Recording Insurance Transactions in the Balance of Payments1/
  • 1 0000000404811396https://isni.org/isni/0000000404811396International Monetary Fund

Insurance enterprises provide services, called insurance services, to policyholders. The values of such services are seldom, if ever, directly apparent; rather these values are implicitly entwined within the payment of premiums. This paper discusses the treatment of insurance services, and related transactions, in the balance of payments. A simple measure, based on a number of assumptions, of nonlife insurance services is considered. The assumptions underlying this measure are then relaxed. The treatment of life insurance, which has many of the characteristics of nonlife insurance, is then addressed. The paper concludes with a discussion on the practical aspects of measuring insurance transactions in the balance of payments.

Abstract

Insurance enterprises provide services, called insurance services, to policyholders. The values of such services are seldom, if ever, directly apparent; rather these values are implicitly entwined within the payment of premiums. This paper discusses the treatment of insurance services, and related transactions, in the balance of payments. A simple measure, based on a number of assumptions, of nonlife insurance services is considered. The assumptions underlying this measure are then relaxed. The treatment of life insurance, which has many of the characteristics of nonlife insurance, is then addressed. The paper concludes with a discussion on the practical aspects of measuring insurance transactions in the balance of payments.

I. Introduction

The fifth edition of the Balance of Payments Manual (BPM) summarizes, in paragraphs 255-257, the treatment of insurance in the balance of payments. The BPM treatment is based on the treatment of insurance in the 1993 System of National Accounts. 2/ Insurance is also discussed in the Balance of Payments Compilation Guide (Guide), paragraphs 551-561. The information in this paper is an elaboration of the material provided in these documents.

There are two types of insurance: life and nonlife. Life insurance policyholders make regular payments to an insurer in return for which the insurer guarantees to pay the policyholder an agreed sum, or an annuity, at a given date or earlier if the policyholder dies beforehand. Although the date and sum may be variable, a claim is always paid in respect of a life insurance policy. Nonlife insurance covers all other risks, such as accidents and natural disasters. Claims are payable tinder nonlife insurance polices only when a specified event occurs. 3/

Insurance enterprises provide services, called insurance services, to policyholders. The values of such services are seldom, if ever, directly apparent; rather these values are implicitly entwined within the payment of premiums. This paper discusses the calculation of the value of insurance services, as well as the treatment of other transactions associated with insurance. In addition to insurance services that form part of premiums, the insurance services component of the current account of the balance of payments includes commissions on agents’ sales of insurance policies.

The second part of this paper discusses the theoretical treatment of nonlife insurance. It addresses freight insurance, other types of direct nonlife insurance (such as casualty, accident, marine, fire, and aviation) and reinsurance. Reinsurance occurs when insurance enterprises enter into insurance arrangements with other insurance enterprises. Part III discusses the treatment of life insurance. Part IV looks at the practical aspects of measuring insurance transactions in the balance of payments. Appendix I provides a table summarizing the treatment of various types of insurance transactions in the balance of payments. Appendix II provides examples of the recording of insurance transactions.

II. Theoretical Treatment of Nonlife Insurance

1. A simple measure

In their most simple form, nonlife insurance premiums are received by insurance enterprises from policyholders: these premiums are, in turn, used to pay claims and the operating costs of the insurance enterprise, and to provide an operating profit to the owners of the insurance enterprise. 4/ In the national accounts, the value of an enterprise’s output is equal to its operating expenses plus operating profit. 5/ Therefore, using this simple measure, the output (insurance services) of insurance enterprises can be determined by subtracting claims from premiums.

Having established a simple measure for determining the value of services provided by insurance enterprise that is based on the relationship between premiums and claims, it is important to note that payments of premiums and claims do not themselves represent service transactions. Considering claims first, it is clear that when a policyholder receives money from an insurance enterprise the policyholder is not providing any service to the insurance enterprise. Rather, in the case of nonlife insurance, the policyholder is receiving an economic benefit (in the form of money) without giving up anything in return. Such transactions should be treated as current transfers in the balance of payments (and in the national accounts).

Turning to the treatment of premiums, it can be seen from the simple measure that the payment of premiums comprises two elements. The first element covers amounts that are subsequently used to pay claims. Because the payment of claims represents a transfer in the balance of payments, this first element of premiums should also be considered as a transfer. The second element of premiums covers the insurance service itself. Thus, international transactions in premiums need to be decomposed into these two elements in order for premiums to be correctly recorded in the balance of payments. In the absence of a direct measure of insurance services, proxy measures are needed in order to effect this decomposition.

For the exporter of insurance services, if it can be assumed that the relationship between premiums received and claims paid to nonresident policyholders is similar to the relationship between all premiums received and all claims paid, then the value of exports of insurance services can be calculated as the difference between premiums received from nonresidents and claims paid to nonresidents. This is in fact the recommendation of the BPM. The insurance service charge thus calculated should be deducted from premiums received, with the remainder—net premiums—recorded as current transfer credits. Claims are recorded as current transfer debits. 6/ This treatment for exports of insurance services pertains to all types of nonlife insurance, including freight insurance, other direct nonlife insurance, and reinsurance.

For the importer of insurance services, it is far less likely that relationship between premiums paid to and claims received from nonresident insurers is similar to the relationship between all premiums received and all claims paid by these insurers. Therefore, premiums less claims is an inadequate proxy for the measurement of imports of insurance services. 7/ Other proxies are needed to estimate the insurance service charge.

For freight insurance, the BPM advocates that the ratio of freight insurance service exports to premiums for freight insurance received from nonresidents should be multiplied by premiums paid to nonresident insurers in order to calculate imports of freight insurance services. It is recommended that this ratio be calculated over a medium- to long-term period. For example, assume that in 1994 a country paid 100 in freight insurance premiums to nonresident insurers. Information on the country’s exports of freight insurance services for the period 1990 through 1994 is as follows:

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Calculated as premiums less claims.

Multiplying the average ratio of service charge to premiums for exports of freight insurance (0.198) by premiums paid to nonresidents in 1994 (100) produces freight insurance service imports of about 20 for 1994.

For other types of direct insurance, the BPM recommends that the ratio of insurance service charges to premiums received (from both residents and nonresidents) by domestic insurers should be multiplied by premiums paid to nonresident insurers in order to calculate imports of insurance services. Again, this ratio should be based on a medium- to long-term period. 8/

The BPM’s recommendations for estimating imports of direct insurance services presume that there is a domestic insurance industry engaged in the insurance activities of the same type that is being imported. Clearly, this will not always be the case. In the absence of a domestic insurance industry, the compiler will need to resort to other methods for estimating imports of direct insurance services.

If the majority of services are provided by insurers in one or a few countries, the compiler could contact his or her counterparts in these countries to establish an appropriate ratio of insurance service charge to premiums.9/ Alternatively, the compiler could determine an appropriate services to premiums ratio by taking the long-term (at least five years) average of the ratio of claims received from nonresident insurers to premiums paid to nonresident insurers, then deducting this ratio from one.

For imports of reinsurance services, the BPM suggests that the service charge can be measured as the difference between premiums paid to and claims received from nonresident reinsurers.

2. Modifying the simple measure

Inherent in the simple measure described above are two assumptions: (1) premiums are paid in the same period as which services relating to those premiums are provided—that is, there are no prepayments of premiums-and claims are paid in the period that they are due; and (2) there are no capital gains and losses incurred by insurance enterprises. This section relaxes these assumptions and assesses the impact of this on the balance of payments treatment of insurance. The material in this section is an extension to the recommendations of the BPM, and the treatments proposed would only be considered in cases when insurance transactions are particularly significant and the necessary information is available.

Insurance enterprises typically receive premiums for policies covering a period of time at the start of the period to which the premiums relate and, in some cases, premiums are paid in advance of the period. Insurance enterprises earn premiums only when the point in time to which a premium relates is reached. Any advance (unearned) premiums are assets of the policyholders in the form of a claim on insurance enterprises for future coverage. Similarly, any claims that become due for payment but are not paid during a period are considered as liabilities of insurance enterprises to their policyholders. If, in respect of nonresident policyholders, the amounts of unearned premiums or claims due but not paid held by resident insurance enterprises are significant, the balance of payments compiler may consider recording transactions in unearned premiums as financial account transactions. 10/ While, conceptually, counterpart claims should be recorded in the balance of payments of the countries of the policyholders, as discussed in part IV, it unlikely that the necessary information can be collected in practice.

The funds—called technical reserves—that are held by insurance enterprises in the form of unearned premiums and claims due but not paid are generally invested in financial or nonfinancial assets to earn income. As technical reserves are assets of the policyholders, income earned on these reserves should be attributed to the policyholders. Theoretically, this income should be recorded as receivable by the policyholders who then pay all of this income to insurance enterprises as premium supplements. These premium supplements would form part of the calculation of the insurance service charge. In other words, income on technical reserves should, in concept, form part of the insurance service charge.

The balance of payments compiler could consider recording income on technical reserves in the way described in the previous paragraph. However, because of practical problems in obtaining the necessary information—in particular, apportioning the income on technical reserves to resident and nonresident policyholders—the BPM suggests that technical reserves be ignored in the recording of insurance transactions unless the income on these reserves is particularly significant. 11/

The assumption pertaining to capital gains and losses affects the measurement of exports of all types of nonlife insurance services and imports of reinsurance services. If insurance enterprises incur capital gains or losses, then claims payable will be less (in the case of capital gains) or greater (in the case of capital losses) than otherwise anticipated. Therefore, the service charge calculated using actual claims will be overstated (in the case of capital gains) or understated (in the case of capital losses).

In practice, it is would be almost impossible for a balance of payments compiler to determine the extent of any capital gains or losses so that appropriate adjustments could be made. Accordingly, for the most part, balance of payments compilers are not expected to make such adjustments. However, when claims exceed premiums (plus, when measured, premium supplements) then this should be considered as prima facie evidence that insurance enterprises have incurred capital losses. 12/ In these cases, compilers should develop alternative measures of the insurance service charge for exports of insurance and imports of reinsurance services. It is recommended that service charges be calculated by applying the long-term, average ratio of service charges to premiums to premiums relating to the period in which claims exceed premiums. 13/

III. Theoretical Treatment of Life Insurance

Because life insurance contains many of the characteristics of nonlife insurance, its treatment in the balance of payments is similar to the treatment of nonlife insurance as described above. The BPM suggests that the service charge for life insurance could be calculated in a similar manner to the service charge for nonlife insurance—that is, for exports of life insurance services, as the difference between premiums and claims and, for imports of life insurance, as the ratio of insurance service charges to premiums received (from both residents and nonresidents) by domestic life insurers multiplied by life insurance premiums paid to nonresident insurers. 14/

Unlike nonlife insurance, there is a certainty that claims will be payable in respect of each life insurance policy. For each policy, the value of claims payable is a function of the premiums—the amount of which is typically decided by the policyholder—paid on the policy, plus any “profits” or “bonuses” distributed to policyholders. Because of this certainty, a life insurance policy can be considered a financial claim that the policyholder has on the life insurance enterprise (or fund). 15/ Accordingly, for life insurance, the difference between premiums and service charges is treated as an increase in policyholders’ shares of life insurance funds—a financial assets-while claims are treated as decreases in these assets. (In the standard components shown in the BPM, such claims are recorded under other investment-other assets/liabilities. 16/) This treatment can be contrasted with the treatment for nonlife insurance where similar transactions are considered transfers.

The comments made in part II.2 about the treatment of unearned premiums and claims due but not paid are also relevant to life insurance. In the case of life insurance the elements described in these paragraphs will often be insignificant and, therefore, their identification will typically be unwarranted. 17/ However, there is an additional issue associated with life insurance that may be significant and thus require the attention of the balance of payments compiler—that is, actuarial reserves.

Actuarial reserves, which are another form of technical reserves, are reserves for “with-profits” insurance policies, such as life insurance, to build up the capital sums guaranteed under these polices. As with other types of technical reserves, income earned on actuarial reserves is considered to be attributable to the policyholders, who in turn pay it back to the insurance enterprises (or funds) as premium supplements. In other words, such income should be considered as part of the calculation of the insurance service charge. On the other hand, a significant proportion of this income will be “reinvested” by the insurance enterprise back into the actuarial reserves—in order for the insurance enterprise to meet its commitments under life insurance polices.

Conceptually, all of these transactions associated with actuarial reserves—to the extent that nonresidents are involved-could be recorded in the balance of payments. In practice, though, it would be difficult (if not impossible) to gather the necessary information. A simplified, but more practical, treatment is available to balance of payments compilers who wish to capture the essence of transactions involving actuarial reserves. Under this treatment, the amounts, which are often called bonuses, reinvested by insurance enterprises into their actuarial reserves can be considered as investment income payable by the insurance enterprise (or fund) to the policyholder, offset by additional investment by the policyholder into the life insurance policy. Any income received (from nonresidents) by insurance enterprises on their actuarial reserves would be credited to the insurance enterprises themselves. 18/

Because of their financial nature, investments associated with life insurance polices should be reflected in the international investment position statement. In accordance with the principles of market valuation, these investments should be valued using the surrender value of life insurance policies.

IV. Practical Considerations

1. Introduction

It can be seen from the preceding discussion that the key to the measurement of BOP transactions relating to insurance is information on premiums and claims, as BOP entries essentially reflect manipulations of this information. Also, information on gross premiums and claims are useful BOP memorandum items. 19/ The main data sources likely to be used for information on insurance transactions are an international transaction reporting system (ITRS) and enterprise surveys (ES). In some cases, regulatory authorities may also be a useful source of information.

The BOP compiler has to decide whether to record insurance transactions in a manner consistent with the simple measure outlined in part II. 1, or whether to take into account the additional elements of insurance such as unearned premiums and income on technical reserves. The decision will depend on the significance of international insurance transactions to the compiler’s economy, and on the availability of the information. For most countries, use of the simple measure should produce perfectly acceptable BOP results. Compilers in a few major international insurance centers may wish to further investigate their insurance industry with the view to reflecting some of the more complex insurance transactions in their balance of payments, if these transactions are significant.

2. International transaction reporting systems

Data from an ITRS on premiums and claims will typically be on a cash, rather than the preferred premiums earned and claims due, basis. 20/ However, in most instances, the cash basis should be an acceptable proxy. If it is considered that there are significant discrepancies between the two bases, supplementary information should be sought. Such information would most likely come from insurance enterprises and, in practice, could only be used to measure transactions associated with exports of insurance.

Likewise, if the compiler wishes to reflect income from technical reserves in the measurement of insurance transactions, then this will be typically limited to exports of insurance services. 21/ Even then, insurance enterprises may find it difficult to apportion this income to the various classes of policyholders, such as splitting income between resident and nonresident policyholders. 22/ Life insurance will probably be an exception as—for this type of insurance—bonuses (which represent a major part of income on technical reserves for this type of insurance) will be explicitly matched to particular policies.

One particular area that the BOP compiler using an ITRS may wish to investigate is captive insurance, which occurs when a multinational group sets up a subsidiary in one country that is responsible for managing the insurance risks of the group. 23/ Such subsidiaries impose charges-which should be treated as premiums—for this service on the other members of the group; in many cases these charges are simply book entries and no cash changes hands. Nevertheless, if insurance is to be measured correctly in the balance of payments then information on these charges should be collected. If a country that uses an ITRS has a supplementary collection on direct investment, then this would be an obvious vehicle for obtaining information on captive insurance.

3. Enterprise surveys

Under enterprise surveys, the information required to measure exports of direct insurance services and reinsurance services (and associated transactions) will typically be collected from domestic insurance and reinsurance enterprises that have dealings with nonresidents. A list of insurance enterprises conducting both insurance and reinsurance business is usually available from the authority that issues the licenses for insurance businesses to operate. Resident insurance enterprises should report details of premiums and claims in respect of business obtained from abroad and in respect of international reinsurance flows. In addition, these enterprises may be asked to report details of premiums and claims in respect of insurance written by them on imports. 24/

If the BOP compiler decides to reflect income from technical reserves in the measurement of insurance transactions, then the observations made about an ITRS are also relevant to ES.

The BOP compiler who uses ES to measure imports of insurance services has the choice of approaching either the resident policyholder or, in the case of insurance placed through a domestic agent or broker, the resident intermediary. The advantage of the former approach is that it covers transactions other than those passing through resident intermediaries. The advantage of the latter approach is that agents and brokers may be fever in number and more easily identifiable than policyholders, and therefore easier to survey. A combined approach may be used—for example, information obtained from agents and brokers could be supplemented with information from policyholders on insurance placed directly abroad. If this is the case, the compiler needs to carefully delineate reporting boundaries.

As noted, from a conceptual perspective, premiums should be measured when they are earned, and claims should be measured when they are due. However, for imports of insurance services, premiums will often be recorded when they are paid, and claims will be recorded when they are received.

Data regarding premiums on imports of freight insurance placed directly abroad and data on associated claims may be collected by approaching importers. However, if such data are not available from importers, an alternative is to deduct from the estimate of total insurance premiums on imports those insurance premiums paid to resident enterprises and collected from these enterprises. 25/ In other words, import insurance premiums paid to nonresidents can be derived as a residual. To obtain data on claims paid to importers when data from importers are not available, data on import premiums received and claims paid by resident insurance enterprises could be used to calculate a claims-to-premiums ratio that may also be applied to insurance placed with nonresidents.

Data on insurance of items other than imports of goods that is placed directly abroad could be obtained from broadly based ES. Branches and subsidiaries of nonresident companies (direct investment enterprises) are more likely to place insurance abroad than are other enterprises-especially when the head office of a multinational enterprise group takes out a global policy or self-insures and recoups premiums from subsidiaries and branches. Premiums on individual life insurance are unlikely to be paid, other than through agents or brokers, directly abroad; therefore, the compiler need not be too concerned about surveying individuals to obtain this information.

Insurance agents and brokers are usually required to register with insurance authorities; therefore, a list of these businesses should be readily available from official sources. An exploratory form could be used to identify agents and brokers placing insurance abroad. These agents and brokers would then be asked to complete a more detailed questionnaire. Insurance agents and brokers may satisfactorily report data on premiums paid abroad, but they may not be aware of claims received by residents. Therefore, the compiler may wish to adjust the claims data accordingly. The adjustment should be made in consultation with agents and brokers or by using a claims-to-premiums ratio that domestic insurers think is appropriate. If such an adjustment is made, the compiler should ensure that allowance is made for any claims information collected directly from the recipient. (Allowance should be made to the extent that such claims relate to premiums paid through resident agents.)

APPENDIX I

Summary of the Balance of Payments Treatment of Insurance Transactions

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APPENDIX II: Examples of Recording Insurance Transactions in the Balance of Payments

The four examples below illustrate the recording of insurance in the balance of payments.

1. In respect of nonlife policies, resident insurance enterprises receive 120 in premiums from nonresidents and pay 105 in claims to nonresidents. Commissions of 4 are paid to nonresident agents.

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2. For fire insurance, residents pay 150 in premiums to nonresident insurers and receive 180 in claims from nonresidents. Commissions of 12 are paid by the nonresident insurers to resident agents. For the domestic fire insurance industry, service charges are calculated as 20 percent of premiums.

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Equals 0.2 x 150.

3. For life insurance, residents pay 60 in premiums to nonresident insurers and receive 50 in claims from nonresidents. In addition, bonuses of 12 are paid by the nonresident funds on policies held by residents. There is no domestic life insurance industry. Over the long-term, the average ratio of claims received to premiums paid is 0.9.

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Equals (1 - 0.9) x 60.

It is assumed that the transactions involved the domestic banking systems assets abroad.

Gross entries shown for illustrative purposes.

Premiums less service charges plus bonuses.

4. In respect of nonlife policies, resident insurance enterprises receive 300 in premiums from nonresidents, of which 280 are earned during the period. Claims of 270 become due for payment, of which 200 are actually paid. Income of 140 is earned on the insurance enterprises’ technical reserves, all of which are invested domestically. About one-quarter of all premiums received by the insurance enterprises are paid by nonresidents.

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Equals premiums earned less claims due (10) plus the nonresident policyholders’ share of income on technical reserves (0.25 x 140 = 35).

Nonresident policyholders’ share of income on technical reserves (0.25 x 140 = 35).

Premiums earned (280) plus premium supplements (35) less service charges (45).

Claims due.

Premiums paid but not earned (300 - 280 = 20) plus claims due but not paid (270 - 200 = 70)

It is assumed that the amounts actually paid are settled via reserve assets.

Premiums actually received (300) less claims actually paid (200).

The recording of transactions as shown is an extension of the recommendations of the BPM, and reflects the full range of insurance transactions. In practice, transactions would only be recorded in this way if significant.

References

  • Commission of the European Communities, International Monetary Fund, Organisation for Economic Co-operation and Development, United Nations, World Bank, System of National Accounts 1993, 1993.

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  • International Monetary Fund, Balance of Payments Manual, fifth edition, Washington, September 1993.

  • International Monetary Fund, Balance of Payments Compilation Guide. Washington, March 1995.

1/

The views expressed in this paper are those of the author and do not necessarily represent those of the Fund.

2/

See paragraphs 6.135-6.140 on pages 141-142 and annex IV of the 1993 SNA.

3/

A particular type of insurance policy, usually called term insurance, that provides a benefit for death within a given period but in no other circumstances is regarded as nonlife insurance.

4/

This assumes that there are no capital gains or losses.

5/

This is a simplified calculation of output that will suffice for the purposes of this paper.

6/

In this method of recording, current transfer credits equal current transfer debits. In line with the principle of gross recording in the current account, both transactions should be shown. In other words, the two transfer entries should not be netted against each other.

7/

This proposition can be best demonstrated by an example. Suppose a resident of country A purchases, in 1994, fire insurance from an insurance enterprise in country B. The cost of the policy is 100. During the year, the resident of country A suffers losses due to a fire and receives a claim of 1,000. Taking premiums less claims as a proxy for the measurement of the service charge would yield unrealistic results; it is clear that the claimant has not provided a service of 900 to the insurance enterprise.

8/

This calculation should be made for each of the different types of insurance.

9/

It may also be possible to derive this type of information from partner country publications.

10/

The appropriate classification for these transactions—from the point-of-view of the insurer—Is other investment-liabilities-other liabilities.

11/

In particular, it would be almost impossible for balance of payments compilers in countries that are importing insurance services to reflect income on technical reserves in their calculation of the insurance service charge.

12/

In such circumstances, premiums less claims is a negative amount. Obviously, this could not be used as a measure of insurance services, as the insurance enterprise has not produced “negative services”.

13/

In such cases, the transfers associated with premiums (premiums less service charges) would not equal claims (all of which are considered transfers).

14/

In the absence of a domestic life insurance industry, the alternative methods discussed in part I, section 1 could be used to calculate imports of life insurance services.

15/

In many instances, life insurance is organized in the form of mutual funds, which are separate from the insurance enterprises that manage the funds. In these cases, policyholders have claims on the mutual funds.

16/

These are the only non-debt transactions recorded in the other investment component of the financial account.

17/

A possible exception may be payment for claims arising from the death of policyholders, which could be paid sometime after the time the claims become due—that is, the time of death.

18/

Such a treatment is likely to accord with the way units that pay income on the actuarial reserves record these transactions–that Is, as income payable to the insurance enterprise (or fund) and not as income payable to the policyholders, who may be residents of different countries.

19/

Among other things, such information could be used to assist in resolving bilateral asymmetries that will almost inevitably arise from the recording of insurance using the methods proposed.

20/

An ITRS is sometimes referred as a “foreign exchange reporting system” or a “bank reporting system”. A well-designed ITRS should, though, measure all BOP transactions, not just those involving foreign exchange or passing through the domestic bank system.

21/

One exception could be life insurance, where the agents (who may be relatively few in number) of policyholders may have information on bonuses, which are treated as investment income offset by additional investment by the policyholder.

22/

One simple method of allocating income to nonresident policyholders would be to multiply income by the ratio of premiums paid by nonresidents to total premiums.

23/

Such subsidiaries are generally established in countries that have low taxes on financial operations.

24/

This information may be used, in conjunction with other information, to adjust imports of goods recorded on a c.i.f. basis to an f.o.b. basis, or to measure (by derivation), imports of insurance services.

25/

For example, total insurance premiums on imports may be available from customs documents or could be calculated by applying an appropriate ratio to the total value of imports.