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33 Cards in this Set
- Front
- Back
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Purpose of financial reporting |
Consolidate transactions into financial statements that accurately and consistently communicate the company's financial performance and status to stakeholders (investors, customers) and regulators |
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Source, focus, and slant of Statutory Accounting Principles |
Source: NAIC (National Association of Insurance Commissioners) Focus: company solvency (liquidation scenario); streamlined state filings, though individual state requirements may differ Slant: inherently conservative |
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Source, focus, and slant of Generally Accepted Accounting Principles |
Source: Securities & Exchange Commission, delegated to Financial Accounting Standards Board Focus: accurate measure of company performance (going concern scenario) Slant: accuracy |
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Source, focus, and slant of tax-basis accounting |
Source: Internal Revenue Service (uses SAP as a starting point) Focus: determination of tax amount owed by the company Slant: early recognition of income |
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Source of International Financial Reporting Standards |
Source: International Accounting Standards Board |
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Reasons actuaries need to understand accounting rules |
1) ensuring compliance w/ state reserve reporting requirements 2) monitoring financial health of ins. cos. 3) pricing/designing ins. products 4) determining capital requirements 5) evaluating risk transfer of reinsurance 6) assessing non-insurer reserve adequacy 7) preparing tax returns 8) valuing ins. cos. in mergers & acquisitions |
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Primary financial statements and their contents |
1) Balance sheet: all assets/liabilities as of a specific point in time 2) Income statement: a company's financial results during a specific time period 3) Capital and surplus: changes to surplus not recorded in the income statement 4) Cash flow: pure cashflow view of operations; liquidity-focused, less important for ins. cos. because premium usually precedes losses |
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Difference between liquidation and going concern perspectives |
Liquidation: as if current assets and liabilities will be run off; focus of regulators who want to ensure satisfaction of policyholder liabilities Going concern: as if the company is an ongoing business; focus of investors |
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Difference between fair value and historical cost valuation |
Fair value: recording an asset or liability at a value for which it could be bought/sold in the open market; emphasis on accuracy Historical cost: original purchase price less depreciation; emphasis on reliability |
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Difference between principle-based and rule-based accounting frameworks |
Principle-based: general accounting approach that must be interpreted and applied; emphasis on adaptability Rule-based: specific accounting guidance on how something should be done; emphasis on ease of understanding/auditing |
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Organization that promulgates the Annual Statement format |
National Association of Insurance Commissioners |
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Contents of Annual Statement's Jurat page |
Basic information about the reporting entity: -Name -NAIC code -Address -Name/title of preparer -Names and notarized signatures of officers attesting to the accuracy |
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Two main categorizations of assets on the statutory balance sheet |
Cash and invested assets vs non-invested assets: distinction is primarily liquidity (focus of SAP is on solvency) Admitted vs non-admitted assets: determine whether assets are recognized as such by regulators in evaluating solvency. Non-admitted assets are considered to be not readily convertible to satisfy an insurer's liabilities now or in the future |
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Bond valuation methods on statutory balance sheet |
NAIC classes (ratings) 1 and 2: amortized cost NAIC classes 3-6: min(amortized cost, fair value) |
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Stock valuation methods on statutory balance sheet |
Common stock: fair value Preferred stock: fair value or amortized cost, based on NAIC class (ranges best-to-worst from 1 to 6) |
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Real estate valuation methods on statutory balance sheet |
Property occupied by the company (must occupy >=50% of the property): depreciated cost Property held for the production of income: depreciated cost Property held for sale: min(depreciated cost, fair value) |
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Definition of uncollected and deferred premiums/agents' balances, portion considered non-admitted assets |
Uncollected: written premiums due before but not received by the statement date Deferred: written premiums due after the statement date Premiums more than 90 days past due are considered non-admitted assets |
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Definition and two common sources of Deferred Tax Assets (DTAs) |
Expected future tax benefits from amounts previously recorded in statutory financial statements not yet reflected in tax returns 1. Difference in tax accounting vs SAP for reserves (tax accounting discounts reserves; taxable income in future is reduced as discount unwinds over time, this future tax break is recorded as an asset for SAP) 2. Carryforward of prior years' net operating losses (another reduction to taxable income) DTAs are usually the largest source of non-admitted assets |
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Examples of non-admitted assets (8 possible) |
- Premium collectibles >90 days overdue - Inadmissible DTAs (failing the statutory admissibility test) - Bonds/stocks/mortgage loans/real estate in excess of state limits - Electronic data processing equipment/hardware over state limits - Furniture, equipment, and supplies - Balances >15 days overdue from brokers post-asset-sale - Funds excess of associated liabilities held by reinsureds as collateral - 10% of recoverable deductibles in excess of collateral for LDD-type and service-only policies |
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Expense categories (broad) |
- Loss adjustment expenses - Underwriting and investment expenses a) Commission and brokerage expenses b) Taxes, licenses, and fees c) General and administrative expenses d) Investment expenses |
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Why establish a premium deficiency reserve? |
If it is believed that the unearned premium reserve will be insufficient to cover future losses and expenses on already-written policies, a premium deficiency reserve is necessary |
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Three categorizations of expenses in the statutory annual statement |
1) NAIC operating expense classifications (eg commissions salaries, taxes, etc; there are 24) 2) Expense categories, eg LAE, investment expenses, and other underwriting expenses 3) Line of business (there are 33) |
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Why is accurate expense accounting important to actuaries? (Two reasons) |
1) Overall expense levels directly affect prices and price adequacy 2) Inaccurate expense allocations can lead to subsidies between products and obscure true profitability, leading to inefficient resource allocation and potentially adverse selection |
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Difference in statutory treatment between policyholder and stockholder dividends |
Policyholder dividends appear on the income statement; stockholder dividends are a direct charge to equity |
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Formula for calculating statutory surplus |
Policyholder surplus = prior year surplus + net income + direct changes to surplus |
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Examples of and reason for direct changes to statutory surplus |
- Change in unrealized capital gains, less tax - Change in unrealized foreign exchange capital gains, less tax - Change in net DTAs (affected by cap gains) - Change in non-admitted assets - Change in provision for reinsurance - Effect of changes in accounting principles - Capital changes and surplus adjustments (eg stock issues) - Stockholder dividends - Reason: balance sheet changes not fully shown on income statement |
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Describe double taxation |
Company's income is taxed by both corporate income tax and, upon distribution, personal income tax |
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Two approaches to measuring the cost of holding capital (Feldblum) |
1) Double taxation 2) Atkinson-Dallas (difference between cost of equity capital and after-tax investment yield) |
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Formula for double taxation approach to determining premium margin |
- Pre-personal-tax cost of double taxation = yield * corporate tax rate - Cost must be paid through premiums (taxed as corporate income), so we have to divide that by (1 - corporate tax rate) - That's the cost as a % of capital, so to get it as a % of premium we have to multiply by (capital / premium) to get the premium margin - Assuming premium paid at inception and taxes paid on average half a year later, we can divide that by (1 + yield) ^ .5 to reduce the margin - Result: required premium margin = capital * (yield * corporate tax rate) / (premium * (1 - corporate tax rate) * ((1 + yield) ^ .5)) |
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Formula for Atkinson & Dallas approach to determining premium margin |
- Similar to double taxation approach (see back of that card), but recognizes that the insurer is investing in lower-yielding assets; adds that underperformance in as a cost alongside double taxation - Result: required premium margin = capital * (yield * corporate tax rate + cost of equity capital - yield) / (premium * (1 - corporate tax rate) * ((1 + yield) ^ .5)) |
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List of topics in Common Interrogatories section of the General Interrogatories on the statutory annual statement (eight) |
1) Holding company relationships 2) Latest regulatory/financial examinations 3) Excessive sales commission levels 4) Merger activity 5) Suspension of licenses 6) Foreign control 7) Exemptions from required regulations 8) Is senior mgmt subject to a code of ethics |
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List of topics relevant to the actuary in the Property/Casualty Interrogatories section of the General Interrogatories on the statutory annual statement (five) |
1) Provisions to protect against excessive catastrophe / workers' compensation losses 2) Method used to estimate probable maximum insurance loss 3) Provisions to protect against the exposure concentrations underlying the probable maximum loss 4) Catastrophe reinsurance protection or other methods to cover the risk of estimated probably maximum loss 5) Finite reinsurance (artificially improving financial appearance?) |
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Criteria in General Interrogatories designed to identify finite reinsurance |
1. Resulted in a UW gain/loss of >5% of prior surplus or ceded premiums or loss & LAE reserves of >5% of prior surplus (material), 2. was accounted for as reinsurance rather than a deposit (favorably accounted for), and 3. Had any of the following features: - Non-cancellable duration of >=2 years - Limited cancellation provisions - Aggregate stop-loss coverage - Commutation rights except in the event of counterparty credit downgrades - Payment or reporting of losses less frequently than quarterly - Delayed timing of reimbursement |
