This piece was developed in partnership with BDO and Optimus SBR.
The implementation of Long Duration Targeted Improvement (LDTI) introduces a number of changes from the current Generally Accepted Accounting Principal (GAAP) and spans over cross-functional business units. These changes apply to the measurement of specific traditional non-participating life products as well as their groupings and assumptions. In addition, changes are introduced to the chart of accounts, financial statements, disclosures, and reporting and analytics of LDTI contracts.
This article looks at how the changes in accounting policies affect actuarial measurements and what they look like before and after the implementation.
Actuarial measurements – the impact and effects
The far-reaching effect of the LDTI implementation will affect the actuarial measurements in many ways including:
- current cash flow assumptions;
- discount rates assumptions;
- retrospective unlocking approach for liability for future policy benefits;
- simplification of the DAC model;
- market risk benefits; and
- an increase in disclosure requirements.
In order to understand how the aftermath of this implementation will impact your organization, we summarize and break down the areas involved, and the variances incurred before LDTI and after as follows:
Grouping for reserve calculation: The current GAAP has groupings at the policy level whereas LDTI has policies grouped in cohorts-quarterly or annual-with each cohort based on similar characteristics.
Current best assumptions for liability for future policy: The current GAAP has assumptions locked in at an issue level with a Provision for Adverse Deviation (PAD) and is updated when a loss recognition event occurs.
However, under LDTI, assumptions are reviewed and updated if needed at least once per year, at the same time each year, with no PAD.
Discount rate methodology: The current GAAP has a discount rate equal to the insurer’s expected investment yield. With LDTI, all insurance companies will use the same discount rate assumption of an upper-medium grade (low credit risk) fixed-income instrument yield-rated corporate bond yield.
Retrospective unlocking approach for non-discount rate assumptions: Under the current GAAP, the Net Premium Ratio (NPR) is locked in based on the expected future cash flows at the issue level.
On the other hand, LDTI uses the revised NPR by using actual historical experience calculated with updated assumptions and discount rates at the issue level. The difference between the previous and revised NPR is used to determine a revised liability, reflected in the current operating period income.
Simplification of the DAC model: Under the current GAAP, DAC is amortized in proportion to the expected future profitability or premium recognized with the accrual of interest. Yet with LDTI, DAC is amortized in proportion to the expected life of the contract with no accrual of interest.
Market risk benefits (MRBs) subject to fair value measurement: Under the current GAAP, some guaranteed benefits are valued under an insurance accrual model rather than fair value. Whereas with LDTI, MRBs are measured at a fair value with changes recognized on the income statement.
Increased financial statement disclosure requirements: Under the current GAAP, the level of disclosure requirements aligns with historical representations and disclosures. With LDTI, there is a significant increase in the disclosure requirement with disaggregated roll-forwards.
Investor and insurance companies – the impact and effects
Consequences to the changes and volatility introduced from moving to LDTI will affect investors and insurance companies in one way or another.
For instance, investors will now need to recalibrate expectations for the financial position, profitability, and income volatility of insurance companies following the change in the accounting standards from GAAP.
On the other hand, insurance companies should assess the strategic implications of LDTI to their business in order to develop a plan to address the required changes in processes under a narrowing timeline.
This change creates another opportunity for insurers to invest in modernizing finance processes to better understand key drivers of change affecting financial statements. They may also want to engage in strategic divestitures of underperforming business that is not central to their strategy or consolidate a leading position in certain lines of business central to a strategy to strengthen their positions.
How we can help
Valani, BDO, and Optimus have come together to establish accelerators for the LDTI journey. Our accelerators do not only meet the compliance needs of LDTI, but also advance an insurer forward in the areas of financial transformation, operations modernization, and data innovation.
Valani Global’s Services
Valani Global supports life insurance companies in achieving their financial risk management goals through implementations of Moody’s Analytics solutions including AXIS and RiskIntegrity for IFRS 17.
Nazir Valani, President & Co-Founder