Life actuaries are responding to an IRS Notice requesting input on a proposed principles-based reserving system currently under development and a proposed actuarial guideline–VA-CARVM–that establishes reserving guidelines for variable annuities with guarantees.

In response to Notice 2008-18, the American Academy of Actuaries offered insight in a May 5 letter by Dave Sandberg, a life actuary who is chairing the AAA’s life tax steering group.

In an interview with National Underwriter, Sandberg said the letter is part of a dialogue and seeks to inform Treasury about technical details of the project.

One of the points the Washington-based Academy is trying to establish is that reserves are designed to ensure that promised benefits can be funded and that capital is more about extreme events.

Those involved with developing PBR “have been living this for 3 years,” he continued, but for those who are not so involved, there needs to be an understanding that there are a lot of standards and requirements in place.

There also needs to be an understanding that PBR results are auditable, Sandberg explained. Documentation of how assumptions are reached makes the approach auditable, he added, and the assumptions can be verified.

The letter’s comments fall into 5 areas:

–Constraints on setting assumptions for PBR.

–Why a provision of uncertainty is included in PBR.

–A discussion of the gross premium valuation method.

–Determination of mortality assumptions.

–Auditing of PBR.

The AAA letter “recognizes that upon initial examination, it may appear that the actuary is given wide latitude in setting valuation assumptions used to determine reserves under principles-based reserves.”

But, the letter goes on to say there are prescribed assumptions that are used for risks such as the projected new money interest rates on future new investments in which a company has very little or no control over the outcome.

And, there are also stochastically modeled assumptions used for risks that fall within prescribed parameters as well as prudent estimate assumptions for risks where companies have some influence over the outcome of the risk factor.

The Academy letter says that “there is a requirement to provide full disclosure and documentation of the rationale and methods used to determine the prudent estimate assumption for each material risk.”

It also notes that the PBR approach has a “requirement for companies to submit their company experience data (e.g., mortality, lapse, etc.) to a centralized statistical agent to be used to develop frequently updated industry experience tables.”

The letter notes that there are elements of PBR currently in the proposal that require prudent best estimate assumptions “based on relevant, available and credible experience.”

On the issue of auditing, the letter states that “while PBR will create complexity, the selection of assumptions is not an unfettered process. Additionally, there are full documentation and disclosure requirements to enable validation of the assumptions and methodology by peer reviewers, outside auditors and state examiners.”