Life insurers and actuaries are raising concerns that a current version of a draft guideline establishing reserves for variable annuities with guarantees can no longer be considered consistent with the concept of a principles-based approach to reserving.

These concerns surfaced during a discussion of a draft of Actuarial Guideline VACARVM by the Life & Health Actuarial Task Force.

Principles-based reserving is an effort that is currently under way at the National Association of Insurance Commissioners, Kansas City, Mo. Its goal is to create a more dynamic, flexible approach to reserving that would ultimately replace formulaic reserving requirements.

In order to try to reach accord on how the guideline could address concerns by some regulators over the level of actuarial judgment allowed while retaining a principles-based approach as a guideline, a subgroup composed of regulators, the American Academy of Actuaries and the American Council of Life Insurers will work on the issue with a goal of creating a new draft.

Among the issues that concern actuaries, says Tom Campbell, chair of the variable reserve working group of the AAA and a life actuary with Hartford Life, Simsbury, Conn., are: contract holder behavioral issues; revenue sharing; the level of conservatism as expressed in CTE requirements; and a floor placed on options.

Under the current draft, according to a July 11 Hartford Life letter from Campbell, a good portion if not all of revenue sharing income would be eliminated. Revenue sharing, according to an AAA report, is an arrangement in which a mutual fund company that supplies the underlying mutual funds pays the insurer a fee for administrative and distribution services.

CTE is a risk measure. It is defined in the draft as the numerical average of the 25% largest values of the scenario’s greatest present values. Actuaries and insurers say by increasing that measure to a 75 CTE rather than a 65 CTE, an overly conservative risk measure would be created. Some regulators, however, disagree, maintaining that a 75 CTE would be more appropriate.

The option value method, which is raising concern, was added as another consideration companies would have to make if they used the standard scenario. It would reflect the value of options used in VA contracts.

Fred Anderson, a New York regulator, said actuarial judgment can be all right if it is tempered so there is a comfort level that several actuaries in the same position would reach a similar assumption.

But Mike Sparrow, a representative with Nationwide Financial, Columbus, Ohio, said that any assumption of contract holder behavior of guaranteed living benefits is substantial because of the lack of experience at this point.

“Since the adoption of RBC [risk-based capital] 14 months ago, we have diverged. We need to get this back to what it was. This is no longer a principles-based approach,” said John Bruins, a life actuary with the ACLI.

In an Aug. 2 letter, Bruins notes that because of changes made to the model, stochastic CTE modeling is no longer consistent with the NAIC’s C-3, Phase II capital requirements for variable annuities or the definition of principles-based reserving.

As currently drafted, he continues in the letter, the reserve standard will produce reserve levels that are greater than needed on a prudent best estimate basis and in some cases greater than C-3, Phase II RBC standards; produce volatile reserves; stifle new product design and features; and force companies to choose between hedging equity guarantees on a reasonable economic basis or hedging the excessive volatility of reserves.