The IASB and FASB continued their discussions of insurance contracts by considering the use of a top-down approach to determining a discount rate.
The boards' relevant previous tentative decisions on the discount rate were:
17 February 2011 meeting - the discount rate for non-participating contracts ( click here for more information)
- 14 March 2011 meeting - the discount rate for participating contracts ( click here for more information)
Top-down approaches to discount rates
The boards tentatively decided on 17 February that an insurer could use either a 'top-down' or a 'bottom-up' approach to determine discount rates that reflect the characteristics of the insurance contract liability (rather than how the insurer funds the liability). At this meeting, the boards tentatively decided that in applying the top-down approach:
a. an insurer shall determine an appropriate yield curve on the basis of current market information. The insurer may base its determination of the yield curve for the insurance contract liability on a yield curve that reflects current market returns for the actual portfolio of assets the insurer holds or for a reference portfolio of assets with characteristics similar to those of the insurance contract liability.
b. if there are no observable market prices for some points on that yield curve, the insurer shall use an estimate that is consistent with the boards' guidance on fair value measurement, in particular for Level 3 fair value measurement.
c. the cash flows of the instruments shall be adjusted so that they reflect the characteristics of the cash flows of the insurance contract liability. In adjusting the cash flows, the insurer shall make both of the following adjustments:
i. Type I, which adjust for differences between the timing of the cash flows to ensure that the assets in the portfolio (actual or reference) selected as a starting point are matched with the duration of the liability cash flows.
ii. Type II, which adjust for risks inherent in the assets that are not inherent in the liability. In the absence of an observable market risk premium for risks inherent in the asset but not inherent in the liability, the entity uses an appropriate technique to determine that market risk premium, consistent with (b).
d. an insurer using a 'top-down' approach need not make adjustments for remaining differences between the liquidity inherent in the liability cash flows and the liquidity inherent in the asset cash flows.
All board members supported this decision.
The boards will continue their discussion on insurance contracts at their joint meeting on 27 April 2011.