Insurance - Accounting and Tax Aspects

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This article takes the viewer through the Accounting Aspects related to Insurance under IFRS and the Income Tax requirements in India. It also touches upon the Direct Tax Code and its impact on Insurance based deductions.

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  • For assessing significance of insurance risk, the insured event should have a a sufficient probability of occurrence and a sufficient magnitude of effect. Probability of occurrence and magnitude of effect are measured independently to determine the significance of the insurance risk. Occurrence of an event is viewed as sufficiently probable if the occurrence has commercial substance. Any event, which policyholders see as a threat to their economic position and for which they are willing to pay for cover, has commercial substance. Therefore even if its occurrence is considered unlikely this is considered to be sufficient. Following the same logic, the magnitude of the effect of an event is considered sufficient if the effect on the policyholder is significant when compared to the minimum benefits payable in a scenario of commercial substance. Payments made which do not compensate the policyholder for the effect of the insured event, e.g. payments made for competitive reasons, are not taken into consideration in the assessment of insurance risk. The significance of insurance risk would have to be measured at contract level without considering the risk exposure of the entire portfolio. Therefore, the effect of risk equalisation in the portfolio would be ignored. IFRS 4 provides that where a portfolio of homogenous contracts are known to generally contain significant insurance risk, each contract can be treated as an insurance contract, without applying the requirement to each individual contract. IFRS 4 further requires that the insurable interest is embodied in the contract as a precondition for providing benefits. IFRS 4 also clarifies that survival risk, which reflects uncertainty about the required overall cost of living, qualifies as insurance risk.
  • Example: a zero death benefit pension product with an option to increase the sum assured 1. Term life insurance: risk remains significant throughout the contract 2. Endowment policy – amount at risk in case of death reduces as value of investment component increases 3. Deferred annuity – no insurance risk during savings phase, insurance risk in annuity phase; overall is insurance contract since opting for annuity is an event of commercial substance E.g Assume you have a savings contract with the following features: The investor pays in a regular stream of money which the insurer then invests in bonds. At the end of the contract term, the investor receives the amount paid to the insurer over the term of the contract plus interest. There is an additional clause added into policy which states that if investor dies during the term of contract, 110% of balance at the time of death, is paid out. Although the contract is not entered into purely for insurance against death, the death clause creates an insurance risk for the insurer . Insurer will suffer a significant loss (i.e., payment of additional 10%) in the event of the insured event (death) taking place, even if that event is unlikely to occur.
  • Uncertainty over the occurrence of the event Uncertainty over the occurrence of the event may take various forms. Under some insurance contracts the insured event occurs during the period of cover specified in the contract, even if the resulting loss is discovered after the end of this period of cover. For others the insured event is the discovery of a loss during the period of cover of the contract, even if the loss arises from an event that occurred before the inception of the contract. Uncertainty over the timing of the event In whole life insurance contracts the occurrence of the insured event, within the duration of the contract, is certain but the timing is uncertain. Uncertainty over the magnitude of the effect Some insurance contracts cover events that have already occurred, but whose financial effect is still uncertain.
  • This means the separation of deposit elements, which would be dealt with under IAS 39, from insurance elements which are dealt with under IFRS 4. It is designed to ensure that any rights and obligations are recorded on the balance sheet as assets and liabilities rather than treated as expenses or revenue. It is intended to capture deposit components or features for separate valuation where these are not already recognised and can be separately measured. Unbundling is required only if the insurance and deposit elements are not closely interdependent. If the components are interdependent the whole contract should be measured using the insurance standard. This requires the insurer to apply judgement. If deposit components are already recognised, there is no need to value them separately. e.g. is fair value is already applied, no need to unbundle. For eg Unit linked product with the premium of Rs.1000 initial charges of Rs.200 Unbundling required/opted then the revenue would be Rs.200 (Rs. 1000- Rs.200) and Rs. 800 would not be recognised in P&L, but as deposit liabilities in the B/S
  • Additional impact on bottom line through differential treatment of DAC and DIL – Deferred income liability (Single premium products or one time income that we receive from contract i.e. initial fees)
  • For Non linked & Shareholders – Equity and Mutual Fund investment – A Fair Value change account is created for solvency perspective and hence unrealised gains and losses are not considered.. i.e. book value is considered..
  • AS 30 & 31 issued on lines with IAS 39 & effective from April 1, 2011 Presently IRDA does not allow trading in derivatives / hedge securities except Fixed income derivatives; accounting of which is in line with IFRS – hence excluded from the presentation
  • A consequence of IAS 39’s recognition requirement is that a contract to purchase or sell a financial instrument at a future date is itself a financial asset or financial liability that is required to be recognised in the balance sheet today. The contractual rights and obligations are recognised when the entity becomes a party to the contract. In a regular purchase or sale transaction the standard provides the flexibility to adopt either settlement date or transaction date for recognition / de-recognition of investments.
  • Financial assets at fair value through profit or loss - This category includes financial assets that the entity either holds for trading purposes or otherwise has elected to classify into this category A financial asset is considered to be held for trading if the entity acquired or incurred it principally for the purpose of selling or repurchasing it in the near term or is part of a portfolio of financial assets subject to trading. Trading generally reflects active and frequent buying and selling with an objective to profit from short-term movements in price or dealer’s margin. Held-to-maturity (HTM) investments - Financial assets with fixed or determinable payments and fixed maturity that the entity has the positive intention and ability to hold to maturity can be classified as HTM. This category is intended for investments in bonds and other debt instruments that the entity will not sell before their maturity date irrespective of changes in market prices or the entity’s financial position or performance. Loans and receivables - This includes financial assets with fixed or determinable payments that are not quoted price in an active market. For example, an entity may classify items such as account receivables, note receivables, and loans to customers in this category. Financial assets with a quoted price in an active market and financial assets that are held for trading, including derivatives, cannot be classified as loans and receivables. Available for sale (AFS) financial assets - Any financial assets which does not fall under any of the above categories has to be recognised as AFS. Tainting provisions for HTM: If the entity has during the preceding two financial years , sold or reclassified more than an insignificant amount of held-to-maturity investments before maturity, then it shall not classify any financial assets as held-to-maturity
  • Asset is impaired when carrying amount > recoverable amount      Recoverable amount is the higher of (1) or (2) (1) fair value less costs to sell - Fair value less costs to sell is the amount obtainable from the sale of an asset or cash-generating unit in an arm’s length transaction between knowledgeable, willing parties, less the costs of disposal.       (2) value in use - Value in use is the present value of the future cash flows expected to be derived from an asset        There may be considerable discussion on the merits or otherwise of marking assets to market eg. Is the market value a useful measure of value given that it is a price of a marginal trade and may not reflect the value of a portfolio esp in thinly traded securities. The essential point is that the liability valuation mode has to be consistent given expected future earnings on assets.
  • However, if the significant amount is reclassified under AFS from HTM; the remaining HTM investment has also to be reclassified into AFS. Measurement at the reclassification date All reclassifications must be made at the fair value of the financial asset at the date of reclassification. Any previously recognised gains or losses cannot be reversed. The fair value at the date of reclassification becomes the new cost or amortised cost of the financial asset, as applicable.
  • Adopting AS 30 (IAS 39) could also bring about volatility in the revenue account and an asset liability mismatch in the balance sheet as follows: In case the company decides to classify any part if its portfolio as Fair Value through Profit and Loss, any market volatility would impact the revenue account In case the company decides to value any part if its portfolio as Fair Value, in absence of any authoritative statement on valuation of actuarial liabilities under IFRS the liabilities shall continue to be valued at cost, leading to mismatch between assets and liabilities The above would consequently impact the solvency requirements. IRDA will have to thus make necessary amendments in the regulations relating to solvency requirements to ensure that implementation of this standard does not lead to increase in solvency requirements merely due to mismatch in the way Investment assets and actuarial liabilities are valued.
  • Insurance being a long term contract; most of the investments are categorized as HTM by the Insurance companies. However, due to the tainting provision, the insurer has to rethink on its strategy of classifying all long term investments under HTM and thus would have to classify them under either FVTPL or AFS. This will bring volatility in policy liability calculation An investment system should be able to classify and tag each security as per the classification mandated by IAS 39 System should be capable enough to measure investments based on classification System enhancement required for calculating effective interest rate for amortisation of HTM securities from the current logic of simple interest rate IFRS 7 & IAS 32 which deal with investment disclosures & presentation; mandate host of disclosure requirement for the investments held by any entity. Unless this requirement is automated, an entity has to put in massive efforts in collating data required for disclosure as mandated by IFRS 7
  • Insurance - Accounting and Tax Aspects

    1. 1. <ul><li>Insurance – Certain Taxation and Accounting Aspects </li></ul>“ Unfortunately your Insurance Policy does not cover anesthesia, so we Are going to have to use low budget procedure to put you out”. CA Sandesh Mundra, Chartered Accountants
    2. 2. Synopsis of the Presentation <ul><li>PART - I </li></ul><ul><ul><li>Provisions in Income Tax Act, 1961 dealing with proceeds received from LIP. </li></ul></ul><ul><ul><li>Relevance of Amendments made by Finance Act, 2003. </li></ul></ul><ul><ul><li>Proposals under the DTC dealing with Life Insurance </li></ul></ul><ul><ul><li>Other sections dealing with Insurance under the current act </li></ul></ul><ul><li>PART – II </li></ul><ul><ul><li>Life Insurance – Broad Scope of accounting as defined under IFRS. </li></ul></ul><ul><ul><li>Categorisation of Investments </li></ul></ul><ul><ul><li>Relevance of the standard </li></ul></ul><ul><ul><li>Disclosure requirements </li></ul></ul>CA Sandesh Mundra, Chartered Accountants
    3. 3. S. 10(10D) of the ITA contains provisions relating to exemption of any amount received under life insurance policy. Prior to 2003 the provision was as under:- Any sum received under a life insurance policy, including the sum allocatedby way of bonus on such policy other than any sum received under subsection(3) of section 80DDA or under a Keyman insurance policy. CA Sandesh Mundra, Chartered Accountants
    4. 4. <ul><li>As can be seen, any amount received under the life insurance policy, were exempt. With the relaxation of licensing policy of the Government of India, private sector was also permitted to operate therein. </li></ul><ul><li>With large numbers of companies were permitted to carry business of life insurance; the competition is bound to be fierce. In order to capturemarket, and lure the high net-worth individuals (HNI), insurance products were structured leveraging the provisions of S. 10(10D). The insurance policies structured were becoming more of financial products and less of insurance as such. </li></ul>CA Sandesh Mundra, Chartered Accountants
    5. 5. <ul><li>The development came to the notice of the Government. The Finance Bill 2003, with effect from assessment year 2004-05, replaced the erstwhile S. 10(10D) with a totally new one and made certain amendments in S. 88 i.e. relating to deduction from gross total income. </li></ul>CA Sandesh Mundra, Chartered Accountants
    6. 6. <ul><li>Newly inserted section 10(10D) which is applicable today reads as follow: </li></ul><ul><li>(10D) any sum received under a life insurance policy, including the sum allocated by way of bonus on such policy, other than— </li></ul><ul><li>any sum received under sub-section (3) of section 80DD or sub-section (3) of section 80DDA; or </li></ul><ul><li>any sum received under a Keyman insurance policy; or </li></ul><ul><li>any sum received under an insurance policy issued on or </li></ul><ul><li>after the 1st day of April, 2003 in respect of which the </li></ul><ul><li>premium payable for any of the years during the term of </li></ul><ul><li>the policy exceeds twenty per cent </li></ul><ul><li>of the actual capital sum assured: </li></ul>CA Sandesh Mundra, Chartered Accountants
    7. 7. <ul><li>Provided that the provisions of this sub-clause shall not apply to any sum received on the death of a person: </li></ul><ul><li>Provided further that for the purpose of calculating the actual capital sum assured under this sub-clause, effect shall be given to the Explanation to </li></ul><ul><li>sub-section (2A) of section 88. </li></ul>CA Sandesh Mundra, Chartered Accountants
    8. 8. <ul><li>Proviso – </li></ul><ul><li>In case of death of a person - exemption to continue… </li></ul><ul><li>Thus following continued to enjoy the exemption :- </li></ul><ul><li>a. Life Insurance policies which were issued before 1-4-2003 irrespective of the amount of the premium payable with respect to the capital sum assured. </li></ul><ul><li>b. Policies wherein the premium payable was less than 20.00% of the capital sum assured. </li></ul>CA Sandesh Mundra, Chartered Accountants
    9. 9. <ul><li>Justification for the amendments? </li></ul><ul><li>The insurance policies with high premium and minimum risk cover are similar to deposits or bonds. With a view to ensure that such insurance policies are treated at par with other investment schemes, it is proposed to rationalise the tax concessions available to such policies. </li></ul><ul><li>The objectives of S. 10(10D) were made known to the tax payers i.e. exemption is available for insurance and not earning interest or capital appreciation. </li></ul>CA Sandesh Mundra, Chartered Accountants
    10. 10. Further deduction from income is presently available under Chapter VI <ul><li>80C.  In computing the total income of an assessee, (individual or a Hindu undivided family), there shall be deducted, the whole of the amount paid or deposited in the previous year, being the aggregate of the sums referred to in sub-section (2), as does not exceed one lakh rupees. </li></ul><ul><li>( i ) to effect or to keep in force an insurance on the life of persons specified in sub-section (4); </li></ul>CA Sandesh Mundra, Chartered Accountants
    11. 11. <ul><li>(3) The provisions of sub-section (2) shall apply only to so much of any premium or other payment made on an insurance policy other than a contract for a deferred annuity as is not in excess of twenty per cent of the actual capital sum assured. </li></ul><ul><li>Explanation. In calculating any such actual capital sum assured, no account shall be taken </li></ul><ul><li>( i ) of the value of any premiums agreed to be returned, or </li></ul><ul><li>( ii ) of any benefit by way of bonus or otherwise over and above the sum actually assured. </li></ul>CA Sandesh Mundra, Chartered Accountants
    12. 12. Persons on whose behalf payments can be made…….. <ul><li>4) The persons referred to in sub-section (2) shall be the following, namely: </li></ul><ul><li>( i ) in the case of an individual, the individual, the wife or husband and any child of such individual, and </li></ul><ul><li>( ii ) in the case of a Hindu undivided family, any member thereof; </li></ul>CA Sandesh Mundra, Chartered Accountants
    13. 13. <ul><li>(5) Where, in any previous year, an assessee:- </li></ul><ul><li>( i ) terminates his contract of insurance by notice to that effect or where the contract ceases to be in force by reason of failure to pay any premium, by not reviving contract of insurance, </li></ul><ul><li>( a ) in case of any single premium policy, within two years after the date of commencement of insurance; or </li></ul><ul><li>( b ) in any other case, before premiums have been paid for two years; or </li></ul><ul><li>( ii ) terminates his participation in any unit-linked insurance plan by notice to that effect or by reason of failure to pay any contribution, before contributions in respect of such participation have been paid for five years; </li></ul>CA Sandesh Mundra, Chartered Accountants
    14. 14. <ul><li>( a ) no deduction shall be allowed to the assessee with reference to any of the sums, paid in such previous year; and </li></ul><ul><li>( b ) the aggregate amount of the deductions of income so allowed in respect of the previous year or years preceding such previous year, shall be deemed to be the income of the assessee of such previous year and shall be liable to tax in the assessment year relevant to such previous year. </li></ul>CA Sandesh Mundra, Chartered Accountants
    15. 15. <ul><li>(8) In this section, </li></ul><ul><li>( ii ) contribution to any fund shall not include any sums in repayment of loan; </li></ul><ul><li>( iii ) insurance shall include:- </li></ul><ul><li>( a ) a policy of insurance on the life of an </li></ul><ul><li>individual </li></ul><ul><li>spouse </li></ul><ul><li>child of such individual </li></ul><ul><li>member of a Hindu undivided family </li></ul><ul><li>( b ) a policy of insurance for the benefit of a minor with the object of enabling the minor, after he has attained majority to secure insurance on his own life by adopting the policy and on his being alive on a date (after such adoption) specified in the policy in this behalf; </li></ul>CA Sandesh Mundra, Chartered Accountants
    16. 16. <ul><li>An accountant, a lawyer, and an actuary are walking down the street when they come upon a man who has just accidently dropped a number of coins out of his pocket onto the sidewalk. The accountant glances around at the coins, totals their value, and advises the man on how much he lost. The lawyer ignores the coins and starts searching the sidewalk for dollar bills. And the actuary uses the total value of the lost coins to project what's left in the guy's pocket. </li></ul>SMILE ……… CA Sandesh Mundra, Chartered Accountants
    17. 17. <ul><li>Proposals under DTC: </li></ul><ul><li>S. 56(2)(f) of DTC provides for inclusion of the entire amount received under the head “Income for Residuary Sources” (IRS). </li></ul><ul><li>The section reads as follow: </li></ul><ul><li>(f) any sum received under a life insurance policy, including the sum allocated by way of bonus on such policy; </li></ul><ul><li>However, S. 57 providing for deduction from IRS includes a clause permitting deduction of certain type of amount in this respect. Sub-clause (3) reads as follow: </li></ul>CA Sandesh Mundra, Chartered Accountants
    18. 18. <ul><li>(3) The amount of deduction referred to in clause (b) of sub-section (1) shall be the following - </li></ul><ul><li>(a) any sum received under a life insurance policy, including the sum allocated by way of bonus on such policy, if - </li></ul><ul><li>(i) the premium payable for any of the years during the term of the policy does not exceed five per cent of the actual capital sum assured; and </li></ul><ul><li>(ii) the sum is received only upon completion of the original period of contract of the insurance or upon the death of the insured; </li></ul>CA Sandesh Mundra, Chartered Accountants
    19. 19. <ul><li>A typical nature of the insurance policy is that they are of longer duration, at times, running into 20 or more years. Therefore, there will be cases wherein the provisions of DTC will be applicable to the policies taken prior to 1-4-2003 as well. Let us examine various dimensions </li></ul>CA Sandesh Mundra, Chartered Accountants
    20. 20. First……. <ul><li>First dimension is the time frame during which the policies were taken. We have three </li></ul><ul><li>scenarios viz. </li></ul><ul><li>(i) policies taken prior to 1-4-2003, </li></ul><ul><li>(ii) policies taken between 1-4-2003 and 31-3-2011; and </li></ul><ul><li>(iii) policies taken after 1-4-2011. </li></ul>CA Sandesh Mundra, Chartered Accountants
    21. 21. Second ….. <ul><li>Second dimension is with respect to premium payable and sum assured. There are three cases viz. </li></ul><ul><li>(i) policies where the premium is equal to or less than 5.00% of the sum assured </li></ul><ul><li>(ii) policies where the premium is equal more than 5.00% but less than 20.00% of the sum assured ; and </li></ul><ul><li>(iii) policies where the premium is equal to or less than 5.00% of the sum assured and issued after 1-4-2011 i.e. under DTC </li></ul>CA Sandesh Mundra, Chartered Accountants
    22. 22. Third …. <ul><li>The third dimension is with reference to the circumstances under which the amount of life insurance policies is received. Both ITA and DTC, provides for certain exemptions. </li></ul><ul><li>The three cases covered from examination are as follow: </li></ul><ul><li>(i) policy amount received upon completion of the original period of contract </li></ul><ul><li>(ii) policy amount received upon the death of the insured; and </li></ul><ul><li>(iii) Pre-mature Withdrawal </li></ul>CA Sandesh Mundra, Chartered Accountants
    23. 23. CA Sandesh Mundra, Chartered Accountants Policy taken during the period Type of Policy – Amount of Premium with reference to capital sum assured upon completion of the original period of contract upon the death of the insured Pre-mature withdrawal Prior • less than 5.00 % Exempt Exempt Taxable To • More than 5.00 % but less than 20.00% Taxable Exempt Taxable 1-4-2003 • More than 20.00% Taxable Exempt Taxable 1-4-2003 • less than 5.00 % Exempt Exempt Taxable To • More than 5.00 % but less than 20.00% Taxable Exempt Taxable 31-03-2011 • More than 20.00% Taxable Exempt Taxable 1-4-2011 • less than 5.00 % Exempt Exempt Taxable onwards • More than 5.00 % but less than 20.00% Taxable Exempt Taxable   • More than 20.00% Taxable Exempt Taxable
    24. 24. <ul><li>Synopsis of the Proposed EET Regime :- </li></ul><ul><li>Maturity Proceeds of a policy shall be exempt only if the premium does not exceed 5% of Capital sum assured. Even when 20% criteria was introduced it was policies taken after 1-4-2003.No similar provisions in DTC. Thus all policies covered as of now. </li></ul><ul><li>Further irrespective of the fact whether any deductions have been claimed, the proceeds would be made taxable. </li></ul><ul><li>Even capital contribution shall be charged </li></ul><ul><li>Thus all existing ULIP’s, Money back & Gauranteed Return plans of insurance will take a hit. </li></ul><ul><li>Even a loan received by the policy holder against the value of his policy or any surrender value received for a policy will also get taxed on income. </li></ul>CA Sandesh Mundra, Chartered Accountants
    25. 25. Despite all this we feel the provisions were not brought as it is, but to solve a lot of problems, what could those be:- <ul><li>“ The Economic Times” of 21st June, 2009. </li></ul><ul><li>The I-T department is baffled by the new trend of huge amounts of cash being used to buy financial products which they suspect is black money. </li></ul><ul><li>Tax officials have investigated a number of cases in which investors have bought insurance policies by paying cash up to Rs 1 crore, forcing the department to re-examine many assessees with income of up to Rs 5 crore per annum, an official in Central Board of Direct Taxes (CBDT), who did not wish his name to be disclosed, said. </li></ul>CA Sandesh Mundra, Chartered Accountants
    26. 26. <ul><li>The department is now investigating a case of a husband and wife duo in one of the metro regions using cash to buy an LIC policy worth Rs 1.1 crore. </li></ul><ul><li>Similarly, it’s also examining two cases in which insurance products worth Rs 44 lakh and Rs 38 lakh were bought using cash in Karnataka, the official said. </li></ul><ul><li>The I-T department normally investigates most of the returns filed by those earning above Rs 1 crore annually. However, several cases in the Rs 1-5 crore annual earnings bracket escape scrutiny. </li></ul>CA Sandesh Mundra, Chartered Accountants
    27. 27. <ul><li>High Yield Returns? </li></ul><ul><li>Even in the case of high-premium policies, the objective was to get tax free income rather than insurance. Provisions regarding premium permitted being less than 20.00% of the sum assured are in the statute since 1-4-2003. </li></ul><ul><li>As we all know, the Assessing Officers have never looked into it seriously. Any amount shown as received under a life insurance policy is considered as exempt by default. It is forgotten that the provision of S. 10(10D) are with the riders. </li></ul>CA Sandesh Mundra, Chartered Accountants
    28. 28. <ul><li>Relevance of 5.00% / 20.00% </li></ul><ul><li>For a layman, all these may sound confusing. Why should the Government lay down the limit at 20.00% or at 5.00%? Why not any other figures? We have seen the reasons for laying down the limit of 20.00% of the capital sum assured. Although, not so stated specifically in the Finance Bill 2003 or even in DTC, </li></ul><ul><li>the intention is to exempt the amount received under the insurance policy, and not any other amount. Except in the case of Term Insurance plan, when a person makes payment of insurance premium it consists of two parts viz. cost of insurance and investment with the insurance company. </li></ul>CA Sandesh Mundra, Chartered Accountants
    29. 29. <ul><li>For e.g. the rate of premium is at Rs. 6.77 per Rs. 1,000 of sum assured. This works out to approximately 0.7% of the sum assured. Thus, keeping margin of around 4.93 % for with – profit policies, wherein some amount is also returned by the insurance company to the policy holders, the bench-mark of 5.00% must have been arrived at. Whether it is sufficient enough to cover majority of the cases of low income group is a matter of debate. </li></ul><ul><li>The only question that one finds difficult to digest is climb-down by the Government from 20.00% to 5.00% of the sum assured. </li></ul><ul><li>In all one can say that the idea is to promote pure term assurance plan and the policies wherein very low rate of return is assured by the insurance company. For rest of the policies, are proposed to be termed as financial asset and tax the amount received as income. </li></ul>CA Sandesh Mundra, Chartered Accountants
    30. 30. <ul><li>Let us take the case of a person who has taken policy of 15 years duration and premium is more than 5.00% of the sum assured prior to 1-4-2003. Since at that time such provisions were not there he will be in serious problem as the entire amount received will be taxable. In the case of policies taken during the period 1-4-2003 to 31-3-2011, and having rate of premium more than 5.00% but less than 20.00% of the capital sum assured, will also be facing problems. </li></ul><ul><li>These are the cases wherein the taxpayers have operated within the declared policy and the statutory provisions prevailing at the relevant point of time. There can, certainly no element of equity in putting them to hardship. One should not shed tears for those who have defied the provisions of the ITA as prevailing at the relevant point of time. For example, those who have gone for the policies wherein the rate of premium is more than 20.00% for the capital sum assured have to blame themselves for their ignorance of law and greed. They do not have any ground to complain. </li></ul>CA Sandesh Mundra, Chartered Accountants
    31. 31. <ul><li>What is the way out? </li></ul><ul><li>Blanket exemption is certainly out of question as it will give undue advantage to those </li></ul><ul><li>who have placed their money for laundering. It will also not be fair to salaried and </li></ul><ul><li>middle class tax payers who are required to pay tax even on interest income earned of </li></ul><ul><li>Rs. 100. Certainly there cannot be case for providing HNI an opportunity for earning </li></ul><ul><li>tax free income. </li></ul><ul><li>1 A way out can be to modify the provisions in the following way. </li></ul><ul><li>2 Firstly, the proposed provisions of DTC should be applicable only for those policies </li></ul><ul><li>which have been taken after 1-8-2009. </li></ul><ul><li>3 Secondly, as far as policies prior to the said period are concerned, policies issued before 1-4-2003 should be made totally exempt. In the case of policies issued after 1-4-2003 till 31-3-2011, exemption be granted for the cases wherein the premium paid is less than 20.00% of the sum assured. Clauses in this respect should be with sun-set period of, say, 15 to 20 years. This will address to the demand of large number of ordinary policy holders who have relied on the policy of the Government. </li></ul>CA Sandesh Mundra, Chartered Accountants
    32. 32. <ul><li>Which types of policies DTC proposes to exempt? </li></ul><ul><li>A question may arise in the mind of a common man as to which type of policy he should opt for? The message conveyed is clear. The people should go for the policies wherein the element of insurance is high as compared to financial investment. For better return on investment, one will have to look at the financial markets and various products made available thereat </li></ul>CA Sandesh Mundra, Chartered Accountants
    33. 33. <ul><li>Options for the Policy-holders </li></ul><ul><li>A time has come for all of us to take out old policy papers and examine its terms and conditions. At the time of buying the insurance plan we generally do not bother about these issues. However, the time has come to review the whole issue a fresh and take long term view of the situation emerging. </li></ul><ul><li>What should the policy-holders do? Should they go for pre-mature payment for whatever surrender value is available? Or should they continue with the policies and pay the tax in future? It is difficult to generalize, for solution to these questions depend upon one’s set of circumstances. </li></ul>CA Sandesh Mundra, Chartered Accountants
    34. 34. <ul><li>For example, those who have invested for laundering unaccounted money may find that, if the money is withdrawn at this stage even after incurring losses, it will pose another problem. </li></ul><ul><li>The debate on this issue has made the tax authorities at lower level enlightened about the provisions under the ITA. Any receipt of money under the insurance policy will prompt them to invoke the provisions of S. 10(10D). Not only that, since the time for re-opening the cases has not gone too far, it may prompt them to invoke the relevant provisions for source of investment. </li></ul><ul><li>In the case of assessees who have opted for it purely for high rate of return i.e. wherein the rate of premium is more than 20.00% of the capital sum assured, may have to work out the cost-benefit analysis. Of course, the danger of paying tax on premium paid and additional amount received, if any, will always remain. </li></ul>CA Sandesh Mundra, Chartered Accountants
    35. 35. What's the difference between an insurance company actuary and a mafia actuary? Answer:  An insurance company actuary can tell you how many people will die this year, a mafia actuary can name them. CA Sandesh Mundra, Chartered Accountants
    36. 36. <ul><li>For all those who have gone purely for insurance cover and premium paid is within the limit laid down, there is no cause for worry. </li></ul>CA Sandesh Mundra, Chartered Accountants
    37. 37. <ul><li>Conclusion: </li></ul><ul><li>On thing that can be said about the DTC proposal is that there is no question of giving blanket exemption to amount received under insurance plan forever. And certainly the DTC cannot be a party to the unaccounted money launderers nor can it hold the brief for HNI. Why should one shed tears for such individuals? However, as explained above, in the process of conversion to new system, there are genuine cases which have got trapped for no fault of their own. Their grievances certainly need to be addressed to. </li></ul>CA Sandesh Mundra, Chartered Accountants
    38. 38. Other Provisions dealing with Insurance, not being dealt in detail:- <ul><li>Section 44 </li></ul><ul><li>Insurance business. </li></ul><ul><li>44.    Notwithstanding anything to the contrary contained in the provisions of this Act relating to the computation of income chargeable under the head “Interest on securities”, “Income from house property”, “Capital gains” or “Income from other sources”, or in  section 199  or in  sections 28  to  29 [43B], the profits and gains of any business of insurance, including any such business carried on by a mutual insurance company or by a co-operative society, shall be computed in accordance with the rules contained in the First Schedule. </li></ul><ul><li>First Schedule </li></ul>CA Sandesh Mundra, Chartered Accountants
    39. 39. <ul><li>Other deductions. </li></ul><ul><li>36.  (1) The deductions provided for in the following clauses shall be allowed in respect of the matters dealt with therein, in computing the income referred to in  section 28 :- </li></ul><ul><li>( i ) the amount of any premium paid in respect of insurance against risk of damage or destruction of stocks or stores used for the purposes of the business or profession; </li></ul><ul><li>[( ia ) the amount of any premium paid by a federal milk co-operative society to effect or to keep in force an insurance on the life of the cattle owned by a member of a co-operative society, being a primary society engaged in supplying milk raised by its members to such federal milk co-operative society;] </li></ul>CA Sandesh Mundra, Chartered Accountants
    40. 40. <ul><li>[( ib ) the amount of any premium [paid by any mode of payment other than cash] by the assessee as an employer to effect or to keep in force an insurance on the health of his employees under a scheme framed in this behalf by :- </li></ul><ul><li>( A ) the General Insurance Corporation of India formed under section 9 of the General Insurance Business (Nationalisation) Act, 1972 (57 of 1972) and approved by the Central Government; or </li></ul><ul><li>( B ) any other insurer and approved by the Insurance Regulatory and Development Authority established under sub-section (1) of section 3 of the Insurance Regulatory and Development Authority Act, 1999 (41 of 1999);] </li></ul>CA Sandesh Mundra, Chartered Accountants
    41. 41. END OF PART - I Thanks for a patient hearing, We shall now move onto Part 2 CA Sandesh Mundra, Chartered Accountants
    42. 42. CA Sandesh Mundra, Chartered Accountants
    43. 43. Accounting under IFRS Insurance Industry CA Sandesh Mundra, Chartered Accountants
    44. 44. <ul><li>IFRS 4 on Insurancee Contracts is intended to cover not only the insurance companies as we know in the legal framework, but every entity which issues insurance contract. </li></ul>CA Sandesh Mundra, Chartered Accountants
    45. 45. Overview of IFRS 4 <ul><li>Defines an insurance contract and distinguishes from an investment contract </li></ul><ul><li>Requires IAS 39 to be applied to some pure investment contracts (but not to contracts with discretionary participation features) </li></ul><ul><li>Requires some embedded derivatives and some deposit components to be separated from insurance contracts </li></ul><ul><li>Requires a minimum liability adequacy test to be applied based on current estimates of future cash flows </li></ul><ul><li>IAS 39 applies to investments – no separate rules for insurers </li></ul>CA Sandesh Mundra, Chartered Accountants
    46. 46. <ul><li>Out of scope (as specifically covered by other standard) :- </li></ul><ul><ul><li>Employee benefit plans </li></ul></ul><ul><ul><li>Product Warranties and gaurantees issued by manufacturer, dealer or retailer. </li></ul></ul><ul><ul><li>Contractul rights which are contingent with regard to royalties / licenses. </li></ul></ul><ul><ul><li>Financial Gaurantees </li></ul></ul>CA Sandesh Mundra, Chartered Accountants
    47. 47. Agenda Product classification Accounting for investments CA Sandesh Mundra, Chartered Accountants
    48. 48. Agenda Product classification Accounting for investments CA Sandesh Mundra, Chartered Accountants
    49. 49. Need for product classification <ul><li>IFRS 4: Only standard on insurance contracts </li></ul><ul><li>Applies only to contracts that meet the definition of an insurance contract </li></ul><ul><ul><li>Investment contracts not meeting this definition covered under IAS 39 on `Financial Instruments: Recognition and Measurement’ </li></ul></ul><ul><li>Classification of products into insurance products or otherwise: a prerequisite under IFRS </li></ul>CA Sandesh Mundra, Chartered Accountants
    50. 50. Definition of an insurance contract <ul><li>Definition refers to traditional features of insurance contracts, distinguishing them from financial contracts </li></ul><ul><li>Definition: </li></ul><ul><li>“ a contract under which one party (the insurer) accepts significant insurance risk from another party (the policyholder) by agreeing to compensate the policyholder if a specified uncertain future event (the insured event) adversely affects the policyholder” </li></ul><ul><ul><li>Insurance risk is defined as a transferred risk other than financial risk </li></ul></ul>CA Sandesh Mundra, Chartered Accountants
    51. 51. #1: Significant insurance risk <ul><li>Quantitative guidance for assessing significance of insurance risk not provided </li></ul><ul><li>Contract is an insurance contract if it results in a significant additional payment </li></ul><ul><ul><li>If in a contract, death benefit exceeds the amount payable on survival, the contract is insurance contract unless the additional benefit is insignificant </li></ul></ul><ul><li>Significance is interpreted in relation to an individual contract; except in a portfolio of homogenous contracts </li></ul>CA Sandesh Mundra, Chartered Accountants
    52. 52. <ul><li>Some contracts do not transfer any insurance risk to the issuer at inception, although they do transfer insurance risk at a later time </li></ul><ul><ul><li>Account for as investment contract until transfer of the insurance risk </li></ul></ul><ul><ul><li>Once the insurance risk is transferred account for as insurance contract </li></ul></ul><ul><ul><li>Example: a zero death benefit pension product </li></ul></ul><ul><li>An insurance contract remains as an insurance contract until all rights and obligations are extinguished or expire </li></ul>#1: Significant insurance risk (Contd.) CA Sandesh Mundra, Chartered Accountants
    53. 53. <ul><li>Uncertainty of the insured event can result from uncertainty over: </li></ul><ul><ul><li>the occurrence of the event; </li></ul></ul><ul><ul><li>the timing of the occurrence of the event; or </li></ul></ul><ul><ul><li>the magnitude of the effect, if the event occurs </li></ul></ul><ul><li>Insured event must be explicitly or implicitly described </li></ul>#2: Uncertain future event CA Sandesh Mundra, Chartered Accountants
    54. 54. #3: Transferred risks <ul><li>Refers to risks which were pre existing for the policyholder at inception of the contract </li></ul><ul><ul><li>Loss of future earnings for the insured, when the contract is terminated by the insured event, is not insurance risk as the economic loss for the insured is not a transferred risk </li></ul></ul>CA Sandesh Mundra, Chartered Accountants
    55. 55. #4: Financial risks <ul><li>Include the risk of a possible change in variables such as </li></ul><ul><ul><li>interest rate </li></ul></ul><ul><ul><li>financial instrument price </li></ul></ul><ul><ul><li>commodity price </li></ul></ul><ul><ul><li>foreign exchange rate </li></ul></ul><ul><li>Financial risk products are not presently sold by Life Insurance Companies in India </li></ul>CA Sandesh Mundra, Chartered Accountants
    56. 56. Take a break … <ul><li>A lawyer, an accountant and an actuary are discussing the merits of having a mistress or a wife. The lawyer reckons it is better having a mistress, because the wife can take everything if you should come to a divorce. The accountant reckons it is definitely better having a wife, from a taxation perspective. The actuary reckons it is better having both, because when you are not with the wife, she would think that you are with the mistress, and when you are not with the mistress, the mistress thinks you are with the wife, and that way, you can spend more time at the office. </li></ul>CA Sandesh Mundra, Chartered Accountants
    57. 57. Definition of an insurance contract <ul><li>“ a contract under which one party (the insurer) accepts significant insurance risk from another party (the policyholder) by agreeing to compensate the policyholder if a specified uncertain future event (the insured event) adversely affects the policyholder” </li></ul><ul><ul><li>Insurance risk is defined as a transferred risk other than financial risk </li></ul></ul>CA Sandesh Mundra, Chartered Accountants
    58. 58. Protection vs investment - the spectrum of life products Term assurance Protection products Savings / investment products Permanent health insurance Whole life cover Endowments Pensions and annuities Maximum investment Insurance contract (traditional IAS 39 CA Sandesh Mundra, Chartered Accountants
    59. 59. Accounting of Insurance contracts Contract components Significant insurance risk ? Insurance contract IFRS 4 Unbundling ? Financial risk ? Financial risk ? Investment contract ??? Yes Account as per IAS 39: Fair value or amortised cost No Yes CA Sandesh Mundra, Chartered Accountants
    60. 60. Unbundling of an insurance contract Can the insurer measure the deposit component separately without considering the insurance component ? The insurer’s accounting policies require it to recognize all obligations and rights arising from the deposit component Unbundling prohibited Unbundling permitted but not required Unbundling required No No Yes Yes CA Sandesh Mundra, Chartered Accountants
    61. 61. Indicative contract classification: Indian context CA Sandesh Mundra, Chartered Accountants Product portfolio Classification Unit Linked life Insurance contracts as IRDA mandates a minimum death cover of 5 times the premium Unit Linked pension Insurance or Investment contracts depending on sum assured opted Participating – non linked life & endowment products Insurance or Investment contracts depending on sum assured opted Participating – endowment pension Insurance or Investment contracts depending on sum assured opted Non participating: Term (retail & group), Mortgage & Credit term and Health products Insurance contracts Group Superannuation, Gratuity & Leave encashment Investment contracts
    62. 62. <ul><li>To unbundle or not? </li></ul><ul><ul><li>Transparency? </li></ul></ul><ul><ul><li>Impact on top line </li></ul></ul><ul><li>No quantitative guidance on identification of significant insurance risk </li></ul><ul><ul><li>Open to individual judgment in identifying significance of insurance risk </li></ul></ul><ul><ul><li>Internationally contracts where the risk cover exceeds the premium by over 5 -10% are classified as Insurance contracts </li></ul></ul>Implications for Insurance Company CA Sandesh Mundra, Chartered Accountants
    63. 63. Agenda Product classification Accounting for Investments CA Sandesh Mundra, Chartered Accountants
    64. 64. Investment accounting – Indian context Investments Linked Non Linked & Shareholders Valued at fair value; unrealised gain/loss is taken to Revenue account Equity & Mutual Fund Investment Other Investments including debt instruments Valued at fair value; Unrealised gain/ loss taken to Balance Sheet Valued at amortised cost using simple interest rate method CA Sandesh Mundra, Chartered Accountants
    65. 65. <ul><li>Recognition and measurement of Investments under IFRS governed by IAS 39 - `Financial Instruments: Recognition and Measurement’ </li></ul><ul><li>IAS 39 prescribes rules for: </li></ul><ul><ul><li>Recognition (and de-recognition) of financial instruments </li></ul></ul><ul><ul><li>Measurement of various types of financial instruments in the financial statements, including derivative financial instruments </li></ul></ul><ul><ul><li>Hedge accounting </li></ul></ul>Investment accounting – under IFRS CA Sandesh Mundra, Chartered Accountants
    66. 66. <ul><li>Recognition: only when entity becomes party to the contractual provisions of the instrument </li></ul><ul><li>De-recognition: is appropriate if either one of these two criteria is met: </li></ul><ul><ul><li>Contractual rights to the cash flows of the financial asset have expired, or </li></ul></ul><ul><ul><li>The financial asset has been transferred and the transfer qualifies for de-recognition </li></ul></ul><ul><li>In Indian GAAP, presently there are no explicit guidelines on the timing of recognition & de-recognition of investment </li></ul>Recognition and De-recognition CA Sandesh Mundra, Chartered Accountants
    67. 67. Lets laugh a bit ……….. CA Sandesh Mundra, Chartered Accountants
    68. 68. IAS 39 /IFRS 4 can disrupt the balance between assets & liabilities Balance sheet insurance company Held-to-maturity = amortised cost Traditional insurance contracts = net-premium method at prudent discount rate ≌ amortised cost Loans and receivables = amortised cost Unit-linked insurance contracts = market value of linked investments Available-for-sale = fair value Fair value through P&L = fair value CA Sandesh Mundra, Chartered Accountants
    69. 69. Measurement of financial instruments CA Sandesh Mundra, Chartered Accountants Fair value through profit and loss Held-to-maturity assets (HTM) Loans and receivables Available for sale financial assets (AFS) I. Classification requirements: a. Held for trading (acquired for the purpose of short-term profit taking) a. Fixed or determinable payments and fixed maturity with intention to hold till maturity a. Financial assets with fixed or determinable payments Financial assets not classified in any of the other categories b. Upon initial recognition, designated as fair value through profit or loss b. If the portfolio has been tainted, then financial assets cannot be classified as HTM b. Not quoted in an active market   II. Initial measurement (at the time of purchase): Fair value Fair value + acquisition cost
    70. 70. Measurement of financial instruments (Contd..) CA Sandesh Mundra, Chartered Accountants III. Subsequent measurement: Fair value At amortised cost using effective interest rate method Fair value IV. Recognition of gains / losses through change in fair value:  Recognised in profit or loss account Not applicable To be recognised in the equity account (i.e. the reserves and not through profit or loss account) Fair value through profit and loss Held-to-maturity assets Loans and receivables Available for sale financial assets
    71. 71. Measurement of financial instruments (Contd..) CA Sandesh Mundra, Chartered Accountants V. Impairment loss:  Not applicable as any gains/losses are already recognised in the profit or loss account Amount of loss: difference between the assets carrying amount and the present value of estimated future cash flows Amount of loss: the difference between the acquisition cost and the current fair value Recognition: loss shall be recognised in the profit or loss account and the carrying value of the financial asset shall be accordingly reduced Recognition: the cumulative loss previously recognised shall be reduced from the equity (reserves) account and shall be recognised in profit or loss account Fair value through profit and loss Held-to-maturity assets Loans and receivables Available for sale financial assets
    72. 72. Measurement of financial instruments (Contd..) <ul><li>Other aspects on measurement: </li></ul><ul><ul><li>Amortisation basis </li></ul></ul><ul><ul><ul><li>IFRS prescribes Effective interest method </li></ul></ul></ul><ul><ul><ul><li>Indian GAAP prescribes current simple interest method </li></ul></ul></ul><ul><ul><li>Transaction costs (related to acquisition / issuance of investment) </li></ul></ul><ul><ul><ul><li>IAS 39 prescribes the cost to be charged off to the Revenue / Profit & Loss Account </li></ul></ul></ul><ul><ul><ul><li>Indian GAAP prescribes capitalisation of the cost with the cost of investment </li></ul></ul></ul>CA Sandesh Mundra, Chartered Accountants
    73. 73. <ul><li>An investment cannot be classified into or out of fair value through profit or loss category </li></ul><ul><li>Reclassification between AFS & HTM categories is possible </li></ul><ul><ul><li>Except if HTM portfolio is tainted </li></ul></ul><ul><ul><li>If significant amount is reclassified under AFS from HTM; the remaining HTM investment has also to be reclassified into AFS </li></ul></ul>Re-classification of financial instruments CA Sandesh Mundra, Chartered Accountants
    74. 74. <ul><li>Alignment between IRDA regulations and requirements of IAS 39 </li></ul><ul><li>Classification of investments in light of lack of experience </li></ul><ul><li>Volatility in the revenue account if one classifies Investments as Fair value through Profit & Loss </li></ul><ul><li>Decision to classify investments either at fund, segment or at each security level </li></ul><ul><ul><li>This could impact allocation of a single security across various funds having different classification categories </li></ul></ul>Implications for Insurance Company CA Sandesh Mundra, Chartered Accountants
    75. 75. <ul><li>Stringent tainting provisions: </li></ul><ul><ul><li>Companies would be forced to classify long term securities as other than HTM category </li></ul></ul><ul><li>HTM securities will now be valued using effective interest method as against presently used simple interest method, requiring necessary system changes </li></ul><ul><li>System readiness in respect of accounting, valuation and providing other disclosure related information </li></ul>Implications for Insurance Company CA Sandesh Mundra, Chartered Accountants
    76. 76. CA Sandesh Mundra, Chartered Accountants

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