In December the ASB issued FRS 27 'Life Assurance'. This represents an important step forward in financial reporting, bringing greater clarity and transparency to the financial statements of entities with life assurance business. It will require disclosure of information that will provide a better understanding of both the liabilities and capital management of life assurers.

The process of developing the standard was started in March 2004 when, following the publication of the Penrose report into Equitable Life, the Financial Secretary to the Treasury wrote to the ASB asking it to initiate an urgent study into accounting for with-profits business by life assurers. The proposals were first set out in an exposure draft, FRED 34, issued in July 2004.

The standard builds on the new regulatory capital regime for withprofits life assurance recently introduced by the Financial Services Authority (FSA) - this introduces the concept of a 'realistic' calculation for policyholder liabilities that recognises constructive obligations to pay future bonuses and uses modelling techniques to value options and guarantees. Under the standard:

• large UK life funds will value their with-profits policyholder liabilities in accordance with the 'realistic' basis of the FSA's new regime; the standard specifies certain adjustments to be made to this amount, and to related assets and liabilities including deferred acquisition costs and deferred tax; and the overall effect on profit and loss is offset by a corresponding transfer to or from the fund for future appropriations;
  
  
• if there is a negative balance on the fund for future appropriations the entity must explain why it is appropriate not to have taken action to eliminate it;
  
  
• smaller UK funds and overseas life business, which are not covered by the new FSA requirements, may continue to use their existing accounting policies, but must make additional disclosures in relation to options and guarantees that are not valued at fair value or by using stochastic modeling techniques;
  
  
• for bancassurers and other entities that currently recognise the embedded value of life assurance business, the standard imposes a restriction that excludes future investment risk margins from the amount recognised;
  
  
• all entities with material life assurance business will make a new disclosure, the capital statement, showing the disposition of shareholders' funds and other components of regulatory capital across the entity. This will be supported by narrative explanation of the regulatory requirements for the various life assurance businesses of the entity, the capital held to meet them, and the extent to which capital in one part of the entity's insurance business is available to meet risks and requirements in other parts of that business;
  
  
• further disclosures include narrative discussion of the sensitivity of capital and liabilities to changes in market conditions, and of the assumptions, including those relating to future management actions, made in determining the amounts of these.

In finalising the standard, the ASB took careful note of the concerns expressed by many insurance companies and others in response to the exposure draft. As a consequence, in addition to amending the disclosure requirements to integrate them more fully and placing greater emphasis on the need for narrative analysis, the ASB deferred the implementation date of the standard from December 2004 year ends to December 2005 year ends (and later in the case of a number of the smaller friendly societies).

One consequence of the deferral of the standard is that it would not, unless voluntarily adopted, be applied by those entities adopting international accounting standards (IFRSs) from 2005. The ASB was nevertheless prepared to contemplate this deferral as a result of a very positive response from the major life assurance and bancassurance entities to a proposal for voluntary adoption of the standard within the IFRS framework.

This has culminated in the signing of a Memorandum of Understanding by the ASB and the ABI together with the major life assurers and bancassurers. Under the terms of the Memorandum, the companies will voluntarily comply with the requirements of the standard from 2005. In addition they will disclose, for 2004 year ends, much of the information that will be required by the standard, but in their Operating and Financial Reviews (or elsewhere in their annual reports) rather than in the financial statements themselves. The ABI will encourage wider adoption of this voluntary approach, and will also update its SORP to bring it into line with the standard.

The text of both FRS 27 and the Memorandum are available from the ASB's website.

The ASB will also be making a report to the Treasury on its review of life assurance accounting, in response to the request made in the light of the Penrose report published in March 2004. This will include the ASB's views on a more comprehensive framework for financial reporting for life assurance developed with the intention of helping inform the process the IASB has underway in their insurance project.