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FASB No. 163 Statement of Financial Accounting Standards No. 163 - Accounting for Financial Guarantee Insurance Contracts (an interpretation of FASB Statement No. 60).

Space considerations prevent publishing here the appendices to FASB Statement 163. Since the appendices often are important to understanding FASB statements, readers are advised to obtain complete copies. For additional copies of FASB Statements and/or information on applicable prices and discount rates, contact the FASB order department, 401 Merritt 7, PO Box 5116, Norwalk, CT 06856-5116. Please ask for Product Code No. 5163.

SUMMARY

Why Is the FASB Issuing This Statement and When Is It Effective?

Diversity exists in practice in accounting for financial guarantee insurance contracts by insurance enterprises under FASB Statement No. 60, Accounting and Reporting by Insurance Enterprises. That diversity results in inconsistencies in the recognition and measurement of claim liabilities because of differing views about when a loss has been incurred under FASB Statement No. 5, Accounting for Contingencies. This Statement requires that an insurance enterprise recognize a claim liability prior to an event of default (insured event) when there is evidence that credit deterioration has occurred in an insured financial obligation. This Statement also clarifies how Statement 60 applies to financial guarantee insurance contracts, including the recognition and measurement to be used to account for premium revenue and claim liabilities. Those clarifications will increase comparability in financial reporting of financial guarantee insurance contracts by insurance enterprises. This Statement requires expanded disclosures about financial guarantee insurance contracts. The accounting and disclosure requirements of the Statement will improve the quality of information provided to users of financial statements.

This Statement is effective for financial statements issued for fiscal years beginning after December 15, 2008, and all interim periods within those fiscal years, except for some disclosures about the insurance enterprise's risk-management activities. This Statement requires that disclosures about the risk-management activities of the insurance enterprise be effective for the first period (including interim periods) beginning after issuance of this Statement. Except for those disclosures, earlier application is not permitted.

What Is the Scope of This Statement?

The scope of this Statement is limited to financial guarantee insurance (and reinsurance) contracts, as described in this Statement, issued by enterprises included within the scope of Statement 60. Accordingly, this Statement does not apply to financial guarantee contracts issued by enterprises excluded from the scope of Statement 60 or to some insurance contracts that seem similar to financial guarantee insurance contracts issued by insurance enterprises (such as mortgage guaranty insurance or credit insurance on trade receivables). This Statement also does not apply to financial guarantee insurance contracts that are derivative instruments included within the scope of FASB Statement No. 133, Accounting for Derivative Instruments and Hedging Activities.

How Will This Statement Change Current Practice?

The changes to current practice in accounting for financial guarantee insurance contracts that result from applying this Statement relate to recognition and measurement of premium revenue and claim liabilities and to disclosures.

The premium revenue recognition approach for a financial guarantee insurance contract links premium revenue recognition to the amount of insurance protection and the period in which it is provided. For purposes of this Statement, the amount of insurance protection provided is assumed to be a function of the insured principal amount outstanding, since the premium received requires the insurance enterprise to stand ready to protect holders of an insured financial obligation from loss due to default over the period of the insured financial obligation. That approach is similar to the premium revenue recognition approach for a short-duration insurance contract in Statement 60 (even though the period of the financial guarantee insurance coverage may not be short duration).

The recognition approach for a claim liability relating to a financial guarantee insurance contract requires that an insurance enterprise recognize a claim liability when the insurance enterprise expects, based on the present value of expected net cash outflows to be paid under the insurance contract discounted using a risk-free rate, that a claim loss will exceed the unearned premium revenue. That approach is similar to the recognition approach for some liabilities for future policy benefits relating to a long-duration insurance contract in Statement 60.

An insurance enterprise is required to measure the claim liability equal to the present value of expected net cash outflows. Expected net cash outflows are probability-weighted cash flows that reflect the likelihood of all possible outcomes for payments by the insurance enterprise under the insurance contract. Under this Statement, the expected net cash outflows are developed using the insurance enterprise's own assumptions about the likelihood of all possible outcomes based on all information available to the insurance enterprise (including relevant market information). This Statement clarifies that those assumptions should be consistent, where applicable, with the information tracked and monitored through the risk-management activities of the insurance enterprise to evaluate credit deterioration in its insured financial obligations. Changes in the expected net cash outflows are reflected as they occur. The expected net cash outflows are discounted using a current risk-free rate at the date the claim liability is initially recognized. That rate is updated each reporting period.

An insurance enterprise is required to provide expanded disclosures about financial guarantee insurance contracts. Those disclosures would focus, in part, on the information included in the risk-management activities used by the insurance enterprise to evaluate credit deterioration in its insured financial obligations, including (1)the groupings or categories used to track insured financial obligations with credit deterioration, (2) the insurance enterprise's policies for placing an insured financial obligation in and monitoring each grouping or category, and (3) financial information about the insured financial obligations included within those groupings and categories.

What Is the Effect of This Statement on Existing Accounting Pronouncements?

This Statement interprets Statement 60 and amends existing accounting pronouncements to clarify their application to the financial guarantee insurance contracts included within the scope of this Statement. Specifically, this Statement:

1. Amends Statement 60 to clarify that financial guarantee insurance contracts issued by insurance enterprises are included within the scope of that Statement as interpreted by this Statement

2. Amends FASB Statement No. 107, Disclosures about Fair Value of Financial Instruments (paragraph 8(c)), to clarify that the requirements of that Statement apply to financial guarantee insurance contracts included within the scope of this Statement

3. Amends Statement 133 (paragraph 10(c)) to clarify that its scope exception for some insurance contracts does not apply to financial guarantee insurance contracts included within the scope of this Statement

4. Amends FASB Interpretation No. 45, Guarantor's Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others (paragraph 6(d)), to clarify that it does not apply to financial guarantee insurance contracts included within the scope of this Statement

5. Nullifies EITF Issue No. 85-20, "Recognition of Fees for Guaranteeing a Loan," for financial guarantee insurance contracts included within the scope of this Statement.

What Is the Effect of This Statement on Convergence with International Financial Reporting Standards?

The International Accounting Standards Board (IASB) has on its agenda a project to comprehensively address the accounting for insurance contracts. In May 2007, the IASB issued for public comment its Discussion Paper, Preliminary Views on Insurance Contracts, setting out its preliminary views reached on that project to date. In August 2007, the FASB issued for public comment the Invitation to Comment, An FASB Agenda Proposal: Accounting for Insurance Contracts by Insurers and Policyholders Including the IASB Discussion Paper, Preliminary Views on Insurance Contracts. The FASB Invitation to Comment seeks input on whether to add to its agenda a joint FASB/IASB project to comprehensively address the accounting for insurance contracts, which ultimately could result in changes to existing U.S. generally accepted accounting principles (GAAP) for all insurance contracts, including those addressed in this Statement.

While the FASB acknowledges that the issues addressed in this Statement may be addressed by the IASB's project on the accounting for insurance contracts, the FASB addressed this project at the request of the staff of the Securities and Exchange Commission and identified an approach to address the diversity in practice by building on existing requirements (in Statement 60) without creating a comprehensive new model. Accordingly, the FASB decided to interpret existing U.S. GAAP insurance accounting literature for financial guarantee insurance contracts rather than create a new model. If the FASB subsequently adds a joint project on insurance contracts to its agenda, the accounting guidance in this Statement ultimately may change and be converged with IASB literature.
CONTENTS

Objective/1
Standards of Financial Accounting and Reporting:
 Scope/2-7
 Unearned Premium Revenue/8-15
 Initial Recognition and Measurement/8-12
 Receivable for Future Premiums/11-12
 Subsequent Measurement/13-14
 Receivable for Future Premiums/14
 Derecognition/15
 Premium Revenue Recognition/16-21
 Early Retirement and Replacement of an
 Insured Financial Obligation/20-21
 Claim Liability/22-28
 Recognition/22-23
 Measurement/24-28
 Expected Net Cash Outflows/25
 Initial Measurement/26
 Subsequent Measurement/27-28
 Disclosures/29-31
Effective Date and Transition/32-35
Appendix A: Implementation Guidance/A1-A13
Appendix B: Background Information and Basis
for Conclusions/B1-B55
Appendix C: Amendments to Existing
Pronouncements/C1-C5


OBJECTIVE

1. Prior to issuance of this Statement, diversity existed in the accounting for financial guarantee insurance contracts by insurance enterprises under FASB Statement No. 60, Accounting and Reporting by Insurance Enterprises. That diversity resulted in inconsistencies in the recognition and measurement of claim liabilities. Accordingly, this Statement clarifies how Statement 60 applies to financial guarantee insurance contracts, including the recognition and measurement of premium revenue and claim liabilities. This Statement also requires expanded disclosures about financial guarantee insurance contracts.

STANDARDS OF FINANCIAL ACCOUNTING AND REPORTING

Scope

2. This Statement applies to financial guarantee insurance (and reinsurance) contracts issued by enterprises that are included within the scope of paragraph 6 of Statement 60 and that are not accounted for as derivative instruments. The recognition and measurement provisions of this Statement shall be applied on a contract-by-contract basis.#

3. Financial guarantee insurance (and reinsurance) contracts are contracts issued by insurance enterprises that provide protection to the holder of a financial obligation from a financial loss in the event of a default. Examples of such financial obligations include a municipal bond or an asset-backed security For purposes of this Statement, a financial guarantee insurance contract is a contract that obligates the insurance enterprise to pay a claim upon the occurrence of an event of default.

4. The event of a default (insured event) refers to nonpayment (when due) of insured contractual payments (generally principal and interest) by the issuer of the insured financial obligation.

5. Although the direct or indirect beneficiary of the contract is the holder of the insured financial obligation, the holder of the financial guarantee insurance contract (policyholder) will vary. In some cases, the policyholder will be the issuer (for example, a municipality or a corporation) of the insured financial obligation because it is seeking to increase the marketability of the insured financial obligation while reducing future interest costs (by attaining a higher credit standing for the insured financial obligation through the financial guarantee insurance contract). In other cases, the policyholder will be both the holder of the insured financial obligation and beneficiary because it has purchased a financial obligation in the secondary market and seeks to protect itself from a financial loss in the event of a default.

6. Because the scope of this Statement is limited to financial guarantee insurance (and reinsurance) contracts issued by insurance enterprises, this Statement does not apply to the following:

a. Financial guarantee contracts issued by enterprises excluded from the scope of Statement 60 (for example, some financial institutions and government-sponsored enterprises)

b. Insurance contracts that are similar to financial guarantee insurance contracts (as defined in this Statement) issued by insurance enterprises (for example, mortgage guaranty insurance and credit insurance on trade receivables).

7. This Statement also does not apply to a financial guarantee insurance contract that is accounted for as a derivative instrument within the scope of FASB Statement No. 133, Accounting for Derivative Instruments and Hedging Activities. Accordingly, an insurance enterprise shall consider the application of this Statement only if the contract is not within the scope of Statement 133 and is not accounted for as a derivative instrument.

Unearned Premium Revenue Initial Recognition and Measurement

8. An insurance enterprise shall recognize a liability for the unearned premium revenue at the inception of a financial guarantee insurance contract. Initial measurement of the unearned premium revenue shall be equal to the present value of the premiums due or, if the criteria in paragraph 12 are met and used, expected to be collected over the period of the financial guarantee insurance contract.#

9. If the premium is a single premium received at the inception of the financial guarantee insurance contract, the insurance enterprise shall initially measure the unearned premium revenue at the amount received.

10. If the premiums are received as payments over the period of the financial guarantee insurance contract, the insurance enterprise shall initially measure the unearned premium revenue at an amount equal to the present value of the premiums due or expected to be collected over the period of the financial guarantee insurance contract (see paragraph 11 for a discussion of the discount rate and the period used). For example, if the insurance enterprise expects to receive total premiums due over the period of the financial guarantee insurance contract of $28 million and the present value of that amount is $24.3 million, both the unearned premium revenue and the premium receivable initially shall be recognized at $24.3 million.

Receivable for Future Premiums

11. An insurance enterprise shall determine the present value of the premiums due or expected to be collected using a discount rate that reflects the risk-free rate at the inception of the contract. In this Statement, that risk-free rate shall be based on the contract period of the insurance contract unless the insurance enterprise is permitted to consider prepayments pursuant to paragraph 12. The discount amount shall be accreted on the premium receivable through earnings over that same period using the method of accretion shown in Example 1 in Appendix A.

12. The period of a financial guarantee insurance contract is the expected period of risk that generally equates to the contract period. However, in some instances, the expected period of risk is significantly shorter than the full contract period due to expected prepayments. The expected period may be used only if a homogenous pool of assets underlying the insured financial obligation is contractually prepayable. In those instances, prepayment assumptions may be used to determine an expected period if those prepayments are probable and the timing and amount of prepayments can be reasonably estimated. The election to use prepayment assumptions to determine an expected period is an accounting policy decision (that is, it is not a contract-by-contract election).

Subsequent Measurement

13. In instances where an expected period is used as the period of the financial guarantee insurance contract to measure the unearned premium revenue, an insurance enterprise shall adjust the prepayment assumptions when those assumptions change.# The adjustment to the unearned premium revenue shall equal the adjustment to the premium receivable with no effect on earnings at the time of the adjustment. The discount rate shall be updated to a current risk-free rate only when prepayment assumptions change. (See Example 1 in Appendix A for an illustration of the accounting when prepayment assumptions change.)

Receivable for Future Premiums

14. An insurance enterprise shall adjust the premium receivable for uncollectible premiums with a corresponding adjustment to earnings. The insurance enterprise shall consider as part of its assessment of recognition and measurement of the claim liability (see paragraphs 22-28) whether the premiums expected to be collected (the premium receivable) are fully collectible.

Derecognition

15. In instances where a contract period is used as the period of the financial guarantee insurance contract to measure the unearned premium revenue, an insurance enterprise shall adjust the unearned premium revenue to reflect early principal payments as they occur.# The adjustment to the unearned premium revenue shall equal the adjustment to the premium receivable.

Premium Revenue Recognition

16. An insurance enterprise shall recognize the premium from a financial guarantee insurance contract as revenue over the period of the contract in proportion to the amount of insurance protection provided. As premium revenue is recognized, a corresponding adjustment (decrease) in the unearned premium revenue shall occur.#

17. The amount of insurance protection provided is assumed to be a function of the insured principal amount outstanding. Therefore, the proportionate share of premium revenue to be recognized in a given reporting period shall be a constant rate calculated based on the relationship between the insured principal amount outstanding in a given reporting period compared with the sum of each of the insured principal amounts outstanding for all periods. Accordingly, the premium revenue for each reporting period shall be determined by multiplying the insured principal amount outstanding for that period by the ratio of (a) the total present value of the premium due or expected to be collected over the period of the contract to (b) the sum of all insured principal amounts outstanding during each reporting period over the period of the contract (either contract period or expected period). (See Example 1.)

(Note: The examples included in this Statement are simplified and are not intended to serve as a guide for the detailed calculations that may be necessary in applying this Statement.)

18. In instances where an insured financial obligation accretes to the principal amount over its life and has a single principal payment at maturity, the sum of all insured accreted principal amounts outstanding during each reporting period shall be used as the denominator of the ratio and the insured principal amount outstanding is the accreted principal amount outstanding. (See Example 2.)

19. In instances where an expected period is used (see paragraph 12) and that period changes due to changes in prepayment assumptions, the insurance enterprise shall recalculate the constant rate based on the new prepayment assumptions (and current risk-flee rate) and apply that new constant rate to the principal amounts outstanding for the remaining expected period of the contract. (See Example 1 in Appendix A for an illustration of the accounting when prepayment assumptions have changed.)
Example 3--Early Retirement and Replacement of an Insured Financial
Obligation Where the Same Insurance Enterprise Insured the New
Financial Obligation

On January 1,200X, an insurance enterprise issues a nonrefundable,
single-premium financial guarantee insurance contract for a 30-year
financial obligation (municipal bond). The premium amount is $5
million. On the municipal bond's 10th anniversary, the issuer of
the insured financial obligation retires the municipal bond.
Premium recognized by the insurance enterprise for the financial
guarantee insurance contract over the first 10 years was $2
million. Therefore, at early retirement on the 10th anniversary,
the insurance enterprise would recognize as premium revenue the
remaining unearned premium revenue ($3 million) because the risk to
the insurance enterprise is extinguished. In addition, any
remaining associated deferred acquisition costs are expensed.

The issuer of the financial obligation facilitated the early
retirement of the municipal bond by issuing a new municipal bond at
a lower interest rate. The same insurance enterprise insures the
new municipal bond. The premium amount for the financial guarantee
insurance contract for the new financial obligation is $3 million.
However, the amount of premium charged to insure a similar
financial obligation in a separate standalone transaction is $4
million. Accordingly, the insurance enterprise would recognize
unearned premium revenue of $4 million. It also would recognize a
debit to earnings in the amount of $1 million. This represents the
difference between the amount of premium charged ($3 million) and
the amount of premium that would be charged for a similar financial
obligation in a separate standalone transaction.


Early Retirement and Replacement of an Insured Financial Obligation

20. In some cases, the issuer of an insured financial obligation will retire the insured financial obligation before its maturity and replace it with a new financial obligation. That situation, referred to as a refunding, often occurs when interest rates decrease and the insured financial obligation is replaced with a new financial obligation at a lower interest rate.

21. In a refunding, the financial guarantee insurance contract on the retired financial obligation is extinguished (that is, the financial guarantee insurance contract must be extinguished to be considered a refunding for purposes of this Statement). The insurance enterprise shall immediately recognize any nonrefundable unearned premium revenue related to that contract as premium revenue and any associated acquisition costs previously deferred under paragraph 29 of Statement 60 as an expense. If the insurance enterprise insures the new financial obligation, the insurance enterprise shall recognize the unearned premium revenue on the new financial obligation that is commensurate with the premium it would charge to insure a similar financial obligation in a separate (standalone) transaction. If that premium differs from the premium actually charged, the difference shall be recognized in current earnings. (See Example 3.)

Claim Liability

Recognition

22. An insurance enterprise shall recognize a claim liability on a financial guarantee insurance contract when the insurance enterprise expects that a claim loss will exceed the unearned premium revenue for that contract based on the present value of expected net cash outflows to be paid under the insurance contract.#

23. The unearned premium revenue represents the insurance enterprise's stand-ready obligation under a financial guarantee insurance contract at initial recognition. Subsequently, if the likelihood of a default (insured event) increases so that the present value of the expected net cash outflows expected to be paid under the insurance contract exceeds the unearned premium revenue, the insurance enterprise shall recognize a claim liability (in addition to the unearned premium revenue).

Measurement

24. An insurance enterprise shall measure a claim liability equal to the present value of expected net cash outflows to be paid under the insurance contract discounted using a current risk-free rate. That current risk-free rate shall be based on the remaining period (contract or expected, as applicable) of the insurance contract.#

Expected Net Cash Outflows

25. Expected net cash outflows (cash outflows, net of potential recoveries, expected to be paid to the holder of the insured financial obligation, excluding reinsurance) are probability-weighted cash flows that reflect the likelihood of all possible outcomes. For purposes of this Statement, the expected net cash outflows shall be developed using the insurance enterprise's own assumptions about the likelihood of all possible outcomes based on all information available to the insurance enterprise (including relevant market information). Those assumptions shall consider all relevant facts and circumstances and, where applicable, be consistent with the information tracked and monitored through the insurance enterprise's risk-management activities and used to assist in making operational decisions.

Initial Measurement

26. At initial recognition of a claim liability, an insurance enterprise shall discount the expected net cash outflows under the insurance contract using the current risk-free rate at that date based on the remaining period (contract or expected, as applicable) of the insurance contract. (See Example 4.)

Subsequent Measurement

27. In periods after initial recognition of a claim liability, an insurance enterprise shall update the discount rate each reporting period. An insurance enterprise also shall revise expected net cash outflows when increases (or decreases) in the likelihood of a default (insured event) (and related amounts of net cash outflows) and potential recoveries occur. The claim liability shall not be reduced below zero. The discount amount shall he accreted on the claim liability through earnings.

28. Revisions to the claim liability in periods after initial recognition shall be recognized as claim expense in the period of the change (as a change in accounting estimate).

Disclosures

29. An insurance enterprise shall disclose information that enables users of its financial statements to understand the factors affecting the present and future recognition and measurement of financial guarantee insurance contracts.#

30. To meet the disclosure objective in paragraph 29, an insurance enterprise shall disclose the following information for each annual period (and in an interim period if a significant change has occurred in that interim period):

a. For financial guarantee insurance contracts where premiums are received as payments over the period of the contract, rather than at inception:

(1) The premium receivable and the unearned premium revenue as of the date(s) of the statement of financial position and the line item in the statement of financial position where those amounts are reported (if not presented separately)

(2) The amount of accretion on the premium receivable and the line item in the statement of income where that amount is reported (if not presented separately)

(3) The weighted-average risk-free rate used to discount the premiums expected to be collected and the weighted-average period of the premium receivable

b. A schedule of premiums expected to be collected related to the premium receivable detailing the following:

(1) The four quarters of the subsequent annual period and each of the next four annual periods

(2) The remaining periods aggregated in five-year increments

c. A rollforward of the premium receivable for the period, including:

(1) The beginning premium receivable

(2) Premium payments received

(3) New business written

(4) Adjustments to the premium receivable, including at a minimum:

(a) Adjustments for changes in the period of a financial guarantee insurance contract and an explanation of why those adjustments occurred

(b) Accretion of the premium receivable discount

(c) Other adjustments with explanations provided for significant or recurring adjustments

(5) The ending premium receivable

d. For premium revenue recognition that has been accelerated, the amount and reasons for acceleration

e. A schedule of the future expected premium revenue as of the latest date of the statement of financial position detailing the following:

(1) The four quarters of the subsequent annual period and each of the next four annual periods

(2) The remaining periods aggregated in five-year increments

f. For the claim liability:

(1) The weighted-average risk-free rate used to discount the claim liability

(2) The significant component(s) of the change in the claim liability for the period (such as changes in the discount rate, the accretion of the discount on the claim liability, changes in the timing, changes in the likelihood of default), the amount relating to that component(s), and the line item in the statement of income where that amount or amounts are reported (unless separately disclosed)

g. A description of the insurance enterprise's risk-management activities used to track and monitor deteriorating insured financial obligations, including the following:

(1) A description of each grouping or category used to track and monitor deteriorating insured financial obligations

(2) The insurance enterprise's policies for placing an insured financial obligation in, and monitoring, each grouping or category

(3) The insurance enterprise's policies for avoiding or mitigating claim liabilities, the related expense and liability reported during the period for those risk mitigation activities (not including reinsurance), and a description of where that expense and that liability are reported in the statement of income and the statement of financial position, respectively

31. An insurance enterprise shall disclose the following information for each annual and interim period related to the claim liability:

a. A schedule of insured financial obligations at the end of each interim period detailing, at a minimum, the following for each category or grouping of these financial obligations (see Example 2 in Appendix A):

(1) Number of issued and outstanding financial guarantee insurance contracts

(2) Remaining weighted-average contract period

(3) Insured contractual payments outstanding, segregating principal and interest

(4) Gross claim liability

(5) Gross potential recoveries

(6) Discount, net (both claim liability and potential recoveries)

(7) Net claim liability

(8) Reinsurance recoverables

(9) Unearned premium revenue.

EFFECTIVE DATE AND TRANSITION

32. This Statement shall be effective for financial statements issued for fiscal years beginning after December 15, 2008, and interim periods within those fiscal years. However, the disclosure requirements in paragraphs 30(g) and 31 are effective for the first period (including interim periods) beginning after issuance of this Statement. The disclosure requirements in paragraphs 30(g) and 31 shall be provided unless deemed impracticable (as described in paragraph 11 of FASB Statement No. 154, Accounting Changes and Error Corrections) and shall be based on an insurance enterprise's existing accounting policies that may or may not be consistent with the principles of this Statement at this earlier effective date. If those disclosures are deemed impracticable at this earlier effective date, an explanation of why they are impracticable at this time and a description of the insurance enterprise's existing accounting policy for claim liabilities shall be provided. Except for the disclosures effective for the first period (including interim periods) beginning after issuance of this Statement, earlier application is not permitted.

33. This Statement shall be applied to existing and future financial guarantee insurance contracts issued by an insurance enterprise as of the beginning of the fiscal year in which this Statement is initially applied. An insurance enterprise shall recognize the cumulative effect of initially applying this Statement as an adjustment to the opening balance of retained earnings for that fiscal year. An insurance enterprise also shall disclose the cumulative effect of the change on retained earnings in the statement of financial position in the first interim period of the fiscal year in which this Statement is initially applied.

34. The cumulative-effect adjustment is the difference between the amounts (if any) recognized in the statement of financial position before the initial application of this Statement and the amounts recognized in the statement of financial position at the initial application of this Statement, measured using information that is current at that date. Accordingly, discount rates shall reflect the relevant risk-free rate at the date this Statement is initially applied.

35. The disclosure requirements of this Statement (see paragraphs 29-31) shall be applied beginning in the first interim period of the fiscal year in which this Statement is initially applied with earlier disclosure for information specified in paragraph 32. The disclosure requirements of this Statement need not be applied for financial statements for periods presented before initial application of this Statement except as stated in paragraph 32.

The provisions of this Statement need not be applied to immaterial items.

This Statement was adopted by the unanimous vote of the seven members of the Financial Accounting Standards Board:

Robert H. Herz, Chairman

George J. Batavick

G. Michael Crooch

Thomas J. Linsmeier

Leslie E Seidman

Lawrence W Smith

Donald M. Young

All paragraphs in this Statement have equal authority

Paragraphs in bold set out the main principles.

Note: Paragraphs in bold set out the main principles is indicated with #.

Copyright [c] 2008 by Financial Standards Board. All rights reserved. No part of this publication may be reproduced, stored in a retrieval systems, or transmitted, in any form or by any means, electronic, mechanical, photocopying, recording, or otherwise, without the prior written permission of the Financial Accounting Standards Board.
Example 1--Insured Principal Payments Made over Period of Contract

On January 1, 200X, an insurance enterprise issues a single-premium
financial guarantee insurance contract for a financial obligation
(municipal bond) with a contract period of 10 years. The premium
amount is $5 million. Insured principal payments of $100 million
will be made by the issuer of the bond over the period of the
contract. The following is the contractual schedule of expected
insured principal payments:

 Insured Premium Unearned
 Principal Amounts Principal Revenue Premium
Year Outstanding (a) Payments Recognized Revenue

1 $100,000,000 $5,000,000 $877,193 $5,000,000
2 95,000,000 5,000,000 833,333 4,122,807
3 90,000,000 10,000,000 789,474 3,289,474
4 80,000,000 10,000,000 701,754 2,500,000
5 70,000,000 15,000,000 614,035 1,798,246
6 55,000,000 15,000,000 482,456 1,184,211
7 40,000,000 15,000,000 350,877 701,755
8 25,000,000 15,000,000 219,298 350,878
9 10,000,000 5,000,000 87,719 131,580
10 5,000,000 5,000,000 43,861 43,861
Total $570,000,000 $100,000,000 $5,000,000 --

(a) Insured Principal Amounts Outstanding represents
beginning-of-the-year balances.

The ratio of the premium to the sum of all contractual insured
principal amounts outstanding during each reporting period (the
constant rate) is 0.00877193 (calculated as $5 million divided
by $570 million). Accordingly, the insurance enterprise would
recognize $877,193 of premium revenue (calculated as $100 million
of insured principal amount outstanding multiplied by 0.00877193)
in the first year of the contract. In the second year of the
contract, the insurance enterprise would recognize $833,333
(calculated as $95 million multiplied by 0.00877193) of premium
revenue. Thus, premium revenue is recognized based on the insurance
protection being provided (represented by the constant rate and the
insured principal amounts outstanding).

Example 2--Insured Principal Payment Made at End of Period of Contract

On January 1, 200X, an insurance enterprise issues a single-premium
financial guarantee insurance contract for a financial obligation
(a zero-coupon municipal bond). The insured financial obligation
was issued at $61.4 million, resulting in an effective yield of 5
percent. The premium amount is $5 million. The insured principal
payment of $100 million will be made by the issuer of the bond in
total at the end of the 10-year period of the contract. In this
instance, the insured accreted principal amount outstanding
represents the obligation of the insurance enterprise. The
schedule of the insured accreted principal amounts outstanding
during each reporting period is as follows:

 Insured Accreted Premium Unearned
 Principal Amounts Principal Revenue Premium
Year Outstanding (a) Payments Recognized Revenue

1 $61,400,000 -- $397,514 $5,000,000
2 64,500,000 -- 417,584 4,602,486
3 67,700,000 -- 438,301 4,184,902
4 71,100,000 -- 460,313 3,746,601
5 74,600,000 -- 482,973 3,286,288
6 78,400,000 -- 507,575 2,803,315
7 82,300,000 -- 532,824 2,295,740
8 86,400,000 -- 559,368 1,762,916
9 90,700,000 -- 587,207 1,203,548
10 95,200,000 100,000,000 616,341 616,341
Total $772,300,000 $100,000,000 $5,000,000 --

(a) Insured Accreted Principal Amounts Outstanding represents
beginning-of-the-year balances and is calculated based on the
effective yield of the insured financial obligation.

The ratio of the premium to the sum of the insured accreted principal
amounts outstanding (the constant rate) is 0.006474168 (calculated as
$5 million divided by $772.3 million). Accordingly, the insurance
enterprise would recognize $397,514 of premium revenue (calculated as
$61.4 million of insured accreted principal amount outstanding
multiplied by 0.006474168) in the first year of the contract. Premium
revenue is recognized based on the insurance protection being provided
(represented by the constant rate and the insured accreted principal
amount outstanding).

Example 4--Expected Net Cash Outflows Used to Measure Claim Liability

An insurance enterprise determines that there is an expectation that a
claim loss on an insured financial obligation (a bond) will exceed the
unearned premium revenue for that contract. The present value of
expected net cash outflows used to measure the claim liability
considers the amount, timing, and probability of possible net cash
outflows, that is, cash outflows, net of potential recoveries, to
be paid to the holder of the insured financial obligation, excluding
reinsurance. The present value of expected net cash outflows is
developed using the insurance enterprise's own assumptions about
the likelihood of all possible outcomes based on all information
available to the insurance enterprise (including relevant market
information).

Discounted Probability-
Possible Net Cash Weighted Net
Outflows (a) Probability Cash Outflows

$70,000,000 5% $3,500,000
50,000,000 15% 7,500,000
40,000,000 20% 8,000,000
20,000,000 45% 9,000,000
10,000,000 10% 1,000,000
-- 5%
Present value of expected net cash outflows $29,000,000

(a) Discounted Possible Net Cash Outflows includes different
probabilities of realization related to potential recoveries.
The discount factor is the current risk-free rate.

At the date the expected net cash outflows are calculated, the
remaining unearned premium revenue is $1.2 million. Accordingly,
a claim liability of $27.8 million is recognized in the statement
of financial position ($29.0 million less $1.2 million).
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Publication:Journal of Accountancy
Date:Aug 1, 2008
Words:6018
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