SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

6 Months Ended

Jun. 30, 2022

Organization, Consolidation and Presentation of Financial Statements [Abstract]

SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Description of Business

Aflac Incorporated (the Parent Company) and its subsidiaries (collectively, the Company) primarily sell supplemental health and life insurance in the United States (U.S.) and Japan. The Company's insurance business is marketed and administered through American Family Life Assurance Company of Columbus (Aflac) in the U.S. and through Aflac Life Insurance Japan Ltd. (ALIJ) in Japan. The Company’s operations consist of two reportable business segments: Aflac U.S., which includes Aflac, and Aflac Japan, which includes ALIJ. American Family Life Assurance Company of New York (Aflac New York) is a wholly owned subsidiary of Aflac. Most of Aflac's policies are individually underwritten and marketed through independent agents. With the exception of dental and vision products administered by Aflac Benefits Solutions, Inc. (ABS), formerly known as Argus Dental & Vision, Inc., and certain group life insurance products, Aflac U.S. markets and administers group products through Continental American Insurance Company (CAIC), branded as Aflac Group Insurance. The Company's insurance operations in the U.S. and Japan service the two markets for the Company's insurance business. Aflac Japan's revenues, including net gains and losses on its investment portfolio, accounted for 69% of the Company's total revenues in both of the six-month periods ended June 30, 2022 and 2021. The percentage of the Company's total assets attributable to Aflac Japan was 79% at June 30, 2022, compared with 82% at December 31, 2021.

Basis of Presentation

The Company prepares its financial statements in accordance with U.S. generally accepted accounting principles (U.S. GAAP). These principles are established primarily by the Financial Accounting Standards Board (FASB). In these Notes to the Consolidated Financial Statements, references to U.S. GAAP issued by the FASB are derived from the FASB Accounting Standards CodificationTM (ASC). The preparation of financial statements in conformity with U.S. GAAP requires the Company to make estimates based on currently available information when recording transactions resulting from business operations. The most significant items on the Company's balance sheet that involve a greater degree of accounting estimates and actuarial determinations subject to changes in the future are the valuation of investments and derivatives, deferred policy acquisition costs (DAC), liabilities for future policy benefits and unpaid policy claims, and income taxes. These accounting estimates and actuarial determinations are sensitive to market conditions, investment yields, mortality, morbidity, commission and other acquisition expenses, and terminations by policyholders. As additional information becomes available, or actual amounts are determinable, the recorded estimates are revised and reflected in operating results. Although some variability is inherent in these estimates, the Company believes the amounts provided are reasonable and reflective of the best estimates of management.

The unaudited consolidated financial statements include the accounts of the Parent Company, its subsidiaries and those entities required to be consolidated under applicable accounting standards. All material intercompany accounts and transactions have been eliminated.

In the opinion of management, the accompanying unaudited consolidated financial statements of the Company contain all adjustments, consisting of normal recurring accruals, which are necessary to fairly present the consolidated balance sheets as of June 30, 2022 and December 31, 2021, the consolidated statements of earnings and comprehensive income (loss) for the three- and six-month periods ended June 30, 2022 and 2021, the consolidated statement of shareholders' equity for the three-month periods ended March 31, 2022 and 2021 and June 30, 2022 and 2021, and the consolidated statement of cash flows for the six-month periods ended June 30, 2022 and 2021. Results of operations for interim periods are not necessarily indicative of results for the entire year. As a result, these financial statements should be read in conjunction with the financial statements and notes thereto included in the Company's annual report on Form 10-K for the year ended December 31, 2021 (2021 Annual Report).

Market Conditions: The impact of the Coronavirus Disease 2019 (COVID-19) global pandemic on the Company continues to evolve and the continued path of the global economic recovery remains uncertain given the potential longer term impacts of the pandemic. For example, economic conditions have acted as headwinds to sales in the first six months of 2022, particularly in Japan and most notably in the first quarter with a gradually decreasing impact in the second quarter, pressuring premium growth rates. Further, in the U.S., supply shortages, upward pressure on wages to attract employees and higher commodity prices have all driven near-term increases in inflation. Central bank and government efforts to control inflation, as well the impacts of the Russia-Ukraine conflict, including volatility in energy prices and additional disruptions in the global supply chain, could lead to slower economic growth in Japan and the U.S. Additionally,

continued widening of the differential between U.S. and Japan interest rates has contributed to a weakening of the yen, which has the effect of suppressing the Company's current period results in relation to the comparable prior period.

Reclassifications: Certain reclassifications have been made to prior-year amounts to conform to current-year reporting classifications. These reclassifications had no impact on net earnings or total shareholders' equity.

New Accounting Pronouncements

Accounting Pronouncements Pending Adoption

ASU 2018-12 Financial Services - Insurance: Targeted Improvements to the Accounting for Long-Duration Contracts, as clarified and amended by:

ASU 2019-09 Financial Services - Insurance: Effective Date

ASU 2020-11 Financial Services - Insurance: Effective Date and Early Application

In August 2018, the FASB issued amendments that will significantly change how insurers account for long-duration contracts. The amendments will change existing recognition, measurement, presentation, and disclosure requirements. Issues addressed in the new guidance include: 1) a requirement to review and, if there is a change, update assumptions for the liability for future policy benefits (LFPB) at least annually, and to update the discount rate assumption quarterly, 2) accounting for market risk benefits at fair value, 3) simplified amortization for deferred acquisition costs, and 4) enhanced financial statement presentation and disclosures.

In November 2019, the FASB issued an amendment extending the effective date for public business entities that meet the definition of a Securities and Exchange Commission (SEC) filer, excluding entities eligible to be small reporting companies as defined by the SEC, by one year.

In November 2020, the FASB issued an amendment providing an additional year deferral for all insurance entities due to the impact of COVID-19. The amendments are now effective for the Company for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2022. Early application of the amendments is permitted.

The Company continues to evaluate the impact of adoption and has determined that the adoption will have a significant impact on the Company’s financial position, results of operations, and disclosures. The requirement to update assumptions for LFPB will have a significant impact on the Company's results of operations, systems, processes and controls and the requirement to update discount rates will have a significant impact on its equity.

As part of working toward implementation of the updated standard, the Company has made progress on key accounting policy decisions, including processes to identify insurance policy groupings (cohorts) for LFPB measurement and DAC amortization purposes, applicable discount rates, development of liability cash flow and claim expense assumptions, and DAC amortization methodology.

The Company will not early adopt the updated standard and has selected the modified retrospective transition method, which requires the amended guidance be applied as of the beginning of the earliest period presented beginning on the January 1, 2021 transition date (Transition Date). The modified retrospective transition method generally results in applying the guidance to contracts on the basis of existing carrying values as of the Transition Date. On the Transition Date the Company calculates the ratio of expected benefits less existing carrying values to gross premiums (net premium ratio) using updated assumptions and the discount rate immediately before the Transition Date. For any cohorts that have a net premium ratio greater than 100% on the Transition Date, the net premium ratio will be capped at 100%. The Company uses the net premium ratio calculated on the Transition Date (and capped at 100% if required) to calculate the LFPB using two different discount rates: i) the discount rate used immediately before the Transition Date, and ii) the discount rate determined by reference to the Transition Date market level yields for upper-medium-grade (low credit risk) fixed income instruments (as of December 31, 2020). For cohorts with their net premium ratio capped at 100% on the Transition Date, any difference between the LFPB calculated using the discount rate immediately before the Transition Date and the existing carrying value as of the Transition Date is recorded as an adjustment (decrease) to opening retained earnings. For all cohorts on the Transition Date, the difference in the LFPB calculated using the two different discount rates (i.e., the discount rate used immediately before the Transition Date and the updated discount rate as of the Transition Date) is recorded in accumulated other comprehensive income (AOCI) net of tax at transition.

When the Company adopts the updated standard beginning January 1, 2023, opening equity will be adjusted for the Transition Date impacts to AOCI and retained earnings and prior periods presented (years 2021 and 2022) will be restated following the updated standard. Based on the modified retrospective transition method, the Company currently estimates

that the Transition Date impact from adoption is likely to result in a decrease in AOCI in a range between $18 billion and $19 billion and a decrease in retained earnings of approximately $0.3 billion. The variability around the impact of adoption results from the Company making certain estimates, primarily related to the determination of Transition Date market level yields.

The Company has advanced and continues to refine the design of its discount rate methodology for both the U.S. and Japan insurance business. The methodology incorporates constructing a discount rate curve separately for discounting cash flows used to calculate the U.S. and Japan LFPB, with each curve intended to be reflective of the currency, tenor and characteristics of the insurance liabilities. Discount rates comprising each curve will be determined by reference to upper-medium grade (low credit risk) fixed-income instrument yields that are intended to reflect the duration characteristics of the corresponding insurance liabilities. The Company intends to use for these yields single-A rated fixed income instruments with credit ratings based on international rating standards. Where only local ratings are available, the Company intends to select the fixed-income instruments with local ratings that are equivalent to a single-A rating based on international rating standards. The methodology will be designed to prioritize observable inputs based on market data available in the local debt markets where the respective policies were issued in the currency in which the policies are denominated. For the discount rates applicable to tenors for which the single-A debt market is not liquid or there is little or no observable market data, the Company will use various estimation techniques consistent with the fair value guidance in ASC 820, which include, but are not limited to: (i) for tenors where there is less observable market data and/or the observable market data is available for similar instruments, estimating tenor-specific single-A credit spreads and applying them to risk-free government rates; (ii) for tenors where there is very limited or no observable single-A or similar market data, interpolation and extrapolation techniques. Discount rates will be updated each reporting period.

Long duration insurance contracts issued by the Company will be grouped into annual calendar-year cohorts based on the contract issue date, reportable segment, legal entity and product type. Limited pay contracts will be grouped into separate cohorts from other traditional products in the same manner and will be further separated based on their premium payment structures. Riders will be combined with base policies with similar insurance coverage types and the same contract issue years.

In addition to the preliminary policy elections related to cohorts and LFPB discount rates directly impacting Transition Date AOCI, the Company has also advanced the following accounting policies relevant to the post-Transition Date accounting:

•Cash flow assumptions underlying insurance liabilities will be evaluated as to whether an update is needed at least annually in the same fiscal quarter each year. To facilitate the review, experience studies will be performed annually in the consistent quarter year-to-year to substantiate assumptions, including mortality, morbidity, and terminations in future periods.

•Locked-in discount rates used for the computation of interest accretion on LFPB for policies issued on or after January 1, 2021 will be determined for each issue-year cohort as a single discount rate, calculated as the weighted-average of monthly upper-medium grade (low-credit risk) fixed-income instrument forward curves over the calendar year, determined using the methodology described above and weighted using issued annualized premiums for each issue month. The single discount rate for each issue-year cohort will remain unchanged after the calendar year of issue. Locked-in discount rates on the policies held at Transition Date reflect the locked-in rates in existence immediately before the Transition Date.

•For DAC amortization, the Company has made a preliminary policy election to group insurance policies into cohorts that are consistent with the groupings used in estimating the associated LFPB. DAC will be amortized on a constant-level basis for the grouped contracts over the expected remaining term of the related contracts. For both life and health products issued by Aflac Japan, the constant-level basis used will be units in force, which is a proxy for face amount and insurance in force, respectively. For life products issued by Aflac U.S., the constant level basis used will be face amount of policies in force; for health products issued by Aflac U.S., the constant level basis used will be the number of policies in force.

•The Company has made a preliminary entity-wide election to use locked-in claim expense assumptions determined for each issue-year cohort as a percentage of paid claims; these assumptions would remain unchanged over the term of the insurance policy.

The Company has created a governance framework and a plan to support implementation of the updated standard. As part of its implementation plan, the Company has also advanced the modernization of its actuarial technology platform to enhance its modeling, data management, experience study and analytical capabilities, increase the end-to-end automation of key reporting and analytical processes and optimize its control framework. The Company has also put in

place internal controls related to the new processes created as part of implementing the updated standard and will continue to refine and maturate these internal controls until the formal implementation in the first quarter of 2023.

The Company continues testing its reporting and disclosure capabilities under the new ASU for post-Transition Date accounting periods.

The Company currently has no products with market risk benefits.

Recent accounting guidance not discussed above is not applicable, did not have, or is not expected to have a material impact to the Company's business. 

For additional information on new accounting pronouncements and recent accounting guidance and their impact, if any, on the Company's financial position, results of operations or disclosures, see Note 1 of the Notes to the Consolidated Financial Statements in the 2021 Annual Report.