CH 9 - 10 (Profit Distribution) Flashcards
Ways of Distributing Surplus
- Additions to Benefits
- Immediate cash refund
- Reducing future premiums
Types of Additions to Benefits Bonuses
- CONVENTIONAL
- Reversionary (during term - attaching to basic benefits)
> Regular
» Simple (% of basic benefit)
» Compound (% of basic benefit + past attached bonuses)
» Super-compound (two %s: % of basic benefit + % past attached bonuses)
> Special
- Terminal (at claim date)
= balancing figure between asset share and benefits already guaranteed
» % of attaching bonus only
» % of basic benefit and attaching bonus
- ACCUMULATING
- Unitised
(bonuses paid by increasing unit price or increasing number of units)
- Non-unitised
(like conventional WP except with explicit relationship between premium and bonuses)
Key Decisions on Distribution
- How much can be distributed
- Proportion split between shareholders and policyholders
- Split between different policyholder groups
GOAL:
1. Meeting PRE
2. Meeting shareholder requirements
3. Manage capital efficiency + control solvency risk
4. Control marketing risk
Considerations when Distributing
PEALICES
- Policyholder reasonable expectations
- Equity between different policyholder groups and shareholders
(incl. different generations, categories) - Asset shares
- Legislation/regulation
- no Interference with new business plans, investment strategy or solvency
- Company rules and strategy/surplus goals
- Established Practice
(history + competitors) - Structural limitations
(guarantees + bonus method limitations) - SIDES comparison
Pros and Cons of Profit Deferral
Appeal to Company:
- Reduce insolvency risk
- Increase investment freedom and potential returns
- Can support new business
- Manage policyholder expectations
Unappealing to policyholders:
- Uncertainty involved
- Marketing risk
Definitions of Market Value Adjustment (/Reduction)
-An adjustment made to the benefit payable…
-under an accumulating WP structure,
-to prevent the smoothing mechanism of the bonuses from out-pacing the actual asset share,
-leaving the company vulnerable to selective switches and surrenders
Sources of Distributional Surplus
- Investment surplus
- Mortality surplus
- Expense surplus
Conventional vs Accumulating WP
Conventional:
> Expressed in “death” or “maturity” value
> No obvious relationship between stated benefit and PV of policy
(doesn’t directly reflect premium contributions to date)
Accumulating:
> Expressed in “current value” (premiums plus related bonuses)
> Looks more like a deposit account
(with profits account starts at zero and is broadly increased by premiums paid and bonuses)
> Reduced guarantees than conventional
(because bonuses are declared on current benefit instead of sum assured; may be guaranteed min rate of accumulations though)
> Terminal bonuses may be added
Types of Charging on Unitised
- Policy charge or fee
- % Allocation during initial period
- Bid-offer spread
- Charge for risk benefits
- Annual management charge
- Implicitly through bonus rate reduction
Revalorisation Method
- Bonuses granted by increasing reserves, benefits and premiums by %
> Often option of constant premium policies (reserves increase by r%, benefits increase by s% and premiums don’t change [s<=r] ) - Typically divide surplus into “savings” and “insurance” profits
- Higher proportion of savings profits given to policyholders (insurance profit more to shareholders)
Contribution Method Dividends
- Each policy receives share of distributable surplus proportional to contribution
Methods:
1. Paid-out cash sum
2. Converted to addition to benefit
3. Used to reduce future premiums
… terminal dividend may be given
Advantages of Revalorisation
SCOPS
- Simple to apply
- relatively Cheap to administer
- more Objective approach to distribution
(little Judgement required) - policyholder Protection from ungenerous insurers
- Smooth emergence of investment profit is usually achieved
Disadvantages of Revalorisation
MEI DUDE
- without insurance profit being shared to policyholders, goes against principle of Mutuality
- method tends to discourage Equity investment
(1. Insolvency implications of insurer absorbing the losses and lack of Deferral
2. issues around Unrealised gains being distributed) - company has no Discretion in profit distribution
(besides spreading one-offs) - not easy to Explain to the policyholders with “constant premium” policies who see limited additions to guaranteed benefits early in policy term
Reasons for Retaining Surplus
- Retained for shareholders
- Held against adverse contingencies
- For future distribution as terminal dividends
Points of Comparison between Methods
SIDES
- Smoothing
- Investment Freedom
- Discretion/Flexibility (+risks)
- Equity
- Simplicity