NBB_2022_27 / Circular on the valuation of deferred tax assets and the adjustment to account for the loss-absorbing capacity of deferred taxes

boulevard de Berlaarmon 14 - BE-1000 Brussels tel. +32 2 221 34 31 company number: 0203.201.340 RPM Brussels www.bnb.be National Bank OF BELGIUM NBB Circular Brussels, 2 November 2022 Reference:
your contact:
Patricia Kaiser tel. +32 2 221 34 31
Patricia.kaiser@nbb.be
NBB_2022_27
Circular on the valuation of deferred tax assets and the adjustment to account for the loss-absorbing capacity of deferred taxes.
Scope

• Belgian insurance or reinsurance undertakings
• Insurance or reinsurance undertakings that are part of a Belgian group within the meaning of Article 339, 2 of the Law of 13 March 2016 on the status and supervision of insurance or reinsurance undertakings.
• Belgian undertakings that are part of a Belgian financial conglomerate within the meaning of Article 340, 1° of the aforementioned Law of 13 March 2016.
• Branches of third-country undertakings carrying on insurance [or reinsurance] activities in Belgium.
  This circular applies to mutual insurance companies defined in Article 15, 79° of the aforementioned Law of 13 March 2016. For these undertakings, "the Bank" should be replaced by "the Office for the Control of Mutualities and National Mutualities Unions" as defined in Article 15, 84° of the aforementioned Law of 13 March 2016. This circular does not apply to insurance undertakings referred to in Articles 275, 276 or 294 of the aforementioned Law of 13 March 2016. Summary/Objectives This circular aims to clarify the Bank's expectations regarding the issue of deferred taxes, in particular to take into account recent amendments to European legislation. NBB 2022_27 - 2 November 2022 Circular - Page 1/18

Legal References

• The Law: The Law of 13 March 2016 on the status and supervision of insurance or reinsurance undertakings;
• Regulation 2015/35: Commission Regulation (EU) No 2015/35 of 10 October 2014 supplementing Directive 2009/138/EC of the European Parliament and of the Council on the taking-up and pursuit of the business of Insurance and Reinsurance;
• Regulation 2019/981: Commission Delegated Regulation (EU) 2019/981 of 8 March 2019 amending Delegated Regulation (EU) 2015/35 supplementing Directive 2009/138/EC of the European Parliament and of the Council on the taking-up and pursuit of the business of Insurance and Reinsurance (Solvency II);
• EIOPA Guidelines on the loss-absorbing capacity of technical provisions and deferred taxes (EIOPA-BoS-14/177 FR)
  (https://eiopa.europa.eu/Publications/Guidelines/LAC_Final_document_FR.pdf).
  Structure
  I. Objectives
  II. Definitions
  III. Recommendations on the determination of deferred tax assets in the Solvency II balance sheet.
  IV. Recommendations on the adjustment to account for the loss-absorbing capacity of deferred taxes
  IV.1. Recommendations on the adjustment to account for the loss-absorbing capacity of deferred taxes - calculation - Generalities IV.2. Recommendations on the adjustment to account for the loss-absorbing capacity of deferred taxes - calculation - Accounting based on future profits IV.3. Section IV: Adjustment to account for the loss-absorbing capacity of deferred taxes at group level
  V. Risk management
  VI. Documentation
  VII. Final provisions
  Circular - Page 2/18 NBB_2022_27 - 2 November 2022

Madam,
Sir,
The Law and Regulation 2015/35, as amended by Delegated Regulation 2019/9811, have established the principle of an adjustment to account for the loss-absorbing capacity of deferred taxes.
The rules governing the calculation of this adjustment were clarified for the first time in circular NBB_2016_21 of 25 April 2016, which included not only the confirmation of EIOPA's guidelines on the matter, but also the application of a cap that the Bank deemed prudent to impose.
The Bank ultimately removed this cap and implemented, via its circular NBB_2017_14 on the loss-absorbing capacity of deferred taxes, a simplified formula intended to allow undertakings to identify the maximum level of the adjustment acceptable to the Bank.
Despite these clarifications, both discussions at EIOPA level and the analysis of national practices have revealed significant disparities in the methods used by undertakings to calculate the adjustment to account for the loss-absorbing capacity of deferred taxes.
These disparities led to amendments to Regulation 2015/35 by Regulation 2019/981, with the aim of clarifying certain principles on which this calculation must be based.
In this context, the Bank considered it necessary to update its recommendations regarding the calculation of the adjustment to account for the loss-absorbing capacity of deferred taxes on several points.
First, the Bank wishes to clarify the concrete implications in the calculation of the adjustment, of the new principles introduced in Article 207 of Regulation 2015/35. The circular therefore contains a clarification of the interpretation of these principles.
Secondly, after having drawn up a first assessment of practices observed on the Belgian market, the Bank wishes to clarify its expectations, in the specific Belgian context, regarding the justification of the adjustment by Belgian undertakings.
Furthermore, following the specifications introduced in Articles 297 and 311 of Regulation 2015/35 regarding reporting, the Bank intends to notify what precise information relating to deferred taxes must be provided in application of these articles.
1 Delegated Regulation (DE) 2019/981 of the Commission of 8 March 2019 amending Delegated Regulation (EU) 2015/35 supplementing Directive 2009/138/EC of the European Parliament and of the Council on the taking-up and pursuit of the business of Insurance and Reinsurance (Solvency II) (OJ L 161, 18 June 2019). NBB_2022_27 - 2 November 2022 Circular - Page 3/18

I. Objectives
This circular relates to Articles 153 and 164 of the Law, as well as to Articles 83, 205 to 207, 260, 297 and 311 of Regulation 2015/35.
This circular pursues three objectives:
i. to gather, in a single circular, all of the Bank's recommendations regarding the loss-absorbing capacity of deferred taxes;
ii. to clarify, on certain aspects, the methodology considered acceptable by the Bank for the justification of deferred tax assets in the Solvency II balance sheet and for the justification of the adjustment to account for the loss-absorbing capacity of deferred taxes in the calculation of solvency requirements, in order to translate into the Belgian regulatory environment the principles defined in Regulation 2015/35;
iii. in application of Articles 297 and 311 of Regulation 2015/35, to specify the Bank's expectations regarding reporting concerning the deferred tax asset and the adjustment to account for the loss-absorbing capacity of deferred taxes.
For clarity, the circular also includes a reminder and explanation of the rules governing the valuation of deferred tax assets in the Solvency II balance sheet. It therefore repeats and clarifies certain guidelines regarding the accounting and valuation of assets and liabilities other than technical provisions. This circular complements and replaces circular NBB_2020_03 of 26 February 2020 on the impact of deferred taxes in Solvency II. This circular retains the structure of the guideline published by EIOPA on the same subject. Nevertheless, the essence of the methodology is described in the explanatory notes relating to guidelines 8 and 9, which cover principles set out in Article 207 of the implementing regulation. For undertakings using an internal model, the approach for the adjustment to account for the loss-absorbing capacity of deferred taxes will be assessed during the internal model approval procedure. The assessment of the modelling of the adjustment to account for the loss-absorbing capacity of deferred taxes will be based on the principles set out in this circular.
II. Definitions
LAC DT: the adjustment to account for the loss-absorbing capacity of deferred taxes (loss-absorbing capacity of deferred taxes) DTA: deferred tax assets (deferred taxes assets) DTL: deferred tax liabilities (deferred taxes liabilities) Sudden loss: a sudden loss as defined in Article 207, paragraph 1 of Regulation 2015/35. The term "deferred taxes" is used in the Solvency II Directive in two senses: first, to describe items appearing in the Solvency II balance sheet, and secondly, in relation to the calculation of capital requirements tax adjustments. To avoid any confusion, these guidelines introduce the expression "notional deferred taxes" to designate the items used to calculate the adjustment. "notional deferred taxes": the sum of the products of all relevant and material tax rates and all relevant and material changes in temporary differences between the Solvency II valuation and the valuation for tax purposes resulting from the sudden loss referred to in Article 207, paragraph 1, of Regulation 2015/35. In the simplest case, where there is only one tax rate and where all losses contribute to changing the temporary differences, notional deferred taxes will be represented by the product of a uniform tax rate and the loss referred to in Article 207, paragraph 1, of Regulation 2015/35. "Notional deferred taxes" do not represent the difference between deferred taxes before and after the performance of stress tests. An undertaking should assess the amount of notional deferred taxes it could recognise in the Solvency II balance sheet after suffering a loss in the context of stress tests. Significant undertakings and less significant undertakings: significant undertakings and less significant undertakings based on the criteria defined in point 0.5.1 of circular NBB_2016_31 of 5 July 2016 "Prudential expectations of the National Bank of Belgium regarding governance systems for the insurance and reinsurance sector". In the absence of a definition in these guidelines, the terms have the meaning defined in the legislative acts referred to in the introduction. Circular - Page 4/18 NBB_2022_27 - 2 November 2022

III. Recommendations on the determination of deferred tax assets in the Solvency II balance sheet
Article 15 of Regulation 2015/35 specifies certain accounting rules relating to deferred taxes. Moreover, under Article 9 of the same regulation, deferred taxes must be accounted for in accordance with international accounting standards adopted by the Commission under Regulation (EC) No 1606/2002. Consequently, the rules formulated in this circular do not constitute an exhaustive approach to the accounting for deferred taxes.
"Guideline 1 - Deferred taxes: accounting and valuation (EIOPA Guideline) Discounting of deferred taxes Undertakings should not discount deferred tax assets and liabilities.
Offsetting of deferred tax assets and liabilities in the Solvency II balance sheet An undertaking should only offset deferred tax assets and deferred tax liabilities if it has a legally enforceable right to offset current tax assets against current tax liabilities, and if the deferred tax assets and deferred tax liabilities relate to taxes levied by the same fiscal authority and on the same taxable entity. Accounting and valuation of net deferred tax asset When there are not enough taxable temporary differences that are expected to reverse in the period during which the deductible temporary differences are expected to reverse, the undertaking should consider the possibility that taxable profits will arise during the same period during which the deductible temporary differences reverse or in prior or subsequent periods over which the tax loss resulting from the deferred tax asset can be carried back or forward. When making projections of taxable profits and assessing the possibility that sufficient taxable profits will arise in the future, an undertaking should:
a) take into account the fact that even high past profits cannot provide sufficient evidence of future profitability; b) take into account the fact that the degree of uncertainty relating to future taxable profits resulting from new expected activities increases as the projection period moves further away, and in particular when it is expected that these projected profits will arise in periods exceeding the undertaking's ordinary planning cycle; c) take into account the fact that certain tax rules may delay or limit the recovery of unused tax losses and unused tax credits; d) avoid double counting: taxable profits resulting from the reversal of taxable temporary differences should be excluded from estimated future taxable profits when they have been used to support the recognition of deferred tax assets; e) ensure that, when making projections of taxable profits, these projections are reliable and largely consistent with the assumptions made for other expected cash flows. In particular, the assumptions underlying the projections should be consistent with those underlying the valuations of technical provisions and assets in the solvency balance sheet». Not applicable in Belgium. NBB_2022_27 - 2 November 2022 Circular - Page 5/18

Explanatory note

1. Justification of DTA by offsetting between DTA and DTL
   The DTA may originate either from unrecovered tax claims or from deductible temporary differences.
   Offsetting between DTA and DTL is only possible if the undertaking has a legally enforceable right to offset recoverable tax claims against current tax liabilities or if deductible temporary differences can be offset by taxable temporary differences.
   However, this possibility of offsetting is not automatic but is subject to certain conditions.
   Indeed, for offsetting to occur, it is necessary, on the one hand, that taxable temporary differences and deductible temporary differences relate to the same fiscal authority, the same taxable entity and the same type of tax, and on the other hand, that taxable temporary differences reverse during the same period during which deductible temporary differences reverse, so that losses deductible from deductible temporary differences can be offset against taxable profits resulting from taxable temporary differences. In particular, given that the Belgian tax regime allows for loss carry-forward but not loss carry-back, if taxable profits (resulting from taxable temporary differences) were to be taxed before the occurrence of recoverable losses (resulting from recoverable temporary differences), the offsetting of losses against profits would not be possible. Therefore, to justify the offsetting between DTAs and DTLs, undertakings must demonstrate to the satisfaction of the Bank that taxable temporary differences reverse during the same period during which deductible temporary differences reverse. Based on experience acquired and "best practices" identified, the Bank considers that a simple comparison of the duration of assets and liabilities does not constitute convincing proof of the sufficiency of deductible temporary differences to justify taxable temporary differences, given that taxable temporary differences and deductible temporary differences can originate from both the asset and the liability side. In reality, this demonstration requires the projection over time of the reversal of deductible temporary differences and taxable differences. The Bank also considers, from a methodological point of view, that it is necessary to distinguish in the origin (or nature) of temporary differences, in particular, it will be necessary to distinguish temporary differences on the liability and on the asset, and for mixed undertakings, temporary differences on life technical provisions and non-life technical provisions. The objective is for undertakings to clearly distinguish the life part from the non-life part at the level of determining assumptions. It is not the Bank's intention to prohibit offsetting between the life and non-life parts of the company. However, the Bank may admit an approach essentially based on the projection of asset and liability cash flows in order to avoid introducing too many unverifiable assumptions into the analysis. It is also expected that the projection of the reversal of temporary differences on liabilities be carried out in a manner consistent with the projection of cash flows underlying the calculation of the Best Estimate. With regard to temporary differences related to assets, they must also take into account the evolution of cash flows related to the asset. Circular - Page 6/18 NBB_2022_27 - 2 November 2022

Furthermore, undertakings that have branches in different tax jurisdictions cannot proceed with offsetting between the deferred tax assets (DTA) and deferred tax liabilities (DTL) of these different branches. In this case, the analysis of possible offsetting between deductible temporary differences and taxable temporary differences will be carried out branch by branch. The Bank nevertheless recognises that the projection of the reversal of temporary differences constitutes a complex exercise. Therefore, in order to have a proportional approach, the Bank will determine on a case-by-case basis which undertakings must carry out an analysis of the reversal of temporary differences based on the projection of asset and liability cash flows. The projection of the reversal of temporary differences should in principle only be carried out once by significant undertakings by 31 December 2023. The Bank nevertheless reserves the right to ask certain undertakings to repeat the projection exercise subsequently when changes in the undertaking or in economic conditions have a significant impact on the reversal of differences. Furthermore, for undertakings wishing to project future profits over a horizon of more than 10 years or without applying linear haircuts from the 6th year, the analysis of the reversal of temporary differences would be systematic. This in no way prejudices the possibility that the Bank may request this analysis from less significant undertakings due to their specific risk profile. For undertakings not subject to the analysis of the reversal of temporary differences, DTA-DTL offsetting is automatic.
2. Justification of DTA by future profits
Justification of the DTA by the existence of future profits is only necessary if there are not enough taxable temporary differences that are expected to reverse in the period during which the deductible temporary differences are expected to reverse.
In other words, a recoverability test is only necessary when there is a net DTA after all possible offsetting between DTA and DTL.
In application of point b) above, an appropriate time horizon for the projection of future profits for the purpose of justifying deferred tax assets (DTA) must be defined. The Bank recommends that this horizon be limited to 10 years with haircuts applied linearly to future profits from the 6th year. Undertakings wishing to derogate from this rule should submit a justification to the Bank and demonstrate the prudence of their overall methodology in terms of DTA justification, by recurrently carrying out an analysis of possible offsetting between deductible temporary differences and taxable temporary differences as described in point 1. Regarding the recoverability test, the Bank wishes to draw the undertakings' attention to the implications of point d) regarding double counting. It states that estimated future taxable profits used to support the recognition of deferred tax assets cannot include taxable profits resulting from the reversal of taxable temporary differences. Consequently, profits related to contracts included within the limits of the "contract boundaries" cannot be integrated into estimated future taxable profits and only estimated future taxable profits resulting from new expected activities can support the recognition of deferred tax assets. By new expected activities, renewals outside the contract boundaries are also included. Similarly, temporal valuation differences related to assets (latent capital gains and losses) already taken into account in the SII balance sheet cannot be reused as estimated future taxable profits. NBB_2022_27 - 2 November 2022 Circular - Page 7/18

From a methodological point of view, the Bank expects the following rules to be respected:

• A separation between existing business and new business. Existing activities, insofar as they are within the limits of the contract, have already been taken into account in the initial position of deferred tax assets/liabilities (DTA/DTL) and can never be taken into account in future profits intended to justify deferred tax assets.
• A separation between life and non-life.
  Most non-life insurance contracts end after one year, whereas life contracts are generally longer-term contracts. Consequently, the application of contract limits is not done in the same way for non-life and life activities. Furthermore, assumptions regarding contract profitability are defined completely differently in life and non-life.
• Furthermore, to ensure the reliability of assumptions on future taxable profits, it is required that companies base themselves on their business plan as a starting point, so that the projections adopted are in line with the strategy developed by the company and approved by its governing bodies.
• Furthermore, the company must be able to document the assumptions regarding premiums and claims adopted. Assumptions regarding the growth of collections must remain reasonable and plausible.

Finally, the Bank wishes to emphasize that, as a consequence of point e), it is difficult to admit a priori the hypothesis of the reversibility (automatic) of the risk margin. The reversal of the risk margin as a source of future profit should therefore be exceptional and conditional upon demonstration by the company, to the satisfaction of the Bank, that the risk margin can effectively constitute a source of future profit.

Guideline 2 - Treatment of deferred tax when companies are excluded from group supervision (EIOPA Guideline)

Companies should apply the following principles to account for deferred taxes when affiliated companies are excluded from the scope of group supervision pursuant to Articles 349 and 350 of the Law:

a) when holdings in affiliated companies are excluded from the scope of group supervision pursuant to Article 349, paragraph 1, first paragraph, first point of the Law, the deferred tax relating to this excluded company should not be accounted for either at the company level or at the group level; b) when holdings in affiliated companies are excluded from the scope of group supervision pursuant to Article 349, paragraph 1, first paragraph, second or third points of the Law, the deferred tax relating to this affiliated company should not be accounted for at the group level.

IV. Recommendations regarding the adjustment to take into account the loss absorption capacity of deferred taxes - calculation

IV.1. Recommendations regarding the adjustment to take into account the loss absorption capacity of deferred taxes - calculation - Generalities

Guideline 3 - Level of detail of the calculation (EIOPA Guideline)

Companies should calculate the adjustment to take into account the loss absorption capacity of deferred taxes at a level of detail reflecting all important and relevant rules in all applicable tax regimes. All national tax regimes to which the company is subject will therefore be taken into account, as well as the specifics of each of them.

Circular - Page 8/18 NBB_2022_27 - November 2, 2022

Explanatory Note
As an example, specific regimes regarding capital gains on the realization of real estate assets or dividends on shares should be taken into account.

Guideline 4 - Principles and approaches regarding valuation (EIOPA Guideline)

Companies should calculate the adjustment to take into account the loss absorption capacity of deferred taxes by subjecting the Solvency II balance sheet to stress tests (equivalent to those used in the calculation of the SCR)³ and by determining the effects on the company's tax amounts. The adjustment should then be calculated based on the timing differences between the values of the Solvency II balance sheet submitted to stress tests and the corresponding amounts for tax purposes. This precisely means that the company must evaluate for each asset or liability subject to a stress test whether the change in value observed based on Solvency II valuation rules following the stress test entails, or does not entail, a timing difference in value between the Solvency II value and the tax value after the shock.

Pursuant to the requirements of Article 15, paragraph 1, of Regulation 2015/35, companies should take into account all assets and liabilities recognized for solvency or tax purposes in the calculation of the loss absorption capacity of deferred taxes.

Explanatory Note
It is expected that the change in value resulting from the SCR shock be taken into account for each liability and each asset impacted by the shock.

Companies must be able to evaluate the impact of 1/200 on deductible timing differences on assets and liabilities and on taxable timing differences on assets and liabilities, and consequently, be able to evaluate the impact of the various elements of the 1/200 shock on the amount of the notional DTA (post-shock DTA) and on the amount of the notional DTL (post-shock DTL) in order to determine the amount of DTAs and DTLs in a post-shock situation.

Significant companies will therefore be called upon to justify the total amount of the notional DTA in a post-shock situation (cf. Guideline 9 - explanatory note - need for a recoverability test).

As a simplification, less significant companies may use a method based on the average tax rate under the conditions stated below.

Guideline 5 - Allocation of losses (EIOPA Guideline)

If companies use an approach based on average tax rates, they should, pursuant to Article 207, paragraph 5, of Regulation 2015/35, allocate the loss referred to in Article 207, paragraph 1, of Regulation 2015/35 to its causes if the calculation of the deferred tax adjustment at the aggregated level does not take into account all the relevant and important rules of the applicable tax regimes.

If the allocation referred to in the preceding paragraph does not take into account all the relevant and important rules of the applicable tax regimes, companies should allocate the loss to balance sheet items with a sufficient level of detail to meet this requirement.

Explanatory Note
An approach based on an average rate applies only to the extent that the tax regime does not contain specific regimes regarding the company's insurance assets and liabilities. In the contrary case, the granularity of the calculation must be sufficient to capture all specific regimes.

In practice, the Bank considers that the approach based on an average tax rate can only apply to less significant companies in the interest of proportionality and is not applicable to significant companies.

³ By stress test, one must understand here "SCR shock".

NBB_2022_27 - November 2, 2022 Circular - Page 9/18

It does not apply to any company as soon as the impact of the LAC DT is greater than or equal to 10% of the SCR, nor when the company projects future profits beyond a 10-year horizon or without applying haircuts.

Guideline 6 - Arrangements regarding the transfer of profits or losses (EIOPA Guideline)

If a company has concluded a contractual agreement regarding the transfer of profits or losses to another company or if it is bound by other arrangements pursuant to the tax legislation in force in the Member State (tax groups) or by an arrangement pursuant to which such transfer takes place or is considered to take place by offsetting losses with the profits of another company pursuant to the rules on tax consolidation in force in the Member State (tax unit), the company should take into account its agreements or arrangements in the calculation of the adjustment to take into account the loss absorption capacity of deferred taxes.

If it is contractually agreed and probable that a loss will be transferred to another company or if this transfer of loss takes place or is considered to take place by offsetting this loss with the profits of another company ("recipient company") once the company ("ceding company") has suffered the sudden loss referred to in Article 207, paragraph 1, of Regulation 2015/35, the ceding company should only account for the relevant deferred tax adjustment to the extent that payment or any other consideration will be received in exchange for the transfer of notional tax losses.

The ceding company should only account for the payment or consideration to be received to the extent that a deferred tax adjustment could be accounted for according to Guideline 10, if the loss had not been transferred.

The ceding company should only account for the payment or consideration to be received if the arrangement or contractual agreement is legally valid and enforceable by the previous company regarding the transfer of these elements.

If the value of the payment or consideration to be received depends on the solvency or tax situation of the recipient company or of the tax consolidation (tax unit) as a whole, the ceding company should base the valuation of the payment or consideration to be received on a reliable estimate of the value it expects to receive in exchange for the transferred loss.

The ceding company should verify that the recipient company is able to honor its obligations in circumstances of stress, notably after having been subjected to the required solvency capital stress tests, if the recipient company is subject to the Solvency II Directive.

The ceding company should report any tax payable on the payment or consideration received in the amount accounted for in the notional deferred taxes.

If the individual recipient company is subject to the Solvency II Directive, it should not account for the transferred loss in the calculation of the adjustment to take into account the loss absorption capacity of deferred taxes.

Guideline 7 - Temporary nature (EIOPA Guideline)

Companies should account for notional deferred tax assets provided they are of a temporary nature. The accounting should be dependent on the extent to which offsetting is authorized based on relevant tax regimes. This may include offsetting with past tax liabilities⁴ or current or future potential tax liabilities.

Guideline 8 - Avoiding double counting (EIOPA Guideline)

Companies should ensure that deferred tax assets resulting from the sudden loss referred to in Article 207, paragraph 1, of Regulation 2015/35 are not supported by the same deferred tax liabilities or future taxable profits already supporting the accounting of deferred tax assets for valuation purposes in the Solvency II balance sheet pursuant to Article 75 of the Solvency II Directive.

Companies should apply the principles set out in Article 15 of Regulation 2015/35 in the accounting of notional deferred tax assets in a Solvency II balance sheet submitted to stress tests.

Not applicable in Belgium.

Circular - Page 10/18 NBB_2022_27 - November 2, 2022

Explanatory Note
It is therefore established that the same deferred tax liabilities or future taxable profits already supporting the accounting of deferred tax assets for valuation purposes in the Solvency II balance sheet cannot support the deferred tax assets resulting from the 1/200 SCR shock (notional deferred tax asset or notional DTA, post-shock DTA).

The principle is therefore to justify the amount of the notional DTA (DTA in a post-shock situation) by taxable profits. These taxable profits can result either from the reversal of timing differences (offsetting with the notional DTL or post-shock DTL) or from future profits, it being understood that in both cases, these are taxable profits that emerge in a post-shock situation (in a stressed situation). After justifying the DTA in a post-shock situation, the corresponding LAC DT corresponds to the change in the net deferred tax position, between the pre-shock balance sheet and the post-shock balance sheet. (for more details cf. Guideline 9 - recoverability test).

As a simplification, the LAC DT can be justified by offsetting with the pre-shock net DTL.

This simplified approach will be applied on a proportional basis to less significant companies that limit the LAC DT amount to an amount lower than 10% of the SCR without projecting future profits beyond a 10-year projection horizon and by applying linear haircuts starting from the sixth year.

Remark: If the company had to refrain from expressing a net DTA on the asset side of its pre-shock Solvency II balance sheet because it was considered unlikely that it could generate taxable profits capable of offsetting this DTA, it should not claim a tax effect related to its SCR. It is indeed unlikely that it can justify post-shock taxable profits given that it failed to justify pre-shock taxable profits.

Furthermore, regarding double counting, identical rules to those prevailing for the calculation of the deferred tax asset on the asset side of the balance sheet apply for the calculation of the notional DTA. (cf. point III - reminder Guideline 1 above)

From a methodological point of view, the Bank expects the following rules to be respected:

• A separation between existing business, insofar as it is within the limits of the contract, and new business. Existing activities have already been taken into account in the initial position of deferred tax assets/liabilities (DTA/DTL) and can never be taken into account in future profits intended to justify deferred tax assets.
• A separation between life and non-life.
  Most non-life insurance contracts end after one year, whereas life contracts are generally longer-term contracts. Consequently, the application of contract limits is not done in the same way for non-life and life activities. Furthermore, assumptions regarding contract profitability are defined completely differently in life and non-life.
• Furthermore, to ensure the reliability of assumptions on future taxable profits, it is required that companies base themselves on their business plan as a starting point so that the projections adopted are in line with the strategy developed by the company and approved by its governing bodies.
• Furthermore, the company must be able to document the assumptions regarding premiums and claims adopted. Assumptions regarding the growth of collections must remain reasonable and plausible.

In particular, when the justification of deferred tax relies on the existence of future profits, only profits that are not yet integrated into the Solvency II balance sheet can be taken into account for this demonstration.

Furthermore, the hypothesis of the reversibility of the risk margin (Risk margin) cannot be posited a priori. The reversal of the risk margin as a source of future profit should therefore be exceptional and conditional upon demonstration by the company, to the satisfaction of the Bank, that the risk margin can effectively constitute a source of future profit.

NBB_2022_27 - November 2, 2022 Circular - Page 11/18

IV.2. Recommendations regarding the adjustment to take into account the loss absorption capacity of deferred taxes - calculation - Accounting based on future profits

Guideline 9 - Accounting based on future profits (EIOPA Guideline)

If the accounting of notional deferred tax assets is based on an evaluation of future taxable profits, companies can only account for notional deferred tax assets to the extent that it is probable that they will have sufficient future taxable profits available after having suffered the sudden loss.

Companies should use appropriate techniques to evaluate the temporary nature of notional deferred tax assets and the timing of future taxable profits meeting the following requirements:

a) the evaluation is in accordance with Article 15, paragraph 3, of Regulation 2015/35; b) the evaluation takes into account the company's prospects after having suffered the sudden loss.

Explanatory Note
As recalled in Guideline 4 above, companies should calculate the LAC DT by subjecting the Solvency II balance sheet to shocks (equivalent to those used in the calculation of the SCR).

If they wish to justify part of the notional DTA (post-shock) by future profits, companies must analyze the impact of the 1/200 shock on projections of future taxable results. The exercise therefore consists for companies in adapting their medium-term strategic plan taking into account the economic situation resulting from the shock. These projections must be carried out in such a way that taxable profit can be identified by source.

Need for a recoverability test

When in a post-shock situation, the notional DTA is greater than the notional DTL, the part of the DTA that exceeds the notional DTL must be justified by estimated future taxable profits in a post-shock situation. Depending on the case, with or without automatic offsetting between the notional DTA and the notional DTL; (cf. principle regarding the time horizon and haircuts);

The Bank imposes that this approach based on the justification of the total DTA in the post-shock situation applies to all significant companies.

The possibility of using a simplified method based on offsetting with the pre-shock net DTL will be reserved for less significant companies, whose LAC DT amount is less than or equal to 10% of the SCR, which do not project future taxable profits beyond a 10-year horizon and which apply linear haircuts starting from the 6th year. Non-significant companies that do not meet these conditions will apply an approach based on the justification of the total DTA in a post-shock situation.

In the simplified approach,

if the variation in deferred taxes is less than the net DTL of the Solvency II balance sheet, then it is assumed that there is no creation of net DTA in the post-shock Solvency II balance sheet (notional DTA) and a recoverability test is not necessary.

if the variation in deferred taxes is greater than the net DTL of the Solvency II balance sheet, then it is assumed that there will be creation of a net DTA in the post-shock Solvency II balance sheet (notional DTA). In this case, the company must perform a recoverability test to demonstrate that the post-shock notional DTA is recoverable.

Nevertheless, in the case where the company is subject to multiple tax authorities (group) or in the case where multiple tax regimes are applicable, the comparison of the presumed LAC DT and the DTL must be carried out separately for each jurisdiction or each tax regime.

Circular - Page 12/18 NBB_2022_27 - November 2, 2022

Recoverability Test - Principles
The recoverability test consists of demonstrating the existence of probable post-shock profits capable of compensating for the notional DTA. This demonstration must be carried out in accordance with the principles set out in Article 207 of Implementing Regulation 2015/35.
Article 207 of the Regulation, as amended by Delegated Regulation 2019/981, specifies how the recoverability test must be conducted.

General Principles Regarding Assumptions
Pursuant to Article 207, paragraph 2bis of Regulation 2015/35, assumptions regarding the projection of future profits must take into account:
a) "any legislative or regulatory provision relating to the time limits applicable to the carry-forward of unused tax losses or the carry-forward of unused tax credits;" b) the magnitude of the loss referred to in paragraph 1 and its impact on the current and future financial situation of the undertaking, as well as on insurance product pricing, market profitability, insurance demand, reinsurance coverage, and other macroeconomic variables; c) the increased uncertainty of future profits following the loss referred to in paragraph 1, as well as the increasing degree of uncertainty regarding future taxable profit following this loss as the projection horizon extends."

In application of point b) above, it is therefore not explicitly required that undertakings comply with SCR requirements after the shock. Nevertheless, the level of compliance with the SCR should be reflected in the amount of profits available for the probable use of notional deferred taxes. Undertakings must therefore adjust their assumptions relative to their business plan, in particular to reflect the level of compliance with capital requirements after the shock. Compliance with the MCR after the shock may be assessed by applying stress tests. The Bank considers that an undertaking that is unable to demonstrate compliance with MCR requirements after the shock should not calculate a LAC DT adjustment.

Furthermore, Article 207, paragraph 2ter of Regulation 2015/35 also specifies that:
"For the purpose of demonstrating that it is probable that taxable profit will be available in the future, insurance and reinsurance undertakings do not apply assumptions more favorable than those used for the valuation and use of deferred tax assets in accordance with Article 15."
The clarification that post-shock assumptions cannot be more favorable than those applied in the pre-shock situation aims, in particular, to ensure that no reversal of any part of the shock can be assumed, which implies, among other things, the absence of "pull to par" and the absence of a return to normal. Taxable profit forecasts provided in the business plan must be revised downwards. It is not acceptable that forecasts of future taxable profits remain unchanged in a post-shock situation compared to the situation in the undertaking's business plan. If an undertaking wishes to demonstrate that, in a post-shock situation, certain factors lead to an increase in future profits, it must substantiate its demonstration coherently with, on the one hand, the analyzed shock situation, but also its business plan, including its investment policy and commercial policy. Furthermore, pursuant to Article 207, paragraph 2quinquies of the implementing regulation, insurance and reinsurance undertakings may not presume the implementation of future management decisions following the loss referred to in paragraph 1, unless the provisions of Article 23 of that same regulation are respected (cf. also point management actions below). Indeed, post-stress conditions constitute the starting point for projections. The context is therefore that of an deteriorated economic situation. The analysis of possible loss scenarios and sources of loss must be thorough. NBB_2022_27 - November 2, 2022 Circular - Page 13/18

Principles Regarding Time Horizon
Article 207, paragraph 2quater of Regulation 2015/35 defines, among other things, the rules regarding the consideration of new contracts in the valuation of future profits. It specifies that:
"For the purpose of demonstrating that it is probable that taxable profit will be available in the future, insurance and reinsurance undertakings apply assumptions that satisfy the following conditions:
a) no sales of new contracts are assumed beyond those projected for the purpose of the planning of activities of the insurance or reinsurance undertaking; b) no sales of new contracts are assumed beyond the planning horizon of activities of the insurance or reinsurance undertaking, nor beyond a maximum period of five years"; The purpose of Article 207, paragraphs 2quater, a), b) and d) of Regulation 2015/35 is to limit the new contracts that can be considered for justifying the LAC DT to existing contracts in the business plan, to limit the projection horizon of new contracts to the business plan horizon with a maximum of five years, and to apply haircuts in the case where the projection horizon of profits exceeds that of the business plan. In this regard, it is useful to recall that by new contracts, one must understand all contracts outside the contract boundaries. Indeed, all profits included in contracts within the contract boundaries are already included in the Solvency II balance sheet and can no longer be used to justify the LAC DT. Furthermore, Article 207, paragraph 2quater, d) of Regulation 2015/35 also mentions that:
"where, without prejudice to point a), the insurance or reinsurance undertaking defines, for the profits to be derived from new contracts, a projection horizon extending beyond the planning horizon of its activities, a limited projection horizon is set, and appropriate haircuts are applied to the profits to be derived from new contracts that are projected beyond the planning horizon of activities. These haircuts are assumed to increase the further into the future the profits are projected." In all cases where the undertaking projects future profits beyond the business plan horizon, it must therefore apply haircuts to the cash flows related to years beyond a five-year horizon. The Bank recommends that this horizon be limited to 10 years with haircuts applied linearly on future profits from the 6th year onwards. Undertakings wishing to derogate from this rule must submit a justification to the Bank. In this case, the approved auditor would be required to rule on this justification. Furthermore, these undertakings wishing to use a time horizon greater than 10 years for the projection of future profits or those wishing not to apply linear haircuts must demonstrate the prudence and coherence of their overall methodology for justifying the DTA and LAC DT by renouncing all methodological simplifications, such as the offsetting between DTA and DTL in the pre-shock balance sheet and the offsetting between the notional DTA adjustment (post-shock) and the notional DTL (post-shock). Consequently, they would be required to systematically analyze the reversal of temporary differences in a pre-shock situation for justifying the DTA in the pre-shock balance sheet. They would also be required to justify the total amount of notional DTA in a post-shock situation by analyzing the possibilities of offsetting between post-shock DTA and post-shock DTL in a post-shock situation based on the analysis of the reversal of temporary differences in a post-shock situation. Furthermore, for the purpose of the LAC DT, the undertaking must establish a link between economic profits and tax profits, given that only the latter can justify tax recoveries.

Principles Regarding Asset Yield Rates
Article 207, paragraphs 2quater of Regulation 2015/35 also provides the following clarifications regarding asset yield rates:
"the yields on investments of the insurance or reinsurance undertaking, following the loss referred to in paragraph 1, are assumed equal to the implicit yields induced by forward rates resulting from the relevant risk-free interest rate curve after this loss, unless the insurance or reinsurance undertaking can provide credible elements regarding the probability of yields superior to these implicit yields"; Pursuant to this article, the demonstration of a yield rate higher than that of the relevant risk-free rate curve can only be done, if applicable, on a case-by-case basis, depending on the undertaking's investment policy, and cannot be based on the hypothesis of a (complete or partial) reversal of the SCR shock. Furthermore, by specifying that the yield rate to be retained is that of the relevant risk-free rate curve, the regulation provides that it refers to the risk-free rate curve after application of the volatility adjustment and/or matching adjustment. Consequently, part of the spread shock related to liquidity is already corrected. See above for explanations regarding the consideration of new contracts.

Principles Regarding Management Actions
Article 207, paragraph 2quinquies of Regulation 2015/35 provides that:
"Insurance and reinsurance undertakings may presume the implementation of future management decisions following the loss referred to in paragraph 1, provided that the provisions of Article 23 are respected."
In practice, this provision considerably restricts the management actions that can be considered to justify future post-shock profits. In particular, the undertaking must be able to demonstrate that these management actions are compatible with its business plan and/or with management actions taken in the past under comparable circumstances. The Bank does not consider it appropriate to make the general assumption that it will suffice to adjust tariffs to restore the level of premium income and return to the same level of loss ratio or profitability prior to the shock. This assumption seems unrealistic in a shock situation that potentially, on certain macroeconomic aspects, affects the entire sector at the same time and with the same intensity, while other aspects of the shock are potentially linked to the specific risk profile of the undertaking.

Guideline EIOPA - Orientation 10 - Exemption when the requirement to prove eligibility represents a disproportionate burden The Bank allows undertakings not to take into account notional deferred tax assets for the calculation of the loss-absorbing capacity adjustment if the requirement to prove their eligibility represents a disproportionate burden for the undertakings.

Guideline EIOPA - Orientation 12 - Notional deferred tax liabilities Without prejudice to Article 207, paragraph 4 of Regulation 2015/35, undertakings should include notional deferred tax liabilities resulting from the sudden loss referred to in Article 207, paragraph 1 of Regulation 2015/35 in the calculation of the adjustment to take into account the loss-absorbing capacity of deferred taxes. NBB_2022_27 - November 2, 2022 Circular - Page 15/18

IV 3: Adjustments to take into account the loss-absorbing capacity of deferred taxes at the group level Guideline EIOPA - Orientation 13 - Scope The insurance or reinsurance undertaking, the insurance holding company, or the mixed financial holding company should apply the adjustment to take into account the loss-absorbing capacity of technical provisions and deferred taxes, when method 1 or a combination of methods is used, only to the part of the consolidated data determined in accordance with Article 335, paragraph 1, points a), b) and c), of Regulation 2015/35. Guideline EIOPA - Orientation 14 - Calculation The insurance or reinsurance undertaking, the insurance holding company, or the mixed financial holding company should calculate the adjustment to take into account the loss-absorbing capacity of deferred taxes according to the following formula:

ADJ6DTU_group = ADJ6DTU_solo * (SCR_diversified_group - SCR_solo) / SCR_diversified_group

Where:

• ADJ6DTU_solo represents the percentage retained for the establishment of consolidated accounts;
• ADJ6DTU_solo designates the individual adjustment to take into account the loss-absorbing effect of deferred taxes of each consolidated insurance (reinsurance) undertaking in accordance with Article 335, paragraphs 1, points a), b) and c), of Regulation 2015/35;
• SCR_solo designates the solvency capital required after the adjustment to take into account the loss-absorbing capacity of technical provisions and before the adjustment to take into account the loss-absorbing capacity of deferred taxes of each consolidated insurance and reinsurance undertaking in accordance with Article 335, paragraph 1, points a), b) and c), of Regulation 2015/35; and
• SCR_diversified_group designates the solvency capital calculated on the basis of consolidated data in accordance with Article 336, point a), of Regulation 2015/35 after the adjustment to take into account the loss-absorbing capacity of technical provisions and before the adjustment to take into account the loss-absorbing capacity of deferred taxes.

SCR_diversified_group is equal to the following sum if the standard formula is applied:
SCR_diversified_group = SCR_Ddiversified + LK_operation + ADJ6DTU_group

V Risk Management
Article 260 of the Regulation clearly defines which elements are covered by Risk Management regarding deferred taxes.

VI Documentation

1. Content of Reporting
   The minimum documentation requirements for DTA and LAC DT are specified in Articles 297 and 311 of Regulation 2015/35.
   Furthermore, Commission Implementing Regulation (EU) 2015/2450 of 2 December 2015 establishing technical standards regarding models for the transmission of information to supervisory authorities also specifies what quantitative information must be transmitted within templates S.25.01 and S.25.02. The Bank's expectations regarding the documentation of DTA and LAC DT, in line with existing regulation, will aim to enable the Bank to ensure the justification of the DTA and LAC DT. In the absence of a formalized initiative at the European level, the Bank expects undertakings to provide the following information in the form of a table included in Annex 1 of this circular, which includes, to provide a complete view of the DTA and LAC DT, certain quantitative information already provided in templates S.25.01 and S.25.02. Regarding the DTA:

• the origin of the DTA, in particular the part of the DTA possibly related to tax recoveries and the part related to temporary differences;
• the sources of temporary differences likely to lead to the recognition of a DTA;
• the demonstration of the possibility to offset DTAs and DTLs. In this regard, the Bank will rely on the analysis of the reversal of temporary differences;
• when the justification of the DTA cannot be fully provided by offsetting with the DTL, the undertaking must conduct a recoverability test. In this case, the undertaking will transmit to the Bank the amount of estimated future taxable profits, distinguishing in the sources of future profits between new contracts related to life activities, new contracts related to non-life activities, and asset yield.
  Furthermore, the undertaking will communicate to the Bank:
• a general description of the accounting and valuation principles applied to deferred taxes;
• in the event of a recoverability test, the assumptions underlying the projections of estimated future taxable profits pre-shock.
  Regarding the LAC DT:
• the following amounts: post-shock DTA, post-shock DTL, LAC DT justified by the reversal of pre-shock DTL, LAC DT justified by reference to the existence of estimated future taxable profits;
• when the justification of the DTA cannot be fully provided by offsetting with the DTL, the undertaking must conduct a recoverability test. In this case, the undertaking will transmit to the Bank the amount of estimated future taxable profits, distinguishing in the sources of future profits between new contracts related to life activities, new contracts related to non-life activities, and asset yield.
  Furthermore, the undertaking will communicate to the Bank the assumptions underlying the projections of estimated future taxable profits post-shock.
  NBB_2022_27 - November 2, 2022 Circular - Page 17/18

2. Reporting Modalities
   The reporting tables can be found in Annex 1 of this circular.
   The data will be transferred electronically using the "OneGate" application in the INS domain.
   Undertakings may either manually enter the data or automate reporting using files generated in XML format. An exchange protocol has been made available on the Bank's website.
   The file containing the assumptions regarding estimated future taxable profits pre-shock and/or post-shock, which justify respectively the DTA or the LAC DT, will be transmitted via the "Supervision" portal.
   Reporting must be annual, and the data must be transmitted within the same timeframe as the annual quantitative reporting.

VII. Final Provisions
This circular applies for the first time to the calculation of the SCR as of 31 December 2023.
A copy of this circular is addressed to the approved auditor(s) of your establishment.
We ask you to accept, Madam, Sir, our distinguished salutations.

Pierre Wunsch
Governor
X/ Vanackere
Vice-governor

Circular - Page 18/18 NBB_2022_27 - November 2, 2022