Page 171 - DCOM205_ACCOUNTING_FOR_COMPANIES_II

Accounting for Companies – II

notes
Example 5: Treatment of Ceded Reinsurance as purchase of an asset for balance sheet
purposes (such as under U.S. GAAP)
Assume the same facts as in example 4, but with different balance sheet treatment Balance Sheet

Assets Liabilities
Ceded Loss Reserve $40 Direct Loss Reserve $200
Reinsurance reporting lags: Reinsurance contracts include language regarding reporting
requirements of the ceding company to the assuming company. These reports serve multiple
purposes. One is to effect the necessary paid transactions under the contract, including ceded
premiums and losses according to the policy terms. Another is to enable the assuming company
sufficient data to perform its own reserve analysis (either for the particular contract or contract
claims, or for the assuming company’s portfolio of contracts or claims). A third is to enable the
assuming company to meet its own accounting requirements.
!

Caution The categorisation of defence costs (and other such expenses) may shift between
loss expense and loss when going from the ceding company to the assuming company.
This will distort analyses of loss versus loss expense on a combined direct writer plus
reinsurer basis.
There can be significant lags in the filing and receiving of these reinsurance reports. The lags
can be the result of time necessary for the ceding company to accumulate the data required to
be reported. They may also be due to the need to coordinate input from multiple parties, such as
where the ceding entity is a pool and the pool administrators must first collect the relevant data
from all the pool members before submitting reports to the pool reinsurers. Delays can also be
caused by multiple handoffs and consolidations, such as occurs for some retrocession contracts
where first the ceding companies must report to their reinsurers, who then must process the
data before submitting their report to retrocessionaires (with multiple layers of retrocessionaires
possible). Delays of several years have been observed for higher level retrocession contracts
involving parties from multiple countries and/or continents.
Some accounting paradigms require the assuming company to record estimated transactions
where the lags and the dollars involved are material. This may involve recording estimated
premiums, losses and expenses (including estimated “paid” losses) based on anticipated or
historical experience. These estimates could be trued up once the actual values are known or
improved estimates are available.

8.3.3 Deposit accounting

Deposit accounting for a contract generally observes the following rules:

l z The accounting is done on an individual contract-by-contract basis, and not on a portfolio
basis, even if the resulting contract-by-contract amounts are reported on a summary basis
in financial reports.
l z The amount(s) received for a contract is recorded as a deposit liability, with no revenue or
expense impact (and therefore no impact on income).

l z The deposit liability is increased due to additional receipts, and usually investment income
credits of some sort, and decreased due to payments.

l z As such, the deposit generally represents a present value of future payment obligations.
Deposit accounting may be required by accounting paradigm for what might otherwise be an
insurance (or reinsurance) contract under the following conditions:

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