Chapter 9 Flashcards
Why are surpluses expected to arise under with-profits business?
- Premiums are based on conservative assumptions, so company only has to achieve very modest experience to meet guaranteed benefits
- In return for high premiums, PHs expect share of profits earned
What are the main techniques used to distribute profits?
- Cash bonus
- Benefit increase
- Premium reduction
What are the key decisions for the IC wrt distributing profits?
- How much surplus it can afford to distribute
- How it will split surplus between SHs and PHs - might be controlled by legislation, company’s own rules or by established practice
- How it will split surplus between different groups of PHs
- How/when surplus will be distributed
What is a LIC main component of profit?
Excess of investment return on premiums paid over and above the guaranteed return
What are the other sources of profit for a LIC?
Mortality/Expense/Withdrawal experience being better than expected
Why is it desirable for the insurer to defer distribution of surplus?
- Reduces insolvency risk
- Increases investment freedom
- Increases potential returns
When is the most deferral of surpluses achieved?
When terminal benefit distribution is paid
What are the consequences of terminal benefit distribution?
- PHs may not like uncertainty involved with terminal distributions - deferral can be unpopular leading to market risk
- This leads to smoothing terminal profit distribution over time relative to actual profits
For which type of PH would cash bonuses be relevant?
PH who is asset rich and income deficient and for whom a single premium structure would be suitable
Regular premium policies with cash bonuses may be a better structure for …
meeting guaranteed monetary liabilities at minimum cost
When is the additions to benefits approach an appropriate method for profit distribution?
For a regular premium savings vehicle with a lump sum benefit.
What are the different additions to benefits approaches?
- Conventional:
- Reversionary: regular and special
- Terminal
- Accumulating WPs
- Unitised
- Non-unitised
How can regular reversionary bonuses be declared?
- Simple - % of the basic benefit
- Compound - % of basic benefit and attaching bonuses
- Super-compound- defined in terms of 2 percentages
- One % applied to the basic benefit
- Another % applied to the attaching bonuses declared to date (usually higher than the first)
What makes the super-compound bonus distribution method attractive?
- It defers the distribution of surplus more than compound and simple approaches
- It requires the lowest SA of the three methods which makes it capital efficient since lower reserves are required
True or False? Bonus rates can be set up to give same total bonus over policy term.
TRUE.
What is a special reversionary bonus?
One-off addition to any regular reversionary bonus without creating an expectation that similar increase will be granted in future
True or False? The amount of a terminal bonus is guaranteed.
FALSE.
How can the terminal bonus be expressed?
- % of attaching bonus only
- % of basic benefit and the attaching bonuses
The % may vary by DIF and term of the contract.
Terminal bonus defers distribution of surplus, which helps to make this kind of WPs products …
less risky for the insurer.
- Only determined when the insured event occurs, capital efficient
For which sources of surplus is terminal profit distribution appropriate?
Volatile sources of surplus, e.g. capital gains on equities
How does terminal bonuses bring policy benefits in line with the AS?
We set the terminal bonus equal to the difference between the AS and benefits guaranteed at maturity date.
The more terminal bonus payable …
The greater investment freedom and lower investment risk:
* Should enable company to invest in riskier assets and achieve better return for PHs
* Conflict: Higher terminal bonus proportion has effect of passing more investment risk to PHs, by making less benefits guaranteed
What is the effect of bonus distribution smoothing on PHs?
Provides with-profits PHs with protection from ST fluctuations in returns, which would have been experienced if invested directly in investment markets.
What is the bonus earnings capacity of a block of contracts?
The rate of bonus that those contracts can sustain over their future lifetime, on the basis of a set of assumptions with regard to future experience
