Study Notes and Published Refences - Note SN 8IU-310-04 - VALN OF LIVING AND DEATH BENEFIT GUARANTEES FOR VARIABLE ANNUITIES
Introduction
- key diff between VAs and mutual funds - guarantees
Types of Guarantees
- GMDB - payment on death of covered live - effective at time of sale
- Living Benefits guarantees
- GMIB - guaranteed minimum payment at annuitization
- usually constrained to a window after a defined waiting period
- GMWB - sum of w/d benefits paid = specified amt (such as prem paid)
- GMAB - guaranteed a minimum acct value after a specified waiting period
Characteristics of Living and Death Benefit Guarantees
- Common Characteristics
- Guarantee Amt - usually a function of premiums, w/d, and/or future acct values
- return of prem
- ratchet "X"
- x% rollup
- Reset "X" (unlike ratchet, can decrease)
- High Anniv value
- ratchet "Xth"
- x% simple
- Reset "Xth"
- NAR is difference between guarantee and actual acct value
- Limits on teh Guar amt
- guar may only adjust up to a certain AA
- guar may be capped by some absolute limit (such as twice starting value)
- guar may be n/a after certain age
- guar may not be offered beyond a certain age
- guar can be adjust on a $/$ basis or proportionally for w/d
- guar can be capped by a facter applied to prems less w/d
- Limits on Investment Options
- may require a specific fund allocation or exclude certain funds
- maximum annuitization age
- rider termination - if guar sold as a rider, PO may terminate benefit after x years
- Co may also place limits on sales and future contributions
- Characteristics Specific to a GMDB
- who is covered: owner, first to die of annuitant and owner, last surviving annuitant
- can spouse continue policy: sometimes spouse is given option of DB or continuing policy w/ same guar
- if accept DB, policy has no more guar and reverts to acct value
- what is effective date for DB calc: DOD or date all paperwork filed
- Characterisitcs Specific to a GMIB
- What is length of period before PO can annuitize and invoke guarantee?
- needs to be long enough for co to recoup acq expenses 7-10 yrs common
- What are assumptions for determining int rate in guar annuity?
- lower guar rate decreases cost of cuar. 3 and 3.5% common
- may be influenced (constrained) by stat minimums
- mkt competition and SNFL may influence
- What are assumptions for determining mort rate in guar annuity?
- lower mort reduces cost
- expected mort improvement between eff date and annuitization and between annuitization and end of payment period
- Does Guar Annuity have certain period
- longer certain periods lessen impact of projected mort improvements
- IRS min dist requirements
- Characteristics Specific to a GMAB and/or a GMWB
- deferral period for GMAB between time of sale and eligibility - 10 yrs common
- limits on amt of w/d in any yer (GMWB) - 7% common
- Can PO reset guar amt to current amt and how often?
- Increase charge on reset
- waiting period also reset
- Can GMAB be renewed @ end of guar period
- GMAB: same guar and guar period apply to subsequent deposits
- GMWB: guar amt may be increased by add'l deposits or limited to deposits in certain contract years (2 to 4)
Theoretical and Practiacl Issues in Valuing Guar Benefits
- Policyholder Behavior
- PO may make decisions that are not in their best interests
- media publicity and broker advice can have large impact
- PO awareness can be increased w/ guaranteed amts shown regularly on statements
- more history needed to determine if "in the money" DBs result in anti-selective lapsation
- VA primarily used as a tax-favored investment to provide a lump sum for estate needs vs monthly income
- Lapse Rate
- very low during SC period (4-6%)
- spike after SC period (20-50%)
- then stabilize (10-15%)
- levels vary depending on dist channel and by company
- factors affecting lapse
- length of SC period and level of SC
- qual vs non-qual
- taxes
- distributor incentives
- cahnges in availability of different contract options and their associated prices
- does each deposit have its own SC schedule
- GMAB, GMIB option, especially if "in-teh-money"
- policy performance - relative to other investments and other VAs
- Annuitization Rate
- tend to be very low (<3%)
- GMIB - annuitizatoins have to be modeled separately - can't include w/ lapses
- final decision to exercise GMIB is complex balance
- sample assumption
- Range Annuitization Rate
- 0.00 <= Adj guar/AV < 1.25 2%
- 1.25 <= Adj guar/AV < 1.40 8%
- 1.40 <= Adj guar/AV < 1.55 16%
- 1.55 <= Adj guar/AV < 1.67 24%
- 1.67 <= Adj guar/AV 30%
- other factors affecting annuitization rates
- age
- other assets
- commissions
- volatile mkts
- taxes
Pre-Annuitization Mortality
- biggest impact on GMDB
- does presence of GMDB result in any anti-selection
Partial W/D and Contributions
- 10-15% w/d money on a regular basis
- usually w/in free w/d range - typically 2-3% of acct value each year
- some cos have systematic partial w/d programs
- gains assumed w/d first for tax purposes
- 3 situations cause w/d and contributions to have material impact on valn
- qualified paln @ age 70.5 - min dist - usually done via partial w/d
- benefit options no longer offered in mkt may incent add'l contributions
- may also be a corresponding drop in partial w/d from these plans
- potential anit-selection in $/$ w/d cases
- GMDB - w/d all but $1 av leaves "free" insurance for "in-the-money" portion
- GMIB - w/d all but excess and get free annuity. Even worse w/ guar roll-up
- taxes may be an issue to minimize this behavior
- simplifying assumption - future partial w/d and contributins will offset
- presence of GMWB may increase partial w/d experience over current levels
Grouped vs Seriatim Data
- higher accuracy w/ seriatim
- processing time/costs may force grouped
- beware grouping that an "in the money" and "out fo money" don't offset
Asset Allocation and Fund Transfers
- could project each fund separately - most models group funds into specific categories
- projected acct value is weighted avg return of diff asset categories
- transferes can be modeled static or dynamic basis
- static - transfers don't depend on how any of funds perform
- dynamic - transfers vary based on returns
- most models don't use dynamic due to extreme complexity
- ways to implement static fund transfer assumptions
- asset allocations entered (PO level) and rebalanced @ end of each period
- asset allocations @ PO level and NOT rebalanced @ EOP
- asset allocations @ group level and rebalanced @ EOP
- asset allocations @ group level and NOT rebalanced @ EOP
Future Economic Scenarios
- value of guaranteed benefits highly dependent on level and pattern of future asset category returns
- desire non-trivial reserve for conservative valuation of guar benefits
- if no specified scenarios - set reserves to at least minimum of accumulated fees collected for benefit
- valn can be based on specified scenarios designed to make guar amt > acct value
- valn done stochastically and reserve based on scenario avg
Statutory Valn
- general approach - define model and assumptions so that resulting reserves cover high proportion of possible outcomes
- AG34 adn the Stat Valn of GMDBs
- SVL defined CARVM for annuity contracts
- AG33 provides guidance for applying CARVM to annuities w/ multiple benefit streams
- handled PO behavior by basing reserves on assumption that PO woudl select teh worst case scenario for the co
- AG34 addressed the variablility of inv returns on reserve for GMDBs
- GMDBs projected assuming an immediate drop in underlying asset w/ subsequent recovery at a net assumed rate until maturity of contract
- Asset Class Immediate Drop Gross Assumed Return
- Equity 14% 14%
- Bonds 6.5 9.5
- Balanced 9 11.5
- Money Mkt 2.5 6.5
- Specialty 9 9.5
- table shows gross return - need to adjust for charges to get net return
- fixed acct - assume 0% drop and net return = guar rate
- GMDB reserve = integrated reserve (includes all benfits) - Sep Acct reserve (ignores GMDB)
- Integrated reserve is combo of 3 benefit streams
- projected NAR paid to those projected to die during calc period (valn mortality)
- projected unreduced AV paid to those expected to die during calc period (valn mortality)
- base benefit streams projected during calc period and discounted for survivorship baed on valn mort table
- does not assume drop adn recovery
- reserve is greatest PV at vlan int rate across all durations of the 3 integrated streams
- projected (reduced) acct value => (assets in class)*(1-immed drop%)*(1+net assumed return)^t using 1994 VA MGDB mortality table
- AG34 effective 12/31/1998
- Valuation of Living Benefit Guarantees
- AG34 not designed for living benfits
- LHATF too approach similar to AG34 and RBC C-3 task group
- looking at stochastic approach insted of formula based approach
- AG39 - interim solution until model-based approach could be developed
- total reserves for contracts w/ living benefits guarantees
- = reserve for VA after comparing to the CV and ingoring charges and claims assoc w/ living benfits
- + living benfit reserve (defined as aggregate charges after adjustment for adequacy analysis)
- impicit charges s/b used in not an explicit charge
- can be based on review of charges w/ and w/o benfit and/or modeling of the benfit
- aggregation is simply sum w/o interest
- AG39 implies seriatim calc of aggregated charges
- asset adequacy analysis done on aggregate basis for all contracs w/ living benefit guar
- AG39 does not require CF testing (according to Guidance and Practice notes) but ASOP 22 implies s/b done
- when selecting assets for analysis - consider asset segmentation scheme used for Actuarial Opinion adn presence of any hedges for the living benefit
- CF from hedges can only be used if hedging instruments part of selected assets
- Future Changes to Stat Valuation
- Equity Return Assumptions
- working groups focusing on stochastic distribution model
- val act s/b able to choose model, subject to a set of calibration points
- instead of ILN dist (Indep LogNormal), leaning towards RSLN2 (2 regime switching lognormal process) b/c ILN doesn't generate more extreme results seen in historical data
- old method - calc reserve for several scenarios and use highest result
- option 1 - use precentail of distribution of reseve based on each of scenarios tested
- option 2 - CTE (conditional tail expectation)
- results rank ordered from best to worst
- CTE at the x% level is avg result of worst (100-x)% of the results
- in general CTE x% > (x + 1/2(100-x)) percentile
- current proposals - CTE90 for total balance sheet adn CTE65 for stat reserving
- diff between CTE90 adn CTE65 => RBC (100% NAIC Co action level)
- Policyholder Behavior & Experience Assumptions
- 3 issues w/ CARVM
- always applying can result in very large reserves
- ignores past experience of PO elective behavior adn fact taht PO do not act w/ 100% efficiency
- ignores disincentives to PO for result dictated by CARVM (such as negative tax consequences)
- discussion re: using incidence rates based on prudent best estimates & using co specific data
US GAAP
- overview
- GAAP and Stat differ in several important aspects
- model assumptions are based on best estimates
- rules do not require 0% or 100% utilization on PO behavior
- certain liabs based on fair value (to reflect similarity to derivatives)
- reserves recalced each year due to unlocking of assumptions
- most rules in F97 w/ expanded direction in SOP 03-01
- US GAAP and GMDBs
- is contract an investment contract w/ nominal DB or insurance contract
- has significant mortality risk if benfit could vary significantly in response to changes in captial mkts
- determination based on comparison of benefit payments over acct value to PV of all amts expected to be assessed against PO
- s/b done at issue considering full range of scenarios based on volatility of assumptions (not best estimate)
- if DB deemed significnat and fees assessed or ins benefits not fixed, SOP requires liability if amts assessed in manor that generates profits inearly years and subsequent losses
- liab base on a/b
- a - PV total expected excess payments
- b - PV total expected assessments (gross)
- use same assumptions as for DAC
- add'l liab = benefit ration * cumulative assessments - cumulative amts pd
- test for unlocking as necessary
- US GAAP and GMIBs
- if GMIB can be not settled at annuitization - F133
- GMIB treated as embedded derivative
- F133 - written options be recorded @ fair value at issue and throughout accumulation phase of contract
- changes in fair value recognized in income
- for other GMIB or two-tiered annuities
- SOP requires add'l liability if PV expected annuitization payments @ annuitization date exceeds acct balance @ expected annuitization date
- reserve method is same as for GMDBs
- only difference is addition of an expected annuitization election rate
- US GAAP and GMAB & GMWB
- FASB Derivative Implementation Issue B8 specifies these are embedded derivatives subject to F133
- written options recorded @ fair value at inception and throughout
- changes in fair value recognized in income
Conclusion
Appendix A
Appendix B
Reinsurance - Tiller and Tiller
Chapter 4 - TRADITIONAL REINSURANCE
YRT (see html)
Coinsurance
- coverage is same form as individual policy
- reinsurer establishes proportionate share of policy reserves
- shares proportionately to excess mortality or morbidity, lapses, surrenders, etc.
- Coinsurance Premiums and Allowances
- premium usually proportionate to gross premium
- for banded policies, can
- - reins premium based on banded gross premium, then common set of allowances for all bands
- most common and easiest to understand
- - vary allowances by band
- complicates admin but allows consistent margins by band
- - reins prem and allowance for all bands is equal
- simplifies admin, increases margin for ceding co on smaller band sales
- ceding co typically retains 100% of policy fee
- coins typically follows u/w (S/NS etc)
- sometimes allowances vary by age and/or sex
- can be experience rating
- sometimes first year allowance > 100%
- Coinsurance Premium and Allowance Calculations
- allocances typically determined unique for each policy (product)
- typically paid on annual basis
- substd more complicated - vary by type of extra and length they apply
- WVR/GIO/Payor usually consured w/ generic allowances 75-85% 1st year, 10-15% renewal
- ADB usually flat rate YRT
- Uses of Coinsurance
- can be used on anything
- for life, common on Term where very little CV buildup, therefore minimal investment risk
- used w/ CV products to pass strain or investment risk to reinsurer
- Policyholder Dividends
- < 1990s, uncommon for reinsurer to share in PO divs
- may be a problem if big block w/ large portion ceded as co doesn't control those assets
- currently reinsurers SOMETIMES participate, but only in illustrated scale, not in up or down changes
- NY Reg 102 says reinsurer must participate in divs, including scale changes if ceding co wants reserve credit
- Other Considerations
- reinsurers rarely participate in policy loans
- reinsurer typically remburses for premium taxes on ceded portion
- RPU - reins is adjusted and no further premiums paid
- ETI - no more prems, but coverage for appropriate duration
- sometime at ETI/RPU, reinsurer will pay CSV to ceded co and terminate reins
- reserve credits if reins is admitted/accredited
- will pass deficiency reserve as well as std reserves
- admin is relatively complex since need to calc prem, pay db, calc expense allowance, reserves and apyments of cash surrenders
- Illustrations - p 89
Modified Coinsurance - ModCo
- diff from coinsurance is stat vx on ceded portion is obligation of and held by ceding co
- reinsurer has to fund reserve increases (less credit for investment income)
- Origins - Unknown
- ModCo Prems and Allowances
- ModCo Prem and Allowance Calculations
- similar to coins
- WVR/GIO/Payor typically coins even if base is ModCo
- ADB typically flat YRT rate
- ModCo Reserve Adjustment
- Ening Policy Reserves - Beginning Policy Reserves - Interest on Beg Pol Vx
- if >0 reinsurer pays ceding co. If < 0, other way
- historically an annual calc
- currently (typically) quarterly
- ModCo Int rate is defined in treaty
- - historically could be defined in terms of ceding co portfolio rate, rate of return on reinsured blocks assets, new money rate of return, or outside index
- - sometimes a fixed rate
- - if ModCo rate = ceding co rate of return, result to ceding co is same as if they used coins
- - if ModCo rate = reins co rate of return, result to reins is same as if they used coins
- cap g/l not shared w/ reinsurer
- - NAIC model reg changes that since ALL significant risk must be transfered
- Uses of ModCo
- primarily for products that develop CV - especially par
- in 80s, used to reduce FIT (transfered investment income to u/w income)
- - tax law changes stopped that
- Other Considerations
- Eliminates some problems w/ coins
- - no Vx credit questions since ceding co maintains policy Vx
- - eliminates problem of policy loan participation as well (same reason)
- - ceded co has more control over investments
- Main drawback
- more difficult to admin because of Reserve Adjustment Calculation
- Illustrations - p 100
-
Chapter 5 - FINANCIAL REINSURANCE
Uses of Financial Reinsurance
- based on diffences in timing for stat of tax earnings and on stat Vx redundancy
- usually structured so only cash that changes hands is for fees or risk charges
- Surplus Relief
- most common
- to improve current stat earnings and surplus position
- creates an increase in stat surplus for ceding co in year relief is given
- repayment of relief tied to future cash flow or stat earnings on reinsured block, therefore not guaranteed
- since risk is less than if trad reinsurance, less risk charge
- Tax Plannings
- not as much as before
- company cedes, creates a taxable gain, used to offset taxable loss
- - useful if company hasexpiring tax loss carryforwards
- translates more commonly permanent than with surplus relief
- gain to ceding co is loss to reinsurer
- company might also assume reins to create a loss to offset a gain
- ceding co can usually terminate reins once inital gain repaid
- comany may ced/assume life/health to change co status to/from life/non-life company
- Strategic Business Planning
- may wish to acquire reinsurance to
- - increase future profits
- - utilize excess admin capacity
- - assist co in entering a new market
- may cede to
- - exit a certain market
- - financing in a LBO
- typically permanent in nature
- recapture typically not a provision
- normally assumption reinsurance
Terminology
- Initial Reinsurance Premium
- typically = policy reserve
- Allowances
- used to adjust effective amount of renewal premium
- initial allowance provides first year gain
- stated as % of initial premium, amt/unit coverage, or flat amt/trx
- renewal allowances may provide for ceding co commission/maint and adjust expected results to agreed upon level
- higher allowances => longer for reinsurer to recover intial strain
- Risk Charge
- portion of reins premium retained (by reinsurer) for providing reins
- normally stated in terms of amt outstanding surplus/gain
- amt depends on
- - nature of risks assumed
- - size of trx
- - reinsurer's profit objective
- - mkt conditions at time of trx
- - ceding co's stability
- - tax considerations
- - company relationships
- - reinsurers expenses for analysis, administration, or intermediaries
- historically between 1 and 5% of outstanding surplus relief each year
- Experience Refund
- mechanism to identify and return a portion of stat earnings on rens business to ceding co
- typically not paid until inital allowance is recovered (for fin reins)
- negative experience refunds are uncommon
- - if part of treaty - usually disqualifies stat Vx credits
- loss deficit carryforwards (or similar provisions) OK as long as reinsurer can't terminate treaty to force ceding co into loss position
- Outstanding Surplus Account
- used to track the defined portion of stat gains on business reinsured
- - portion after risk charge, experience refund, and int accumulated on outstanding amount
- usually can't terminate treaty while this is in a deficit position (treaty says)
- ceding co can usually terminate treaty after deficit eliminated
Comparative Model - see book beginning p 112
Plans of Financial Reinsurance
- YRT
- Vx is relatively small, therefore doesn't provide significant relief unless reinsured product also YRT
- Uses of YRT
- most common: I/S Life product where reinsurer doesn't want to be involved in accum element
- if on YRT, typically create special YRT scale as % of policy prem rates
- if on YRT, little difference from coinsurance
- for surplus relief, most effective if reins prem scale has 0 1st yr prem
- - chargebacks for lapses may be appropriate
- could be used where ceding co wants to minimize asset transfer
- OK for health policies, NOT annuities
- Advantages
- limits reinsurer investment and lapse risk (no Vx or CV build-up)
- possibly lower ongoing cost than coins if risks limited to mort or morbid
- Disadvantages
- low cash limits amout of possible future profits (therefore limits allowance/bonuses reinsurer can offer)
- allowance limits limit financial reins applications
- relatively difficult to admin IN FIN REINS situations (fin reins commonly admin on simplified basis & YRT does not work well w/ this type of admin)
- rarely used in financial reins applications
Coinsurance
- Typical arrangement: inforce block, intial reins prem = Vx, reinsurer pays allowance which provides initial gain
- future years - allowance covers ceding co maint and commission expenses
- Alt Arrangement: initial prem = initial Vx - desired gain
- renewal premiums defined w/o reference to policcy gross prem or specific expense allowance
- same effect as typical arrangement, just stated differently
- Subsequest years - reins prems (net of allowances) used to
- pay claims
- fund Vx increases
- cover admin costs
- PADs
- included a charge to reimburse for year 1 investment
- pricing done same as a product actuary used to develop product
- current mkt highly competitive, therefore little PADs in pricing
- larger allowances preferrable to experience refunds for most companies
- in financial reins mkts, pricing not so precise
- in fin reins - usually has exp refund feature
- in fin reins - uses outstanding surplus account
- Advantages
- simplest to admin on a quota share method
- regulators like because no question of risk transfer
- Disadvantages
- primary - need to transfer assets
- can be significant if large inforce block
- if IS or Par, reinsurer has control over part of the div or int rate determination
- requires reinsurer to manage the assets, subject to additional investment risk
- if reins is terminated, reinsurer must transfer assets back and could generate g/l that could have a negative impact on financials
- loss of Vx credit if reinsurer not admitted
- additional insolvency risk to ceding co (ceding co responsible for claims even if reins is insolvent)
- Coins Illustrations - text p. 122
ModCo
- popular for fin reins since ceding co keeps reserve adn assets supporting reserves
- typical arrangement: inforce block, prem = Vx on portion reinsured, ren prems = portion of gross prems, reinsurer pays allowance
- anticipated gain at end of each accounting period
- Advantages
- applicable to all plans of ins
- avoids need to transfer assets
- ceding co retains control of investment policy
- eliminated Vx credit problem
- reinsurer may deduct entire Vx increase for FIT even if Vx not otherwise qualified as tax deduction
- reinsurer avoids necessity of managing assets
- Disadvantages
- more complicated to admin than coins because of mod-co adjustment
- special transactions for surrenders and death
- transfer of assets back to reinsurer @ treaty termination can create capital g/l for ceding co
- Mod-Co Illustrations - text p 131
Funds Withheld Coins
- looks like trad coins in many ways
- impossible to tell difference when looking at intial stat gain
- only difference in initial tranaction - reins retain allowance and ceding co retains intial prem
- if allowance exceeds initial premium, reinsurer sets up an accounts payable item adn ceding co sets up accounts recievable asset
- if initial premium exceeds allowance, reverse is true
- in subsequent periods, account balance increase/decrease as profit emerges, surplus repaid, & reserves increase/decrease
- no cash will change hands until initial account balance reaches zero
- ceded co maintains assets underlying reserves, reinsurer holds reserves on fin stmt, therefore int adjustment like mod-co adjustment is made
- Advantages
- no cash changes hands initially
- cash flow minimized throughout life of treaty
- lessens ceding co insolvency risk
- if reinsurer is non-admitted, ceding co can still take Vx credit up to amount of funds it is holding
- Disadvantages
- more complicated than regular coins
- receivables and payables must be tracked carefully
- int adjustment for net account receivable (foregone int income)
- may still result in Vx credit problem if reins is non-admitted (but somewhat alleviate by amount of funds held)
- Illustrations - text p 140
Funds Withheld ModCo
- looks like ModCo in initial transaction
- reinsurer retains initial allowance and creates payable item
- ceding co sets up corresponding receivable item
- Advantages
- reins retains initial allowance, therefore no need to liquidate assets to pay allowance
- reinsurer has lessened risk in event of ceding co insolvency
- Disadvantages
- one more layer of complexity to admin of treaty
- mod-co adjustment further complicate b/c ceding co doesn't get cash
- special adjustment b/c interest not earned by ceding co on the allowance
- may be viewed as violation of Model Reg
- Illustration - text p 148
Partially Modified Coins (PartCo)
- Initial Coinsurance Vx = initial reinsurance allowance
- remaining reserve liablities reinsured on mod-co basis
- no cash transfer at treaty inception
- renewal years: proportions of co and mod-co are adjusted
- adjustment may be scheduled of may float w/ increase in coins Vx
- Advantages
- no inital cash transaction
- eliminates need to create paper a/l (necessary in funds withheld)
- Disadvantages
- main: very complicated to comprehend and to admin
- if coins reserves float w/ outstanding surplus, 2 stat gain from operatoins calcs necessary
- 1) premlim stat gain from operations needed to calc surplus repaid
- 2) final to show change in Vx from co->mod-co (or vice versa)
- Illustrations - text p. 157
Regulation and Taxation
- < 1984, very little (effective) legislation on financial reins
- used often to reclassify components of taxable income & significant reductions in taxes
- TRA84 - Sectoin 845 - IRS can change an individual tax return if signifianct tax avoidance found
- reins transactions were used to mask true financial condition of company
- therefore State DOI now looks at treaties for significant risk transfer
- treaty terms that concern
- - schedule gains to reinsurer, regardless of actual experience of block
- - reinsurer never having to pay out benefits, just building up a payment due liability
- - reinsurer has right to terminate or automatic termination if
- + reinsured becomes insolvent
- + reinsured has mgmt change
- + business reinsured proves unprofitable
- some states challenge ALL "cashless" reinsurance
- conditions to include to keep regulators happy
- - reinsurer must pay benfits at certain experience level
- - gains to reinsrer based on actual experience of reinsurance
- - no event (insolvency/mgmt changes) can automatically terminate reins (may be terminated after certain level of earnings attained or warranty voided)
- - inforce reins cannot be unilateraly terminated by reinsurer - except for premium non-pmt
- - int paid/credited s/b reasonable w/r to invemenst mkts/assets involved
- - relevant significant risks s/b transferred to reins - including capital loss, disintermediation, and asset default risks (if relevant)
- - ceding co shoudl not be forced to pay back losses except for voluntary termination
- regulators object to Vx credits or receivable credits wehre risk transferred is disproportionate to reserve credit
Security Considerations
- "cashless" reins transactions under criticism
- led to use of trusts, escrow accounts and letters of credit
- also helps protect assets, preserve Vx credits, minimizes currency fluctuations and protects other party in insolvency
- Trusts and Escrow Accounts
- trusts used to secure amounts owed from co that secureds trust to co that is benef
- equitable title to the assets is in the trustee
- commoonly used to segregate assets related to Vx of an inforce block
- most common as alternative to funds withheld trx
- escrow accounts earmark assets w/o actually transferring ownership
- typically used to support funds withheld trx
- if certain stipulated events happen, assets held in escrow are transferred
- possible events include
- surplus dropping below agreed upon level
- change in mgmt
- financial performance of reins below expected levels
- if used to secure reserve credits, Trusts subject to Model Law on Credit for Reins
- Advantages
- - assets separate and identifiable
- - investment income can be limited to performance of specific assets
- - ceding co can still take Vx credit if reinsurer not admitted
- - if recaptured, assets of trust/escrow can be used to effect payment, reducing dispute over mkt values
- - trust is true transfer of ownership -> less suspect to IRS and state regulators
- - on default, benef has right to w/d assets as a secured creditor
- Disadvantages
- - creates additional expense
- - can result in restriction on investment mgmt
- - transfer of assets to trust may necessitate recognition of cap g/l for tax purposes or current mkt values for stat stmt purposes (agreement should state which party takes the cap g/l)
- - if trust, company giving up assets will see reduction in magnitude of assets it reports
- - if an asset transfer reversal occurs, depreciation in mkt values could create surplus straing
- Letters of Credit
- most states will allow Vx credits from non-admitted reinsurer if reinsurer provides a letter of credit for the amt of the reserves
- requires very little admin
- disadvantage (from Reins view) - ceding co and draw down on a letter of credit w/o warning
Copyright © 2004 Steve Welander.
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