Life insurance accounting treatment is determined by the nature of the contract. Investment contracts, which relate mainly to wealth management products like superannuation and allocated annuities or pensions that have no insurance risk with non-discretion over the vesting of the benefits of a policyholder, are accounted for at the Australian International Financial Reporting Standards (AIFRS) at fair value. There are also contracts that may transfer a considerable insurance risk from the holder of the policy such as death or disability, or provide a discretionary
participating benefit. These are known as life insurance contracts and they are accounted for using the margin on Services.
Margin On Services
Margin on services (MoS) is a financial reporting methodology that was developed in 1995 by the Australian Accounting Standards Board (AASB) specifically for Australian life insurance accounting. It applies to life insurance contracts that have been given out by Australian life insurers or their subsidiaries. In this financial reporting methodology, the value of future excesses expected to come up throughout the life of the contract is first of all determined then spread across the expected policy life. In other words, profits anticipated on life insurance contracts emerge over the business’ life as services are offered and income received, hence the term Margin on Services.
The liabilities of MoS are determined using a method of projection in which estimates of policy cash flows like premiums, costs, benefits and profit margins released in future are projected. The liability of the policy is calculated as the net present value of the projected cash flow. The liabilities of the policy are divided into two components; the value of future profit margins and the best estimate liabilities.
Margin On Services Versus Other Accounting Standards
While international standards for accounting are still being developed, there is a variety of other accounting standards like the Generally Accepted Accounting Principles (GAAP) that is widely used in the United States, the Achieved Profit (AP) which is in use in the United Kingdom and other minor ones like the International Accounting standards (IAS) and the Modified Statutory Solvency Basis (MSSB), which is the official basis used by insurers in the UK.
The Margin on Services approach is a realistic basis of accounting that is based on deferral and matching of expense and revenue. This method is consistent for all lines of business, unlike methods like the US GAAP standard whose methods differ depending on the line of business. Click here for more details about life insurance accounting.
The Margin on Services methodology is tailored to give a steady profit emergence over the life of the insurance policy in the valuation of insurance liabilities. In the deferral of acquisition costs, Margin on Services is much more generous with regard to what can be deferred. In subsidiary valuation extends the concept of asset’s market value to the subsidiaries of a life insurer. A risk-free discount rate is adopted, but only in the event that the benefits that are entitled to the policyholder are connected to the performance of assets that back the contract. In this case, the discount rate is the rate of future earnings expected on the assets.