ASC

ASC 805-944

Financial Services—Insurance

805 Business Combinations

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In brief

AdvancedBusiness combinationsIndustry-specificSubsequent measurementDisclosure

ASC 805-944 tells insurance entities how to account for insurance and reinsurance contracts acquired in a business combination and how to account for demutualizations (or formation of a mutual insurance holding entity). Acquired insurance/reinsurance contracts are treated as new contracts, recognized at fair value but split into (a) amounts measured under the acquirer's own insurance accounting policies and (b) an intangible asset (or liability) for the residual, while the acquiree's classification as insurance versus deposit contract is carried forward. A demutualization is not itself a change in ownership requiring a new accounting basis; instead the entity computes a one-time actuarial calculation of maximum future closed-block earnings and records a policyholder dividend obligation whenever cumulative actual closed-block earnings exceed cumulative expected earnings.

Key points (7)
  • Insurance and reinsurance contracts acquired in a business combination are considered new contracts for measurement and accounting purposes, but the acquiree's classification as an insurance/reinsurance contract versus a deposit contract is carried forward based on terms at contract inception or last substantive modification (944-805-25-1 through 25-2).
  • Fair value of the acquired contractual rights and obligations is recognized in two components: assets and liabilities measured under the acquirer's own insurance accounting policies (excluding the acquiree's deferred acquisition costs and unearned premiums), and an intangible asset or other liability for the difference (944-805-30-1); that intangible is subsequently measured on a basis consistent with the related insurance liability (944-805-35-1 through 35-3).
  • A demutualization or formation of a mutual insurance holding entity does not, by itself, constitute a change in ownership requiring a change in historical accounting bases or carrying amounts, and closed block assets continue to be accounted for as before (944-805-25-6 through 25-7).
  • Maximum future stockholder earnings from the closed block equal the excess of closed block liabilities over closed block assets, adjusted to remove unrealized amounts in accumulated other comprehensive income, measured at the demutualization date (944-805-25-8 through 25-9).
  • A best-estimate actuarial calculation (no provision for adverse deviation) made at the actuarial calculation date is used in all later periods and shall not be revised (944-805-30-3 through 30-4); cumulative actual closed block earnings exceeding cumulative expected earnings are recorded as a policyholder dividend obligation, which may never be negative (944-805-35-5 through 35-12).
  • Distributions by a mutual insurance holding entity to its members are accounted for by substance—as policyholder dividends under Subtopic 944-50 unless there are substantive independent third-party stockholders and the three conditions in 944-805-25-13 are met.
  • In a distribution-form demutualization all retained earnings are reclassified to capital stock and additional paid-in capital (with cash or policy credits charged directly to those capital accounts), while a subscription-form demutualization causes no such reclassification; direct and incremental demutualization costs are shown as a single line item within income from continuing operations (944-805-45-3 through 45-4).

For students. This is niche insurance-industry guidance, but it illustrates two exam-worthy ideas: acquired insurance contracts are remeasured at fair value yet split into a policy-basis component plus a residual intangible, and a demutualization is a reorganization—not a purchase—so no new basis arises. The most common misunderstanding is thinking the closed block is a separate legal or reporting entity; it is displayed line-by-line with the insurer's other assets and liabilities, and its assets remain subject to the insurer's general creditors.

acquired insurance and reinsurance contractsdemutualizationmutual insurance holding entityclosed blockpolicyholder dividend obligationactuarial calculation datemaximum future earnings inuring to stockholdersparticipating life insurance contracts

Machine-generated study aid for ASC 805-944. Check the source paragraphs below.

805-944-00Status

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805-944-05Overview and Background

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805-944-05-1
This Subtopic provides guidance to insurance entities on accounting for and financial reporting of business combinations. The guidance in this Subtopic is presented in the following two Subsections:
  1. a
    General
  2. b
    Demutualizations.
805-944-05-2
The General Subsections of this Subtopic provide guidance to insurance entities on accounting for and financial reporting of insurance and reinsurance contracts acquired in a business combination.

Demutualizations

805-944-05-3
The Demutualizations Subsections of this Subtopic provide guidance to insurance entities on accounting for and financial reporting of demutualizations.
805-944-05-4
This Subsection is organized as follows:
  1. a
    The demutualization process
  2. b
    Formation of a mutual insurance holding entity
  3. c
    Closed blocks for certain participating life insurance contracts
  4. d
    Alternative mechanisms to closed blocks.

The Demutualization Process

805-944-05-5
Mutual insurance entities differ from stock insurance entities in that they do not have stockholders. A mutual insurance entity is considered to be owned by policyholders whose insurance contracts embody their rights as insureds and as members of the mutual insurance entity.
805-944-05-6
The process of demutualization or formation of a mutual insurance holding entity is subject to scrutiny and approval by state insurance regulatory authorities. Most states have some form of demutualization statute. A range of demutualization statutes and regulations exist for insurance entities. Typically, those laws contemplate a direct and full reorganization of the mutual insurer to a stock form. In accordance with some demutualization statutes, eligible policyholders receive stock, policy credits, policyholder benefits, cash, or subscription rights as consideration for their membership interest.
805-944-05-7
The process for allocating the aggregate consideration among eligible policyholders varies based on individual entity circumstances and applicable regulatory statutes. The allocation process generally consists of a fixed and a variable component.
805-944-05-8
The fixed component represents consideration for eligible policyholders' membership interest in the mutual insurer and consists of a given number of shares per policyholder (or sometimes, per policy).
805-944-05-9
The variable component represents consideration for eligible policyholders' contribution to the value of the insurer. The variable component of the aggregate compensation is allocated to policyholders in proportion to the actuarial contributions of their eligible policies, if positive. A policy's actuarial contribution consists of its historical equity share (the policy's past contribution to entity equity) and, in most cases, the prospective equity share; that is, the present value of the policy's expected future contributions to entity equity.

Formation of a Mutual Insurance Holding Entity

805-944-05-10
An alternative to demutualization, in the jurisdictions where it is permitted, is for a mutual insurance entity to form a mutual insurance holding entity. The mutual insurer is converted to a stock insurance entity and becomes a stockholder-owned entity that operates as a subsidiary of the newly formed mutual insurance holding entity. All the initial stock of the reorganized entity is issued to the mutual insurance holding entity. Governance of the mutual insurance holding entity is established by the former mutual insurance entity's board of directors. The converted stock insurer may generate additional capital through an initial or subsequent public offering; however, most statutes specify that the mutual insurance holding entity must own greater than 50 percent of the voting rights of the converted insurer to ensure that the mutual insurance holding entity maintains effective control. The policyholders of the converted insurer become members of the mutual insurance holding entity through the transfer of their mutual membership interests to the mutual insurance holding entity, retaining the same voting rights they had previously. Policyholders with participating insurance contracts retain their participating contract in the converted stock insurer, but unlike in a demutualization, there is no distribution of equity or subscription rights to policyholders.
805-944-05-11
Most of the past demutualizations and at least one of the past mutual insurance holding entity conversions have been accompanied or followed by an initial public offering of the stock of a demutualized insurance entity or an intermediate holding entity of the mutual insurance holding entity.

Closed Blocks for Certain Participating Life Insurance Contracts

805-944-05-12
In connection with a demutualization or the formation of a mutual insurance holding entity, some state insurance departments require that a closed block or alternative mechanism be established for certain participating life insurance contracts to protect the adjustable policy features and dividend expectations of participating life insurance policyholders from the competing interests of stockholders. Typically, the plan of demutualization describes how the closed block will operate.
805-944-05-13
The closed block assets and cash flows provided by those assets (see paragraph 944-805-05-15) will not inure to the stockholders of the demutualized entity; instead, all cash flows from those assets will be used to benefit the closed block policyholders (absent regulatory approval to the contrary or insolvency of the insurer). Because the insurance entity remains obligated to provide for minimum guarantees under the participating policy, it is consequently possible under certain circumstances that funds from outside the closed block will have to be used to meet the contractual benefits of the closed block policyholders. The assets designated to the closed block are subject to the same liabilities, with the same priority in the case of insolvency or in liquidation, as assets outside the closed block. In many situations, commissions and other expenses (including management expenses) of operating and administering the closed block will not be charged to the closed block. Unless the state insurance department consents to an earlier termination, the closed block will continue in effect until the date on which none of the policies in the closed block remains in force.
805-944-05-14
The process of formation of the closed block is negotiated between the insurance entity and the applicable state insurance regulators. Estimated future cash flows are considered in determining the nature and amount of assets designated to the closed block. The assets that are designated to the closed block are expected to produce cash flows sufficient to satisfy the obligations of the closed block, as well as the continuation of policyholder dividend scales and policy credits before the demutualization, if the underlying experience continues. Actual policy dividends paid may be increased or decreased based on the effect of future events, such as investment experience, mortality gains or losses, and persistency of the closed block policies.
805-944-05-15
The specific policyholder contracts designated for inclusion in the closed block are part of the negotiation process with the insurance regulators.
805-944-05-16
If cash flows from the closed block assets and experience of the closed block are, in the aggregate, more or less favorable than assumed in the funding of the closed block, total dividends paid to closed block policyholders could differ from the original dividend assumptions. Net favorable deviations in closed block performance, unless reversed by subsequent unfavorable experience, will be available for distribution over time only to closed block policyholders and will not be available to the insurance entity or its stockholders. Net unfavorable deviations could result in reduced dividends to closed block policyholders, unless reversed by future favorable experience or ultimately funded from assets outside of the closed block.
805-944-05-17
Regardless of the closed block's performance, the insurance entity is obligated to pay guaranteed benefits under the policies in accordance with their terms. If the cash flows from the assets allocated to the closed block and the policies included in the closed block prove to be insufficient to pay the benefits guaranteed under the policies included in the closed block, the insurance entity will be required to make those payments from assets outside of the closed block.

Alternative Mechanisms to Closed Blocks

805-944-05-18
Alternatives to the closed block have arisen in practice encompassing, for a number of types of contracts, various mechanisms believed by the insurance entities and state insurance regulators to be appropriate in the specific circumstances. Closed block alternative mechanisms have been used in lieu of closed blocks for certain participating life insurance contracts to commit to the insurance regulator that the insurance entity will continue to follow its established dividend practices. Closed block alternative mechanisms also have been used to protect nonguaranteed elements of participating and nonparticipating insurance contracts such as interest credits on deferred annuities and adjustable premiums on adjustable premium term business. In some instances, the methodology and limitations defined in the agreements with the state insurance regulators have considered only specific profit components, such as mortality experience on a block of term insurance or investment spreads on a block of annuities, and in other instances have considered virtually all components of product profitability. If there is a limitation on the profits that may inure to the stockholders, there is an agreement between the insurance entity and the insurance regulators that defines all of the following:
  1. a
    The contracts covered by the limitation
  2. b
    The profit limitation calculation
  3. c
    The timing and manner (for example, as policy dividends, reduced premiums, or additional benefits) in which amounts that may not be distributed to stockholders are to be distributed to policyholders.

805-944-15Scope and Scope Exceptions

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Overall Guidance

805-944-15-1
This Subtopic follows the same Scope and Scope Exceptions as outlined in the Overall Subtopic, see Section 944-10-15.

Demutualizations

805-944-15-2
The Demutualizations Subsections of this Subtopic follow the same Scope and Scope Exceptions as outlined in the General Subsection of this Section, with specific transaction exceptions and qualifications and other considerations noted below.

Transactions

805-944-15-3
The guidance in the Demutualizations Subsections of this Subtopic applies to all formal closed blocks and to closed block alternative mechanisms to the extent the concepts are applicable to them, all of which are referred to as closed blocks in the Demutualizations Subsections of this Subtopic.

Other Considerations

805-944-15-4
The guidance in the Demutualizations Subsections of this Subtopic does not address what constitutes a change in ownership or reporting entity that would require a change in basis for the reported assets and liabilities.
805-944-15-5
The accounting guidance in Subtopic 944-20 is the appropriate accounting method for participating life insurance contracts that meet the conditions of paragraph 944-20-15-3 and, therefore, an insurance entity shall continue to apply that guidance to demutualized insurance entities' participating life insurance contracts issued before the date of demutualization or formation of a mutual insurance holding entity. However, the segregation of undistributed accumulated earnings on participating contracts is meaningful in a stock life insurance entity because the objective of such presentation is to identify amounts that are not distributable to stockholders. Therefore, after the date of demutualization or formation of a mutual insurance holding entity, the provisions of paragraphs 944-50-25-2 and 944-50-30-2 relating to dividends on participating life insurance contracts shall apply to those contracts sold before the date of demutualization or formation of a mutual insurance holding entity.

805-944-25Recognition

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Insurance and Reinsurance Contracts Acquired

805-944-25-1
The acquirer shall consider insurance and reinsurance contracts acquired in a business combination to be new contracts for measurement and accounting purposes.
805-944-25-2
The acquirer shall carry forward the acquiree's classification of an acquired contract as an insurance or reinsurance contract or a deposit contract based on an understanding of the contractual terms of the acquired contract and any related contracts or agreements at the inception of the contract or, if the terms of those contracts or agreements were later modified in a manner that would change the classification, at the date of that modification (which may be the acquisition date).
805-944-25-3
The acquirer shall recognize the assets and liabilities arising from the rights and obligations of the insurance and reinsurance contracts acquired in the business combination.
805-944-25-4
Other related contracts that are not insurance or reinsurance contracts shall be recognized at the date of acquisition in accordance with Topic 805. For instance, a contingent commission arrangement is a contingency that the acquirer shall account for in accordance with paragraphs 805-20-25-18A through 25-20B and 805-20-30-9.
805-944-25-5
An example of an indemnification agreement that may be in the form of a reinsurance contract is a guarantee by the seller of the adequacy of acquired claims and claims expense liabilities at the date of acquisition. The acquirer shall recognize any indemnification asset resulting from such an agreement in accordance with paragraphs
805-20-25-27 through 25-28
and
805-20-30-18 through 30-19
.

Demutualizations

Overall

805-944-25-6
A demutualization or formation of a mutual insurance holding entity in and of itself does not constitute a change in ownership that requires a change in the historical accounting bases or carrying amounts of assets and liabilities.
805-944-25-7
The assets designated to the closed block continue to be accounted for as they were before the date of demutualization.

Emergence of Earnings and Policyholder Dividend Obligation

805-944-25-8
The amounts to be included in net income relative to assets and liabilities included in a closed block shall be limited, based on a calculation prepared as of the date of demutualization or formation of a mutual insurance holding entity. As of the actuarial calculation date, the carrying amount of closed block liabilities will typically exceed the carrying amount of closed block assets. Certain of those assets, such as debt securities classified as available-for-sale under Subtopic 320-10, will be carried at fair value with unrealized holding gains and losses included in other comprehensive income until realized. A demutualization or formation of a mutual insurance holding entity does not, in and of itself, constitute a change in ownership that results in the realization of those unrealized gains and losses. Instead, those unrealized gains and losses will be realized over the period the closed block policies remain in force, as are all other transactions relating to the closed block assets and liabilities.
805-944-25-9
As a result, the carrying amounts of the closed block assets shall be adjusted to remove those unrealized amounts to determine the maximum future earnings (before items that may not have been considered in the funding of the closed block, such as commissions and maintenance expenses; see paragraph 944-805-05-18) that would be recognized in income over the period the policies in the closed block remain in force.
805-944-25-10
The changes in the net closed block liability over time represent the expected closed block contribution to the earnings of the insurer that inure to the benefit of the stockholders.

Dividends Payable to Stockholders

805-944-25-11
A dividend payable to stockholders, whether declared by a stock insurer or its holding entity, is a common corporate capital transaction. Cash dividends shall be recognized as a liability on the declaration date.

Distributions to Members

805-944-25-12
Because the members of a mutual insurance holding entity are also policyholders of the stock insurance subsidiary, a distribution by a mutual insurance holding entity to its members shall be accounted for according to the substance of the transaction. Unless there are substantive independent third-party stockholders of the demutualized insurance entity or intermediate holding entity of the mutual insurance holding entity, the distribution shall be accounted for as a policyholder dividend in accordance with Subtopic 944-50.
805-944-25-13
If there are substantive independent third-party stockholders and all of the following conditions also are satisfied, the distribution is presumed to be appropriately accounted for as an equity dividend:
  1. a
    There is a mechanism to ensure that policyholder dividends are not a component of the mutual insurance holding entity distribution.
  2. b
    All mutual insurance holding entity members are eligible to receive the mutual insurance holding entity distribution and the allocation of the mutual insurance holding entity distribution is consistent with the concept of mutual insurance holding entity membership. Depending on the jurisdiction, the distribution may be based on equity share or equally distributed to each mutual insurance holding entity member.
  3. c
    The distribution is legally characterized as a membership distribution rather than a policyholder distribution.
805-944-25-14
If a distribution by the mutual insurance holding entity is determined to be a policyholder dividend expense, the insurance subsidiary shall recognize the policyholder dividend in its separate financial statements as an expense with recognition of a corresponding capital contribution from the mutual insurance holding entity.
805-944-25-15
The mutual insurance holding entity shall reflect the amount of the distribution as a capital contribution to the insurance subsidiary in its separate financial statements. In consolidated financial statements, the expense shall be reported and the capital contribution shall be eliminated.

805-944-30Initial Measurement

Source downloaded: .Record version e4192c61988a. Effective date must be checked in the source.

Insurance and Reinsurance Contracts Acquired

805-944-30-1
The acquirer shall measure at fair value the assets and liabilities recognized under paragraph 944-805-25-3. However, the acquirer shall recognize that fair value in components as follows:
  1. a
    Assets and liabilities measured in accordance with the acquirer's accounting policies for insurance and reinsurance contracts that it issues or holds. For example, the contractual assets acquired could include a reinsurance recoverable and the liabilities assumed could include a liability to pay future contract claims and claims expenses on the unexpired portion of the acquired contracts and a liability to pay incurred contract claims and claims expenses. However, those assets acquired and liabilities assumed would not include the acquiree's deferred acquisition costs and unearned premiums that do not represent future cash flows.
  2. b
    An intangible asset (or occasionally another liability), representing the difference between the following:
    1. 1
      The fair value of the contractual insurance and reinsurance assets acquired and liabilities assumed
    2. 2
      The amount described in (a).
805-944-30-2
Other related contracts that are not insurance or reinsurance contracts shall be measured at the date of acquisition in accordance with Topic 805.

Demutualizations

Emergence of Earnings and Policyholder Dividend Obligation

805-944-30-3
As of the actuarial calculation date, a calculation shall be developed that represents the cash flows expected to be generated from the assets and liabilities included in the closed block. Based on that actuarial calculation, the periodic expected changes in the net closed block liability (on the basis of generally accepted accounting principles [GAAP]), which is after the elimination of the effect of the applicable items of other comprehensive income shall be derived. The actuarial calculation shall be based on a best estimate (with no provision for adverse deviation) of the future performance of the closed block assets and liabilities as of the actuarial calculation date.
805-944-30-4
The actuarial calculation described in the preceding paragraph shall continue to be used in subsequent accounting periods to determine the change in the policyholder dividend obligation. The actuarial calculation shall not be revised in future accounting periods.

805-944-35Subsequent Measurement

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Insurance and Reinsurance Contracts Acquired

805-944-35-1
After the business combination, the acquirer shall measure the intangible asset (or other liability) on a basis consistent with the related insurance or reinsurance liability.
805-944-35-2
For example, for most short-duration contracts such as many property and liability insurance contracts, claim liabilities are not discounted under generally accepted accounting principles (GAAP), so amortizing the intangible asset like a discount using an interest method could be an appropriate method.
805-944-35-3
For certain long-duration contracts such as traditional life insurance contracts, using a basis consistent with the measurement of the liability would be similar to the guidance provided in paragraph 944-30-35-3, which requires that deferred acquisition costs be amortized using methods that include assumptions consistent with those used in estimating the liability for future policy benefitsincluding subsequent revisions to those assumptions. Also, paragraph 944-30-35-63 specifies that the present value of future profits is subject to premium deficiency testing in accordance with the provisions of Subtopic 944-60.

Demutualizations

Policyholder Liabilities

805-944-35-4
The policyholder liabilities for closed block participating life insurance contracts shall continue to be calculated under the provisions of Subtopic 944-20 as well as the Demutualizations Subsections of this Subtopic.

Emergence of Earnings and Policyholder Dividend Obligation

805-944-35-5
Paragraph 944-805-25-10 states that the changes in the net closed block liability over time represent the expected closed block contribution to the earnings of the insurer that inure to the benefit of the stockholders. Cumulative actual closed block earnings in excess of the cumulative expected periodic amounts reflected in the actuarial calculation (see paragraph 944-805-30-3) do not inure to the stockholders and shall be recorded as an additional liability to closed block policyholders (referred to as a policyholder dividend obligation). Those amounts will result in additional future dividends to closed block policyholders unless otherwise offset by less-favorable-than-expected future performance of the closed block.
805-944-35-6
Paragraph 944-805-30-4 states that the actuarial calculation required in paragraph 944-805-30-3 shall continue to be used in subsequent accounting periods to determine the change in the policyholder dividend obligation. That paragraph states that the actuarial calculation shall not be revised in future accounting periods.
805-944-35-7
The amount of the policyholder dividend obligation shall be determined by comparing cumulative actual earnings of the closed block from the actuarial calculation date to the date of measurement with the amount of cumulative expected earnings based on the actuarial calculation for the same period.
805-944-35-8
Cumulative actual earnings in excess of cumulative expected earnings based on the actuarial calculation shall be recorded as a policyholder dividend obligation.
805-944-35-9
Unrealized investment gains and losses and other amounts related to the closed block normally reported in accumulated other comprehensive income that have arisen after the actuarial calculation date shall be included in the determination of the amount of the policyholder dividend obligation limited, in the case of losses, to the extent that the policyholder dividend obligation is otherwise positive.
805-944-35-10
Unrealized investment gains and losses and other items related to the closed block normally reported in accumulated other comprehensive income that have arisen at or after the actuarial calculation date shall continue to be reported in accumulated other comprehensive income.
805-944-35-11
Amounts related to the closed block that have arisen after the actuarial calculation date shall enter into the determination of the policyholder dividend obligation with an offsetting amount reported in accumulated other comprehensive income. The amount charged to policyholder dividend obligation for losses shall be limited to the extent that the policyholder dividend obligation is otherwise positive. Those amounts shall be reported in the income statement and the amounts previously reported in other comprehensive income shall be reversed when investment gains and losses and other items of other comprehensive income are realized.
805-944-35-12
Unrealized investment losses and other loss items related to the closed block that would result in a negative policyholder dividend obligation shall be recognized in other comprehensive income applicable to stockholders—the policyholder dividend obligation account may not have a negative balance.
805-944-35-13
The policyholder dividend obligation will decrease if experience is less favorable than expected and the dividend scale is not commensurately reduced.
805-944-35-14
If dividends paid are higher than originally expected in the dividend scale, the policyholder dividend obligation will decrease.

Other Considerations

805-944-35-15
The accounting guidance in Subtopic 944-20 shall be applied to demutualized insurance entity participating life insurance contracts within its scope that are issued after the date of demutualization or formation of a mutual insurance holding entity. The segregation of undistributed accumulated earnings on participating life insurance contracts in excess of amounts that inure to stockholders is meaningful in a stock life insurance entity because the objective of such presentation is to identify amounts that are not distributable to stockholders. Therefore, the guidance in paragraphs
944-50-25-1 through 25-2
and
944-50-30-1 through 30-2
relating to dividends on participating life insurance contracts applies to contracts that are sold after the date of demutualization or formation of a mutual insurance holding entity within the scope of Subtopic 944-20. The guidance in those paragraphs shall also be applied by stock insurance entities with respect to participating life insurance contracts for which limitations exist on the amount of net income that may be distributed to stockholders. If there is a limitation on the amount of income from participating life insurance contracts issued after the date of demutualization or formation of a mutual insurance holding entity that may be distributed to stockholders, the policyholders' share of income on those contracts that may not be distributed to stockholders shall be charged to operations with a corresponding credit to a liability. Dividends paid to participating policyholders reduce that liability.

805-944-45Other Presentation Matters

Source downloaded: .Record version bd00de540ff3. Effective date must be checked in the source.

Demutualizations

Closed Block

805-944-45-1
Closed block assets, liabilities, revenues, and expenses shall be displayed together with all other assets, liabilities, revenues, and expenses of the insurance entity based on the nature of the particular item, with appropriate disclosures relating to the closed block. See the Demutualizations Subsection of Section 944-805-50.

Emergence of Earnings and Policyholder Dividend Obligation

805-944-45-2
Unrealized investment gains and losses, other items of accumulated other comprehensive income, and the amount of offsetting policyholder dividend obligation shall not be netted in the presentation of other comprehensive income.

Expenses of Demutualization or Holding Entity Formation

805-944-45-3
In connection with a demutualization or formation of a mutual insurance holding entity, an insurance entity will incur expenses, including those for legal services, actuarial services, printing, and postage. Direct and incremental costs related to a demutualization or formation of a mutual insurance holding entity shall be classified as a single line item within income from continuing operations.

Date of Demutualization or Holding Entity Formation

805-944-45-4
Depending on the form of demutualization, a reclassification of retained earnings at the date of demutualization may be appropriate. An insurance entity that demutualizes in a distribution-form demutualization shall reclassify all its retained earnings as of the date of demutualization to capital stock and additional paid-in capital accounts (the capital accounts). If the entity distributes cash or policy credits to policyholders in lieu of capital stock, as part of the demutualization, the distribution shall be recorded as a direct reduction to the appropriate capital accounts. A subscription-form demutualization does not, by itself, result in reclassification of retained earnings.
805-944-45-5
The equity accounts of a mutual insurance holding entity at the formation date shall be determined using the principles for transactions of entities under common control, with the amount of retained earnings of the demutualized insurance entity, before reclassification to the capital accounts, being reported as retained earnings of the mutual insurance holding entity. Because the accounting bases and carrying amounts of assets and liabilities are not changed as a consequence of demutualization or formation of a mutual insurance holding entity, the amounts in accumulated other comprehensive income also shall not be changed as a consequence of demutualization or formation of a mutual insurance holding entity.

805-944-50Disclosure

Source downloaded: .Record version ed5059e36feb. Effective date must be checked in the source.

805-944-50-1
The disclosures in paragraphs
350-30-50-1 through 50-3
apply to the intangible assets recognized pursuant to paragraph 944-805-25-3.

Demutualizations

805-944-50-2
An insurance entity shall disclose all of the following:
  1. a
    The nature and terms of a demutualization or formation of a mutual insurance holding entity
  2. b
    The basis of presentation and terms of operation of the closed block
  3. c
    A general description of all of the following:
    1. 1
      The method of emergence of earnings from the closed block
    2. 2
      Presentation of assets and liabilities of the closed block
    3. 3
      The policyholder dividend obligation.
805-944-50-3
An insurance entity that has formed a closed block shall disclose both of the following:
  1. a
    A general description of the closed block, including all of the following:
    1. 1
      The purpose of the closed block
    2. 2
      The types of insurance policies included
    3. 3
      The nature of the cash flows that increase and decrease the amount of closed block assets and liabilities
    4. 4
      An indication of the continuing responsibility of the insurance entity to support the payment of contractual benefits, including the results of premium sufficiency or deficiency determined in accordance with paragraphs
      944-60-25-7 through 25-9
    5. 5
      The nature of expenses charged to the closed block operations.
  2. b
    Summarized financial data of the closed block as of, or for periods ending on the date of, the financial statements presented, which shall include, at a minimum, all of the following:
    1. 1
      The carrying amounts for the major types of invested assets of the closed block
    2. 2
      Future policy benefits and policyholders' account balances
    3. 3
      Policyholder dividend obligation
    4. 4
      Premiums
    5. 5
      Net investment income
    6. 6
      Realized investment gains and losses
    7. 7
      Policyholder benefits
    8. 8
      Policyholder dividends
    9. 9
      The amount of maximum future earnings remaining to inure to the benefit of stockholders from the assets and liabilities of the closed block
    10. 10
      An analysis of the changes in the policyholder dividend obligation.
Example 2 (see paragraph 944-805-55-3) illustrates the application of these disclosure requirements.
805-944-50-4
Disclosures that typically would be required by the preceding paragraph for the various specific elements included in the closed block need not be made separately for the closed block if the nature of the information for the closed block would not differ significantly from that already included for the reporting entity as a whole. For example, it is not necessary to show a separate schedule of contractual maturities of closed block fixed maturity securities if the relative composition of contractual maturities is similar to those of the reporting entity taken as a whole. However, if the relative maturities of the closed block fixed maturities securities differ from those of the reporting entity taken as a whole, separate disclosures shall be made.

805-944-55Implementation Guidance and Illustrations

Source downloaded: .Record version c647d6b4f4c3. Effective date must be checked in the source.

Demutualizations

Implementation Guidance

805-944-55-1
A stock dividend declared by the stock insurer shall be accounted for in accordance with the guidance in Subtopic 505-20. Under existing laws or regulations, a mutual insurance holding entity is required to own a controlling voting interest in the stock insurance subsidiary and, therefore, shall reflect the stock insurer or intermediate holding entity on a consolidated basis. As a result, intra-entity dividends would be eliminated in the consolidated accounts of the mutual insurance holding entity.

Illustrations

805-944-55-2
This Example illustrates emergence of earnings as discussed beginning in paragraph 944-805-25-8. As part of the negotiations surrounding the closed block and demutualization process, the insurance entity may agree with the insurance regulator to designate participating policies with a carrying amount (liability) of $2,500,000,000 for the closed block. Fixed maturity available-for-sale investments with a carrying value and fair value of $2,300,000,000 and an amortized cost of $2,240,000,000 are designated as the closed block assets. If there are no other assets or liabilities included in the closed block, the maximum future earnings from the closed block that would be recognized in income over the period in which the closed block remains in force is $260,000,000.
805-944-55-3
This Example illustrates one application of the disclosure requirements of the Demutualizations Subsection of Section 944-805-50 for a single hypothetical insurance entity, referred to as ABC Life Insurance Entity. ABC Life Insurance Entity would make the following disclosures.
  • At the effective date (January XX, 20X1) of the Plan of Demutualization, eligible policyholders received, in the aggregate, approximately $XX million of cash, $XX million of policy credits, and XX million shares of common stock of ABC Holding Entity in exchange for their membership interests in ABC Life Insurance Entity. The demutualization was accounted for as a reorganization. Accordingly, ABC Life Insurance Entity's retained earnings at the Plan Effective Date (net of the aforementioned cash payments and policy credits, which were charged directly to retained earnings) were reclassified to common stock and capital in excess of par.
  • As of January XX, 20X1, ABC Life Insurance Entity established a closed block for the benefit of certain classes of individual participating policies for which ABC Life Insurance Entity had a dividend scale payable in 20X0 and that were in force on January XX, 20X1. Assets were allocated to the closed block in an amount that, together with anticipated revenues from policies included in the closed block, was reasonably expected to be sufficient to support such business, including provision for payment of benefits, certain expenses, and taxes, and for continuation of dividend scales payable in 20X0, assuming experience underlying such scales continues. Assets allocated to the closed block inure solely to the benefit of the holders of the policies included in the closed block and will not revert to the benefit of stockholders of ABC Life Insurance Entity. No reallocation, transfer, borrowing, or lending of assets can be made between the closed block and other portions of ABC Life Insurance Entity's general account, any of its separate accounts, or any affiliate of ABC Life Insurance Entity without the approval of the Z State Insurance Department.
  • If, over time, the aggregate performance of the closed block assets and policies is better than was assumed in funding the closed block, dividends to policyholders will be increased. If, over time, the aggregate performance of the closed block assets and policies is less favorable than was assumed in the funding, dividends to policyholders could be reduced.
  • The assets and liabilities allocated to the closed block are recognized in ABC Life Insurance Entity's financial statements on the same basis as other similar assets and liabilities. The carrying amount of closed block liabilities in excess of the carrying amount of closed block assets at the date of demutualization (adjusted to eliminate the effect of related amounts in accumulated other comprehensive income) represents the maximum future earnings from the assets and liabilities designated to the closed block that can be recognized in income over the period the policies in the closed block remain in force. ABC Life Insurance Entity has developed an actuarial calculation of the timing of such maximum future stockholder earnings, and this is the basis of the policyholder dividend obligation.
  • If actual cumulative earnings are greater than expected cumulative earnings, only expected earnings will be recognized in income. Actual cumulative earnings in excess of expected cumulative earnings represents undistributed accumulated earnings attributable to policyholders, which are recognized as a policyholder dividend obligation because the excess will be paid to closed block policyholders as an additional policyholder dividend unless otherwise offset by future performance of the closed block that is less favorable than originally expected. If actual cumulative performance is less favorable than expected, only actual earnings will be recognized in income.
  • The principal cash flow items that affect the amount of closed block assets and liabilities are premiums, net investment income, purchases and sales of investments, policyholders' benefits, policyholder dividends, premium taxes, and income taxes. The principal income and expense items excluded from the closed block are management and maintenance expenses, commissions and net investment income, and realized investment gains and losses of investment assets outside the closed block that support the closed block business. The amounts shown in the following tables for assets, liabilities, revenues, and expenses of the closed block are those that enter into the determination of amounts that are to be paid to policyholders.
805-944-55-4
ABC Life Insurance Entity may present summarized financial information for the closed block in a table as follows.
  • "December 31, 20X2" 20X2 Activity (a) "December 31, 20X1" Closed block liabilities: Future policy benefits and policyholder account balances " $8,903 " $(8) B " $8,911 " Policyholder dividends payable 88 88 Policyholder dividend obligation 163 93 E 80 (10) C Other closed block liabilities 12 12 Total closed block liabilities " 9,166 " 75 " 9,091 " Assets designated to the closed block: Fixed maturities: "Held to maturity, at amortized cost (estimated fair value, 20X2, $275; 20X1, $319)" 289 289 "Available for sale, at estimated fair value (amortized cost, 20X2, $3,809; 20X1, $3,502)" " 4,001 " " 307 93 " " D E " " 3,601 " "Equity securities, at estimated fair value" 202 202 Mortgage loans on real estate " 1,273 " (307) D " 1,580 " Policy loans " 1,766 " " 1,766 " Real estate 105 105 Short-term investments 62 62 Cash and cash equivalents 119 82 A 37 Other closed block assets 76 76 Total closed block assets " 7,893 " 175 " 7,718 " Excess of reported closed block liabilities over assets designated to the closed block " 1,273 " (100) " 1,373 " Portion of above representing other comprehensive income -increase in unrealized appreciation 192 93 99 -increase in policyholder dividend obligation (93) (93) Total 99 - 99 Maximum future earnings to be recognized from closed block assets and liabilities " $1,372 " $(100) " $1,472 " Change in Policyholder Dividend Obligation: "December 31, 20X2" "December 31, 20X1" Balance at beginning of year $80 $- Impact on net income before income taxes (10) 5 Unrealized investment gains (losses) 93 75 Balance at end of year $163 $80 Change in Other Comprehensive Income: "December 31, 20X2" Change for 20X2 "December 31, 20X1" Fixed maturities available for sale: Fair value " $4,001 " $400 " $3,601 " Amortized cost " 3,809 " 307 D " 3,502 " Unrealized appreciation $192 $93 E $99 (a) "Assumed 20X2 activity for assets and liabilities (similarly identified in statement of operations as applicable): A items are assumed settled in cash, with net impact reflected in "Cash and cash equivalents." B and C are given effect in their respective balance sheet accounts. D represents the assumed sale of mortgage loans at book value and reinvestment of the proceeds in available-for-sale fixed maturities. E represents the increase in unrealized appreciation on available-for-sale securities held at both December 31, 20X1 and December 31, 20X2. It is assumed that there are no related taxes and that the available-for-sale fixed maturities sold (see above) had fair value equal to book value both at December 31, 20X1, and when sold. It is further assumed that the unrealized appreciation at December 31, 20X1, is equal to that at the date of demutualization. Unrealized appreciation that arises since the date of demutualization is to be included in the determination of the policyholder dividend obligation."
805-944-55-5
ABC Life Insurance Entity may present additional summarized financial information for the closed block in a table as follows.
  • 20X2(a) 20X1 Closed Block Operations: Closed block revenues: Premiums $303 A $318 Net investment income 205 A 215 Realized investment gains (losses) (2) A 10 Other closed block revenues 5 A 5 Total closed block revenues 511 548 Closed block benefits and expenses: Policyholder benefits 402 A 376 Change in policyholder benefits and interest credited to policyholder account balances (8) B 17 Dividends to policyholders 8 A 8 Change in policyholder dividend obligation (10) C 5 Other closed block expenses 10 A 10 Total closed block benefits and expenses 402 416 "Closed block revenues, net of closed block benefits and expenses, before income taxes" 109 132 Income taxes 9 A 10 "Closed block revenues, net of closed block benefits and expenses and income taxes" $100 $122 Maximum future earnings from closed block assets and liabilities: Beginning of year " $1,472 " " $1,594 " End of year " 1,372 " " 1,472 " Change during the year $(100) $(122) (a) "Assumed 20X2 activity for assets and liabilities (similarly identified in statement of operations as applicable): A items are assumed settled in cash, with net impact reflected in "Cash and cash equivalents." B and C are given effect in their respective balance sheet accounts."
805-944-55-6
This Example illustrates the accounting under the Demutualizations Subsections of this Subtopic for closed block business (meaning those assets and liabilities both inside and outside of the closed block that relate to or support the closed block policies) after the demutualization date. This Example illustrates the computations involved in the following:
  1. a
    Determining the amount of the policyholder dividend obligation
  2. b
    Subparagraph superseded by Accounting Standards Update No. 2018-12.
  3. c
    Subparagraph superseded by Accounting Standards Update No. 2018-12.
805-944-55-7
For simplicity, this Example assumes the closed block has not been funded for income taxes. In practice, the closed block may or may not be funded for income taxes. If the closed block is funded for income taxes, the actuarial calculation would be constructed on a post-tax basis. However, for the purpose of determining the policyholder dividend obligation, pretax amounts should be used. Generally, this would be accomplished by converting post-tax actuarial calculation values to corresponding pretax values for purposes of determining the policyholder dividend obligation. If the closed block is funded for income taxes, a change in income tax rates would result in an experience gain or loss that would affect closed block cash flows.
805-944-55-8
The closed block business is assumed to be written in Year 1, with demutualization occurring at the end of Year 5. Present values are assumed at a discount rate of 8.5 percent.
805-944-55-9
As discussed beginning in paragraph 944-805-25-10, the table in paragraph 944-805-55-10 is based on the actuarial calculation for the closed block developed at the demutualization date and represents the expected changes in the net closed block liability (closed block deficit) over the life of the closed block. The data in that table would be compared to actual results throughout the life of the closed block to determine the need for a policyholder dividend obligation. That table assumes an increase in interest rates in Year 6 from 8.5 percent to 9.5 percent, which results in the board of directors increasing dividends in Years 7 through 10. The table assumes demutualization begins in Year 6. For purposes of the Example, all other assumptions are held constant and expenses are assumed to be excluded from the closed block.
805-944-55-10
Components of the illustrative closed block follow.
  • Year Premium Interest on Closed Block Assets Interest on Current Activity Death Benefits Incurred Surrender Benefits Incurred (Increase) Decrease in Net Level Premium Reserve Dividend Incurred (Increase) Decrease in Policyholder Dividend Obligation (a) (b) (c) (d) (e) (f) (g) (h) 1 " $210,000 " $- " $17,850 " " $(9,000)" $- " $(126,103)" " $(18,857)" $- 2 " 184,611 " " 7,231 " " 15,692 " " (10,549)" - " (109,116)" " (21,399)" - 3 " 169,621 " " 7,846 " " 14,418 " " (13,731)" " (7,148)" " (93,669)" " (24,230)" - 4 " 155,763 " " 8,512 " " 13,240 " " (14,835)" " (14,984)" " (79,754)" " (26,574)" - 5 " 142,990 " " 9,236 " " 12,154 " " (15,661)" " (21,760)" " (67,117)" " (28,509)" - 6 " 131,222 " " 11,200 " " 12,466 " " (15,622)" " (17,237)" " (73,236)" " (30,043)" " (2,491)" 7 " 124,333 " " 17,839 " " 10,568 " " (16,578)" " (20,989)" " (66,499)" " (33,061)" 549 8 " 117,768 " " 24,819 " " 10,010 " " (16,824)" " (24,427)" " (60,005)" " (35,127)" 595 9 " 111,526 " " 31,298 " " 9,480 " " (17,526)" " (27,566)" " (53,706)" " (36,990)" 646 10 " 105,582 " " 37,266 " " 8,974 " " (18,603)" " (30,406)" " (47,485)" " (38,675)" 701 11-20 " 779,517 " " 585,648 " " 66,259 " " (311,112)" " (398,831)" " (162,077)" " (424,092)" - 21-55 " 589,392 " " 1,103,633 " " 50,099 " " (1,187,632)" " (686,079)" " 938,767 " " (669,668)" - Total " $2,822,325 " " $1,844,528 " " $241,210 " " $(1,647,673)" " $(1,249,427)" $- " $(1,387,225)" $- Notes: (a) Gross premiums. (b) Interest at 8.5 percent on the liability for future policy benefits at the end of the previous year. (c) "Interest at 8.5 percent on current-year cash flow. This illustration assumes that premiums are received and all expenses are incurred at the start of the year. This illustration assumes that death benefits, surrender benefits, and dividends are all at the end of the year." (d) Death benefits not reduced by related liability for future policy benefits. (e) Surrender benefits not reduced by related liability for future policy benefits. (f) Represents the cumulative (increase) decrease in the liability for future policy benefits. (g) Policyholder dividends for the year. (h) Policyholder dividend obligation as of end of last year minus policyholder dividend obligation as of end of current year.
805-944-55-11
For purposes of the table in paragraph 944-805-55-10, the product of the closed block policyholder dividend obligation calculation follows.
  • Actual as of Measurement Date " $18,750 " - Initial Actuarial Calculation " $16,259 " = Policyholder Dividend Obligation at Measurement Date " $2,491 "

805-944-S25RecognitionSEC

Source downloaded: .Record version c9dcd436c823. Effective date must be checked in the source.

Accounting by the Purchaser for a Seller's Guarantee of the Adequacy of Liabilities for Losses and Loss Adjustment Expenses Acquired in a Purchase Business Combination

805-944-S25-1
See paragraph 944-805-S99-1, SEC Observer Comment: Accounting by the Purchaser for a Seller's Guarantee of the Adequacy of Liabilities for Losses and Loss Adjustment Expenses Acquired in a Purchase Business Combination, for related SEC Staff views.

805-944-S99SEC MaterialsSEC

Source downloaded: .Record version b287d2d12447. Effective date must be checked in the source.

SEC Staff Guidance

805-944-S99-1
The following is the text of SEC Observer Comment: Accounting by the Purchaser for a Seller's Guarantee of the Adequacy of Liabilities for Losses and Loss Adjustment Expenses Acquired in a Purchase Business Combination.
  • The SEC staff believes it is preferable to present the effects of the loss guarantee on a gross rather than net basis. Any receivable from the seller should not be netted against the related liability in the balance sheet or in supporting information such as footnotes or SEC Industry Guide 6 disclosures. The SEC staff also expressed a preference that (1) any expense associated with increased reserves be reported as a component of other claim losses and loss adjustment expenses and (2) other claim losses and loss adjustment expenses not be reduced by the effect of the reserve guarantee.
  • The SEC staff would not object to claim losses and loss adjustment expenses being reported net of the effect of the reserve guarantee in the income statement. A net presentation is appropriate only if the effects of the reserve guarantee are disclosed separately in the notes to the financial statements, in the SEC Industry Guide 6 disclosures including the reconciliation of claims reserves, and in the loss ratio information.

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