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AG 38 Comment Letters: Let PBR Fly, Be Careful of Tax Issues

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Life insurance companies embraced the bifurcated approach between new business and in-force business taken by the Commissioner-level actuarial standards review group for interpreting and applying Actuarial Guideline 38, and asked the group to consider applying principles-based reserving (PBR) methods retroactively, once they are effective for new business.

But insurers are also worrying about federal tax issues associated with retroactive application of PBR, which, although they might be complex, are expected to have limited adverse impact, according to insurers. However, state laws need to be considered.

Life insurers do assert that state laws that wouldn’t appear to prohibit the use of PBR on previously issued policies, as long as it is with the commissioner’s approval, key insurers told the NAIC.

“It should be noted that retroactive application of any new reserve law will raise certain tax issues. However, given the expected limited duration over which this retroactive application would occur, any adverse tax issues generally are expected to be limited,” said the American Council of Life Insurers in a letter Monday to a top regulator.

However, asset adequacy tests of in-force business using the strict version of AG 38 now may lead to some companies need to increase reserves this year, some say and additional reserves set up pursuant to that analysis are generally not tax deductible. Treasury is said to be looking at the issue, along with the Internal Revenues Service, but the IRS never returned a query when it was first raised.

In letters to Texas Insurance Commissioner Eleanor Kitzman, chair of the NAIC’s Joint (A) & (E) Working Group regarding her Draft Framework on AG 38, life insurers also applauded the idea proposed in the framework to hire independent consulting actuaries outside the ranks of the NAIC or state insurance departments and hoped to help pick them.

Most life insurers seem to be all on the same page as far as ditching formulaic solutions wherever they are found for modern life insurance products, and applying PBR with domestic commissioner approval, on applicable business, including traditional level premium term insurance, issued during the upcoming interim period, before PBR is officially adopted and passed.

The ACLI and the Affordable Life Insurance Alliance, (ALIA) who both weighted in, are the chief trade groups representing a broad swathe of the industry. ALIA has been representing companies on issues involving AG 38 since 2005; the ACLI letter was signed by top executives at Pacific Life Insurance Co. and John Hancock Financial Services/ManuLife.

The executives told Kitzman that the days if a formulaic approach to reserving are over, and it is futile to try and find one, begrudging the one that is employed now. The ACLI did call the NAIC’s life insurance actuarial group’s work on it “the new formulaic reserve standard,” and clearly doesn’t embrace it as it does PBR.

“As we have stated before, after more than one year of trying, we have been unable to identify an effective formulaic solution that works for the broad range of products available in the marketplace,” the ACLI letter stated.

The ACLI did say that one of the key decisions the Working Group has to make is a cut-off date for in force business vs. new business. The ACLI requested a push forward on the cut-off date “given the need for companies to redesign products that take into account the new formulaic reserve standard, we request that the cut-off date be no sooner than six months after the adoption of the new standard by the NAIC,” the ACLI wrote.

The ACLI also encouraged the NAIC, with its input, to select consultants with detailed knowledge of the variety of products covered by AG 38.

It also said it strongly believes that the appointed actuary doing the asset adequacy test should be the person required to perform the analysis and that the analysis “ could then be reviewed by a qualified actuary under a process approved by the Joint Working Group designed to give regulators assurance that it was performed appropriately.”

The recent round of issues over AG 38 arose after some companies felt they weren’t on the same playing field due to various interpretations of reserving under AG 38 that led some companies to hold fewer reserves for certain term life and universal life with secondary guaranty products (USLG).

The framework developed under Kitzman is meant to create a level playing field for ULSG policies issued after the cutoff date by establishing a uniform interpretation of AG 38 for new business; have PBR establish the reserves for ULSG products once it becomes effective, or, retroactively, as the ACLI said it would like to see.

In addition to concern for in-force business, companies want the NAIC  eliminate any ambiguities and confusion in reserve requirements prior to products being developed.

Kitzman’s department did not return queries for comment or more statements from interested parties, which are usually posed on the NAIC website. More are expected to be shared.

“We cannot emphasize enough the importance of conducting an open process that provides the opportunity for all stakeholders to participate and have their point of view taken into account in the development of the final product,” ALIA’s letter stated.