The Internal Revenue Service has issued advice about applying new variable annuity reserve valuation methods without coming to any conclusions about principles-based reserves for life insurance.
In the notice, IRS officials provide highly technical interim guidance for issuers of variable annuity contracts.
The notice covers the problems that could arise when insurers come up with life insurance reserve totals for federal income tax purposes.
Section 807 and Section 816 of the Internal Revenue Code let life insurers deduct investment earnings on required reserves from taxable income, but they put limits on the amount of reserves that can count as life insurance reserves.
When the National Association of Insurance Commissioners, Kansas City, Mo., adopted Annuity Guideline XLIII, Commissioners’ Annuity Reserve Valuation Methodology for Variable Annuities, and made it effective starting Dec. 31, 2009, it changed state VA reserve requirements.
The IRS began to grapple with how it might respond to A.G. 43 in February 2008, in IRS Notice 2008-18.
“The purpose of A.G. 43 is to interpret the standards for the valuation of reserves for variable annuity and other contracts involving certain guaranteed benefits similar to those offered with variable annuities,” IRS officials write. “Generally, A.G. 43 requires that the aggregate reserve for contracts falling within its scope equal” and amount that is enough to handle severe emergencies or “Conditional Tail Expectation” conditions, and is not less than the “Standard Scenario Amount,” or the amount of reserves needed to handle very severe conditions.
The IRS has decided that, for purposes of applying the statutory reserve cap) for taxable years ending on or after Dec. 31, 2009, the term “statutory reserves”" includes the A.G. 43 “Standard Scenario Amount,” officials write.
“Thus, officials write, “a reserve will not be excluded from statutory reserves … solely because the reserve represents the Standard Scenario Amount determined under A.G. 43, provided” that other requirements are met, officials write.
Officials also provide a method for calculating the “federally prescribed reserve” that is tied to the Standard Scenario Amount rather than the Conditional Tail Expectation Amount.
“The Standard Scenario Amount determined under A.G. 43 will be treated as a life insurance reserve for Federal income tax purposes if the requirements of that guideline, including the account value return assumptions, are met,” officials conclude.
If the IRS decides to change methods, it will apply the new methods only to future actions and will not punish insurers retroactively, officials write.
“No inference should be drawn from this notice regarding any federal tax issues that arise under any actuarial guideline other than A.G. 43 or that could arise under Life PBR,” officials write. “In addition, this notice is not intended to address any other federal tax issues implicated in the adoption of A.G. 43 by the NAIC.”
The American Council of Life Insurers, Washington, is still analyzing the ruling, but Steven Brostoff, an ACLI spokesman, says the group is glad that the IRS and its parent, the U.S. Treasury Department, has released the guidance.
“It addresses some basic questions, and that will be helpful to life insurance companies,” Brostoff says in a statement. “We look forward to the release of further guidance on the issues left open in Notice 2010-29, and we offer our assistance on those and other issues.”