Odomirok Flashcards

Question 1

Q

What is the mission of the U.S. SEC?

Answer

A

The mission of the U.S. Securities and Exchange Commission is to protect investors, maintain fair, orderly and efficient markets, and facilitate capital formation

Odomirok 1 pg 9

Question 2

Q

Why/when is it important for an actuary to understand Accounting principles?

Answer

A

Working with regulators to monitor the financial health of insurance companies
Pricing and designing insurance products, including development of profit margins
Determining capital requirements to support the various risks of an insurer
Evaluating risk transfer of reinsurance contracts
Assessing reserve adequacy for non-insurance entities, such as organizations that self-insure or retain a portion of their property/casualty insurance exposures
Preparing tax returns
Appraising and valuing insurance companies in merger and acquisitions

Odomirok 2 pg 12

Question 3

Q

What are the 5 primary financial statements?

Answer

A

Balance Sheet
Income Statement
Capital and Surplus
Cash Flow
Notes to Financial Statements

Odomirok 4 pg 19

Question 4

Q

What is the purpose of the balance sheet?

Answer

A

The balance sheet presents all of a company’s assets and liabilities as of a specific point in time

unique for insurance companies, inherent uncertainty unpaid claims liab.

Odomirok 4 pg 19

Question 5

Q

Define asset?

Answer

A

Resource obtained or controlled by a company as a result of past
events that has a probable future economic benefit to the company - Odomirok 4 pg 19
Assets can be broadly defined as a property, right or claim arising from past events that has future value - Odomirok 7 pg 25

Odimirok 4 pg 19

Question 6

Q

Define liability?

Answer

A

Probable sacrifice of economic benefits arising from present obligations of a company to transfer assets or provide services to other entities in the future as a result of past events - Odomirok 4 pg 19
A liability is an obligation that the company must fulfill, based on past events or transactions, which will require the use of the company’s resources. - Odomirok 7 pg 33

Odomirok 4 pg 19

Question 7

Q

Define statutory/policyholder surplus?

Answer

A

The difference between assets and liabilities, also known as net worth or equity in other companies

Admitted Assets = Liabilities + Surplus (Odomirok 7 pg 33)

Odomirok 4 pg 19

Question 8

Q

What is the purpose of the income statement?

Answer

A

The income statement reveals a company’s financial results during a specific time period.
(Revenues - inflows/enhancements of assets or settlement of liabilities)
(Expenses - outflows/other use of assets, or incurrence of liabilities)
(Difference between amount of revenues and expenses is referred to as net income if positive or net loss if negative)

Odomirok 4 pg 19

Question 9

Q

What is the purpose of the statement of capital and surplus?

Answer

A

Reflects certain changes in surplus that are not recorded in the income statement and reconciles the beginning surplus to the ending surplus for the reporting period

Odomirok 4 pg 20

Question 10

Q

What is the purpose of the cash flow statement?

Answer

A

This financial statement is necessary because the timing of the receipt or payment of cash for a revenue or expense does not necessarily coincide with the recognition of that revenue or expense from an income statement perspective. In other words, even if the cash payment is received sometime before or sometime after the good or service is provided, the associated revenue is generally recognized at the time the good or service is provided. The cash flow statement presents all operations strictly from a cash perspective.

Odomirok 4 pg 20

Question 11

Q

What is the purpose of notes to financial statements?

Answer

A

The notes include quantitative and qualitative disclosures regarding the significant accounts presented in the financial statements. This includes matters that are relevant or may be relevant to the users of the financial statements. For instance, the notes will typically describe the basis of accounting used in the preparation of the financial statements, as well as any important details on specific aspects of the financial statements that are based on estimates or subject to uncertainty

Odomirok 4 pg 21

Question 12

Q

Liquidation vs Going Concern

Accounting Concepts

Answer

A

Liquidation: View company as a run-off of current assets/liabilities. Interest to regulators who are primarily concerned with company’s ability to satisfy its obligations to policyholders
Going Concern: View company as an ongoing business. Interest to investors who are interested in the value of the business

Odomirok 5 pg 22

Question 13

Q

Fair Value vs Historical Cost

Accounting Concepts

Answer

A

Fair Value: Recording asset/liability for which it would be bought/sold on the open market. More accurate, but less reliable (consistent with market value)
Historical Cost: Recording asset at original price minus depreciation. More reliable and easy to obtain (objectively verifiable)

Odomirok 5 pg 22

Question 14

Q

Principle-Based vs Rule-Based

Accounting Concepts

Answer

A

Principle: general accounting approcach that must be interpreted and applied (more flexible, but harder to audit)
Rule: specific accounting guidance on how something should be done (less flexible, but easier to understand and audit)

Odomirok 5 pg 22

Question 15

Q

NAIC and SAP relationship

Answer

A

The National Association of Insurance Commissioners (NAIC) operates through various committees that comprise state insurance commissioners and their staff. Through these committees, the NAIC regularly updates SAP and creates model insurance laws and regulations that individual states may elect (or be required) to adopt. While this generally leads to a good deal of uniformity in insurance regulation, there are still instances of differences between states. For example, individual states have the ability to permit accounting practices that differ from NAIC SAP (“permitted practices”) and model laws and regulations are not always enacted by all states exactly as adopted by the NAIC.
It is worth noting that the NAIC may revise the Annual Statement each year, and these changes are described on the NAIC website. The basis of the examples and exhibits provided in this section of the publication are based in part on the structure and information provided in the 2011 industry Annual Statement, with specified updates based on the 2018 Annual Statement as noted in Foreword of this publication.

Odomirok 6 pg 24

Question 16

Q

Why is solvency/balance sheet relevant to an actuary? (2)

Answer

A

Actuaries traditionally have responsibility for the Loss and LAE reserves, which represent majority of liabilities for P&C companies
Actuaries often have a role in determining/assessing the amount of capital that an insurance company requires to support the risks that it has taken through its business operations (based on Risk Based Capital)

Odomirok 7 pg 25

Question 17

Q

Two broad distinctions statutory blance sheet makes regarding assets.

Answer

A

Cash and invested assets vs. non-invested assets: Identifies the proportion of an insurer’s assets that is readily convertible to cash, the former being liquid, the latter being less liquid.
Admitted vs. Nonadmitted assets: Nonadmitted assets are not recognized by state insurance departments in evaluating the solvency of an insurance company for statutory accounting purposes, rationale being that they would not be readily convertible for use to meet an insurer’s liabilities now or in the future

Odomirok 7 pg 27

Question 18

Q

How are NAIC 1-6 bonds recorded?

Answer

A

1-2 (Highest Designations): Amortized Cost
3-6 (Medium or Worse): Lower of Amortized Cost or Fair Value

Odomirok 7 pg 28

Question 19

Q

What is a Bond?

Answer

A

Bonds are securities that pay one or more future interest payments according to a fixed schedule. The face value of a bond refers to the amount that is to be paid in the final single payment at the maturity of a bond. When an insurance company purchases a bond, the current value of that bond is recorded as the actual cost, including brokerage and other fees. This purchase price may be more or less than the face value of the bond.

To the extent that the purchase price is higher (or lower) than the face value of the bond, a bond premium (or discount) is recorded as a part of the recorded amount. Over the life of the bond, that bond premium or bond discount will be amortized according to a constant yield approach. The reason for this amortization is that when the bond ultimately matures, the amortized value will be equal to the face value, eliminating a lump sum gain or loss at the maturity of the bond.

a bond is a security (or investment product) that makes pre-determined interest payments (or coupon payments) according to a fixed schedule (battleacts)

Odomirok 7 pg 28

Question 20

Q

Classes of Assets

Answer

A

Bonds, Stocks, Real Estate, Cash/Cash Equivalents/Short-Term Investements, Uncollected and Deferred Premiums/Agents’ Balances, Amounts recoverable from reinsurers, Net Deferred Tax Assets

Odomirok 7 pg 28

Question 21

Q

Classes of Real Estate

Answer

A

Properties occupied by the company
Properties held for the production of income
Properties held for sale

If company and affiliates occupy less than 50% of property, must be classified as one of other two categories.

First two categories held at depreciated cost, others held at lower of depreciated cost or fair value less encumberances/estimated costs

Odomirok 7 pg 30

Question 22

Q

Define Agents’ Balances

Answer

A

Balances due from policies sold by insurance agents, as intermediaries between the insurance company and the policy holder

(side note, premiums >90 days past due from agent/policyholder are considered nonadmitted, may be written off because likely to not be collected)

Odomirok 7 pg 30

Question 23

Q

What is a Deferred Tax Asset? What are its sources? (relevant to an actuary)

Answer

A

Deferred tax assets (DTAs) represent expected future tax benefits related to amounts previously recorded in the statutory financial statements and not expected to be reflected in the tax return as of the reporting date. They are referred to as “net” DTAs because they are recorded net of any deferred tax liabilities (DTLs) that exist. Two common sources of DTAs relevant to the actuary are the following:
* The difference in tax accounting and statutory accounting for loss reserves
* The carryforward of net operating losses from previous years

A DTA represents expected future tax benefits related to amounts previously recorded in the statutory financial statements not expected to be reflected in the tax return as of the reporting date (Battleacts)

Odomirok 7 pg 31

Question 24

Q

Classes of Liabilities/Surplus

Answer

A

Loss/LAE, Reinsurance Payable, Other Expenses (LAE and Underwriting/Investment [Commission/Brokerage, Tax/License/Fees, General/Administrative Expenses, Investment Expenses]), Unearned Premium, Ceded Reinsurance Premium Payable, Funds Held Under Reinsurance Treaties, Provision for Reinsurance (Uncollectible Reinsurance3 Recoverable), Common Capital Stock, Gross Paid In and Contributed Surplus, Unassigned Funds

Question 25

Q

How are bonds classified under GAAP? How are they recorded?

Answer

A

Available-For-Sale (AFS): Acquired with intent to hold for > 1 year but sell before maturity; fair value
Held-To-Maturity (HTM): Acquired with intent to hold until maturity; amortized cost
Helf-For-Trading (HFT): Acquired with intent to hold only for hours or days; fair value

Odomirok 22/23 (Battleacts Odomirok 7)

Question 26

Q

Why is expense accounting relevant to an actuary?

Answer

A

Overall company expenses directly affect pricing of its insurance products (affecting competitiveness and/or profitability)
If relative allocation of expenses across functions/products is not accurate, it may lead to subsidies between products that can skew the true profitability of those products

Odomirok 8 pg 44

Question 27

Q

Identify 3 important differences between SAP and GAAP

Answer

A

Asset recognition: SAP - Asset is recognized when expense is incurred; GAAP - May defer recognition to achieve matching of revenue & expenses (as with DAC)
Reinsurance in loss reserves: SAP - loss reserves are recorded NET of reinsurance; GAAP - loss reserves are recorded GROSS of reinsurance
Taxes: SAP - taxes (mostly) not deferred; GAAP - tax can be deferred

Battleacts Odomirok 8/9, references Odomirok 22/23

Question 28

Q

Formula for UW Income (Income Statement)

Answer

A

EP - Current AY Losses - Change in Past AY Losses - LAE - Other Exp

Battleacts Odomirok 8/9

Question 29

Q

Formula for Investment Income (Income Statement)

Answer

A

Net Investment Income Earned + Net Realized Capital Gains

[Net Investment Income Earned = Revenue - Expenses - Non-Federal TLF]

Battleacts Odomirok 8/9

Question 30

Q

Formula for Other Income (Income Statement)

Answer

A

Agents’ Balances Charged Off + Service Fees + Aggregate Write-Ins

Battleacts Odomirok 8/9

Question 31

Q

Formula for EP (in terms of WP and UEP)

Answer

A

EP = WP - change(UEP)

Battleacts Odomirok 8/9

Question 32

Q

Formula for Statutory Net Income

Answer

A

UW Income + NI Income + Other Income - Dividends to Policyholders - Fed/Foreign Taxes Incurred

Battleacts Odomirok 8/9

Question 33

Q

Formula for Surplus

Answer

A

Previous Year Surplus + Net Income + Direct Changes to Surplus

Battleacts Odomirok 8/9

Question 34

Q

What are Direct Charges to Surplus? (3)

Answer

A

Other Surplus Changes:
* Changes in Unrealized Capital Gains
* Changes in Unrealized Foreign Exchange
* Changes in Deferred Income Tax
* Cumulative Effect of Changes in Accounting Principles
* (-) Changes in Nonadmitted Assets
* (-) Changes in Provision for Reinsurance
Additional Capital Contributions:
* Change in Surplus Notes
* Change in Gross Paid-In & Contributed Surplus
(-) Stockholder Dividends

Battleacts Odomirok 8/9

Question 35

Q

When should the Premium Deficiency Reserve (PDR) be non-zero?

Answer

A

When the UEP reserve won’t cover the (expected) losses & expenses for the unexpired portion of the related policies

Battleacts Odomirok 8/9

Question 36

Q

In the Notes to the Financial Statement, which notes require direct involvement by Actuaries?

Answer

A

Change in incurred Loss & LAE
Asbestos and Environmental Reserves
Reinsurance
Discounting of Unpaid Loss & LAE
Premium Deficiency Reserve

Odomirok 10 pg 62

Question 37

Q

In the Notes to the Financial Statement, which other notes are relevant to Actuaries?

Answer

A

Summary of Significant Accounting Principles
High Deductibles
Interpooling Companies
Events Subsequent (Type 1, new development on old claim, Type 2, completely new claim)
Structured Settlements

Odomirok 10 pg 62

Question 38

Q

What is the purpose of the General Interogatories?

Answer

A

The purpose of the interogatories is to provide information on:
Controls (both internal and external)
Operations
Business Practices

Battleacts Odomirok 11

Question 39

Q

Some examples of items discussed in the General Interogatories include:

Answer

A

Regulatory Exams
Merger activity
Exemptions from regulations
Sales Commissions - whether they’re excessive just to acquire business
Suspension of licenses - if applicable

Battleacts Odomirok 11

Question 40

Q

List the Schedules present in the Annual Statement, as well as their purpose

Answer

A

A - Real Estate
B - Morgage Loans
BA - Other long-term invested assets
D - Stocks and Bonds
DA - Other Short-term investments
DB - Derivatives
DL - Securities Lending
E - Cash & Cash Equivalents
F - Reinsurance
P - Losses & LAE Reserves
T - Premium Writings by State
Y - Organizational Structure

Odomirok 13

Question 41

Q

What are the six parts of schedule F?

Answer

A

1 - Assumed Reinsurance (premiums, losses, commissions, collateral)
2 - Premium Portfolio reinsurance (orig and reinsurance premiums)
3 - Ceded Reinsurance (Provision for Rein./RBC)
4 - Issuing or Confirming Banks for Letters of Credit
5 - Interrogatories for Schedule F, part 3 (commisison rates, loss recoverables)
6 - Restatement of Balance Sheet

Odomirok 14

Question 42

Q

Identify the groups/categories used in Schedule F, part 1 (row labels)

Answer

A

Affiliated Insurers
* U.S. intercompany pooling
* U.S. non-pool
* other (non U.S.)

Other U.S. Unaffiliated Insurers
Pools & Associations
* mandatory pools
* voluntary pools

Other Non-U.S. Insurers

Odomirok 14

Question 43

Q

Describe part 1 of Schedule F

Answer

A

Provides the total assumed reinsurance balances by reinsured
Enables an understanding of the risks associated with reinsurance transactions as of the current year.

Odomirok 14

Question 44

Q

Describe part 2 of Schedule F

Answer

A

Provides a detailed listing of portfolio reinsurance transactions effected or canceled during the current year
(Portfolio insurance is the transfer of policies-in-force, or the transfer of liabilities remaining on a block of the insurer’s business)

Odomirok 14

Question 45

Q

Describe part 3 of Schedule F

Answer

A

The first 20 columns detail the ceded reinsurance balances
Columns 21 through 36 calculate credit risk charge on ceded reinsurance
Columns 37 through 53 provide the aging of ceded reinsurance
Columns 54 through 69 provide the calculation of the Provision for Reinsurance for Certified Reinsurance
Columns 70 through 78 provide the Total Provision for Reinsurance (authorized, unauthorized, total)

Odomirok 14

Question 46

Q

Describe part 4 of Schedule F

Answer

A

Provides a listing fo the issuing or confirming banks for letters of credit as collateral reported in Schedule F, Part 3, Column 22
Confirming banks are those that provide a guarantee on a letter of credit such that the confirming bank will pay if the original bank issuing the letter of credit does not)

Odomirok 14

Question 47

Q

Describe Part 5 of Schedule F

Answer

A

Has 2 tables with interogattories for Part 3

Odomirok 14

Question 48

Q

Describe Part 6 of Schedule F

Answer

A

Restates the balance sheet Gross of reinsurance

Odomirok 14

Question 49

Q

Define funds held under reinsurance contracts

Answer

A

A portion of premium due to the reinsurer that is witheld by the ceding company to pay claims (Liability for the insurer, asset for the reinsurer)

Odomirok 14

Question 50

Q

Define Letter of Credit

Answer

A

A line of credit issued by a bank in favor of a reinsurer if the reinsurer is unable to fulfill its obligations

Odomirok 14

Question 51

Q

Define Portfolio Insurance

Answer

A

The transfer of policies in force, or transfer of liabilities remaining on a block of an insurer’s business

Odomirok 14

Question 52

Q

Why would an insurer enter into portfolio reinsurance?

Answer

A

Discontinue a line of business
Remove risk of the liabilities
Surplus Relief (in the form of discounted premium)

Odomirok 14

Question 53

Q

Identify 3 reasons an insurer would cede a large portion of their business to a reinsurer, besides fronting

Answer

A

Discontinue a line of business
Intercompany Cessions to share risk across related companies
Cession to a regulated pool

Odomirok 14

Question 54

Q

Why is schedule F an important tool in monitoring solvency for users of the Annual Statement?

Answer

A

Identifies gross Assumed Losses
Identifies Slow-Paying (Authorized) reinsurers for futhur scrutinty
Measures Significance of reinsurance against surplus
Provides Financial Strength information of reinsureds and reinsurers

Odomirok 14

Question 55

Q

What is the purpose of Schedule F Special Codes? What are they?

Answer

A

They Identify relationships of heightened importance to regulators

Special Code 2 Cessions of 75% or more of subject premium (indicator of fronting to avoid regulatory scrutinty)
Special Code 3 Counterparty Reporting Exception for Asbestos and Pollution Contracts
Special Code 4 IBNR Losses on Contracts in force prior to July 1, 1984 Exempt from: Statutory Provision for Unauthorized Reinsurance

Odomirok 14

Question 56

Q

What is a Reinsurance Provision?

Answer

A

a minimum reserve (calculated under SAP) that reflects estimated uncollectible reinsurance recoveries

Odomirok 14

Question 57

Q

Identify one asset and five liabilities on an insurance company’s balance sheet that comes directly from Schedule F?

Answer

A

Asset:
* Reinsurance Recoverable on Paid Loss & LAE

Liabilities:
* Reinsurance Payable on Paid Loss (when assuming reinsurance)
* Unearned Premium for Ceded Reinsurance
* Ceded Reinsurance Premiums Payable
* Funds held under Reinsurance Treaties
* Reinsurance Provision

Odomirok 14

Question 58

Q

How can Schedule F be used to monitor the solvency of an insurer?

Answer

A

Schedule F tracks reinsurance transactions, calculates a reinsurance provision, and shows the effect on the insurer’s balance sheet of cancelling all reinsurance contracts.
Quality of reinsurance impacts risks of uncollectibility from reinsurer, which impacts solvency of the insurer
(Schedule F only provides a narrow scope of solvency, because there are many other risks factors besides reinsurance)

Odomirok 14

Question 59

Q

What are strengths and weaknesses with using Schedule F as a solvency monitoring tool?

Answer

A

Strengths:
* RP is formulaic - easy to compare across years & companies
* RP is formulaic - hard to manipulate because inputs are numbers from financial statements
* RP accounts for reinsurer credit risk with penalties for unauthorized reinsurers (often foreign)
* RP accounts for reinsurer credit risk with penalties for slow-paying reinsurers
* Schedule F shows impact to surplus if reinsurance contracts are canceled

Weaknesses:
* RP is formulaic - may mask management’s better informed estimate of collectability risk
* RP is formulaic - but no statistical basis for formula - may not represent true collectability risk
* RP penalizes unauthorized reinsurers regardless of their financial strength
* RP penalizes slow-paying reinsurers regardless of their financial strength and slow-payer threshold is arbitrary
* In General: Schedule F doesn’t directly measure reinsurer’s solvency which is the true source of uncollectability risk
* In General: Schedule F doesn’t measure the quality of an insurer’s reinsurance management

Odomirok 14

Question 60

Q

How can Schedule F be enhanced to improve its capacity to monitor reinsurer credit risk?

Answer

A

Disclose details of reinsurance arrangements
Include management input of uncollectability risk
Include Reinsurer ratings
Replace 20% slow-pay threshold with a sliding scale and consider reasons for slow-pay

Odomirok 14

Question 61

Q

What is an unauthorized reinsurer?

Answer

A

An Unauthorized Reinsurer is one that does business where it is not leagally permitted to do so
For Example, a reinsurer authorized to conduct business only in Maine would be unauthorized to sell reinsurance to an insurer in Texas

Odomirok 14

Question 62

Q

Formula for Reinsurance Provision for Unauthorized Reinsurers

Answer

A

RP = T - C + 20% x (P(N>90) + T(D))

T = Total Recoverable
C = Collateral (Offsets to RP)
P(N>90) = Recoverable not in dispute 90 days past due
T(D) = Total reinsurance recoverable in dispute

Odomirok 14

Question 63

Q

Slow paying ratio for authorized Reinsurers

Answer

A

SPR = P(N>90) / (P(N) + Received in past 90 Days)

P(N>90) = Recoverable not in dispute 90 days past due
P(N) = Total recoverable not in dispute

Odomirok 14

Question 64

Q

Formula for Reinsurance Provision for Authorized Reinsurers

Answer

A

If Not Slow-Paying
RP = 20% x (P(N>90) + P(D>90))

If Slow-Paying
RP = 20% x max(T - C, P(N>90) + P(D>90))

P(N>90) = Recoverable not in dispute 90 days past due
P(D>90) = Recoverable in dispute 90 days past due
T = Total Recoverable
C = Collateral

Odomirok 14

Answer 65

A

non-U.S. reinsurers domiciled in a jurisdiction designated by the NAIC as a Qualified Jurisdiction (i.e., Bermuda, France, Germany, Ireland, Japan, Switzerland and the United Kingdom)
one that would have been categorized as unauthorized prior to 2012
one that has attained certification from the reporting entity’s domiciliary state

Odomirok 14

Answer 66

A

Jurisdiction of reinsurer
Rating from a rating agency
Regulatory History
Financial Positioin
C&S Capital and Surplus

Odomirok 14

Answer 67

A

Table 1:
* Identifies 5 largest reinsurer commission rates (where ceded premium > $50,000)
* The purpose is to identify companies using reinsurance to conceal high operating leverage

Table 2:
* Identifies 5 largest loss recoverables from (Col 15) and whether the reinsurer is affiliated with the reporting entity
* The purpose is to assess concentration of insurance risk

Odomirok 14

Answer 68

A

The Reporting entity is not penalized as heavily (= reinsurance provision is lower)
The Reinsurer can post collateral of less than 100% of its U.S. claims

Odomirok 14

Answer 69

A

Collateral Defficiency [RP64(CD)]

= A19(recov) - Cr63(recov)

A19(recov) = net amount recoverable from reinsurer

Cr63(recov) = credit allowed for net recoverables

Overdue Reinsurance [RP69(OR)]

= min[20% x MAX(PN90 + PD90, F), CR63(recov)]

Pd90 = recoverable on Paid loss loss & LAE > 90 days past due in dispute

Pn90 = recoverable on Paid loss & LAE > 90 days past due not in dispute

F = net unsecured recoverable for slow payers for which credit is permitted

Cr63(recov) = (Col 57) + (Col 58) x (Col 61)

(Col 57) = Catastrophe Recoverables Qualifying for Collateral Deferral (Whatever the heck that is…we’re just going to assume this equals 0!)

(Col 58) = Net Recoverables Subject to Collateral Requirements for Full Credit

(Col 61) = Percent Credit Allowed on Net Recoverables Subject to Collateral Requirements

Odomirok 14

Answer 70

A

Development of reserves over time attributable to specific years and lines (2,3,4)
Trends in frequency and severity (1,2,5)
-
calculate RBC loss-sensitive discount (7)
evaluate Adequacy of recorded reserves (2,5)
determine Payment patterns for discounting (3)
I observe split between actual reserves (IBNR) and case reserves (4,5)
Disclosures for SAO (1)

Odomirok 15

Answer 71

A

1 tables of everything by AY (losses, expenses, premiums, claim counts)
2 triangles of Ultimate Losses
3 triangles of Paid Losses
4 triangles of IBNR Losses
5 triangles of Claim Counts
6 triangles of Earned Premium
7 tables & triangles for loss-sensitive contracts

Odomirok 15

Answer 72

A

Talk to people: numbers don’t tell whole story, need to talk to management to get better idea of what is going on at the company (Schedule P is net of reinsurance, does not reflect credit risk)
10 years: maximum number of years carried in Schedule P, not enough for long tailed line tail factors
Pooling: internal/voluntary/involuntary pools can distrot data (many pools report IBNR as case reserves)
Commutation: can cause sudden increase in net reserves
DCC: Parts 2,3,4 include DCC, which means you can’t separate DCC trends from loss trends
Preparation of Schedule P: Person preparing it has a certain amount of choice regarding allocations and presentations

Odomirok 15

Answer 73

A

Detail underlying loss & LAE reserves from balance sheet
Includes 10 years of Loss & Defence & Cost Containment

It allows outside parties to evaluate a company’s reserve adequacy

Odomirok 15

Answer 74

A

1-4 have a summary section (subparts A-T show LOB detail)
5-7 do not have a summary section

Odomiork 15

Answer 75

A

Mix of Business
Claim Settlement Practices
Reserving Practices
Rapid Premium Growth/Shrinkage
Retentions
Policy Limits
Intercompany Pooling
Definition of Claim Count
Commutations

Odomirok 15

Answer 76

A

No

No. Also most recent pooling percentages should be reflected in all AY

Odomirok 15

Answer 77

A

Opinion: provide the appointed actuary’s opinion on reserve items in SAO scope
Inform: inform readers/regulators of significant risk factors regarding reserves
Advise: advise whether risk factors could lead to MAD (Material Adverse Deviation) in reserves

Odomirok 16

Answer 78

A

Identification
Scope
Opinion
Relevant comments
A - Recorded amounts for items in scope(loss reserves, reinsurance…)
B - Disclosure items regarding NET reserves in scope

Odomirok 16

Answer 79

A

Size - insurer is small (less than $1m annual GWP and less than $1m gross reserves at year end)
LOB - certain lines of business are exempt
u
Supervision - exempt if insurer is under supervision
Hardship - if insurer is under financial hardship - if cost of SAO exceeds lesser of 1% of CY capital & surplus from latest quarterly statement or 3% of GWP for year projected from latest quarterly statement

Odomirok 16

Answer 80

A

Regulators
Board of Directors
Management
Investors
General Public

Answer 81

A

Actuary’s name/title + WARDIN’
Wwho made appointment
Affirmation of qualifications
Relationship to the company
Date of appointment
INtended purpose/users

Odomirok 16

Answer 82

A

Must identify:
* Reserve items in opinion
* accounting basis for reserves
* intercompany pooling
* review date
* data source

Odomirok 16

Answer 83

A

[A] & [B]: statements about laws and actuarial standards

Odomirok 16

Answer 84

A

comments and disclosures to aid reader’s understanding
items 1 & 2: MAD (materiality standard regarding MAD, risks that may result in MAD)
items 3-8: various

Odomirok 16

Answer 85

A

Recorded amounts for items mentioned in the scope

6+3 items
Loss and LAE Reserves
* Reserve for Unpaid Losses
* Reserve for Unpaid Loss Adjustment Expenses
* Reserve for Unpaid Losses - Direct and Assumed
* Reserve for Unpaid Loss Adjustment Expenses - Direct and Assumed
* Page 3 write in item reserve, “Retroactive Reinsurance Reserve Assumed”
* Other Loss Reserve Items on which AA is expressing an opinion
Premium Reserves
* Reserve for Direct and Assumed Unearned Premiums for P&C Long Duration Contracts
* Reserve for Net Unearned Premiums for P&C Long Duration Contracts
* Other Premium Reserve items on which the AA is expressing an opinion

Odomirok 16

Answer 86

A

Disclosure items regarding NET reserves in the scope

14 items

Odomirok 16

Answer 87

A

The date subsequent to the valuation date through which material information known to the actuary is included in forming the reserve opinion

Odomirok 16

Answer 88

A

The actuary either performed or reviewed reconciliation to Schedule P

Odomiork 16

Answer 89

A

Reasonable - recorded reserves are within the AA’s reasonable range of Unpaid Liabilities
Inadequate - recorded reserves are below the AA’s reasonable range of Unpaid Liabilities
Excessive - recorded reserves are above the AA’s reasonable range of Unpaid Liabilities
Qualified - AA in unable to issue an opinion on certain material items
No Opinion - AA unable to conclude that reserves are reasonable

Odomirok 16

Answer 90

A

Must disclose the minimum (or maximum) reasonable reserve level

Odomiork 16

Answer 91

A

SAO - public, so that investors, policy holders are informed
AOS - confidential, sent to state regulator, proprietary information to assess solvency risks
Actuarial Report - confidential, internal management uses

Odomirok 16

Answer 92

A

In my opinion, the amounts carried in Exhibit A on account of the items identified…
A meet the requirements of the insurance laws in state X
B are computed in accordance with accepted actuarial standards and practices
C make reasonable provision for all unpaid loss and loss adjustment expense obligations of the company under the terms of its contracts and agreements
D (if necessary) make a reasonable provision for the unearned premium reserves for long duration contracts (and possibly other loss reserve items on which the AA is expressing an opinion of the company under the terms of its contracts and agreements)

Odomirok 16 / COPFLR

Answer 93

A

The materiality standard is used to examine risk factors that could lead to MAD

Percentage-Based Standards
* % of loss and LAE reserves (10% is typical and reasonable)
* % of surplus (10-20% is typical and reasonable)
* % of net income

Regulatory based Standards
* reduction in surplus that would trigger the next RBC action level
* amount that would trigger an unusual IRIS ratio

Others from COPLFR
* Reinsurance considerations, such as levels of ceded reserves compared to surplus or concerns about solvency or collectability of reinsurance
* The upper limit of a company’s reinsurance protection on reserve development, if any

Odomirok 16

Answer 94

A

March 1st

7 years

Odomirok 16

Answer 95

A

Yes, it must be stated

Odomiork 16

Answer 96

A

Asbestos Claims
Mass Tort Claims
Catastrophic Weather Claims

Odomirok 16

Answer 97

A

Regulators of the domiciliary state (is not filed with NAIC, not a public document because it contains proprietary company information)

Odomirok 16

Answer 98

A

A-D estimates both on Net and Gross of reinsurance basis
A - Actuary’s Reasonable Range of Reserves Lower and Upper bounds (not required if not calculated)
B - Actuary’s Point Estimate
C - Carried Reserves by company
D - Difference between C and A/B

E - Statement regarding whether there has been 1-year adverse development (relative to prior year surplus) greater than 5% in 3 of the last 5 calendar years (if there hasn’t been, best practice to state this fact although not required; if there has been, actuary should provide sufficient detail so that the regulator can determine whether additional regulatory review is required) (This is IRIS ratio 11)

Odomirok 17

Answer 99

A

Five-Year Historical Data, line 74 (statutory basis Annual Statement), though the raw data comes from Schedule P, Part 2 - Summary

Odomirok 17

Answer 100

A

state that there has been adverse development and for which years
summarize the reason for the adverse development (for example, strengthened loss reserve)
explain the reason in more detail (increased exposure…)
mitigate the effects of this adverse development (puchased unaffiliated retroactive reinsurance)

Odomirok 17

Answer 101

A

Show how booked reserves compare to actuarial estimates (gross/net) and disclose historical adverse development if necessary

Odomirok 17

Answer 102

A

Provide a more lengthy/detailed report including the items in the SAO and AOS as well as an explanation on Actuary’s analysis, data reconciliation to schedule P, etc… Fully Describes the work so another actuary practicing in the field can understand and replicate.

Odomirok 17

Answer 103

A

A Qualified Actuary is a person who:
* meets the basic education, experience, and continuing education requirements of the Specific Qualifications Standards for Statements of Actuarial Opinion, NAIC Property and Casualty Annual Statement, as set forth in the Qualification Standards for Actuaries Issuing Statements of Actuarial Opinion in the United States, promulgated by the Americna Academy of Actuaries, and
* has obtained and maintains an Accepted Actuarial Designation; and
* is a member of a professional actuarial association that requires adherence to the same Code of Professional Conduct promulgated by the Academy, requires adherence to the U.S. Qualification Standards, and participates in the Actuarial Board for Counseling and Discipline when its members are practicing in the U.S.

COPLFR

Answer 104

A

Data Sources
Rserve items being opined on
Evaluation of data for reasonableness
Accounting basis for reserves
Review Date
Intercompany pooling (if applicable)
Revewed reserve setting methods and assumptions
Reconciliation of Data to Schedule P

COPLFR

Answer 105

A

reconcile the given data on a direct + assumed basis and net of reinsurance basis or explain why omitted reconciliations were not done
reconcile by line of business and accident year
explain any discrepancies
Also, note that reconciliation often include complicated mapping of data used by AA to data in schedule P

Use language “I reconciled the data to Schedule P - part 1 of the company’s current ANnual Statement. If discrepencies, provide explanation, if not, say so

COPLFR

Answer 106

A

Proportion of reserves covered by other person’s work
-
Nature of coverage
Effect of variations in other person’s estimates on AA’s opinion
Credentials of other person

COPLFR

Answer 107

A

Actuary - Disclose name, credential, affiliation within Opinion paragraph
Non-Actuary - Disclose name, affiliation, type of analysis performed

COPLFR

Answer 108

A

Data (thin data or unexplained changes)
Operations (qualitative changes in operations)
New products or markets
Growth (rapid growth in one or more business segments)
Adequacy (changes in adequacy of case reserves)
Severity (changes in frequency and severity)

COPLFR

Answer 109

A

Asbestos & Environmental losses
Catastrophic weather events
cyber liability
mass torts (asbestos)
construction defects
new legislation
distributional changes in limits / attachment points / deductibles
terms of reinsurance contracts

COPLFR

Answer 110

A

A document from company management assuring a non-employee appointed actuary that they have all the relevant information on which to form an opinion. Could include:
* company provided complete and accurate data, information on subsequent events, basis of carried reserves (net/gross of reinsurance, salv/subro, risk margin), changes in reserving methodology

COPLFR

Answer 111

A

Still should comment on potential risk factors

COPLFR

Answer 112

A

Increase in limits on policies sold with decrease in reinsurance

Text lists others

COPLFR

Answer 113

A

Direct: loss and unearned premium reserves, claims patterns and loss trends, collectability of reinsurance and/or premiums, exposure
Indirect: claims handling delays and procedural changes resulting from public health orders

COPLFR

Answer 114

A

Worker’s Compensation: Some states have passed regulations whereby an exmployee working outside of their home who tests positive for COVID-19 is presumed to have acquired the disease related to their employement and is eligible for workers’ compensation benefits.
Actuarial Loss Data: Delays in the court system may have impacted loss payment and reporting
Exposure Assumptions: The COVID-19 Impact on the overall economy could bring about changes in exposure assumptions that were established before COVID-19

COPLFR

Answer 115

A

IF:
[1] the AA does not address material adverse deviation
[2] .1 x (net L & LAE reserves) > TAC - CAL
THEN:
The financial analyst should pursue comments from the AA

COPLFR

Answer 116

A

I believe there are significant risks and uncertainties associated with the company’s net loss and loss adjustment expense reserves that could result in material adverse deviation
I have identified those risk factors as ____, _____, and _____
These risk factors are discussed in more detail here and elsewhere in this opinion
Other risks may arise in the future

COPLFR

Answer 117

A

Company-Specific Risk Factors
Risk of Material Adverse Deviation and Materiality Standard
Must Identify MS
Other Disclosures in Exhibit B
Reinsurance
Collectability, retroactive
IRIS Ratios (11, 12, 13)
Methods and Assumptions (State if change has been made)
(COVID-19)

COPLFR

Answer 118

A

Anticipated Salvage and Subrogation
Discounting (non-tabular and tabular in Schedule P)
Voluntary/Involuntary Underwriting Pools and Associations
A&E liabilities
Extended Reporting Endorsements
Accident and Health Long Duration Contracts
Other items

COPLFR

Answer 119

A

Refers to contracts, excluding financial guaranty contracts and surety contracts, that fulfill both of the following conditions:
1. The contracted term is greater than or equal to thirteen months
2. The insurer can neither cancel nor increase the premium during the contract term

COPLFR

Answer 120

A

IEE shows statutory profit(loss) both direct & net of reinsurance, by line of business

Income Statement shows only aggregate information net of reinsurance

Odomirok 18

Answer 121

A

Actuary:
* examine premium, loss, expenses by line
* benchmark company performance by line

Policyholder:
* examine expenses by line
* may affect purchase decision because lower expenses mean lower rates

Investor:
* examine profitability versus premium growth by line
* may affect investment decision if growth is in unprofitable lines

Competitor:
* examine profit & expenses by line
* may affect market entry decision in lines where profits are high

Regulator:
* examine data/trends by line
* Highlights solvency and/or rate concerns by line that the income statment may mask

Rating Agency:
* examinen profit by line
* highlights subsidies from strong lines to weak

Odomirok 18

Answer 122

A

IEE Part 1
* allocates expenses (from Part 3) into 22 different expense groups
* doesn’t show profit (loss)

IEE Part 2
* shows pre-tax profit (loss) net of reinsurance

IEE Part 3
* shows pre-tax profit (loss) direct of reinsurance
* excludes all investment gain

IEE interrogatories
* explanatory notes for Parts 1, 2, 3 (comes before all three)
* interrogatory question #4 is very important: provides info on the allocation of profits and expenses to line
* if the allocation is done in a standard way then no furthur info is required

Odomirok 18

Answer 123

A

Surplus is shown on an aggregate basis on the balance sheet, IEE allocates surplus to LOB

(all averages are of current and prior year)
Surplus Ratio = AVG(Surplus) / [AVG(Losses) + AVG(LAE) + AVG(UEP) + Current Net Earned Premium]

Surplus LOB Allocation = Surplus Ratio * [AVG(Losses) + AVG(LAE) + AVG(UEP) + Current Net Earned Premium]

Odomirok 18

Answer 124

A

Advantages
Not distorted by Reinsurance
Uses 2 years of data to smooth results (reduces distortions)
Easy to obtain Data (from annual statement)
easy to Calculate & compare across companies & Lines of business

Disadvantages
Does not reflect Future business or growth (it is retrospective)
Does not allow for Actuarial/management input (formulaic)
Does not reflect Risk characteristics of line of business (ex. short tail vs long tail)
Does not recognize Catastrophe potential
e

Odomirok 18

Answer 125

A

Based on internal model, can incorporate CAT and operation risk
TVaR approach
Use similar method but with RBC, judgmentally allocate additional Surplus

Odomirok 18

Answer 126

A

IEE - retrospective; ratemaking - prospective
IEE - formulaic; ratemaking - can use different methods
IEE - LOB basis; ratemaking - may allocate to more granular or broader levels
IEE - allocates all surplus; ratemaking - may not allocate all surplus

Odomirok 18

Answer 127

A

NIGR = NIG / TIA

NIG = Net Investment Gain
TIA = Total Investable Assets

TIA = AVG(L) + AVG(LAE) + AVG(UEP) + AVG(re) + AVG(Surplus) - AVG(AB)

re = Ceded Reinsurance Premium Payable
AB = Agent’s Balances

NIG(A) = NIGR X TIA(A)

Odomirok 18

Answer 128

A

Investment Gain attributable to Capital And Surplus
Investment Gain attributable to Insurance Transactions

Odomirok 18

Answer 129

A

NIGIT(A) = NIGR x FAIT(A)

All of the following are for LOB A
FAIT(A) = AVG(L) + AVG(LAE) + AVG(UEP) + AVG(re) - AVG(AB) - PPE for UEP

PPE for UEP = PPER x AVG(UEP)
PPER = Net Acquisition Expense / NWP

FAIT = Funds Attributable to Insurance Transactions
PPE for UEP = prepaid expenses in UEP
PPER = prepaid expense ratio

Odomirok 18

Answer 130

A

LOB breakout -IEE shows expenses by LOB, U&IE does not
Reinsurance - IEE shows direct & net, U&IE shows net only
Display - IEE in 000’s, U&IE to nearest dollar
Other U/W Expenses IEE separates into: acquisition, filed supervision, collection expenses / General Expenses / Investment Expenses; U&IE does not

Odomirok 18

Answer 131

A

RBC = TAC / ACL

TAC = Total Adjusted Capital
ACL = Authorized Control Level Capital

Odomirok 19

Answer 132

A

Company Action Level (CAL) ; 150-200%; Regulator - None; Insurer - Submit action plan within 45 days to meet RBC standards
Regulatory Action Level (RAL) ; 100-150%; Regulator - has right to issue order specifying corrective action; Insurer - Submit action plan within 45 days to meet RBC standards
Authorized Control Level (ACL); 70-100% Regulator - commissioner authorized to take control of company; Insurer - None
Mandatory Control Level (MCL) ; <=70%; Regulator - Commissioner must rehabilitate or liquidate; Insurerer - None

Odomirok 19

Answer 133

A

Explain how to raise needed capital
Explain how to reduce operations to save money
Explain how to reduce risks to lower RBC charges

Odomirok 19

Answer 134

A

If a company’s RBC ratio is in the 200-300% range and also has a Combined Operating Ratio > 120%, then they are subject to the CAL action from the action table

Odomirok 19

Answer 135

A

Sum of:

Loss & LAE Ratio = (CY net incurred loss & LAE)/NEP
Expense Ratio = [(other UW expenses) + (agg. write-ins for underwriting deductions)]/NWP
Dividend Ratio = (Policyholder Dividends) / NEP

Does not include Investment Income

Odomirok 19

Answer 136

A

Subsidiary Insurance Companies and Miscellaneous Other Amounts [R0]
Fixed Income Risk [R1]
Equity Risk [R2]
Credit Risk [R3]
Reserve Risk [R4]
Net Written Premium Risk [R5]
Catastrophe Risk [RCAT]
Operational Risk

Odomirok 19

Answer 137

A

3% of pre-operational risk RBC total

Charge can be furthur reduced by the sum of offset amounts reported by directly owned life insurance company subsidiaries that prepare and file the Life RBC calculation, adjusted for the percentage of ownership in the directly owned life insurance company subsidiaries (but not to produce a charge that is less than zero).

Odomirok 19

Answer 138

A

R0 + sqrt(R1^2+R2^2+R3^2+R4^2+R5^2+RCAT^2) + Opperational Risk

Odomiork 19

Answer 139

A

Legal risk
-
Personnel risk
Inadequacy or failure of internal systems
Procedural Risk (and/or risk of failure of internal controls)
External risk (due to external events)

Odomirok 19

Answer 140

A

It is unlikely that risks R1 thorugh Rcat would reach their maximum value at the same time (assumed independent). Reduces the required capital (diversification credit)

R0 is excluded because it is correlated with other risks, represents charge for a subsidiary company

Odomirok 19

Answer 141

A

ACL Capital required = .5xRBC Capital Required

Odomirok 19

Answer 142

A

R2 - Equity Risk - Risk associated with stocks, etc..
R4 - Reserve Risk - Risk associated with reserves (30%)
R5 - NWP Risk - Risk associated with writing policies, unexpired portion, deals with portions remaining less than year while reserves can span multiple years (20%)
RCAT - CAT Risk - Hurricane / Earthquake risk (14%)
R3 - Credit - Mostly safe, largest portion from reinsurers, offset by smart agreements (2%)
R1 - Fixed Income - Very safe. Example Government bond (2%)

Odomirok 19

Answer 143

A

TAC = Policy Holder Surplus - (non-tablular discount) - (tabular discount on medical reserves)

Odomirok 19

Answer 144

A

Common stocks in the subsidiary
Preferred stocks in the subsidiary
Investments in alien insurance company affiliates
Off-balance sheet or other items

Odomirok 19

Answer 145

A

R0(common stocks) = min(affiliate RBC x ownership % of common stock, value of common stock as recorded by reporting entity) equity method
OR
R0(common stocks) = min(affiliate RBC x ownership % of common stock, statutory surplus of affiliate x ownership % of common stock) market method

R0(preferred stocks) = min( (affiliate RBC - total common stock value) x ownership% of preferred stock), value of preferred stock as reported by reporting entity)
R0(alien insurance affiliate) = 0.5 x (carrying value of company’s interest in affiliate)
R0(off-balance sheet items) = 1.0% x (value of each off-balance sheet item)

Sum of above charges

Odomirok 19

Answer 146

A

non-controlled assets
guarantees for the benefit of affiliates
contingent liabilities
Deferred Tax Assets

Odomiork 19

Answer 147

A

R1 RBC charge covers interest rate risk and default risk for:
* Bonds
* Off-balance sheet collateral and Schedule DL, Part 1, Assets
* Other long term assets (mortgage laons, low income housing tax credits, working capital finance investments….)
* Miscellaneous assets (includes cash, cash equivalents, other short-term investments, nonadmitted collateral loans)
* Replication (synthetic asset) transactions and mandatorily convertible securities

Odomirok 19

Answer 148

A

R1 = basic charge + Bond Size Charge (BSC) + Asset Concentration Charge (ACC)

Basic Charge = sum(asset values x RBC factor)

BSC = BSF x (total R1 charges for bonds subject to BSF)
BSF = weighted average - 1 using:
First 50: 2.5
Next 50: 1.3
Next 300: 1.0
‘> 400: .9

ACC = double count RBC for applicable investments from top 10 companies that contribute towards total ACC (involves both R1 and R2)

Odomirok 19

Answer 149

A

NAIC 01-06 bonds
Non government bonds

Odomirok 19

Answer 150

A

Fixed Income:
Unaffiliated bonds in classes 02 - 05
Collateral Loans
Mortgage Loans

Equity
Unaffiliated Preferred Stocks and hybrid securities in classes 02 - 05
Unaffiliated Common Stock
Investment in Real Estate
Encumbrances on Invested Real Estate
Schedule BA Assets (excluding collateral loans)
Receiveable for securities
Aggregate write-ins for invested assets
Derivatives

Odomirok 19

Answer 151

A

ACF = weighted average of RBC factors for assets subject to the concentration charge

Odomirok 19

Answer 152

A

R2 includes the charge for risk associated with equity investments in the following categories:
Affiliated investments
Unaffiliated stocks
Real Estate
Schedule BA Assets
Miscellaneous assets, including receivables for securities, aggregate write-ins for invested assets and derivatives
Replication (synthetic asset) transactions and mandatory convertible securities

Odomirok 19

Answer 153

A

R2 = Basic Charge + ACC

Odomirok 19

Answer 154

A

Assets deemed to be of low risk (like class 01 unaffiliated bonds or preferred stock)

Asssets that have already received the maximum charge of .3 (like class 06 unaffiliated bonds)

Odomirok 19

Answer 155

A

For holding companies, multiply RBC factor by the holding company value in excess of the carrying value for indirectly owned insurance affiliates

Odomirok 19

Answer 156

A

Use the split only if unpaid loss & LAE component of R4 > (RBC charge for non-invested assets) + .5 x (RBC charge for reinsurance recoverables)

Odomirok 19

Answer 157

A

Non-Invested Assets
* Investment income due and accrued (.01)
* Amounts Receivable related to uninsured plans (.05)
* Federal income tax recoverable (.05)
* Guaranty funds receivable or on deposit (.05)
* Recoverable (parent/subs/affiliates) (.05)
* Aggregate Write-ins for other than Invested Assets (.05)

Reinsurance Recoverable (.1)
Health Credit Risk (accounts for 0% of P&C Insurer risk)

Odomirok 19

Answer 158

A

Reinsurance Recoverables (8% of R4 Charge)
Unpaid Loss & LAE Reserve (91% of R4 Charge)
Excessive Premium Growth RBC (1% of R4 Charge)
Health Stabilization RBC (0% of R4 Charge, not discussed)

Odomirok 19

Answer 159

A

[[(C+1)xA]-1]

The Company RBC% (C) is derived from the corresponding Industry RBC% by applying a company specific adjustment.
The adjustment factor = (company Loss & LAE LDF)/(industry Loss & LAE LDF)
The LDFs are calculated as the (current reserve for 9 prior AYs)/(initial reserves for those AYs) <- capped at 400%
A is an adjustment for investment income, A < 1

Loss-Sensitive Discount (LSD) - Subtracted from the basic charge (.3 x % Direct Loss Sensitive + .15 x % Assumed Loss Sensitive)
Loss Concentration Factor (LCF) - Multiplicative Adjustment (highest LOB Reserve / Total Reserves) x .3 + .7 (applies to total after LSD)

Afterwards, need to add Reinsurance Recoverable RBC and Excessive Growth Charge.

Excessive Growth Charge = Excessive Growth X 0.45 X Net Loss & LAE Reserves
Excessive Growth = Average Growth over last 3 years - 10% (each year is capped at 40%)

Odomirok 19

Answer 160

A

Written Premium RBC (99% of R5)
Excessive Premium Growth RBC (1% of R5)
Health Premium RBC (1% of R5, not very important)
Health Stabilization RBC (0% of R5, not very important)

Odomirok 19

Answer 161

A

(C x A) + U - 1

The Company RBC% (C) is derived from the corresponding Industry RBC% by applying a company specific adjustment.
The adjustment factor = (company Loss & LAE Ratio)/(industry Loss & LAE Ratio)
The AVG Ratios are calculated as the AVG(Loss Ratios for 10 prior AYs) <- capped at 300%
A is an adjustment for investment income, A < 1
C = .5 x Industry Loss & LAE Ratio + .5 x Industry Loss & LAE Ratio * Adjustment Factor [spoken of]

Loss-Sensitive Discount (LSD) - Subtracted from the basic charge (.3 x % Direct Loss Sensitive + .15 x % Assumed Loss Sensitive)
Premium Concentration Factor (LCF) - Multiplicative Adjustment (highest LOB Reserve / Total Reserves) x .3 + .7 (applies to total after LSD)

Afterwards, need to add Reinsurance Recoverable RBC and Excessive Growth Charge

Excessive Growth Charge = Excessive Growth X 0.225 X NWP
Excessive Growth = Average Growth in TOTAL GWP over last 3 years - 10% (each year is capped at 40%)

Odomirok 19

Answer 162

A

RCAT = sqrt((Total Earthquake Charge)^2+(Total Hurricane Risk)^2)

Same methodology to calculate each

Need to know 1-in-100 year event model losses for Gross and Net of reinsurance

Charge = Modeled Net Loss x 1 + (Gross - Net Loss) x .048

Odomirok 19

Answer 163

A

Reporting of projected Catastrophe losses: can be done on an Aggregate Exceedance Probability (AEP) basis, or Occurence Exceedance Probability (OEP) basis
Exemptions from filing catastrophe charges: granted when certain conditions are met that indicate a low net catastrophe exposure such as when coverage is less than 10% of policyholder surplus
Credit Risk Charge: losses ceded to U.S. affiliates and mandatory pools (whether authorized, unauthorized, or certified) are not subject to the .048 credit risk charge

Odomirok 19

Answer 164

A

Less insight into new business, harder to underwrite/price the risk
Major factor that has historically lead to insolvency, indication that the insurer has lax UW standards
Less insight into new business, may lead to poor UW results, hard to estimate Unpaid claims amounts
May indicate that insurer is trying to increase cash flow to pay for current liabilities, short term solution that may lead to solvency issues

Odomirok 19

Answer 165

A

Similarities

Both serve as early warning against insureres that may become insolvent
Both are quantitative metrics
Both lay out numeric thresholds for regulators to follow as guidelines for financial trouble warnings
Both attempt to measure financial solidity of an insurer

Differences

RBC is used to calculate a minimum amount of capital that an insurer should carry, IRIS does not
RBC framework has authority to regulate/intervene businesses by its RBC model act, IRIS framework does not
RBC penalizes an insurer for low grade bonds; IRIS does not

Odomirok 19

Answer 166

A

Identify Insurers that are in financial trouble and that need regulatory attention / early warning wign
Requirments attempt to individualize minimum capital requirements for each insurer
RBC allows/mandates a regulator to take action when an company reaches a certain RBC level

Odomirok 19

Answer 167

A

Balance sheet strength - are assets sufficient to cover liabilities?
Earning Potential - is the company going to generate a profit going forward?

Odomirok 21

Answer 168

A

5-year historical exhibit
Schedule P (main source)
Schedule F (shows reserves net of reinsurance)
Notes to the financial statements (miscellaneous items that may or may not provide furthur details on reserve adequacy

Odomirok 21

Answer 169

A

Poor Governance
New entrant to market (inexperienced management, lower capital)
Growth too rapid (get premiums up front, but the trouble starts when the losses start)
Size too small (can’t absortb unexpected losses)

Under-pricing
Deficient Reserves

Catastrophe
Reinsurer Insolvency
Asbestos
Poor investment results

Odomirok 21

Answer 170

A

Balance sheet presentation of reinsurance
Anticipated Salvage and Subrogation
Structured Settlements
Invested assets
Ceded reinsurance

Defferred Tax Asset
Deferred Acquisition Expense
Discounting Loss Reserves
Non-admitted assets
Goodwill

Premium Deficiency Reserve

Odomirok 22

Answer 171

A

General Comment: SAP - used only by insurance companies, evolved from GAAP; GAAP - used by all U.S. public companies

Objective: SAP - measures ability to pay claims (focus on severity); GAAP - measure earnings

Intended User: SAP - regulators; GAAP - general audience, policyholders, investors, public

Oversight: SAP - individual states with assistance from NAIC; GAAP - SEC (but SEC has delegated responsibiltiy to FASB)

Odomirok 22

Answer 172

A

Under SAP: record annuity cost as paid loss, disclose in Notes to Financial Statements

Under GAAP: record annuity cost as reinsurance, retain loss reserves & book payments as recoverables

Odomirok 22

Answer 173

A

Under SAP: tabular discount rate - few state regulations; non-tabular discount rate - formula based and capped

Under GAAP: options, use SAP rate or reasonable alternative

Odomirok 22

Answer 174

A

Under SAP: record undiscounted ceded reserves as negative write-in liability, Schedule P is unchanged (shows gross of reinsurance), gain (negative write-in liability - cost of reinsurance) is recorded as write-in gain and goes into other income, no change to regular surplus because change goes into special surplus

Under GAAP: record ceded reserves as reinsurance asset, gain is deferred (amortized over time), no immediate impact on income or surplus

Odomirok 22

Answer 175

A

Under SAP: recorded net of reinsurance; Recoverable on paid loss is the same; Loss reserve is taken down by amount of recoverable on unpaid loss; UEP is taken down by prepaid reinsurance premiums

Under GAAP: Gross of reinsurance

Odomirok 22

Answer 176

A

Under SAP: DTAs subject to strict admissability test

Under GAAP: DTAs fully recognized

Odomirok 22

Answer 177

A

Under SAP: Not recognized

Under GAAP: Recognized, may offset PDR

Odomirok 22

Answer 178

A

Under SAP: Lots of new designations. Basic chart is as follows:
* Fair Value: Common stocks, non-redeemable preferred stocks, SVO-Identified Investments
* Amortized Cost: Investment-grade bonds (NAIC 1,2) long & short term
* min(Amortized Cost, Fair Value): non-investment grade bonds (NAIC 3-6) long & short term

Under GAAP: HTM - Amortized Cost; AFS, HFT - Fair Value

Odomirok 22

Answer 179

A

Under SAP: Can choose to show Schedule P reserves gross or net of salv/subro

Under GAAP: Reserves must be net of salv/subro

Odomirok 22

Answer 180

A

Under SAP: Premium Deficiency is either included in the UPR balance or reported as a write-in liability item. Commissions and other acquisition costs should not be included if those amounts have been expensed rather than established as an asset (difference with Deferred Acquisition Cost); UPR - PV(loss) + Inv. Income. If negative, PDR

Under GAAP:DAC is established as an asset and is presented net of ceded DAC; if a PDF is calculated, it first lowers the recorded DAC asset; once exhausted, a separate PDF liability is established ; UPR - PV(loss) + Inv. Income - DAC. If negative, PDR

Odomirok 22

Answer 181

A

Under SAP: Goodwill = min(P - Surplus Acquired Company, 10% of Surplus Acquiring Company)
Record as a contra-asset and amortize to unrealized capital gains over 10 years (at most)

Under GAAP: Goodwill = Price - (net Assets) = Price - (Assets Fair Value - Liabilities Fair Value)

Odomirok 22

Answer 182

A

GAAP Surplus = SAP Surplus + Provision for Reinsurance + DAC

Odomirok 22

Answer 183

A

Fair Value is the price at which an orderly transaction to sell the asset (or to transfer the liability) would take place between market participants at the measurement date under current market conditions.

Odomirok 23

Answer 184

A

Component 1 / Nominal Future Cash Flows of Liabilities - Calculate using LDFs
Component 2 / Discounted 1st Component + Load for Illiquid Nature of Liabilities - Calculate using risk-free rate
Component 3 / Risk Margin to compensate for uncertainty of Liabilities - Calculate using cost-of-capital approach

Odomirok 23

Answer 185

A

Risk Margin = (R - i) x sum(avg(Ct, Ct+1)/(1+i)^(t+1))

t = time (sum across t = 0, 1, 2…)
R = pre-tax cost-of-capital
i = risk-free rate that includes illiquidity premium
Ct = Capital carried at time t to support liability

Odomirok 23

Answer 186

A

International Financial Reporting Standards are global reporting standards from the International Accounting Standards Board

Odomirok 24

Answer 187

A

Financial Accounting Standards Board (FASB, U.S.) develops and issues GAAP standards

International Accounting Standards Board (IASB) develops and issues IFRS standards

FASB and IASB are cooperating to create to create financial reporting standards to:

increase transparency and consistency among insurers operating in different countries
align standards with company economics (versus regulatory prudence)

Odomirok 24

Answer 188

A

A contract under which one party (the insurer) accepts significant insurance risk from another party (the policyholder) by agreeing to compensate the policyholder if a specified uncertain future event (the insured event) adversely affects the policyholder

Odomirok 24

Answer 189

A

Establishes the principles for the recognition, measurement, presentation and disclosure of insurance contracts

Odomirok 24

Answer 190

A

An insurer can aggregate its portfolio of insurance contracts into different groups
there are 3 broad levels of aggregation used for defining groups and these levels are based on the concept of “onerous contracts”
the term “onerous contracts” is a key concept in IFRS but it is not defined in Odomirok (for this reason, it would not be a good exam question)

After the insurer aggregates their contracts into groups, the next step is to measure the liabilities associated with these groups

Odomirok 24

Answer 191

A

Default approach in IFRS

Balance sheet Liability = Fulfillment Cash Flow + Contractual Service Margin

FCF = Present Value of (Premium - Losses - Benefits - Expenses) + Adjustment for timing and risk of these cash flows

CSM = Expected profit for providing future insurance coverage

Calculating discount rate used in PV calc is complex topic, as general rule use current discount rates

Variable Fee Approach is based on General Model, but with additional features to account for contracts with direct participating features

Odomirok 24

Answer 192

A

Simplified version of the General Model, but one of the following eligibility requirements assessed at contract inception must be met:
* can be used for short-term contracts (policy term <= 1 year)
* can be used for longer-duration contracts IF PAA is a reasonable approximation to GMA over the life of the contract
* applies only to LRC component of insurance contract liabilities

Liability for Incurred Claims (LIC) insurer’s obligation to pay claims for events that have already occurred
Liability for Remaining Coverage (LRC) - insurer’s obligation to provide insurance coverage for events that have not yet occurred (basically just the premium liabilities)

Under IFRS, insurance contract liability = LRC + LIC, where CSM is part of LRC

Odomirok 24

Answer 193

A

The Financial Sector Assessment Program (FSAP) is a period peer review of financial regulation for G20 countries

It is benchmarked against International Association of Insurance Supervisers (IAIS) Insurance Core Principles (ICPs)
The U.S. did well historically but may not do well going forward because SAP doesn’t reflect the time value of money

Odomirok 30

Answer 194

A

CommFrame is being deveoped by the International Association of Insurance Supervisers to supervise international insurance groups.

needs a standard method for valuing assets and liabilities
ComFrame proposes IFRS to meet this need
The U.S. method is different from IFRS (problem, U.S. insurers may need to create 2 sets of financial statements)

Odomirok 30

Answer 195

A

FIO was created by the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010

studies and collects information on the Insurance Industry and State Insurance Regulatory Systems
drafts federal regulation for the insurance industry

Odomirok 30

Answer 196

A

Solvency II is a principles-based insurance regulatory system for capital levels of insurance companies in the European Union

Odomirok 25

Answer 197

A

Quantitative: Sets Solvency Capital Requirement (SCR) and Minimum Capital Requirement

Uses a total balance sheet approach
SCR corresponds to 99.5% VaR (Value at Risk) meaning that the probability of ruin is < 0.5%

Governance: supervisory activities - requires adequate governance for:

internal audit (should report failure to follow company policies and/or deficiencies in internal controls)
actuarial (ensure reasonability of DAM when calculating technical provisions - Data, Assumptions, Methods)
risk management (perform ORSA to identify unique risks of company)
compliance (report failure to comply with regulations to board of directors)

Transparency: supervisory reporting & public disclosure

information from pillars 1 & 2 are given to the supervisor & financial markets
purpose is to increase market discipline because companies know their decisions are public
this should reduce intervention by regulators

Odomirok 25

Answer 198

A

Free Surplus (if any)
Solvency Capital Requirement (in addition to MCR, SCR includes MCR)
Minimum Capital Requirement
Risk Margin
Best Est of Liabilities

Total Technical Provisions is the sum of the last 2 groups

Odomirok 25

Answer 199

A

SCR assets required ≤ IFRS assets available → no action
MCR assets required ≤ IFRS assets available < SCR assets required → regulator will intervene
IFRS assets available < MCR assets required → company is no longer permitted to operate

Odomirok 25

Answer 200

A

Solvency Capital Requirement (SCR): This is the amount of capital that an insurance company must hold to ensure it can withstand significant unforeseen shocks. It’s calculated based on various risk modules, including market risk, credit risk, underwriting risk, and operational risk. The SCR is a critical regulatory threshold, and insurers are required to manage their capital to ensure they stay above this level.

Solvency Capital Requirement Assets Required: This refers to the actual assets that an insurance company must have on hand to meet the SCR. It includes the mix of bonds, stocks, real estate, and other investments that the insurer uses to back its SCR. The type and quality of these assets are usually subject to regulatory guidelines to ensure they can be readily converted into cash if needed.

Odomirok 25

Answer 201

A

Mutliply R-i (Cost of capital - risk free/illiquidity) by capital required each year, bring it back to present value using the risk free/illiquidity rate

Odomirok 25

Answer 202

A

Set using a total balance sheet approach with either standard/regulator model or approved internal model. Corresponds to the 99.5% percentile on loss distribution for both models

Model is used in running the business
Model has been validated by an independent third party
Model is documented appropriately

Odomirok 25

Answer 203

A

ORSA pertains to all short-term & long-term risks:
- identify, assess, monitor, manage, and report these risks (including capital requirements)
- includes all risks considered considered in Solvency 2 + unique company risks
- should explain any inconsistencies with MCR or SCR
- helps management understand how risk relates to capital (and to make good business decisions)

Answer 204

A

Fitness & Propriety, Outsourcing, Internal Countrol

Compliance, Actuarial, Risk Management, Internal Audit

Odomirok 25

Answer 205

A

Tax-basis income is SAP or statutory income with a few adjustments:
==> EP is adjusted with a revenue-offset
==> losses (or reserves) are discounted

Odomirok 26

Answer 206

A

in SAP, acquisition costs are not deferred so the insurer would incur a loss
the insurer would then be entitled to a future tax refund on this loss
but the IRS wanted to simplify the process: instead of a refund, the IRS reduces UEP liability by 20% for all insurers
(assumes the acquisition cost ratio is 20% for all lines for all insurers)

Odomirok 26

Answer 207

A

Pricing
Valuation
Constructing Capital Models
Tax Return Preparation

Odomirok 26

Answer 208

A

TBI = TBEP +InvInc - TBIL
TBEP = EP + 20%xchg(UEP) = WP - 80%xchg(UEP)
TBIL = PL + chg(L D) = IL - chg(D)

TBEP = Tax-Basis Earned Premium
InvInc = Investment Income (taxable portion)
TBIL = Tax-Basis Incurred Loss
PL = Paid Loss during year
IL = Incurred Loss during year
L D = Loss Reserves after Discounting
D = Discount Amount (= Difference between undiscounted and discounted loss reserves)

Odomirok 26

Answer 209

A

Multiply by .25

BTW corporate tax rate is .21

Odomirok 26

Answer 210

A

BEAT is a new tax under the Tax Cuts and Jobs Act of 2017. It limits the ability of multinational corporations to shift profits from the United States

Beat works as follows:

the corporation calculates its regular tax (as a percentage of taxable income, currently 21%)
The corporation calculates its alternative tax (as a percentage of gross income, currently 10%)
If alternative tax is higher than regular tax, than the corporation must pay the difference (BEAT = this difference)

Odomirok 26

Answer 211

A

insurer is part of a U.S. group of companies with average gross receipts in the past three years ≥ $500M
insurer makes base erosion payments ≥ 3% of the total deductions taken by the U.S. group on its current tax return.

Note however that if the foreign company to which tax-deductible payments have been made has elected to be taxed as a U.S. taxpayer then the U.S. corporation or insurer is not subject to BEAT. That seems like a little trick they might throw at you on the exam. So pay attention! (Maybe they’ll give you information on 2 companies that made foreign payments but where only 1 of them is subject to BEAT because the other doesn’t satisfy the conditions described above.)

Odomirok 26

Answer 212

A

Even though reserves are reported at their nominal value on the balance sheet, every company is primarily interested in the economic impact of their assets & liabilities (versus the purely statutory impact). Obviously the company wants to ensure that its assets are sufficient to support its liabilities, but if you know you have $1,000 of liabilities due in 1 year, you don’t need to set aside $1,000 of assets at the beginning of the year. If you think your assets will earn 10%, then you only need to set aside $1,000/1.1 = $909. This is an economic calculation.
Calculation is different for taxes

Odomirok 26

Answer 213

A

undiscounted loss reserves:
- Schedule P, Part 1
- note that Part 1 is net of tabular discount, but gross of nontabular discount (means that any tabular discount must first be eliminated to get the true undiscounted reserves)

discount rate: (shout-out to BC!)
- NEW: based on the corporate bond yield curve (determined by the U.S. Treasury for each accident year)
- (no longer valid: 60-month moving average of Federal midterm rates for each AY)

payment pattern:
- use Schedule P, Part 1 from industry data (IRS does the calcs for you. Thanks IRS!)
- (no longer valid: using Schedule P, Part 1 from company data)

Odomirok 26

Answer 214

A

Part 3 may be skewed because it doesn’t include adjusting/other expenses
Part 3 is not audited (Part 1 is audited)
Part 1 requires no judgment for the IRS method

Odomirok 26

Answer 215

A

 Yields for stocks are typically higher than yields for bonds
 Stocks are more volatile than bonds, and management dislikes erratic income
 Taxes are minimized when stocks and bonds are allocated such that the regular income tax
equals the alternative minimum income tax
 Stocks, like loss reserves, are inflation sensitive. Bonds are typically not inflation sensitive.
 State mandated limits on investment holdings may dictate permissible allocations of stocks
versus bonds
 Stocks have a higher RBC charge than most bonds
 Should reduce investment risk through diversification by having a proper mix of stocks and
bonds
 Stocks are more liquid than municipal bonds
 Should allocate stocks and bonds such that the duration of assets equals the duration of
liabilities

Odomirok 26

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