UNIVERSITY OF SANTO TOMAS

ALFREDO M. VELAYO COLLEGE OF ACCOUNTANCY

THE INSULAR LIFE ASSURANCE COMPANY, LTD.

A Group Case Study Analysis: Insurance Companies

Presented to the AMV-College of Accountancy

University of Santo Tomas

Manila, Philippines

In Partial Fulfillment

of the Requirements of the Learning Area

ACC5118_ Auditing and Assurance: Specialized Industries

By

Crystelle Grace P. Abundabar Catherine C. Gironella

Marcus Louis H. Babasa Abraham Crayon D. Hular
Ellaine B. Bautista Chanelle A. Pangilinan
Vince David S. Bituin Maria Patricia Monic A. Prado
Karen Joyce A. Calma Allayne Margareth C. Sevilla
Danielle V. Cunanan Vinzze Edric C. Tan
Jairuz L. Florentin

4A4 Group 1
Submitted to
Professor Almario Parco
Chapter I: Introduction

Insurance represents a legal agreement between an insurer (insurance company) and an

insured (individual), in which the insured party gains financial protection from the insurer under
specific situations of loss (Knowledge Centre, 2022). Common types of insurance encompass
health, life, disability, auto, and homeowner’s or renter’s insurance, catering to various needs
(Family Health International, 2022).

In the Philippines, insurance and annuities play crucial roles as financial tools. Filipinos
perceive them not only as means of protection but also as avenues for savings and investments
due to the cash value it offers, which can be utilized for loans or as collateral (KPMG
Perspectives, 2023). Additionally, annuities serve as a reliable income stream, especially in a
country with limited social security benefits, easing the financial strain during retirement years
by providing consistent payments throughout the annuitant’s lifetime. The Philippine insurance
sector remains to be one of the very few industries which mobilize the long-term savings of the
populace and has contributed to the coffers of the government in terms of premium taxes and
documentary stamp taxes (Philippine Life Insurance Association, n.d.). Subsequently, these are
primarily invested in infrastructural developments like roads and bridges, significantly
contributing to the country’s economic progress.

The insurance sector is characterized as a complex industry with specialized

terminologies, diverse array of products, large volume of transactions, intricate estimates, and
operates within a stringent oversight by the Insurance Commission (IC). Given the industry’s
complex nature and critical role in managing people’s financial assets, auditing emerges as a
control mechanism to ensure compliance with regulatory statutes. Auditing not only verifies
accounts in accordance with applied accounting principles but also evaluates an entity’s financial
standing and performance, thereby ensuring transparency and reliability for stakeholders
(Lament, 2011). Moreover, independent financial statement reviews reassure stakeholders that
the company operates in their best interests and can highlight any unnoticed issues (Hadfield,
n.d.).
Objectives

The purpose of this paper is to provide an in-depth overview of the insurance landscape
in the Philippines. It particularly focuses on shedding light on areas relevant to the audit group in
examining the financial records of Insular Life, recognized as the sole mutual company in the
country. Aside from this, the paper also detailed the following areas:

● Identification of factors that may affect the auditor’s risk assessment and determination of
materiality.
● Determination of issues in taxation related to the insurance industry, and therefore, to
Insular Life
● Specification of audit procedures appropriate to the company
● Evaluation of the company’s internal controls
● Application of appropriate substantive procedures.

Agenda

The following sections offer a comprehensive analysis of factors impacting insurance

companies and how these affect the conduct of audits. These factors span across market
dynamics, regulatory frameworks, economic conditions, and technological advancements.
Furthermore, this paper tackles the discussion of various risk types such as business risk and the
risk of material misstatement. Then, the paper further addresses challenges auditors might face in
revenue recognition, asset valuation, and taxation, highlighting the potential complexities within
these domains. Proceeding onto the audit process, the paper also focuses on the importance of
internal controls through the test of controls, and the procedures that should be carried out
through substantive testing. Finally, the paper explores compliance testing to explain how
adherence or non-adherence to regulatory requirements can significantly impact the entity’s audit
outcomes.
Market Factors

Market Size, Trends, and Key Players in the Insurance Industry

As per the Insurance Commission’s (IC) October 2023 report, the Philippines has 7
composite, 27 life, 48 non-life, 1 professional reinsurer, and 5 servicing insurance companies
with valid and existing certificates of authority. According to Statista (2022), the COVID-19
pandemic in 2020 significantly altered consumer perspectives on insurance and influenced the
insurance industry’s GDP contribution to rise to 1.93% in 2021, though it slightly receded to
1.72% in 2022. Looking ahead, Global Data’s (2023) forecasts suggest a promising real GDP
growth of approximately 5.5% in 2023, followed by a 5.6% projection for 2024 in the
Philippines.

Vangari (2023) of Global Data reveals that property insurance leads the general insurance
market and it is estimated to hold a 36.8% share of the Gross Written Premiums (GWP) in 2023
and to grow by 15.9% due to rising demand for natural catastrophe policies, as the country is
prone to typhoons and earthquakes.

Following closely, motor insurance captures 24.3% share and is expected to grow at a
Compound Annual Growth Rate (CAGR) of 11.2% from 2023 to 2027. This surge is supported
by a significant 44.8% year-on-year increase in automobile sales in May 2023. Additionally, the
government initiative to promote electric vehicles is expected to foster a 30% rise In EV sales
this year due to the zero-tariff rate on fully electric vehicle models until 2028.

Meanwhile, the Marine, Aviation, and Transit (MAT) segment holds a 5% share of
premiums in 2023 and anticipates a 6.3% CAGR from 2023 to 2027. This growth trajectory
stems from escalated import-export activities, positive trends in air travel, and advancements in
offshore energy projects. The remaining 33.9% of GWP are estimated to be distributed across
Liability, Financial Lines, and Miscellaneous Insurance. Notably, the sector’s current penetration
rate in the Philippines at 0.6% in 2023, highlights substantial growth potential compared to more
developed economies like Australia (3.6%), New Zealand (2.3%), and Japan (1.8%).
 In the Insurance Commission’s annual financial report, the top insurers in 2022 were Sun
Life for the life sector with a premium income of P52.61 billion and Prudential Guarantee and
Insurance (PGAI) with net premiums written (NPW) amounting to P5.73 billion for the non-life
sector (Araullo, 2023). The report also found that the insurance sector reached P308.85 billion in
total for the year 2022. Other notable chart toppers were Prudential Life Insurance and Allianz
PNB Life Insurance for life insurers while Malayan Insurance and Pioneer Insurance & Surety
were for non-life insurers. In terms of New Business Annual Premium Equivalent (NBAPE),
Insular Life recorded the highest growth of 43% at P1.9 billion among the top 10 life insurers in
2022.

Effects of Market Factors in the Financial Statements of Insurance Companies

Market conditions influence a company’s financial statements and shape its financial
well-being as depicted in reports. Insurance companies generate income by investing the
premiums they receive. Fluctuations in interest rates or poor investment performance can affect
their profitability resources on hand and may potentially lead to diminished investment income
or losses (Beers, 2023). This affects the insurer’s overall financial stability as reflected in the
income statement. Furthermore, market fluctuations can affect the adequacy of reserves held by
insurance companies (Liberto, 2021). For instance, a sudden spike in claims due to natural
disasters or unforeseen events might strain an insurer’s reserves, impacting the balance sheet.
Overall, the optimistic growth projections in the insurance sector hint at the industry’s strong
financial health for the coming years.

Regulatory Factors

The main regulatory body for the insurance industry in the Philippines is the Insurance
Commission or the IC which is under the Department of Finance (DOF). The Insurance
Commission’s duties are in accordance with R.A. 10607 or the “Insurance Code”. Included in its
mandate is the licensing and regulation of insurance and reinsurance companies as well as
intermediaries. This is to ensure that companies entering the insurance industry comply with all
the necessary legal requirements and standards before commencing operations. Additionally, the
IC also monitors the financial health and solvency of the companies they oversee to ensure that
the capitalization requirements they set are met and that the insurers maintain sufficient reserves
to meet their obligations to their policyholders. Furthermore, the IC also makes sure that business
practices of insurance companies are fair and ethical, most especially with regard to their
policyholders. This includes regulating premium rates, marketing practices, and claims
processing. In order to protect consumers and their interests, specifically policyholders in this
case, the IC’s mandate also includes the safeguarding of rights of policyholders as well as the
responsibility to investigate complaints made against companies that are under their jurisdiction.
The IC also reviews and approves insurance policy forms to ensure that the contract between the
insurance company and the policyholder comply with the regulations and provide adequate
coverage to the policyholder. Lastly, the IC assesses risks within the industry and prevents
potential issues from materializing and affecting the stability of the sector.

The Securities and Exchange Commission (SEC) and the Bureau of Internal Revenue
(BIR) are also regulatory bodies of insurance companies as the SEC is tasked to regulate all
corporations while the BIR is responsible for all matters related to taxes and duties due to the
national government.

Economic Factors

Sources of Funding for Insurance Companies

Insurance companies commonly obtain funding from varying sources to sustain their
operations and growth. Insular Life’s source of funding includes:

● Insurance Premiums

One of the sources of funding for insurance companies like Insular Life is the
premiums paid by individual policyholders in exchange for insurance coverage (Ross,
n.d.). The company must be able to determine the price for the risk effectively in order to
obtain more revenue from premiums than the spending for payouts.

● Diversified Investments

Insurance companies reinvest the premiums collected by individual payers to

redistribute them to larger portfolios that generate additional income, such as interest
 revenue. This includes corporate bonds, real estate, stocks, cash equivalents that are
interest-bearing, and treasury bonds (Ross, n.d.).

● Underwriting profits and Reserves

One of the goals of insurance companies is to achieve underwriting profits by

collecting premiums that exceed the payouts for claims and operating expenses. Through
this, the company may build up reserve funding. Reserve surpluses are considered
financial cushions for insurance companies that can cover catastrophic events (Ross,
n.d.).

● Government Grants

In certain regions, governments offer grants, incentives, or subsidies to encourage

business growth and employment. For the insurance industry, most of the government
assistance is for unexpected events such as natural disasters. This helps the company to
ensure financial stability.

Economic Challenges Faced by the Insurance Industry

The insurance industry in the Philippines faces a lot of economic challenges that
significantly affect its operations. Some of these challenges include:

● Economic Instability

The economic instability includes the downturns in the Philippines’ economy,

which impacts the ability of the consumers to spend, eventually leading to a decrease in
the demand for insurance products. One of the reasons that may affect the lower
insurance policy purchases and cancellation of policies is the increasing job losses in the
country.

● Natural Risks

The Philippines is known as prone to natural disasters such as major earthquakes,

volcanic eruptions, and typhoons. Insurance companies must strive to enhance their
insurance structures in preparation to cope with any catastrophic events happening. These
 natural risks pose pressure and challenges to their financial stability as they can result in
an increase in claims as a consequence of unexpected events (Tendero, n.d.).

● Increased Competition

The competition in the insurance industry in the Philippines has heightened as

insurance companies also compete with financial conglomerates and powerful banks
(Tendero, n.d.). In addition, the rise of insurtech startups, which are described as
technological innovations that enhance the efficiency of insurance companies, also adds
to the pressure and intensification of the competition in the market.

● Fluctuating Currency Exchange Rates and Low-Interest Rates

The financial performance of the insurance companies can be affected by inflation

pressures, fluctuations in the currency exchange rates, and low interest rates. This may
impact the profitability of the insurance products due to the possible increase in costs and
devaluation of currencies. Furthermore, the low interest rates may lead to low returns on
the investments of the company, resulting in an impact on the profitability of the
industry.

Technological Factors

As technology continues to advance in ways we didn’t think possible, a lot of

opportunities suddenly became realizable. Insurance companies are now taking steps to
capitalize on the technology that we currently have to improve the conduct of business both for
their investors and consumers. The following technological advancements shape the insurance
industry in the present moment:

1. Digitalization and Automation

Insurance companies in the Philippines adopt digital technologies and automation

to streamline various insurance processes. Insurers are increasingly implementing digital
platforms for policy issuance, claims processing, and customer interactions. Included in
this digitalization and automation is the employment of mobile technology that has
prompted insurers to develop mobile apps for policy management, premium payments,
 and claims reporting. Mobile technology also facilitates real-time communication with
policyholders.

2. InsurTech Innovation

The rise of Insurance Technology or InsurTech brings forth new business models,
products, and services as offerings are more customized to the need of each individual
with the groupings of risk being more delineated. These innovations can enhance
efficiency, improve customer experiences, and introduce novel insurance solutions.

3. Big Data and Analytics

Insurers are leveraging big data and advanced analytics to gain insights into
customer behavior, assess risk more accurately, and enhance underwriting processes. This
data-driven approach can lead to more personalized and competitive insurance offerings
as well as give the company a vision of what offerings their consumers would patronize
in the future.

4. Artificial Intelligence (AI) and Machine Learning

Artificial Intelligence (AI) and machine learning are being employed in the
insurance industry through claims processing, fraud detection, and customer service.
These technologies contribute to better decision-making and operational efficiency.

Summary (Industry Briefing)

For market factors, it is expected for the insurance industry to contribute 5.5% GDP
growth in 2023 and 5.6% in 2024. Relevant market conditions should be closely observed as
they shape the financial well-being of insurance companies in their reports. For the regulatory
factors, it is evident that the IC promotes stability, integrity, and fair and ethical operation of the
insurance industry in the Philippines through their mandates of licensing and regulation,
financial regulation, market conduct regulation, consumer protection, policy approval, and risk
management supervision. For economic factors, the insurance companies obtain their funding
primarily from the premiums collected from policyholders. Other sources of funding include
investments, reserves surplus, underwriting profits, and government assistance. Furthermore,
some of the challenges that the insurance industry faces involve the instability of the country’s
economy, natural disasters, intense competition, inflationary pressures, exchange rate
fluctuations, and low-interest rates. For the technological factors, the continuous surge of
technological advancements such as digitalization and automation, insurtech innovation, big data
and analytics, and artificial intelligence and machine learning are paving the way for insurance
companies not only to improve their profitability through enhancing efficiency, but also to better
customer experience by laying out new offerings made possible by technology.
Chapter II: Identifying Business Risks

Identifying Risk

A business risk refers to the potential for adverse events or circumstances that can
negatively impact a company's operations, finances, or compliance with regulations. Business
risks can arise from various internal and external factors, and managing them is crucial for
sustainable business performance.

Operational risks involve the potential for losses resulting from inadequate internal
processes, systems, people, or external events. It encompasses risks related to day-to-day
operations and can include factors such as technology failures, human errors, and supply chain
disruptions (Basel Committee on Banking Supervision, 2023). Insular Life Assurance Company,
Ltd. might encounter operational risks such as:

1. Technology and Cybersecurity Risks: Vulnerability to cyber attacks, data breaches, and
system failures, risking financial losses and reputational damage.

2. Regulatory and Compliance Risks: Exposure to regulatory changes with potential

consequences such as fines, legal actions, and reputational harm for non-compliance.

3. Underwriting and Pricing Risks: Potential financial losses from inaccurate

underwriting, mispricing of insurance products, or unforeseen changes in market
conditions.

4. Operational Resilience and Business Continuity: Risks related to disruptions in

operations due to events like natural disasters or pandemics, emphasizing the importance
of robust business continuity plans.

5. Fraud and Financial Crime Risks: Vulnerability to internal and external fraud, posing
threats such as fraudulent claims, money laundering, and reputational damage.

Financial risk

Financial risk pertains to the potential for adverse financial outcomes, including losses or
fluctuations in earnings and cash flow. It includes risks associated with market volatility, credit
risk, and liquidity risk. Market risk involves changes in interest rates, exchange rates, and asset
prices, while credit risk relates to the possibility of counterparty default (International Monetary
Fund, 2023). While specific financial risks can vary for each insurance company, including
Insular Life Assurance Company, some common financial risks in the operations of insurance
companies include:

1. Investment Risks: Insurance companies often invest policyholder premiums in various

financial instruments. Fluctuations in financial markets, interest rates, and economic
conditions can impact the value of these investments, affecting the company's financial
position.

2. Underwriting Risks: Inaccurate risk assessment and underwriting decisions can lead to
unexpected claims and losses. Ensuring effective underwriting practices is crucial to
managing the financial risk associated with policy liabilities.

3. Interest Rate Risks: Insurers, including Insular Life, are sensitive to changes in interest
rates. A significant shift in interest rates can affect the profitability of insurance products,
especially those with long-term liabilities.

4. Credit Risks: Investments in fixed-income securities and other financial instruments

expose insurance companies to credit risk. Default or downgrade of issuers can lead to
investment losses and impact the company's financial stability.

5. Liquidity Risks: Maintaining sufficient liquidity is crucial for insurance companies to

meet policyholder obligations. Challenges in accessing liquid assets or unexpected cash
outflows can pose liquidity risks that may impact the company's ability to fulfill its
commitments.

Compliance Risk

Compliance risk arises from the possibility of failing to adhere to laws, regulations, and
industry standards. It includes legal and regulatory risks that can lead to penalties, lawsuits, or
damage to the company's reputation. Ensuring compliance is crucial for maintaining ethical
business practices and meeting legal obligations (Office of the Comptroller of the Currency,
2023).
 1. Regulatory Changes: Adapting to evolving regulations poses challenges requiring
continuous monitoring (Deloitte, 2023)

2. Market Conduct and Consumer Protection: Ensuring fair treatment of policyholders

and adherence to consumer protection laws is critical to avoid regulatory scrutiny.

3. Data Privacy and Security: Compliance with privacy regulations is essential to prevent
breaches and legal consequences.

4. Anti-Money Laundering (AML) and Counter-Terrorism Financing (CTF)

Compliance: Implementing robust AML and CTF measures is crucial to prevent
financial crimes.

5. Corporate Governance and Internal Controls: Effective internal controls are

necessary to avoid regulatory penalties and ensure overall stability.

With regard to the Insular Life Assurance Company, Ltd., their 2022 Annual Report emphasizes
the following key risks which significantly impact the company's operational landscape:

1. Insurance and Reinsurance Risk: The Group faces the risk of actual claims and benefit
payments exceeding the carrying amount of insurance liabilities, with underwriting and
investment risks associated with life insurance contracts.

2. Liquidity Risk: The Group’s primary liquidity risk involves matching available cash
resources for meeting claims arising from insurance contracts.

3. Market Risk: This includes the potential change in fair value of financial instruments due
to fluctuations in market interest rates, equity prices, and foreign exchange rates,
impacting both individual instruments and the broader market.

Risk of Material Misstatement

As part of the audit, auditors of Insular Life use their professional judgment and maintain
a skeptical approach throughout the audit process. They also identify and evaluate the risks of
significant errors or fraudulent activities in the consolidated financial statements. Furthermore,
they develop and implement appropriate audit procedures to address these risks and gather
sufficient and relevant audit evidence to support their opinion. Additionally, auditors gain an
understanding of the company's internal controls to tailor their audit procedures accordingly,
although they do not express an opinion on the effectiveness of these controls. In assessing the
overall audit risk, auditors consider the risk of material misstatement, inherent risk and control
risk, together with detection risk.

1. Inherent Risk

In auditing companies, inherent risk refers to the vulnerability of financial

statement assertions to potential errors or fraud that could result in material
misstatements. It is an inherent characteristic of a company and its business activities and
is not impacted by internal controls put in place to mitigate risks. Auditors use inherent
risk to evaluate the risk of material misstatement occurring in a particular line item or
audit area in a company's financial statements (Kindness, 2022). This assessment
primarily relies on the auditor’s knowledge and professional judgment about the
company’s industry, types of transactions, and owned assets.

For insurance companies, inherent risk is particularly relevant when they issue
forward-looking financial statements, which rely on management's estimates and
evaluations. These estimates can introduce inherent risk due to the subjective nature of
making predictions about future events. Furthermore, insurance companies operating in
highly regulated industries face additional inherent risk due to the complexities of
regulatory compliance and the involvement of extensive networks of interconnected
companies. Therefore, it can be said that as the inherent risk increases for an insurance
company, the need for effective detection and control mechanisms also rises.

2. Control Risk

Control risk, as defined in the Philippine Auditing Practice Statement 1012, refers
to the risk that a company's internal control and accounting systems will not be able to
identify, prevent, and correct any significant errors or misstatements in account balances
or types of transactions in a timely manner. This risk is dependent on the effectiveness of
the internal controls, which is the responsibility of management. However, having
internal controls does not guarantee the prevention of errors, fraud, or misstatements.
 Additionally, control risk can increase due to factors such as a lack of segregation of
duties, transactions not being verified, and the approval of documents without
management review (The SIG Insurance Agencies, 2020). In this case, since the auditor
has no control over this type of risk, he/she must reduce the detection risk by performing
more procedures and gathering more evidence.

3. Detection Risk

According to the Public Company Accounting Oversight Board (PCAOB) in AS

1101: Audit Risk, detection risk refers to the risk that the auditor's procedures may fail to
detect material misstatements, either individually or when combined with other
misstatements. The auditor controls this risk by effectively applying audit procedures and
determines it based on the assessed risks from inherent and control risks. Thoroughly
examining the correctness of assessed risks for both inherent and control risks is crucial
as these assessments form the basis for detection risk and overall audit risk.

Several factors influence detection risk, including the nature and effectiveness of
the audit procedures conducted, the auditor's skill and experience, and the inherent risk
associated with an insurance company's financial statements. For auditing insurance
companies, detection risk holds particular significance as it can impact the accuracy and
reliability of financial statements. Inaccurate assessments of an insurer's financial
position and performance may arise if detection risk is not appropriately assessed.
Therefore, auditors must evaluate detection risk diligently and plan their audit procedures
accordingly.

Summary Business Risk

In summary, when auditing insurance companies, the auditor's assessment of the client's
business risk and acceptable audit risk may be affected by certain risks associated with the
company. Business risk refers to the risk of the entity failing to meet its objectives. There are
three types of risks that fall under business risk: operational, financial, and compliance risks.
Considering these three is essential for the overall risk management and sustainability of Insular
Life. Business risk acknowledges that certain account balances are more susceptible to
misstatement without proper internal controls. It is important to analyze business risk, determine
the significance or impact of each risk, and assess the likelihood of how it will affect the
company. However, it should be noted that while business risks can be reduced, they cannot be
completely eliminated.

Further, assessing the risk of material misstatement is crucial. The objective of assessing
such is to provide a basic design and performance for audit procedures. This is done by
identifying the risk of material misstatements at the financial statement and assertion level,
whether due to fraud or error. The components of the risk of material misstatement are inherent
risk and control risk, which are combined with detection risk to determine the overall audit risk.
Inherent risk refers to the risk of misstatements in the absence of internal controls, while control
risk is the risk of misstatements not prevented by internal controls. These components are
independent and cannot be modified, but detection risk can be adjusted accordingly. Therefore,
the relationship between material misstatement and detection risk is inverse. It is critical for an
auditor to have sufficient knowledge about the nature of the business, the industry it operates in,
types of transactions, and assets and liabilities. This understanding enables the auditor to assign
an appropriate level of detection risk before performing subsequent audit procedures.
Chapter III: Accounting Issues

Revenue Recognition

InLine recognizes revenue in various ways, including premiums on insurance contracts

and reinsurers’ share of premiums on insurance contracts. Among these revenue streams, the
group specifies some of the accounting issues present.

1. Premiums on insurance contract in relation to experience adjustment

Due to the risk inherent to Insurance Contracts, changes in considerations or

benefits exist to account for the ‘experience’ of the financial security system which
finances unknown future obligations. For premium receipts, experience adjustment is the
difference between the estimate of the amounts expected in a given coverage period
observed at the beginning of the period and the actual cash flow during the period.
IFRSPFRS 17 states that if a change in estimate of future cash flows is directly caused by
an experience adjustment, the combined effect of the adjustment and the directly caused
change in the estimate of future cash flows should be recognized in profit or loss.
Although this would avoid the recognition of a gain or loss in the current period and a
consequential gain or loss in future periods when a claim is incurred earlier or later than
expected, however, this raises two questions: first, when to combine experience
adjustments and second, where to recognize the combined effect of experience
adjustments and the directly caused changes in estimates of the present value of the cash
flows.

2. Premiums on an insurance contract in relation to separating components from an

insurance contract

Some Insurance Contracts may contain one or more components that may be
within the scope of another standard if they were separate contracts. For example, an
insurance contract may include an investment component. Hence, this poses a challenge
for auditors since different standards need to be taken into account when separating non-
insurance components such as IFRSPFRS 9: Financial Instruments and IFRSPFRS 15:
Revenue from Contracts with Customers.
 3. Reinsurers’ share of premiums on insurance contracts

In order to mitigate the financial risks arising from the insurance contracts,
companies use derivatives or reinsurance contracts. For InLife, the company uses a
reinsurance strategy to reduce financial risks. IFRSPFRS 17 states that all reinsurance
contracts must be measured using the General Measurement Model (GMM) which means
that the impact of changes in financial risk flows to profit or loss directly instead of
adjusting the Contractual Service Margin (CSM). If the underlying insurance contract is
measured under the GMM, this would not pose an issue. However, if the underlying
insurance contract is measured under the Variable Fee Approach (VFA), a mismatch in
accounting arises between the reinsurance contract and the underlying insurance contract
because the impact of changes in financial risk on the underlying contract adjusts through
CSM while the impact on reinsurance contracts goes to profit or loss.

Asset Valuation

One crucial aspect of auditing in the context of insurance companies in the Philippines is
the valuation of their assets, which hold a variety of investments, real estate, and other financial
instruments. These assets and their valuation are critical for financial reporting and regulatory
compliance. This paper will focus on the issues concerning the fair value measurement of
financial assets, reinsurance assets, investment property, impairment testing, and financial
liabilities.

According to the Group's policies, it recognizes a financial asset or a financial liability in

the statement of financial position when it becomes a party to the contractual provisions of the
instrument and classifies them initially based on contractual cash flow characteristics as well as
the business model used to manage the instruments. The Group determines whether the cash
flows from financial assets are solely principal and interest (SPPI) payments on the outstanding
principal amount. The instruments are labeled as FVTPL (Fair Value Through Profit or Loss) if
the cash flows do not meet this criterion. Furthermore, based on its business model, the Group
determines whether cash flows will be generated by collecting contractual cash flows, selling
financial assets, or both. According to the report, the business model is not dependent on
management's intentions for a specific instrument; instead, it refers to how the Group manages
its financial assets to generate cash flows. Consequently, the Group's measurement categories
include Financial assets at amortized cost, Financial Assets at FVOCI, and Financial Assets at
FVTPL.

Financial assets at amortized cost are held within a business model whose objective is to
have financial assets to collect contractual cash flows with contractual cash flow characteristics
that are solely payment of principal and interest on the principal amount outstanding. On the
other hand, debt financial assets measured at FVOCI are those held with objectives of both
collecting contractual cash flows and selling financial assets and with similar contractual cash
flow characteristics from those measured at amortized cost. Lastly, financial assets are measured
at FVTPL unless these are measured at amortized cost or FVOCI, and this classification also
includes equity and debt investments held for trading and debt instruments with contractual
terms that do not represent SPPI.

From the above discussion, the accounting issue arises from the given complexities and
diversity of financial asset measurement categories and as well as the manner in which financial
assets and liabilities are classified. These issues could significantly impact the Group’s financial
statement preparation. Hence, to address this concern, audit must be able to ensure the accuracy
and compliance of the methods used with accounting standards.

Furthermore, the presence of reinsurance assets in an insurance company's financial

statements is a distinguishing feature. These assets represent reinsurance companies' obligations
under ceded reinsurance agreements. Simply put, when an insurance company transfers a portion
of its risk to a reinsurer, it records a reinsurance recoverable on its financial statements, which
reflects the amount expected to be recovered from the reinsurer for claims on the reinsured
policies. The report from InLife emphasizes the Group's independence from a single reinsurer,
with operations not reliant on any specific reinsurance contract. The report also describes an
impairment review protocol for due premiums and reinsurance assets, which is triggered by
events that indicate potential impairment loss. The Group emphasizes adherence to statutory
guidelines for impairment assessment, where unpaid premiums in excess of a set limit by the
Insurance Commission (IC) are deemed impaired and excluded from financial statements.
Claims receivable from reinsurers are offset against payable premiums in accordance with
industry standards.
 The unique nature of this item presents an accounting valuation challenge due to contract
complexities, the need for accurate risk estimation, and the need to adapt to changing
assumptions, particularly in the context of changing economic conditions or regulatory shifts.

On the other hand, investment properties are land, buildings, and enhancements (or parts
of them) owned by the Group and either leased to others or held for capital appreciation.
According to the company’s policy, this asset's valuation is based on cost, including transaction
costs, and is reduced by accumulated depreciation, amortization, and any value impairment.
Furthermore, the use, estimated useful life, and method of depreciation and amortization of the
Group's investment properties are reviewed regularly and transferred to other property accounts,
if appropriate, upon determination of use change. Relatively, the accounting issue poses upon the
challenge of carefully taking into consideration the market condition, property-specific factors,
and the appropriateness of the valuation model in measuring this asset which carries a significant
amount in the financial statements of the entity. Hence, to address this concern is for the audit to
be able to review the correctness of the methods used by the company in valuing these
investment properties and assess whether they are consistent and compliant with the accounting
standards.

Concerning asset measurement, PFRS 9 mandates the assessment of impairment in the

value of assets, particularly for financial instruments. The standard explicitly requires the Group
to record Expected Credit Loss (ECL) for all loans and other debt financial assets not classified
as Fair Value Through Profit or Loss (FVTPL), loan commitments, and financial guarantee
contracts. ECL represents credit losses reflecting an unbiasiased and probability-weighted
amount, determined by evaluating various potential outcomes, considering the time value of
money, and relying on reasonable and supportable information about past events, current
conditions, and forecasts of future economic conditions. According to InLife's reports, ECL
allowances will be calculated using either (i) a 12-month ECL or (ii) a lifetime ECL. The 12-
month ECL considers potential default events within 12 months of the reporting date, whereas
the lifetime ECL considers credit losses from all possible default events over the expected life of
a financial instrument. This calculation applies to financial instruments with a significant
increase in credit risk (SICR) since initial recognition and those with evidence of impairment.
 From the aforementioned discussion of the Expected Credit Loss (ECL), the accounting
issue arises from the challenge of properly valuing the financial assets in relation to the
subsequent measurement and the impairment testing. Factors of market conditions, credit risks
and other factors must be considered to properly assess and value these assets.

Finally, financial liabilities may also be a crucial aspect of audit in the context of
insurance companies. Accordingly, per the company's reports, financial instruments or their
components not designated as Fair Value Through Profit or Loss (FVTPL) are categorized as
other financial liabilities, which are non-derivative financial liabilities with fixed or determinable
payments that are not traded in an active market. Following that, these liabilities are amortized
using the effective interest method. This calculation includes all fees associated with the
effective interest rate, transaction costs, and any other premiums and discounts exchanged
between contract parties. Gains and losses are recorded in the income statement when financial
liabilities are deferred, impaired, or amortized.

Although financial liabilities are not classified as assets, their valuation is highly linked to
asset which provides a similar accounting valuation issue. Hence, the challenge of making sure
that its valuation is comparable to asset is significant for this can materially affect the fair
presentation of an insurance company’s financial position and performance.

To summarize, an insurance company's accounting challenge of asset valuation stems

from changing estimates, market conditions, and classification policies, all of which significantly
impact its measurement. As a result, auditors must conduct procedures that assess the validity of
the valuation and confirm adherence to accounting standards, considering the company's
methodologies and assumptions.

Summary of Accounting Issues

During the evaluation of InLine’s financial statements, the group examines accounting
principles and policies, particularly regarding revenue recognition and asset valuation. These
specific areas can give rise to accounting issues. InLine recognizes revenue in various ways
including premiums on insurance contracts and reinsurers’ share of premiums on insurance
contracts. For premiums on insurance contracts, there are two revenue recognition issues that the
company faces. First is the experience adjustment which raises questions regarding when to
combine experience adjustments and where to recognize the combined effect of experience
adjustments and the directly caused changes in estimates of the present value of the cash flows.
Second is separating components from an insurance contract. Some insurance contracts may
contain one or more components that may be within the scope of another standard if they were
separate contracts. This poses a challenge for auditors since different standards need to be taken
into account. Likewise, for InLine’s second revenue stream, the reinsurers’ share of premiums on
insurance contracts causes an accounting mismatch especially when the underlying insurance
contract is measured under the Variable Fee Approach.

Moreover, it is crucial to understand the asset valuation of InLine in order to determine

whether the company has accurately valued its assets, such as investments, real estate, and other
financial instruments in accordance with applicable accounting standards. These accounting
valuations are important for auditing purposes as they require careful assessment and
verification. For insurance companies, specifically InLine, accounting issues arise from the
complicated natures of financial assets and reinsurance assets. The diversity of financial asset
measurement categories and the manner in which financial assets and liabilities are classified
could significantly impact the company’s financial statement preparation. Hence, to address this
concern, audit must be able to ensure the accuracy and compliance of the methods used with
accounting standards. Likewise, the unique nature of reinsurance assets presents an accounting
valuation challenge due to contract complexities, the need for accurate risk estimation, and the
need to adapt to changing assumptions, particularly in the context of changing economic
conditions or regulatory shifts. This requires auditors to have a deep understanding of the
industry, as well as the ability to adapt to the ever-changing economic landscape in order to
accurately evaluate and audit these complicated assets.
Chapter IV: Tax Issues

Tax Exemptions

Tax exemption on proceeds from life insurance

Generally, proceeds from life insurance are exempt from the 2% premium tax, as
provided by the Section 123 of the NIRC, under the condition that its manner of receipt and
classification of policy follows the three provisions of the law, which are:

Receipt of payout in lump sum settlement

Beneficiaries of life insurance do not have liability to pay taxes on the life insurance that
they are to receive in lump sum settlement. In contrast, those beneficiaries who opt to
receive their payout as an annuity or under a series of settlement over several years will
incur a liability of paying taxes on any amount of interest that will be accrued from the
remaining principal of the said proceeds (Funa, 2018). The rationale for this is that
proceeds from life insurance that are already due to be received by the policyholder or its
beneficiaries that are not yet claimed will accrue an interest until the payout has been
fully delivered. The heirs or beneficiaries of life insurance under this settlement should
exclude the same amount from their gross income and be excluded from being subject to
the Philippine Income Tax. This applies for life insurances of term life insurance and
whole life insurance.

The designation of the beneficiary is irrevocable

Under the Section 11 of the Insurance Code, life insurance whose beneficiaries are
deemed to be irrevocable may also qualify for the tax exemption on any proceeds that
they will receive from the policy. On the other hand, if the policy has vagueness or does
not expressly say that the designation of the life insurance’s beneficiary is irrevocable, it
is presumed to be revocable, and thus may not qualify for any exemption on the possible
proceeds. However, this rule is not absolute, as in cases when the beneficiary was never
replaced during the lifetime of the policyholder, even with the absence of an express
statement for it to be irrevocable, the designation shall be deemed irrevocable. In this
case, it will also qualify to be tax-exempt.
 The beneficiary of life insurance is other than the estate, executor or administrator

Proceeds from life insurance whose beneficiary designated are other than the estate,
executor, or administrator should not include the payout received as part of the Gross
Estate computation. This designation of beneficiary should be expressly stipulated to be
irrevocable, thus the previous provision for the absence of replacement during the life of
the policyholder does not apply in this case (Nonato, 2011). This is the only situation
wherein life insurance proceeds are exempt from the estate tax.

Tax exemption on group insurance

Under the section 2.33 (C) of the Revenue Regulation, premiums on insurance that are
paid by the employer under a group insurance policy will form part of the employee’s P90,000
tax-exempt threshold for the Fringe Benefits Tax (FBT). As further provided by the Revenue
Memorandum Circular No. 50-2018, all employees, regardless of whether rank and file or
managerial or supervisory position, will qualify for the group insurance tax-exempt threshold
(Mata-Perez, 2018). The BIR then effectively considers the premium on health cards as a tax-
exempt compensation income and also free from any withholding tax requirements provided that
they are under the scope of the P90,000 exemption.

Consequently, the Section 33(B)(10) of the Tax Code provides that life, health, and other
non-life insurance premiums or similar amounts that are in excess of the P90,000 threshold
should be subject to the Final FBT rate of 35%.

The provisions for Fringe Benefits Tax or the FBT regulations explicitly sets out the tax
exemption for group insurance premiums wherein any contributions made by the employer for
the benefit of the employee's retirement, insurance, and hospitalization benefit plans are exempt
from the Fringe Benefits Tax. The BIR has determined in a number of tax rulings that these
premiums are also exempt from income tax and from withholding any forms of final tax on
compensation (Chan, 2019). However, the RR clarifies that exemption from FBT shall not be
interpreted to mean an exemption from any other income tax.
Incurred but not reported (IBNR) claims

Frequently used by insurance companies, estimated losses of Incurred but not reported
(IBNR) claims is the amount owed by the insurance company to all eligible claimants who had
covered the amount of loss but no notification was yet received by the insurer as of the reporting
date. In essence, this is a mere estimate as delay may be experienced in the receiving of
notification and actual settlement of insurance obligations, thus the ultimate cost remains
uncertain. However, due to the accounting principle of prudence, a need to recognize a liability
account for the total IBNR claims arises. As for the case of Insular Life, they established the
“Other insurance liabilities” in their statement of financial position for the said estimated loss.

While insurance companies aim to value incurred claims at its present-day amount, IBNR
has the possibility to adversely develop over time. The tax treatment for IBNR is not an absolute
tax exemption as it only accounts for a temporary difference that will reverse as the claim has
been actually reported. Several insurance companies have changed their accounting methods
regarding IBNRs paid by the group beneficiary under self-funded medical or dental
reimbursement plans that are deductible in the tax year in which the services are rendered, so
long as the medical provider and not the employee makes the claim for payment (Schneider and
Sollee, 2009). As provided by the Note 13, Insular life has reported IBNR P310,616,412 and
P361,134,205 as of December 31, 2022 and 2021, respectively.

Net Operating Loss Carryover (NOLCO)

It is a well-established tax principle that deductions, like in the case of Net Operating
Loss Carry Over (NOLCO) —are construed against the taxpayer in strictissimi juris since they
are treated as tax exemptions. As provided by Revenue Memorandum Circular (RMC) 138-2020,
NOLCO arises for a temporary difference of Deferred Tax Asset (DTA) through the form of
deduction claims against the taxable income within three years after its incurrence. Similarly, the
excess of 2% Minimum Corporate Income Tax (MCIT) over the total income tax due for the year
may be carried over for the next three taxable years, provided that the group is in RCIT position
to have its amount credited against the income tax due. As a result, taxpayers must competently
prove the factual and documentary foundations of their NOLCO deduction claims within the
succeeding three years. As provided by Note 16, Insular Life’s outstanding NOLCO amount to
P1,588,617,762 and P1,408,175,180 as of December 31, 2022 and 2021, respectively. On the
other hand, they reported P53,894,419 and P65,320,295 as the amount of MCIT over RCIT as of
December 31, 2022 and 2021, respectively.

Tax Liabilities

Income Tax

The Corporate Recovery and Tax Incentives for Enterprises (CREATE) Act (RA 11534),
signed into law on March 26, 2021 by former President Duterte, altered corporate tax rates.
Domestic corporations are now subject to a 25% regular corporate income tax (RCIT) on net
income or a 1% MCIT on gross income (net of allowable deductions) beginning in the fourth
taxable year following the start of operations, whichever is higher. The MCIT rate, however, will
revert to 2% on July 1, 2023. Additionally, the net operating loss carry-over (NOLCO) can be
deducted from taxable income within three years after the NOLCO is incurred, and any excess
MCIT over income tax due can be carried forward and credited against income tax due for three
succeeding years, provided the entity is in an RCIT position. Furthermore, under Revenue
Regulations No. 25-2020, the Bureau of Internal Revenue (BIR) allowed the carryover of
NOLCO incurred for taxable years 2020 and 2021 and claimed it as a deduction from gross
income for the next five consecutive taxable years immediately following the year of such loss.

Certain principles guide Insular Life's approach when it comes to tax policies. The
consolidated income statement presents the final tax on interest and dividend income when
interest is earned. In contrast, current income tax assets and liabilities for the current and prior
periods are assessed based on the expected amounts to be recovered from or paid to taxation
authorities using tax rates and tax laws enacted or substantively enacted at the reporting date. In
handling deferred income tax, Insular Life uses the balance sheet liability method for temporary
differences between tax bases and carrying amounts at the reporting date.

Deferred income tax liabilities are recognized for all taxable temporary differences,
including asset revaluations. Whereas deferred income tax assets are recognized for all
deductible temporary differences to the extent that sufficient future taxable profits are likely to
be available to offset the deductible temporary differences, net operating loss carry-over
(NOLCO), and excess of minimum corporate income tax (MCIT) over regular corporate income
tax (RCIT). These are measured at the tax rate that is expected to apply to the period when the
asset is realized, or the liability is settled, based on tax rates and tax laws that have been enacted
or substantively enacted at the reporting date.

In the context of recognizing deferred income tax assets, Insular Life examines them at
each reporting date and reduces them to the extent that it is no longer likely that sufficient future
taxable profits will be available to allow all or a portion of the deferred income tax assets to be
used. Unrecognized deferred income tax assets are reassessed regularly and recognized when it is
probable that future profits will allow their recovery.

Insular Life offsets deferred income tax assets and liabilities only when there is a legally
enforceable right to offset current income tax assets against current income tax liabilities and the
assets and liabilities are related to the same taxable entity and taxation authority.

Understanding such laws and regulations is critical for ensuring financial reporting
compliance, accuracy, and reliability. Auditors must verify and ensure that the company is
adhering to tax laws and regulations by determining whether the company is applying the
appropriate tax rates, deducting only allowable deductions as defined by tax regulations, utilizing
NOLCO as allowed by law, claiming deductions within the applicable periods, and adhering to
the specific provisions outlined in the CREATE Act and applying subsequent changes after the
act's effectivity.

Auditors must examine the company's processes for computing taxes, maintaining
records, and ensuring compliance with tax laws to determine the reliability of the company's tax-
related data. With this, auditors must ensure the accuracy of financial statements relating to tax-
related items. This includes ensuring the proper recording of final taxes, current income taxes,
and deferred income taxes, as well as ensuring that the amounts stated in the submitted BIR
Forms are consistent with those reported in the financial statements, as any misstatements or
errors in these areas could result in financial misrepresentation. Auditors must also examine the
valuation of deferred tax assets and liabilities to see if the company's estimates and judgments
about future profitability and the likelihood of utilizing deferred tax assets are reasonable and in
accordance with accounting standards.
 Furthermore, auditors must review the tax-related disclosures in the financial statements
to ensure that the company has disclosed all relevant information about its tax positions,
potential liabilities, and uncertainties, providing transparency to stakeholders.

Understanding the tax implications and following tax laws aids auditors in identifying
potential risks. Failure to comply with tax regulations can result in legal issues, penalties, or
financial ramifications, all of which should be considered during the audit process.

Aside from the income taxes paid, Insular Life is also subject to other taxes that are
special to it as an insurance company which are discussed below.

2% Premium Tax on Life Insurance Premiums

Based on Section 123 of NIRC, amended by R.A. No. 10001, a 2% premium tax is
imposed on the total premiums collected taking into consideration the provisions of Section 123
as discussed above for exemptions. In connection, the same tax is also subjected on other income
incidental to or in connection to insurance policy contract premiums, such as re-issuance fees,
reinstatement fees, renewal fees, and penalties paid to life insurance companies. However, there
are certain other exemptions as amended by R.A. No. 10001: (1) Premiums refunded within 6
months after payment are not included in taxable receipts, (2) Reinsurance by a company whose
taxes are already paid shall not be taxed again to avoid double taxation, (3) Whereby premiums
for insurance of non-residents have already been subjected to premium taxes in the foreign
jurisdiction shall not be, and (4) Portions that are in excess of amounts needed to insure variable
contract owners are likewise not taxed.

As a form of percentage tax, BIR Form 2551, Form 2551M for monthly filed not later
than the 20th day following the end of each month, and Form 2551Q for quarterly, filed and paid
within twenty-five (25) days after the end of each taxable quarter.

As an implication to the audit of Insular Life, it is essential for the auditors to determine
the total actual amount of premiums that will be the basis for the calculation of the 2% premium
tax. This includes the conduct of audit procedures for a sample of revenues recognized, including
but not limited to confirming the existence of such receipts, perform tests for the completeness of
the receipts to be taxed including the amounts of refund, reinsurance, and income from other
sources related to premiums whether they are to be filed or paid within a particular taxable
period, recomputation of the premium amounts and the tax to be paid, analytical procedures for
tax bases and taxes paid, and compliance testing for such tax obligations including checking for
taxes by foreign authorities imposed on the same premiums. In addition, even though Insular
Life is neither a foreign insurance company nor an agent of a foreign insurance company thus not
subject to 4% premiums tax in the Philippines, the auditors have the responsibility to ascertain
whether taxes paid to foreign authorities are filed and paid correctly and completely, and are
likewise not further subjected to double taxation.

From the 2022 annual report of the company, while details on the premiums collected are
available, the corresponding tax paid in relation to such were not disclosed in detail thus no
further information for this analysis can be provided; However, since no existing tax proceedings
have been noted, it can be deduced that compliance with the payment of premium taxes are in
place.

Documentary Stamp Tax

Documentary stamp tax on insurance products are imposed on both life and non-life
insurance. For life insurance, based on Section 183 of the NIRC, as amended by R.A. No. 10001,
when insurance are made or renewed, a one-time documentary stamp tax must be collected, in
which insurance of amounts not exceeding P100,000.00 are exempt, while succeeding amounts
are based on the amount of insurance with a upper limit of Php100.00 stamp taxes for insurance
with amounts exceeding P1,000,000.00. Likewise, non-life insurance premiums are also subject
to a documentary stamp tax of P0.50 per P4.00 premium, in accordance Section 108 of the
NIRC. For this tax, BIR Form No. 2000-OT for one-time transactions, and Form No. 2000 for
monthly declarations, both filed and paid within (5) days after the close of the month when the
document was issued.

As an implication to the audit of Insular Life, auditors must have a thorough

understanding of the insurance claims and premiums, and they must perform audit procedures
including but not limited to confirming the existence and testing the completeness of insurance
claims and premiums, analytical procedures of such claims, premiums, and their respective taxes
paid, and compliance testing including whether one-time payments have been made or when they
have been charged redundantly. Although the 2022 annual report of Insular Life does not
disclose in detail the amounts payable and paid for documentary stamp taxes, as no tax
proceedings are disclosed, it can be deduced that compliance is in place.

Value-Added Tax (VAT)

As an insurance company, Insular Life’s life insurance premiums are subject to 2%

premium tax in lieu of VAT; However, other sources of income such as income from non-life
insurance, and income from ancillary services not related to life insurance contracts and
premiums are subject to 12% VAT which obliges the company to file and pay the taxes through
BIR Form No. 2550M for monthly filed not later than the 20th day following the close of the
month, and Form No. 2550Q for quarterly filed not later than the 25th day following the close of
each taxable quarter.

Income from non-life insurance are subject to 10% VAT based on Section 108 of the
NIRC as a form of sale or exchange of services. Likewise, other sources of income such as
management fees, such as those of the management of the investment portion of insurance
contracts, rental income, and other income not in connection or independent to life insurance
contracts and premiums are subject to VAT, on top of the income taxes paid whichever is higher
of the RCIT and MCIT.

In relation to the audit of Insular Life as a provider of both life and non-life insurance,
and as they also derive revenue from ancillary sources, it is important for the auditor to have a
thorough understanding of the company’s revenue streams and performing usual audit
procedures on revenue amounts as such would be the basis for VAT computations to be filed and
paid. Although the 2022 annual report of Insular Life does not disclose in detail the amounts
payable or paid in relation to VAT, as they have no existing tax proceedings, it can be deduced
that compliance with VAT tax laws are in place

Other Taxes

Since Insular Life is also subject to other taxes not special to insurance companies, such
as real-estate taxes and documentary stamp taxes not related to insurance products, it is likewise
essential for auditors to perform audit procedures including but not limited to confirming the tax
bases used, reviewing source documents, recalculating tax obligations to be settled, and related
compliance testing.

Summary

In general, insurance companies, agents, and other forms of insurance corporations are
subject to the 2% Premiums Tax, but with exception for purely insurance cooperatives and
associations. However, exemptions from being subject to tax becomes the case when certain
subject matters and conditions are met, as provided by the NIRC and Insurance Code of the
Philippines. These tax exemptions include proceeds from life insurance, group insurance,
incurred but not reported (IBNR) claims, and net operating loss carryover (NOLCO). As for the
tax exemption on proceeds from life insurance, the revenue regulation is strict to the following
conditions: payout must be in lumpsum form, designation should be irrevocable, and beneficiary
is other than the estate, executor, or administrator.

Insular Life is subject to corporate income tax following the alterations introduced by the
CREATE Act. Auditors are responsible for confirming the company's compliance with tax laws
and regulations. This involves checking if the company uses the correct tax rates, deducts
allowable deductions as per tax regulations, makes proper use of NOLCO as permitted, claims
deductions within the stipulated period, and follows the specific guidelines in the CREATE Act,
including any subsequent changes after the act's effectiveness.

Given that Insular Life is also subject to paying other taxes specially imposed to
insurance companies, including 2% premium tax, certain documentary stamp taxes, and value-
added taxes, these provide auditors the responsibility to have a more thorough understanding of
the company’s revenue streams and the tax laws applicable to them, and to likewise perform
audit procedures to gather evidence on management assertions for revenue accounts, confirming
tax bases, and test compliance.
Chapter V: Auditing Procedures

According to the 2022 Annual Report of The Insular Life Assurance Co., Ltd. and
Subsidiaries, its financial statements are audited in accordance with Philippine Standards on
Auditing (PSA). Moreover, the preparation and fair presentation of the consolidated financial
statements are in accordance with the Philippine Financial Reporting Standards (PFRS). The
following auditing procedures relevant to the insurance industry will be discussed in this section.

Test of Controls

The assessment of internal controls is crucial due to the significant impact of the
implementation of IFRSPFRS 17 on an insurance company's systems, processes, and reporting
requirements. The complexity of the accounting standard requires insurers to develop and
implement effective internal controls for the accuracy of financial reporting and compliance of
regulatory requirements. Internal controls are put into place for the following reasons: (1)
Reliability of Financial Information: Internal controls provide assurance, especially on estimates
and complex calculations that require effective controls to mitigate the risk of material
misstatements in the context of insurance companies, (2) Compliance with Standards: Evaluating
internal controls ensures the compliance of accounting standards, (3) Risk Mitigation: Effective
controls help mitigate risks associated with subjectivity, estimation uncertainty, and the potential
for management biasPAs in processes, and (4) System and Process Integrity: Evaluating controls
ensures the integrity of the system and process changes and helps identify areas where manual
controls may be necessary.

Test of controls constitutes a vital component of the audit process to determine whether
an entity’s internal controls are designed and operating effectively to detect or prevent risks of
material misstatements. The audit procedures involve an in-depth understanding of controls
designed and implemented by management. This includes the assessment of the operating
effectiveness of both automated controls, which enhance efficiency and minimize the risk of
errors, and manual controls, where the absence of automated mechanisms is compensated.
Internal controls over estimates encompass various components, including the appropriateness,
completeness, accuracy, relevance, and reliability of historical data. Auditors examine
information derived from sources outside the finance function or obtained from third-party
sources. They also evaluate the development, selection, maintenance, and validation of methods
and models, ensuring the integrity of approximations or post-model adjustments. Reviewing and
approving accounting estimates, including assumptions and data, is conducted by management at
an appropriate level, overseen by governance entities to mitigate potential biasPAs.

In the assessment and planning phase of the audit, auditors identify relevant IT
applications for the audit, testing IT general controls (ITGCs) and evaluating the design,
implementation, and operational effectiveness of IT application controls and IT-dependent
manual controls. ITGCs are implemented to address risks arising from IT use, encompassing
processes for logical access management, program changes, and IT operations within the
financial reporting process. The auditor's ability to rely on automated controls within IT
applications and databases hinges on the effective design and implementation of ITGCs. The
audit procedures are meticulously designed, considering various aspects of IT applications, such
as communication facilitation, maintenance of information integrity, access controls, and the
extent of automated procedures. The auditor assesses the maturity level of the insurer's system of
controls and IT landscape to determine the extent of reliance on IT system processing,
calculations, and automated controls.

Among the internal controls, segregation of duties emerges as a fundamental concept that
involves clearly defining and dividing tasks and responsibilities among different individuals or
departments to prevent errors and fraud. By ensuring that no single individual has complete
control over a task, segregation of duties helps prevent and detect fraud, reduces the likelihood of
errors going undetected, and promotes accountability. As such, the risk of management override,
which is inherently high in manual processes, might be mitigated. In the context of insurance
companies, it is particularly relevant, as it dictates that the responsibilities for making the
accounting estimates and committing the entity to transactions should be held by different
individuals. Moreover, adequate segregation of duties must be observed for risk assessment
activities and the development of the actuarial models. This internal control contributes to a
robust control environment, enhancing the financial integrity of an organization.

Substantive Testing

Substantive Testing for Assets

 Procedures How does it provide audit
evidence?
1. General procedure for all assets
Reconcile the detailed listing Obtain a detailed listing of By undergoing this
of specific asset accounts to the specific assets accounts procedure, the auditor obtains
the general ledger and agree the balance to the the detailed listing of the
general ledger. specific asset accounts and
the general ledger as
Test the mathematical evidence. This process then
accuracy of the detailed helps in verifying that the
listing of the assets accounts. entity’s records are accurate
and complete.
Substantive Tests for Assets, specific to Financial Assets
2. Verify existence of financial assets held by the entity
Verify the existence of Confirm the existence, This procedure provides audit
financial assets held by the amounts, and terms of the evidence in the form of hard
entity. financial assets directly to paper responses as
financial institutions or confirmations from financial
custodians. institutions regarding their
banking relationship with the
entity and the completeness,
existence, and accuracy of
amounts presented.
3. Test for additions and disposals during the year
Test for additions and Test significant additions and This procedure ensures that
disposals of financial assets. disposals near the end of the the financial assets recorded
accounting period. in the entity’s financial
statements are complete,
Verify whether these accurate, and existing as
transactions are recorded in backed by the supporting
the correct accounting period. documents regarding the
additions and disposals.
4. Test the valuation of financial assets held by the entity
Test the fair value of financial Test the valuation of financial This procedure provides
assets. assets held by the entity reasonable assurance that the
through using pricing models amounts presented in the
or prices of identical financial financial statements are
assets in the market. accurate and that the
 valuation methods used by
management are appropriate.
5. Test for impairment of financial assets
Review and test management Ascertain whether the This procedure provides
assessment for the methods and assumptions reasonable assurance that the
impairment of financial followed by management for financial assets and
assets. calculating allowance for accompanying disclosures for
impairment, such as impairment during the year
allowance for credit losses or are accurately presented in
impairment losses on the entity’s financial
financial assets at FVOCI, are statements.
appropriate.
Substantive Tests for Assets, specific to Reinsurance Recoverable
Procedures How does it provide audit
evidence?
2. Test reinsurance transactions
Vouch reinsurance Select a sample of This procedure provides
transactions to their pertinent reinsurance transactions and reasonable assurance to the
supporting documents. vouch them to supporting auditor regarding the
documents. completeness, existence,
accuracy, cutoff,
Confirm amounts and terms classification, presentation,
of reinsurance recoverables rights and obligations, and
directly to reinsurers. valuation and allocation
assertions for reinsurance
recoverable.
Test for cutoff of reinsurance Test a sample of reinsurance This procedure provides
recoverables. transactions recorded near the reasonable assurance to the
end of the accounting period. auditor regarding the cutoff,
existence, and rights and
Verify whether these obligations assertions for
transactions are recorded in reinsurance recoverable.
the correct accounting period.
3. Test the valuation of reinsurance recoverable
Test the valuation of Test the valuation of This procedure provides
reinsurance recoverables. reinsurance recoverable by reasonable assurance that the
assessing the adequacy of loss amounts presented in the
reserves ceded to reinsurers. financial statements are
 Verify the accuracy of any accurate and that the methods
discounting applied to used by management for
reinsurance recoverables, if valuation are appropriate.
applicable.
Assess the appropriateness of
assumptions used in the
valuation of reinsurance
recoverables.
4. Evaluate recoverability of reinsurance recoverables
Evaluate the recoverability of Assess the recoverability of ]This ensures that reinsurance
reinsurance recoverables. reinsurance recoverables by recoverables recorded in the
obtaining the credit ratings or financial statements are
financial statements of the accurate, complete, and fairly
reinsurer and considering any presented with regards to
other factors which could their recoverability.
affect recoverability.
Substantive Tests for Assets, specific to Insurance Receivable
Procedures How does it provide audit
evidence?
2. Test insurance receivables
Verify the existence of Confirm the existence and This procedure provides audit
insurance receivables amounts of a sample of evidence in the form of hard
recorded. premiums receivable directly paper responses as
from policyholders. confirmations from
policyholders regarding their
relationship with the entity
and the completeness,
existence, and accuracy of
amounts presented. It also
examines the appropriateness
of the presentation and
valuation of insurance
receivable amounts.

Test for cutoff of insurance Test a sample of insurance This procedure provides
receivables. receivables transactions reasonable assurance to the
recorded near the end of the auditor regarding the cutoff,
accounting period. existence, and rights and
obligations assertions for
 Verify whether these insurance receivables.
transactions are recorded in
the correct accounting period.
3. Test the valuation of insurance receivables
Test the valuation of Review aging analysis of This procedure provides
insurance receivables. insurance premiums reasonable assurance that the
receivable. amounts presented in the
financial statements are
Review and test any write- accurate and that the methods
offs or adjustments made used by management for
to insurance valuation are appropriate.
receivables.
Test the adequacy of
allowance for doubtful
insurance receivables.
Substantive Tests for Assets, specific to Investment Properties
Procedures How does it provide audit
evidence?
2. Test for additions and disposals during the year
Test for additions and Test investments held as of This procedure ensures that
disposals of investment the year ended to their the investment property
properties pertinent supporting balances in the entity’s
documents. financial statements are
accurate, complete, and
Confirm these investments recorded in the correct period
directly from the investee as backed by the supporting
entities. documents.
Test valuation of investment
properties in accordance with
IASPAS 40.
3. Test for impairment assessment for Investment Properties
Review and test management Ascertain whether events This procedure provides
assessment for the occurred, or circumstances reasonable assurance that the
impairment of investment exist within the entity, its investment properties and
properties industry, or the economy, accompanying disclosures for
indicating that the investment impairment during the year
property may be impaired are accurately presented in
with reference to IASPAS 36. the entity’s financial
 statements.

Substantive Testing for Liabilities

Procedures How it provides audit
evidence
1. General Procedure for all Liabilities
Reconcile the detailed listing Obtain a detailed listing of It checks whether the
of payables and accruals to payables and accruals and payables and accruals are
the general ledger agree the balance to the completely recorded in the
general ledger. general ledger.

Obtain a schedule of It verifies the outstanding

outstanding payables and payables and accruals, as well
accruals made for the period as the liabilities already paid
and agree the balances to the during the period.
general ledger.

Test the mathematical It examines whether the entity

accuracy of the detailed was able to accurately record
listing of payables and the amount of its liabilities.
accruals.
2. Test accounts payable and accruals
Select material payable and Test material payable This checks whether the
accruals test for balances to appropriate liabilities in the general
completeness, existence, supporting documents (e.g. ledger are supported by
accuracy, and cut-off vendor invoices) appropriate supporting
documents.

Test the basis for period-end This examines the accounting

accruals to determine the estimates used for recording
existence and completeness accrued liabilities.
of accruals.

3. Search for unrecorded liabilities

Test the completeness Perform a search for It checks for unrecorded
assertion of the liability unrecorded liability, using liabilities and unpaid invoices
account subsequent payment records, that could be fraudulent.
unpaid invoices, and
knowledge of client business.
4. Other procedures
Verify the accuracy of the It verifies the accuracy of
information to be disclosed management’s presentation
on the financial statements, regarding their assertions.
including corresponding
figures.
Understand accounting This is an inquiry about the
policies for payable and client’s policies and it also
accruals and determine that it verifies whether the policies
is in line with IFRSPFRS (or conform with the accounting
applicable framework) standards.

Substantive Tests for Liabilities, specific to Financial Liabilities

5. Verify existence of financial liabilities held by the entity
Verify the existence of Confirm the existence, This procedure provides audit
financial liabilities held by amounts, and terms of the evidence in the form of hard
the entity. financial liabilities directly to paper responses as
financial institutions or confirmations from financial
custodians. institutions regarding their
banking relationship with the
entity and the completeness,
existence, and accuracy of
amounts presented.
6. Test the valuation of financial liabilities held by the entity
Test the fair value of financial Test the valuation of financial This procedure provides
liabilities. liabilities held by the entity reasonable assurance that the
through using pricing models amounts presented in the
or prices of identical debt financial statements are
investments in the market. accurate and that the
valuation methods used by
management are appropriate.
7. Verify amortization schedule and interest expense calculation
Test additions, repayments, Test additional liabilities This procedure provides
and other adjustments made assumed during the year. reasonable assurance
which could affect the regarding the accuracy,
balance of the financial completeness, and existence
liabilities. of the financial liabilities
presented in the entity’s
 Test repayments of principal records.
and interest during the year.

Test other adjustments made

to the financial liabilities
balance during the year.

Test measurement of financial Recompute the principal and This procedure provides
liabilities using the effective interest balances for the reasonable assurance to the
interest rate method. period ended using the auditor regarding the
effective interest rate method. completeness, existence,
accuracy, classification, and
valuation and allocation
assertions for financial
liabilities.

Substantive Tests for Revenue

Procedures How does it provide audit
evidence?
1. Gross Premiums Written Account
Reconcile gross premiums Reconciling the amount of This procedure aids in
written. revenue from premiums verifying that the entity’s
recorded in the statement of records are accurate and
comprehensive income to the complete.
premiums recorded in the
underwriting system.
Test for cutoff of gross Review the policies and This ensures that revenues are
insurance premiums. procedures of the company properly recorded in the
and identify cutoff issues with period they are earned, and
respect to the policies’ guarantees it will not be
effectivity dates, issuance understated or overstated.
dates.
Identify and inquire regarding
cutoff exceptions. Obtain
supporting documents as
necessary. Verify whether
these policies were recorded
in the correct accounting
 period.
Identify negative insurance Review the gross premium This procedure ensures that
premiums. income schedule and identify the gross premiums recorded
policies with net negative as earned are accurate, that
premiums. invalid cancellation of
insurance policies are
Inquire regarding the policies identified, and that valid
with net negative premiums cancellation of insurance
and obtain supporting policies are backed by
documents as necessary. supporting documents.

Substantive Testing for Expenses

Procedures How it provides audit

evidence
1. Test for existence
Ensure that transactions from Search for unrecorded This prevents the
expense accounts truthfully liabilities. understatement or
reflect the services that were overstatement of expenses by
actually received by the entity Search for unauthorized ensuring transactions that
during the reporting period. disbursement vouchers. occurred were recorded, and
Review expenses related to those that were not recorded
third-party services. were amended through
appropriate adjustments.
2. Test for accuracy
Ensure that expense Review account balances by This prevents anomalous
transaction amounts were comparing historical expenses purchases as correct prices
accurately computed and and budgets. and quantities for ordered
were based on correct prices goods are closely monitored.
and quantities.
Review if invoice prices were
accurate.

Compliance Testing

Regulatory Compliance

Regulatory Compliance is vital for financial statements due to several reasons that are
centered primarily around accountability, transparency, and security of stakeholders as well as
investors. In the context of the insurance industry, these include policyholder protection.
Insurance companies keep funds for policyholders to cover future claims and responsibilities.
Regulatory compliance assures that these funds are reported correctly, and that fraud and
mishandling are avoided, therefore limiting the risk of being unable to fulfill its promises to
policyholders. Aside from this, regulatory compliance plays a role in maintaining financial
stability as it controls said risk by ensuring that insurers have sufficient money reserved for the
purpose of handling debt, preventing bankruptcy, and safeguarding the interests of the parties
involved. Furthermore, regulatory compliance boosts market confidence in the overall insurance
industry. Investors are more likely to trust insurance companies that conform to the established
regulatory framework, leading to a more stable and functional insurance market. These reasons
ultimately point to risk management and solvency. Insurance regulations mostly encompass
solvency requirements that require a certain amount of capital that insurers must hold to meet
potential losses, helping insurers asess and manage their risks efficiently. In the Philippines,
these laws are overseen by the Insurance Commission (IC). The Insurance Code of the
Philippines (Presidential Decree No. 612) serves as the primary set of laws governing insurance
activities in the country. It covers a wide range of matters including the scope of insurances, rules
for different types of insurance, minimum amount of reserves, guidelines for policies and
contracts, control of agents and brokers, rules for managing assets and investments, and the
penalties for fraud and violation of rules. In reviewing the compliance of a company, the auditor
must have knowledge of these and remain vigilant of any possibility of non-compliance as when
penalties are looked over, unpaid, or unrecorded, material misstatements may arise.

Contractual Obligations

The financial statements of Insular Life states that the company identifies financial
instruments as debt in the occasion that a contractual obligation arises that requires it to deliver
cash or any other financial asset to another entity, exchange financial assets or liabilities with
another party under circumstances that are potentially unfavorable to the company, or settle the
obligation through an exchange of a fixed amount of cash or another financial asset for a fixed
number of its own equity shares. Non-compliance with contractual obligations may have a wide
scope of financial implications that could lead to material misstatements if not properly
accounted for. Some events of non-compliance to contractual obligation involving insurance
companies may include failure to settle claims in a timely manner, inadequate reserving, and
investment violations for which a fine may be imposed. All of which could affect the audit
results when recorded erroneously or ommitted. This is why it is crucial for entities to adhere
with diligence to contractual commitments and accurately depict the financial consequences of
non-conformation in reporting to guarantee transparency and enhance reliability of financial
information.

Summary

In conclusion, auditing procedures for Insular Life Assurance Co., Ltd. and Subsidiaries
require a meticulous examination of internal controls, adherence to corporate governance,
segregation of duties, assessment of business risks, and thorough evaluation of revenue
recognition and asset valuation. The auditor's role in ensuring tax compliance and understanding
exemptions further enhances the comprehensive nature of the audit process. A robust audit
strategy, aligned with PSA and PFRS, is essential for providing stakeholders with confidence in
the accuracy and reliability of Insular Life's financial statements.

Once the auditor has completed the necessary planning and test of controls, substantive
testing procedures must be conducted. The substantive testing procedures aim to acquire
sufficient and appropriate audit evidence to examine and address the implications of the
accounting issues posed in the preceding section. Procedures general to all assets include
reconciling the records of the entity in the specific asset accounts to the balances in the general
ledger, followed by the testing of the mathematical accuracy of the detailed listing of the asset
accounts. Procedures general to all liabilities involve reconciling the records of the entity in the
specific asset accounts to the balances in the general ledger, testing accounts payables and
accruals, and searching for unrecorded liabilities. Moreover, separate substantive procedures are
itemized for financial assets, reinsurance assets, investment properties, and financial liabilities in
order to address the accounting issues specific to those accounts.

Regulatory compliance is vital for financial statements because it ensures accountability,

transparency, and security of stakeholders as well as investors. In the context of insurance, the
oversight of these regulations in the Philippines falls under the jurisdiction of the Insurance
Commission (IC). The primary framework governing insurance activities in the country is
outlined in the Insurance Code of the Philippines (Presidential Decree No. 612). For the same
reasons, compliance with contractual obligations is also crucial for a company. Noncompliance
to these through erroneous recording and omissions of specific matters regarding such, like
failure to pay fines and settle legal disputes, may lead to material misstatements, which is why it
is crucial for to be diligent in adhering to these regulations and obligations, as well as accurately
depict the financial consequences of non-conformationin reporting to guarantee transparency and
enhance reliability of financial information.

Chapter VI: Conclusion

This study aimed to provide an in-depth assessment of the insurance industry and Insular
Life's company profile, which focuses on the scrutiny of the company’s financials. This involves
understanding the industry with market, regulatory, economic, and technological factors. For
market factors, it is expected for the insurance industry to contribute 5.5% GDP growth in 2023
and 5.6% in 2024. Relevant market conditions should be closely observed as they shape the
financial well-being of insurance companies in their reports. For the regulatory factors, the
insurance industry can expect a fair and competitive environment as the Insurance Commission
continues to carry out its mandate of maintaining stability and integrity. For the economic
factors, the insurance companies obtain their funding primarily from the premiums collected,
investments, reserves surplus, underwriting profits, and government grants. Furthermore, some
of the challenges they face involve economic instability, natural disasters, intense competition,
inflationary pressures, exchange rate fluctuations, and low interest rates. For the technological
factors, the insurance industry can expect further technological advancements that will make the
industry prosper in the coming years as multitudes of technological tools are being developed
concurrently.

Moreover, The auditor's responsibility in auditing Insular Life includes understanding the
audit risk (inherent risk x control risk x detection risk) to identify and prioritize high-risk areas in
financial statements and ensure effective allocation of resources to design appropriate audit
procedures. The group also focuses on potential accounting issues regarding revenue recognition
and asset valuation, such as addressing experience adjustments and component separation in
insurance contracts, as well as handling accounting mismatches in reinsurers' share of premiums,
particularly under the Variable Fee Approach. This also emphasizes the need for auditors with
industry expertise to ensure accurate evaluation and compliance with accounting standards.

Since Insular life is subject to tax laws specially imposed on insurance companies, the
auditors are responsible for performing additional procedures regarding taxes on top of those
regularly done, such as attaining a deeper understanding of such laws, testing whether or not the
company is compliant to them, checking if exemptions can be availed for and if they are availed
correctly and in time, and lastly, confirming if management assertions on tax base revenue and
tax liabilities can be supported and are free from material misstatements.

Furthermore, the objective of internal controls is to promote good corporate governance

and lessen the risk of fraud by setting up management-controlled measures to ensure the
effectiveness of the operations, compliance with laws, and prevention of material misstatements.
Evaluating these controls is essential for auditors to gain assurance about the reliability of
financial reporting, especially for complex operations like those in the insurance sector, as this
directly impacts the risk of material misstatement. In addition, the substantive testing procedures
aim to acquire sufficient and appropriate audit evidence to examine and address the implications
of the accounting issues posed regarding the presentation and valuation of financial assets,
reinsurance assets, investment properties, and financial liabilities. Also, adhering to regulatory
and contractual obligations is crucial for financial statements, ensuring accountability,
transparency, and stakeholder/investor security. Noncompliance, such as errors in recording or
omissions regarding fines and legal disputes, can lead to material misstatements. Diligence in
following regulations and accurately reflecting financial consequences is essential for
transparency and reliability in financial reporting.

In conclusion, this case study provided the importance of conducting a thorough audit in
the continuously evolving insurance industry. As a recommendation, the auditors must consider
various factors that affect the company as it allows them to understand the client in a
comprehensive manner in order to perform a more effective audit. This also includes the risks
that must be taken into account when performing the audit procedures, as well as being able to
examine the accounting issues that the auditors may face involving revenue recognition and asset
valuation that significantly impact the operations of the company. Given that the insurance
industry utilizes technology for its operations, it is crucial to thoroughly examine the IT controls
of the company, together with substantive tests and regulatory compliance. These enable the
sector to ensure the reliability of the financials and the assurance that it is free from fraud and
error.
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