Fair Value Accounting for GMxB Riders Ilan Birnbaum SOA Antitrust - - PDF document

Equity-Based Insurance Guarantees Conference

• Nov. 5-6, 2018

Chicago, IL

Fair Value Accounting for GMxB Riders Ilan Birnbaum

SOA Antitrust Compliance Guidelines SOA Presentation Disclaimer

Sponsored by

Fair Value Accounting for GMxB Riders

ILAN BIRNBAUM

Vice President & Actuary, Prudential

2018 EBIG Conference Session 3B 5 November 2018 (1530 – 1700 hours)

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Presentations are intended for educational purposes only and do not replace independent professional judgment. Statements of fact and

• pinions expressed are those of the participants individually and, unless

expressly stated to the contrary, are not the opinion or position of the Society of Actuaries, its cosponsors or its committees. The Society of Actuaries does not endorse or approve, and assumes no responsibility for, the content, accuracy or completeness of the information

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2

Bringing DB/IB into MRB

• Market Risk Benefits transition requires retrospective application to all

prior periods, i.e. affects all applicable business on an insurer’s books

• Therefore, there will be an immediate impact to financials upon

transition, likely a significant decrease to equity

• MRB vs. SOP 03-1
• Risk-Neutral vs. Real World projection
• Risk Margins built into assumptions
• Prospective vs. Retrospective methodology

3

These differences will generally lead to higher reserve requirements

Bringing DB/IB into MRB

• Attributable Premium indicates the ongoing contribution in order to build up reserves

sufficient to pay out claims

• Attributable Premium is often expressed as a percentage of rider fees (AP Factor)
• In cases where a benefit has no explicit rider fee, other options to consider are:
• Percentage of M&E fee
• Percentage of other riders’ fees plus a portion of M&E fee
• Percentage of benefit base
• Other considerations in setting Attributable Premium policy:
• FASB requirement to bundle multiple market risk benefits on the same contract as a single

compound benefit

• Consistency in policies having multiple GMxBs vs. those with only one
• Consistency across product lines

4

Bringing DB/IB into MRB

• Retrospective application to all prior periods requires that insurers set Attributable

Premium rates at contract issue date, leading to the following concerns:

• Does contract issue date refer to the base contract or the rider inception date?
• If grouping contracts into cohorts, the true AP Factor should consider policies that have exited the book

since issuance

• May use hindsight in determining assumptions from prior periods that are unobservable or otherwise

unavailable and cannot be independently substantiated

• Otherwise, must maximize the use of relevant observable information as of contract inception
• Cohort considerations:
• Insurance entity shall group contracts into quarterly or annual groups
• Insurance entity shall not group contracts together from different issue years
• Seriatim seems to be permitted
• Consistency with DAC cohorts

5

Bringing DB/IB into MRB

• Valuation of GMDB/GMIB as MRB may lead to an initial decrease in equity as well as an

increase in future reserve accruals

• Example: GMDB with AP factor equivalent to 70% (based on claims in SOP 03-1 projection)

6

• Attributable Premium

illustrated here as percent of rider fee

• Example 1: no impact to

reserve, but would require substantial reserve accrual prospectively

• FASB intent: adjust

reserve at transition and accrue to fair value reserve prospectively

• Example 2: no impact to

current AP percentage, but would result in substantial decrease in equity at transition

• Note: requirement for

retrospective application to all prior periods seems to disallow either bookend as a transition option

Example is is f for illu illustrative p purposes o

• nly

ly

NPR Changes

• The portion of any change in fair value attributable to a change in the

instrument-specific credit risk of a market risk benefit in a liability position is required to be recognized in other comprehensive income

• More in line with fair value accounting for other instruments (ASC

Topic 825, Financial Instruments)

• Generally a benefit to reduce Net Income volatility
• In line with most hedging strategies

7

Transition Adjustment to Earnings

• The transition adjustment will be recognized in financials upon transition

as follows:

• The cumulative effect of changes in the instrument-specific credit risk between

contract issue date and transition date shall be recognized in accumulated other comprehensive income as of the transition date

• The difference between fair value and carrying value at the transition date, excluding

the above amount, shall be recognized as an adjustment to the opening balance of retained earnings as of the transition date

• Could be large gain or loss in Net Income at transition as NPR margin is

brought into AOCI

8

Transition Adjustment to Earnings

• Example 1: Benefit currently fair valued
• Have taken losses in Net Income since issuance due to NPR spread

tightening

• Upon transition:
• Loss of 200 in AOCI
• Gain of 200 in Net Income

9

NPR Margin at issue 500 Current NPR Margin 300 Impact to Income 200

Transition Adjustment to Earnings

• Example 2: Benefit currently valued under SOP 03-1
• SOP 03-1 has no NPR, but still an impact to AOCI due to retrospective

application

• Upon transition:
• Loss in AOCI of 50 due to NPR spread tightening since contract issuance
• Loss in Net Income of 150 due to loss of 200 (higher reserve) offset by gain of 50 (as

the retrospective NPR loss is reclassed to AOCI)

10

Current SOP Reserve 200 Current Fair Value Reserve (Post-NPR) 400 NPR Margin at issue (post-transition) 150 Current NPR Margin (post-transition) 100

Other Transition Considerations

• For public companies, transition date 1/1/2019 and effective date 1/1/2021
• Restatement of financials required as of transition date brings challenges:
• Readying systems for new methodology, including disclosures
• Data on seasoned policies may not be available without great cost
• Retaining data from 12/31/2018 and ensuring compatibility
• Obtaining and developing NPR data/methodology to support assignment to retained earnings vs.

OCI

• Systems development considerations
• Fair valuing readily available for GMWB and GMAB, should be parallel implementation
• Could split DAC calculation out from reserving system since neither is an accrual model
• Retire systems that keep track of historical assessments / gross profits?

11

Conclusions & Questions