22 - Contract Design (Discontinuance part) + Rayno's

Question 1

Principles underlying the determination of the benefits payable on discontinuance or transfer of rights:

Answer 1

The amount offered on discontinuance should be fair to:
o The policyholder or scheme member
o Other policyholders and scheme members
o The provider of the benefits.

Question 2

Setting discontinuance terms for insurance contracts, the insurer should consider:

Answer 2

• Which contracts to offer discontinuance terms on
• Form of the benefits being offered
• How it goes about setting the discontinuance terms
• Practical considerations related to discontinuance

Question 3

Which contracts discontinuance terms are offered on may depend on:

Answer 3

• Market practice
• Regulatory requirements
• Likelihood of selective withdrawals
• Difficulty of assessing suitable terms
  eg. lump sum on discontinuance of an immediate annuity runs risk of paying an excessive lump sum based on an overly optimistic view of p/h expected lifetime

Question 4

The administration and costs of determining and implementing discontinuance terms include:

Answer 4

• Cost of determining a calculation BASIS
• COMPUTER systems development and maintenance costs
• Costs of employing and TRAINING staff to deal with discontinuance quotations and subsequent queries / complaints
• MARKETING literature costs
• Losses incurred due to providing OVERLY GENEROUS discontinuance terms or due to errors in calculations
• Cost of REVIEWING the discontinuance terms.

Question 5

In the context of life insurance, what forms can discontinuance take?

Answer 5

• Surrender: Policy stops, no further cover, p/h receives lump sum from insurer
• Lapse: Policy stops, no further cover, no payment made to p/h
• Paid-up: Premium payment ceases, but a level of cover is still provided; benefits may be reduced to reflect that there are no more premiums paid

**Discontinuance terms calculations are guaranteed as part of the contract in some instances

Question 6

Key principles and factors to consider in determining discontinuance terms for life insurance contracts are:

Answer 6

• What the policy is ‘WORTH’
• Policyholder EXPECTATIONS
• COMPETITIVE considerations.

Question 7

Policyholder expectations -: Discontinuance at short duration

Answer 7

• Policyholder compare the lump-sum discontinuance benefit with the premiums paid, or even premiums plus some interest
• Significant initial expenses make the lump-sum smaller than premiums paid or even negative eg. U/W, commissions, policy admin.
• To cope with the expectation, insurer might penalise late surrender benefits to pay early surrenders

Question 8

Policyholder expectations -: Discontinuance close to maturity

Answer 8

• Policyholder expects the lump sum payable on discontinuance just prior to maturity to be consistent with the maturity benefit
• The lump sum should progress smoothly into the maturity value at the end of the contract

Question 9

Practical considerations related to discontinuance:

Answer 9

Ease of calculation: Actuary must balance need for simplicity with the requirement for fairness of discontinuance terms

Frequency of change: Discontinuance terms should not be changed too frequently to reduce:

• Risk of not meeting p/h expectations
• Costs of determining and implementing new terms.

Question 10

Benefits offered on discontinuance – general insurance contracts:

Answer 10

• GI contracts usually last for 1 year
• If the p/h pays an annual premium and wishes to discontinue the policy 6 months after, the insurer may pay out a lump sum discontinuance payment
• The payment will reflect premiums for outstanding cover less admin fee

Question 11

When setting discontinuance terms for BENEFIT SCHEMES, it will be necessary to consider:

Answer 11

• Form of the benefits being offered
• How discontinuance terms might be set
• How the funding level of the scheme might affect the discontinuance terms offered eg. 95% funding level pays out 95% value of warranted benefits OR transfer of benefits can be deferred

Question 12

Discontinuance terms for individuals in BENEFIT SCHEMES :- Form of the benefits being offered

Answer 12

• For DC schemes, discontinuance benefits will reflect the member’s account on the date of withdrawal
• For DB schemes, discontinuance benefits is based on the number of years’ service & salary at the date of withdrawal
• Member moving from active to deferred status usually have options to:
  o Retain full discontinuance benefits within the scheme
  o Transfer value of benefits out of the scheme into a different arrangement

Question 13

Fairness consideration when setting discontinuance terms in benefit schemes:

Answer 13

• If the discontinuance benefits are to be transferred to another provider, the benefits need to be valued
• The value needs to be equitable between members who leave the scheme and members who stay in the scheme
• Transfer pmt should equal expected cost of providing benefits within the original scheme