Discounting under IFRS 17: an application of the bottom-up approach

IFRS 17 is planned to be adopted by insurance and reinsurance companies on 1 January 2023, replacing the currently used IFRS 4. It provides a consistent principle-based approach for all aspects of accounting for insurance contracts. It removes existing inconsistencies and enables investors, analysts and supervisors to meaningfully compare companies, contracts and industries through enhanced transparency of balance sheet items and profitability indicators. A key issue which insurance companies will face during the implementation of the Standard is represented by the derivation of an appropriate set of discount rates used to value insurance contracts, starting from a series of broad principles set out by the IASB. After reviewing the historical development of the Standard and summarising the main elements constituting the valuation methods prescribed, the present dissertation will focus on the theoretical background underlying the discounting of insurance liabilities and its possible framing into a bottom-up and top-down approach. Finally, the subject is tackled from a practical point of view, proposing a set of methodologies that could be used by practitioners in the industry to go from a principlebased requirement to the derivation of an actual term structure compliant with IFRS 17. A case study, testing the impacts of different discount curves constructed with the bottom-up approach on two distinct contract’s valuations, concludes the analysis.