cash flows at an upper-medium grade (low-creditrisk) fixed-income instrument yield that maximizes the use of observable market inputs. Additionally, the discount rate assumption is required to be updated at each reporting date. The change in the liability estimate as a result of updating the discount rate assumption is required to be recognized in other comprehensive income.


Prashant Panavalli
Director, DHG Risk Advisory