Reserves

Question 1

Sources of requirements and guidance for setting reserves

Answer 1

1. State laws and regulations - prescribe certain reqs for calculating reserves or language to include in opinion
2. NAIC Accounting Practices and Procedures Manual - for when state regs are silent
3. NAIC annual statement instructions - specify what should be included in certain line items
4. ASOPs
5. Health Reserves Guidance Manual (HRGM) - assists actuaries that estimate reserves and examiners who review statements
6. Actuarial practice notes - provide info on current practices in new and developing areas

Question 2

Standard wording for the actuarial opinion in the health insurance statement

Answer 2

1. Identification paragraph - identify actuary, relation to company
2. Scope paragraph - identify liabilities opinion will discuss
3. Opinion paragraph - states that it is the actuary’s opinion that liabilities on the balance sheet:
   a) are in accordance with accepted actuarial standards and sound actuarial principles
   b) are based on relevant and appropriate actuarial assumptions
   c) meet the reqs of state laws
   d) make good and sufficient provision for all act. liabilities of the org
   e) are computed based on assumptions consistent with prior year’s assumptions
   f) include appropriate provision for all actuarial items that ought to be established
4. Statements - that methods, considerations, and analyses confirm to relevant ASOPs

Question 3

Additional considerations in establishing claim reserves

Answer 3

1. Incurral dating method
2. Reserve basis (stat, GAAP, tax)
3. Interest - reserves for claims w/ long payouts may be discounted to reflect interest
4. Controls - data should be tested for accuracy
5. Insurance characteristics - reserves vary w/ type of risk
6. Reserve cells - for homogeneous biz categories
7. Managed care features - e.g., discounts, provider RSAs
8. Trends
9. Seasonality
10. Claim admin expenses (reserve = % of claim reserve)
11. Morbidity assumptions

Question 4

Advantages and disadvantages of stochastic approaches for reserving

Answer 4

Advantages

1. Provides explicit guidance for establishing PAD
2. Provides guidance on potential variability in reported earnings and reserve levels
3. Allows for quantification of variability in items like seasonality and claim trend
4. Allows for improved eval of reserve estimates

Disadvantages

1. May give false sense of confidence to others b/c of sophistication
2. May be too complex to be used by all who have to use it
3. Not every process can be modeled rigorously

Question 5

Stochastic modeling techniques for reserving

Answer 5

1. Fitting a parametric distribution to the data - best when process being modeled is stationary over time
2. Ordinary least squares regression - best for investigating effects of specific explanatory variables like trend
3. Generalized linear models - Improve upon ordinary reg models b/c allow for non-normal distribution, bounded variable
4. Stochastic time series models - for when values are correlated across time (seasonal/cyclical patterns)
5. Monte Carlo simulation - when combining results from any of the other techniques

Question 6

Considerations when developing a stochastic approach to reserve estimation

Answer 6

1. Availability of data
2. Appropriateness of data - representative?
3. Access to statistical software
4. Appropriateness of model
5. Covariances of modeled estimates - must be estimated

Question 7

Features of LTD and LTC contracts to consider when setting reserves

Answer 7

1. Periodic benefits - usually specified monthly/daily amounts
2. Long term benefit periods
3. Elimination periods
4. Optional benefits - may affect timing or amount of monthly payments
5. Integration of benefits
6. Limitations and exclusions

Question 8

Types of long term claims and reserve methods

Answer 8

1. Open claims - claim currently being paid (uses tabular reserves)
   a) Reserve = sum of benefit * continuance * v (continuance = prob of claim continuing to receive payments in future)
2. Pending claims - reported but payments haven’t begun
   a) Reserve if in elim period = pending factor * tabular reserve
   b) Reserve if past elim period = pending factor * (tabular reserve + AV of past payments not yet made)
3. IBNR claims - reserve can be estimated using either lag or LR method

Question 9

Methods for evaluating claim reserve adequacy

Answer 9

1. Runoff studies (usually by incurral year) - previous reserve balances are compared to subsequent claim payments and reserve balances, w/ adj for interest
2. A/E claim termination rate studies (usually by claim duration) - compares based on table used for reserving
3. Experience studies - typically involves a GPV. Reserve is adequate if PV of future gross premiums + reserve > PV of future claim cost

Question 10

Types of reserve reporting

Answer 10

1. Regulatory reporting - conservative
2. GAAP reporting - realistic with PAD
3. Experience reporting for employers and providers
4. Valuations for acquisitions - reserves are often focal point of negotiations b/c material to profitability; often final settlement after several months to revisit purchase price and assess impact of claim reserves

Question 11

Types of claims liabilities and reserves

Answer 11

1. Due and unpaid - reported, adjudicated, and processed, but not paid; usually small; use historical averages
2. ICOS - reported and received, not adjudicated and paid; use avg claim * # of claims
3. IBNR - project by using existing payment data to develop average exp claims or claim pmt patterns
4. LAEs - usually % of unpaid claims liability
5. PV of amounts not yet due (PVANYD) = unaccrued - estimate of future amounts due on known open claims, such as for disability or LTC; usually reserved on a seriatim basis w/ tabular approach
6. Resisted claims - in litigation; reserved assuming full benefits and possibly amounts for damages
7. Outstanding accounting feed (may overlap with due and unpaid) - amounts which have been acknowledged as payments, but no check cut so reserves based on AP

Question 12

Methods of estimation for claim reserves

Answer 12

1. Case reserves - claim-by-claim basis; can’t use for IBNR
   a) Examiner’s method - estimate ultimate pmt and deduct what’s been paid already
   b) Average size claim method - # of reported claims * average claim amount - amt already pd
2. Projection method (aka formula or factor method) - develop historical claim rate as function of some measure of exposure, then apply this rate to projected exposure (e.g., projected PMPM claim costs * MMOS - claims already pd)
3. LR method (aka claim cost method) - use where volume is low or to validate other methods; LR * earned premium - claims already pd
4. Tabular method - apply factor to open claims; typically used for LTC or disability, can’t use for IBNR
5. Development method (aka lag, completion, or triangulation method) - projects historical claim lag pattern into future to estimate reserve based on experience data
6. Stochastic approaches

Question 13

Types of coverages for which development method works well

Answer 13

1. Ability to record incurral and pmt dates for each claim
2. Fairly consistent lag patterns
3. Short incurral periods relative to ultimate run out
4. Sufficient volume of biz in each cell (for stable results)
5. Availability of either earned premium or expo data

Question 14

Steps of development method

Answer 14

1. Summarize data by incurral month vs paid month to get claims triangle
2. Sum cells of first claims triangle to get cumulative paid claims by incurral month
3. Calculate age-to-age development factors as ratios of month to month cumulative claims
4. Smooth the month-to-month variations in age-to-age factors
5. Calculate age-to-ultimate factors from smoothed a-t-a factors
6. Divide each incurral month’s cumulative paid claims by its completion factor to get fully incurred claims
7. Subtract cumulative paid claims from fully incurred claims to get unpaid claims liability

Question 15

Smoothing methods to apply to development factors

Answer 15

1. Simple averaging - such as 3 month average; could do 12 but trends may get buried
2. Removing bumps - throw out high and low and average the rest; could just remove shock claims from triangle and analyze separately
3. Weighted averaging - give more cred to recent months
4. Other types of means - harmonic, geometric
5. Dollar-weighted methods (vs ratio weighted) - average cum pmts for consecutive lag months and then compute age-to-age factors as ratio of those averages
6. Per member age-to-age ratios - divide pmts per lag by expo to create PMPM pmts, and then apply dollar-weighted approach

Question 16

Methods for adjusting development method reserve estimates for recent incurral months

Answer 16

Completion factors for most recent months are typically too small to be credible and should be replaced using one of the following methods:

1. LR method
2. Projection method
3. Credibility-weighted average of completion estimates with estimates based on projection or LR method (weights assigned based on how close to 1.0)

Question 17

Process for building in conservatism in claim reserves

Answer 17

1. Development method - can incorporate in completion and projection factors but usually use most likely factors and add explicit margin to reserve
2. Tabular reserves - margins typically included in assumptions used to calculate the factors
3. Projection method - add margins to trend assumptions used to project costs/unit
4. LR method - margins can be explicit or implicit

Question 18

Assumptions needed to estimate premium deficiency reserves

Answer 18

PDR = PV of future claim costs/expenses - PV of future premiums and current reserves

1. Rate increases - must be reasonable and likely
2. Enrollment - can’t project that new people will help morbidity unless justified
3. Lapses - should reflect potential antiselection
4. Expenses - must reflect operating costs
5. Claims trend - reflect reasonable increases
6. Interest rates - reasonable assumptions used to discount deficiencies
7. Taxes - calc on after-tax basis
8. Provider arrangements - settlements under RSAs should not be used to offset claims unless they have been specifically billed to providers; include capitations as claims costs
9. Reinsurance - calculation of reserve is usually net of reinsurance

Question 19

Types of outcome-based contractual reserves

Answer 19

1. Employer-based contractual liabilities - where employer shares risk of emerging claims experience
   e. g., claims stabilization reserve (CSR) = prior period CSR + prem earned + interest credits - claims incurred - risk/retention charge
2. Minimum LRs
3. Provider liabilities - e.g., capitation pmts owed, withholds, bundled pmts, bonuses, incentives, stop loss settlements

Question 20

Steps for using the authorization method to project claims

Answer 20

1. Gather data on # of authorized services as of the valuation date
2. Adjust authorized services - for diffs between initial authorizations and actual services rendered (such as for appeals, poor data, etc)
3. Calculate average cost per service rendered - often blend of provider contractual amounts and actual pmts made
4. Estimate incurred claims - # of services * cost per service
5. Calculate estimated IBNR = estimated incurred claims - amount of paid claims to date

Question 21

Methods for calculating provider liabilities

Answer 21

1. Risk-based payments - liabilities are based on projected contractual payout (based on difference between experienced and targeted costs); settlements are done several months after end of period, so reserves not big factor; reserves should consider any applicable stop loss or carveout provisions
2. Bonus or incentive contracts - estimates normally based on utilization studies

Question 22

Alternative approaches for estimating liabilities with the development method

Answer 22

1. Multiple triangles - looks at claim triangles in both traditional way (claims pd by service date) and in new way (claims reported by service date)
2. Other kinds of lag triangles - some actuaries bucket payments into weekly cells and then apply the traditional development method
3. Time series and other statistical projections (aka regression methods) - use advanced statistical and computer tools, with uses including:
   a) Project payment patterns for partially complete incurral months (instead of development factors)
   b) Project PMPM costs that can be applied in projection method techniques

Question 23

Definition of reserves and liabilities

Answer 23

1. Liabilities are obligations that are already incurred and accrued (e.g., DI payments)
2. Reserves are for obligations which have not yet been incurred or are not yet accrued
3. In practice, both are called reserves and are combined

Question 24

Reserve standards for the different types of financial statements

Answer 24

1. Statutory statement - reserves tend to be conservative
2. GAAP statement - focus is on matching profit streams w/ revenue streams, with a lesser degree of conservatism (but still PADS)
3. Tax statement - IRS standards make sure profits beyond a set level are recognized, and therefore taxed, immediately
4. Embedded value based statement - may be needed for int’l companies; standards set by IASB

Question 25

Types of premium reserves

Answer 25

1. Types of active life reserve
   a) Unearned premium reserve (UPR) - reserve for the premium that has been booked to cover the portion of coverage period not yet occurred
   i. Usually a pro-rata protion of last gross premium received
   ii. When a company holds policy reserves, gross UPR is replaced by a net UPR that is based on the net premium used in calculating policy reserves
   b) Policy reserves (contract reserves) - portion of premium collected in early durations designed to help pay for anticipated higher claims in later durations (needed where claim costs increase w/ age but premium is level)
2. Premium paid in advance - reserve for premiums paid in advance for future coverage periods
3. Premium due and unpaid - an asset is created on the statement for the amt expected to be received

Question 26

Types of policies for which policy reserves are required

Answer 26

1. Contracts that use level premiums

2. Contracts where the value of the future benefits at any time exceeds the value of future net premiums

Question 27

Reasons why a deficiency reserve may be needed

Answer 27

1. Policy is noncancelable so premium rates can’t be raised
2. Regulators are unlikely to allow premium rates to rise to self-sufficient levels
3. Size of increases needed might trigger antiselection spiral that makes it impossible to ever break even

Question 28

Challenges in valuations for group life and health business

Answer 28

1. Group insurance encompasses different lines of business with different features
2. There is a wide variety of benefits and financial arrangements
3. For groups beyond certain size, contracts are usually customized and contain side agreements
4. Record keeping and admin practices for TPAs don’t always meet actuary’s needs
5. Statutory experience refund reserves may not equal group’s surplus due to difference in valuation bases
6. Wide variety of ben types, contract provisions, and rating practices
7. Group contracts usually short term, but liabilities may be long term
8. Often data issues

Question 29

Considerations in assessing trends in disability termination rates

Answer 29

1. Changes in mix of disabilities by cause, by severity, or by geographical region
2. Changes in level of benefits provided
3. Changes in claim admin practices
4. Economic cycles
5. Material change in inflation or benefit indexation
6. Changes in gov’t plan definition of disability (affects offsets)

Question 30

Common types of reinsurance for group life and health business

Answer 30

1. Coinsurance - insurer cedes a portion of the biz to one or more reinsurers; each reinsurer holds the policy liabilities on its portion of the biz
2. Modified coinsurance - insurer cedes a portion of the liabilities to other insurers, but retains the assets backing the policy liabilities (as an amount owing to reinsurers)
3. Excess of risk reinsurance - coverage of amounts above the insurer’s retention limit is ceded to a reinsurer who holds the policy liabilities to the coverage

Question 31

Principles for determining premium deficiency reserves

Answer 31

1. Situations that result in a PDR being established include:
   a) A block of business expected to have near-term losses
   b) A block of business expected to be profitable in the near term, but long-term guarantees will cause it to be unprofitable over the projection period
2. Should minimize false positives
3. Should minimize false negatives

Question 32

Contract groupings for premium deficiency reserve calculations

Answer 32

1. Contracts should be grouped in a manner consistent with how policies are marketed, serviced, and measured
2. Deficiencies on a product can be offset by profits on other products within its group, but not by profits in other contract groupings
3. Recommended groupings from HRGM:
   a) Comprehensive major medical
   b) LTC
   c) Income protection (DI)
   d) Limited benefit plans

Question 33

Approaches for signing the Statement of Actuarial Opinion when reserves are too high or too low

Answer 33

1. Issue a qualified opinion - be straightforward in laying out concerns, then state opinion with those exceptions noted
2. Convince management to change the reserves to an appropriate level
3. If other options fail, notify management that you must sign opinion stating reserves are inadequate

Question 34

ASOP considerations for estimating incurred claims

Answer 34

1. Plan provisions and business practices - reflect practices that materially affect cost, frequency, or severity of claims
2. Economic influences - e.g., unemployment levels, cost shifting, catastrophic events
3. Organizational claims administration - lag factors may vary due to staffing levels, seasonal backlogs, system changes
4. Risk characteristics and organizational practices by block of business - consider effects of UW, marketing on types of risks accepted
5. Legislative reqs - consider how regs mandating benefits, rating, reserving, and UW practices can affect incurred claims
6. Carve outs - consider effect of carved out benefits
7. Special considerations for long-term products - COLA, inflation, etc

Question 35

Types of statements of actuarial opinion

Answer 35

1. Unqualified opinion - says reserve amount makes good and sufficient provision for all unpaid claims and other liabilities
2. Adverse opinion - says aggregate amount established is not sufficient
3. Qualified opinion - when actuary feels certain liabilities or assets can’t be reasonably estimated or actuary is unable to render opinion on them
4. Inconclusive opinion - when actuary can’t reach conclusion due to deficiencies or limitations in data, analyses, etc

Question 36

Info to include in statement of actuarial opinion

Answer 36

1. The words “statement of actuarial opinion” in title
2. Intended users
3. Intended purpose
4. Liabilities being opined upon
5. Stated basis of amounts presented
6. Scope of analysis and review date
7. Type of opinion

Question 37

Considerations for determining contract reserves (PIMPVET)

Answer 37

1. Persistency - include both voluntary and involuntary terminations
2. Interest rates
3. Morbidity - should reflect underlying risk including factors such as age etc
4. Premium rate changes - should reflect rate guarantees, market conditions, regulatory restrictions, etc
5. Valuation method
6. Expenses - include maintenance, acq, and/or claim expenses?
7. Trend - inflation, util, morbidity, and expense rates should reflect appropriate trend

Question 38

Considerations for determining provider-related liabilities

Answer 38

1. Risk-sharing and capitation arrangements - nature of arrangement
2. Provider financial condition - if provider can meet obligations
3. Provider incentive payments - whether liability should be held for them

Question 39

Impact of ACA on actuarial liabilities

Answer 39

1. Claim liabilities - changes from required plan design changes, additions to risk pool, changes in claim ops, etc
2. Contract reserves - some insurers held contract reserves in indiv market to account for effect of UW wearoff, but no UW allowed anymore
3. Due and unpaid premium asset - affected by new 90 day premium grace period provision for those who receive prem subsidies through exchange
4. Premium deficiency reserve - more reviews of rate increase filings –> denial of needed rate increases –> need for PDR