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AG 38 Adopted: Check Your Life Reserves in the Rearview Mirror

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The National Association of Insurance Commissioners (NAIC) adopted revisions to a controversially applied actuarial guideline that governs reserves for universal life products with secondary guarantees after almost a year of intense debate among regulators on all levels and the industry.

Some government actuaries from states like New York and South Carolina had raised concerns about adequate reserving for these newer product designs and if some companies were slipping through the old guideline’s loopholes and not reserving enough.

Actuarial Guideline 38 (AG 38), as revised, provides examples of various policy features that constitute “guarantees” and gives directions and guidance on how to reserve for these guarantees but it is not prescriptive in its nature and it allows companies to use their best judgment, weighing payment patterns which keep the policy in force over the lifetime.

For example, for certain policies, companies must “perform a good faith high-level analytical review of the product design with respect to the premium payment patterns to be expected with respect to that design.”

The new revisions allow a company to report in its financial statements the greater of the PBR (principles-based reserving) stochastic reserve or the company’s current reserving methodology.

“ALIA [Affordable Life Insurance Alliance] is pleased that the NAIC has adopted the most recent changes to Actuarial Guideline 38. This most recent controversy regarding the interpretation of the Guideline illustrates yet again the need for a modern valuation system utilizing a principle based approach,” stated Alia Executive Director Scott Harrison.

The American Council of Life Insurers also supported the final measure:”We believe that the changes are a carefully crafted approach to ensuring proper reserves for universal life insurance with secondary guarantees. We commend the regulators, actuaries, and consultants for their time, effort, and consideration of these issues,” it stated today.

The revisions continue to apply the current formulaic approach, with new parameters set out in new sections, until the valuation manual becomes operative and PBR principles apply.

Affected policies issued on or after July 1, 2005 and in force until Dec. 31, 2012, are subject to certain reserving requirements that may require revising reserves for some companies to higher reserve thresholds, and any exemption must be cleared with the state of domicile with a copy to the NAIC’s Financial Analysis Working Group (FAWG). If the FAWG does not conclude that the exemption would allow the company to use a reserving methodology that is not appropriate in relation to the benefits and the pattern of premiums for the plans covered, and the state of domicile agrees with the exemption request, there would be an exemption allowed.

The revised reserving guideline goes on to say that the review should consider whether there are situations whereby the product design is likely to elicit a pattern of premium payments that, if paid, would provide the insured with access to lower charges and/or higher credits … thereby resulting in the need for a deficiency reserve significantly in excess of the one determined using the schedules of minimum gross premiums determined in pursuant to the premium payment patterns required to be tested under a section of the guideline.

The company then must use such other premium payment patterns it determines are likely to result in the need for a greater deficiency reserve than implied by the standard premium payment patterns.

“Obviously, new policy designs will emerge subsequent to the development of this document. No statute, regulation, or guideline can anticipate every future product design, and common sense and professional responsibility are needed to assure compliance with both the letter and the spirit of the law,” stated the revised guideline, adopted last week by the Life Insurance and Annuities Committee and Financial Condition Committees.

These two committees had formed a joint working group and lifted the debate from the life actuarial task force (LATF) to a commissioner level discussion, employing an outside consultant. Work being done by the NAIC on resolving the thorny Actuarial Guideline 38 for universal life products with secondary guarantees (USLG) focused split reserving methodologies for business written before or after Jan 1, 2013. 

Some state regulator parties were still concerned this summer about capturing the right reserve levels, and those that may have to cough up more reserves for prior years are worried about the impact on their financial statements.

One person was concerned that the NAIC might be creating some new regulatory body of actuaries who would make the rounds from company to company, state to state, and either approve or disapprove their reserving methodologies.

On a conference call earlier this summer hosted by the NAIC’s Joint Working Group of the Life Insurance and Annuities (A) Committee and Financial Condition (E) Committee and its hired consultant, Neil K. Rector, a variety of concerns were aired about proposed reserving methods either causing reserves to go up or not being stringent enough. The Joint Working Group was charged with working expeditiously to possibly develop interim guidelines and/or tools to be utilized by regulators in evaluating reserves for USLGs and Term Universal Life (UL) products.

The Joint Working Group emphasis is now on using a stochastic reserve methodology for in-force business if it is greater than the reserving methodology currently used by the company

“While the Model 830 is a complex regulation, its intent is clear: reserves need to be established for the guarantees provided by a policy. Policy designs which are created to simply disguise those guarantees or exploit a perceived loophole must be reserved in a manner similar to more typical designs with similar guarantees,” the new revision by the committees states.

The lead state commissioners took a bifurcated approach, separating new business from in force business so revising actual reserves would not be as dramatic as some companies had feared.

“These revisions represent a resolution that ensures adequate reserves to protect consumers while maintaining a level playing field and competitive markets for companies issuing these products,” stated Kevin McCarty in a statement.

The insurance regulatory consultant, Neil Rector of Rector + Associates Inc., Columbus, Ohio, was busy this year hammering out some of the fine points after canvassing the industry for input and information on the issue. At one point, Rector noted concern about the level interest rate scenario and that there is a need to make sure companies’ existing assets are taken into account. In most scenarios, he had explained, those with assets above or below the line aren’t reflected in that one-interest-rate economic approach.