The majority of accounting services in Dubai and UAE ignore insurance accounting because they are not in the insurance business. Now that there will be a new accounting standard related to insurance contracts, chartered accountants should check to make sure they aren’t erroneously issuing them.
Understanding Insurance Contract
In IFRS 17, a contract means a binding agreement between two or more parties that imposes binding rights and obligations. It may be written, verbal, or implied by a business’ customary practices.
Legal jurisdictions, industries, and entities may have different practices and processes for establishing contracts with clients. They may also vary within an organization. For example, these may be influenced by the customer’s class or the promise of goods or services.
The contract will contain explicit or implied terms (rights and obligations). Laws and regulations are incorporated into a contract as implied terms. A contract’s terms (rights and obligations) are enforceable under law.
The Relationship Between The Policyholder and The Issuer
The issuer and policyholder of an insurance contract Dubai and UAE are not required to be unrelated parties under the definition of an insurance contract, but IFRS 17 does clarify that:
It is not an insurance contract for a person to self-insure since he prevents himself from accepting a risk covered by insurance.
In a consolidated sense, group insurance contracts are self-insurance. In this case, accounting and financial services would report such arrangements as insurance contracts in the individual or separate accounts of the group entities but not at the consolidated level.
Understanding Insurance Risk
Insurance risk is typically distinguished from financial risk as financial instruments under IFRS 9. Chartered accountants usually account for these instruments as financial instruments.
We would also note that some arrangements like some life insurance products are both financially and insurance-risky. For this reason therefore, an agreement would be regarded as an insurance contract when it has a considerable insurance risk component.
If a particular arrangement gives rise to insurance risk, a key factor to consider is whether a Dubai and UAE entity will have to compensate the counterparty if certain non-financial factors come by.
Here are some examples to illustrate this:
Non-insurers in Dubai and UAE who agree to compensate a counterparty when a vehicle owned by the counterparty suffers a fire-related loss of value are exposed to insurance risk.
The non-insurer faces financial risk in contrast with the example shared earlier. There is no mechanism to compensate the counterparty for residual losses in fair value attributable to physical condition changes like fire.
The Question Of Compensation Arises
The policyholder usually receives a cash settlement as compensation from the insurance company. Compensation can take many forms, including:
- Services such as replacement of goods – as well as new for old or repair payments
- A release from the counterparty’s obligation to pay
- Exemption from paying a third party
- Uncertain future event
Unless at least one of the following is uncertain at the time the contract is negotiated, a future event is considered tentative:
- An insured event’s likelihood of occurring
- If the insured event occurs
- If the insured event occurs, what the non-insurer will have to pay.
Therefore, a contract that pays a fixed amount if the policyholder dies can be considered an insurance contract. But if and only if at the time of the contract, the insured event is uncertain and may not be likely to happen.
In An Insurance Contract: What Constitutes Adverse Effects On The Policyholder, And Why Are They Are Necessary
Insurance regulations are designed to protect policyholders from loss, in particular economic loss. Consequently, if uninsured, events resulting in the policyholder suffering a financial loss would negatively affect the policyholder.
- Vehicles, equipment, land, or buildings are considered personal property when they are stolen or damaged
- Death or disability
- Getting hospitalized
- Procedures involving products, professionals, or the public
- An erroneous purchase
Payment in kind or cash is generally provided in each of these situations. A policyholder may also receive compensation by being relieved of an existing obligation, as noted above.
IFRS 17 Effective date
The IFRS 17 set for the annual reporting period will start on/after the 1st of January 2023. Account and financial services in Dubai are allowed to make an early application, but if both IFRS 9 Financial Instruments and IFRS 15 Revenue from Contracts with Customers have been applied simultaneously.
Are you are a business located in Dubai or other emirates in the UAE and are looking for a professional chartered accountant to help you with your accounting needs? We would like to help you. Farahat & Co is one of the leading accounting and financial services in Dubai with operations spanning the entire country. If you would like us to help you implement IFRS 17, give us a call. You can also visit our website for more accounting information.