Approaching Immortality

• Ronald J Panko
• October 2002
• 

By the end of this year, the National Association of Insurance Commissioners may adopt a new mortality table for life insurance that would have repercussions on the life business, but primarily would lower the minimum reserves companies would hold to back product guarantees.

The NAIC, the Society of Actuaries and the American Academy of Actuaries are working on the 2001 Commissioners Standard Ordinary Table, the first new one since the 1980 CSO Table that went into effect in the mid-1980s. The 2001 table would reduce overall reserve requirements by about 20% to reflect mortality improvements. Required reserves would fall more sharply for business written on men than on women, on age brackets from 35 to 55, and for level-premium term policies than for whole life or level-premium universal life with cash values to age 100.

In a major change, the new table assumes insureds will die by age 120, up from age 100. The table would only minimally affect the life-settlement and long-term-care businesses, and it would have no effect on annuities, for which the NAIC adopted a new table more than four years ago.

How much the new table will affect the life industry's premiums, product designs or distribution, however, is a matter of debate. When the 1980 CSO Table came out showing a huge improvement in life expectancy, insurers scrambled to make changes in products and invent new programs. This time around, the industry is ahead of the curve.

"The technology is there for everybody to do their own mortality studies," said Paul Graham, chief actuary for the American Council of Life Insurers. If a company can't do its own studies, due to size or technology constraints, there are consultants who do mortality studies, and smaller companies can use the consultant data to make sure they're appropriately priced, he said.

Companies have been building their own mortality tables in-house for more than 10 years, Graham said. The new tables from the NAIC will affirm what companies have been doing and will affect their reserves more than their underwriting processes, he said.

"Mortality is only one factor in the pricing of our products, and our company strives to modify prior tables to reflect current experience on an annual, on-going basis," said Steve Douglas, region three underwriting manager for Woodmen of the World Life Insurance Society.

"We will certainly include the new information in an effort to look at our individual data, make minor adjustments to our standards and requirements if warranted, and continue to monitor our results, but we do not anticipate any sort of sea change to our current processes or methods," Douglas said.

New Life Products or Not?

"If you go back to the early 1980s, there were very high interest rates, and the huge decrease in mortality costs [was] just being recognized," Graham said. "The product design that took advantage of the new information was universal life. The combination of very high interest rates and reduced mortality made universal life a gangbuster product for those early 1980s. Then interest rates came back down, and the whole life writers adjusted their dividends, and everybody caught up.

"I don't see anything like that happening here," Graham said. "I don't see any product waiting in the wings for this lower mortality standard. You would think life insurance companies would be hailing the day a new lower mortality table was coming out, but they're very nonchalant about it, which leads me to believe the lower mortality is already taken into account in all the products they have in the market."

The new table may inspire some product changes.

In recent years, older people have begun insurance planning and financial planning, said Michael Batte, an actuary with the New Mexico Department of Insurance and chairman of the NAIC Life and Health Actuarial Task Force. A lot more people are living past age 100 now than were 20 years ago and therefore need insurance products later in life, he said. The industry is already trying to design those products, but tables that end at age 100--such as the 1980 CSO Table--limit the kind of design that can be used, he said. With the new tables extending to age 120, insurers have more flexibility to design products that meet the needs of the older population, he said.

As companies review their policies for reserve changes, they may begin to question whether they want to keep their minimum-size policies that low, said Jeff Marks, director of corporate owned life insurance and research with Northwestern Mutual. People make a lot more money now than they did in the 1980s when these plans were set up, and fewer people actually need the really small policies issued by some companies, he said. And the cost of issuing a policy is a fixed amount, no matter what the face amount is, except for the additional medical requirements as the face amount goes up, he said.

Reserves and Pricing

The significance of a new CSO table may be less in 2001 than it was in 1980, when the vast majority of business written was truly ordinary. "The traditional view is that whenever new mortality tables come out, there should be lower reserves and lower premiums," said Bob Holliday, actuarial manager in the Dallas office of accounting and tax firm KPMG LLP. "But the environment is different today than in 1980. Then we didn't have universal life [to the extent it exists today], Triple X and 7702." The latter is a section of the Tax Code that Congress passed in the mid-1980s to limit the amount of money contract owners can put into a universal life policy and still have it treated under the code as life insurance. The regulation's aim was to prevent people from using insurance products as tax-free accumulation accounts by dumping amounts into products far in excess of what was needed to provide the face amount's death benefit.

Holliday said he expects ordinary insurance products to have lower minimum reserves and slightly lower premiums. In universal life policies, the reserve is calculated differently than for whole life or term life. It is based on the guaranteed maturity premium and the guaranteed maturity fund, so that the required reserves won't necessarily decrease as a result of a new mortality table, he said.

On the contrary, the new mortality table might create some drawbacks for insurers, Holliday said. The table will likely decrease the expense allowances an insurer may claim, which in turn can limit a policy's surrender charge. A company depends on the surrender charge to recover certain costs if the policy is terminated early, so the new table may prevent a company from recovering as much of these costs as it can now, Holliday said.

While some may believe the new table will create another round of term insurance wars, Holliday said those companies already "aggressively and correctly managing" risks aren't likely to get into another pricing war. "But it will impact companies that have not been as aggressive," he said. In general, the smaller companies have been a little slower to engage in aggressive pricing because they don't have the resources of larger companies. "The small carriers are getting the reserve relief through reinsurance," he said. "They may get a better deal from their reinsurers. I don't see a major ripple, but there may be a minor one."

There has been a definite flight to quality lately, and the new mortality results will add to that flight, said David Evans, vice president of the Independent Insurance Agents & Brokers Association, a trade organization of agents and brokers across the United States. The insurers who are most adept at underwriting life policies will be most adept at using the new tables--therefore attracting more high-end consumers.

As long as insurance was considered a commodity, consumers were willing to do research on the Internet, Evans said. But the new mortality information will need to be explained to consumers, and they will turn to agents and brokers for that explanation, he said.

In the short term, people will want to talk to an agent, Evans said. The net difference for most consumers is that the premiums aren't going to look that much different, but the discussion will be based on the flight to quality, he said.

Reinsurance and Life Settlements

Reinsurers might see their booming businesses decline as ceding companies find less need for financial reinsurance--the kind they buy to avoid draining their surpluses for establishing reserves for new business. But the primary purpose of reinsurance is to spread risk, Batte noted.

Life-settlement companies are not likely to feel any immediate impact since they deal with policies already issued and in force. These companies buy policies insureds no longer want or can afford and collect the death benefit when the insured dies. The companies pay more than cash surrender value, and they also buy term life policies, which have no cash value.

Over the long term, however, policies issued under a new CSO table would probably be more attractive to life-settlement companies, and they might increase the number of policies appropriate for life-settlement purchases, Batte said. That is because lower required reserves would lower required nonforfeiture and cash values, which in turn might make it more likely settlement purchasers will perceive value in policies in excess of nonforfeiture and cash-surrender values. Nonforfeiture values are those in a contract that policyholders cannot forfeit even if they cease to pay premiums.

Administrative Problems

Changes wrought by a new mortality table may also produce an administrative headache for smaller companies. Larger companies are likely to have anticipated changes in their pricing, but smaller companies may have to change a lot in their policy forms, and there are fewer people at these companies to do the work, said Jack Luff, experience study actuary with the NAIC. "If a company has policy forms in several states, that's a lot of work," said Luff. "Big insurers are in more states, but they have a lot more on staff to handle the policy forms."

Some believe the new CSO table will present administrative challenges to most companies, regardless of size. Nancy Behrens, vice president, risk management, for State Farm Life Insurance Co., in an article published in the Actuarial Digest, Ponte Vedre, Fla., posed the question of whether CSO 2001 would amount to a "full-employment act" for actuaries. She said the new table would affect statutory reserves, cash values and tax reserves, and it would cause a re-examination of the definition of life insurance and modified endowment contracts. "Some talented and dedicated people worked on development of the table," she wrote. "We will need at least as many talented and dedicated people working on implementation."

Mortality Improvement Trends

To develop the 2001 mortality tables, the Society of Actuaries Task Force explored mortality improvement in both insured and noninsured populations, using various sources. Based on sources, the following observations were made:

-- Mortality improvement has tended to be larger for males than females.

-- Mortality improvement has tended to be smaller at attained ages under 45 and at attained ages above 85.

-- Annual mortality improvement for males aged 55-80 is in the range of 1% for Social Security and Federal Civil Service data. Insured experience is somewhat higher.

-- Annual mortality improvement for females aged 55-80 is in the range of 0.5%.

-- In some studies, female mortality has deteriorated in recent years.

Source: Society of Actuaries

"New Reserves vs. Old Reserves"

by Ron Panko and John Hillman