NEW YORK - Industry observers, commenting on a recommendation that states determine whether lapse rates can be used when calculating reserves for universal-life policies with guaranteed death benefits, say that using them can lower premiums.
In the latest development in a long-
simmering debate over how to handle universal-life reserving, the National Association of Insurance Commissioners in Kansas City, Mo., this month issued a staff counsel opinion that lapse rate usage should be left to the discretion of the state insurance departments.
The next step is for the NAIC's life insurance and annuities committee to act on the opinion, which is supported by the committee's chairman.
"Reducing excessive reserves can lower life insurance premiums," said Paul Graham, vice president of insurance regulation and chief actuary of the American Council of Life Insurers in Washington. "But the exact impact on prices in states that permit lapse rates to be used in universal-life reserving will vary by company," he added, declining to speculate on how much premiums may go down in those states.
Using the lapse rate - an actuarial estimate of the number of policies that will terminate prematurely due to premium non-payment - permits insurers to carry lower reserves, decreasing expenses and freeing up capital. Insurers may, but are not required to, pass those savings along to policyholders.
The reserving problem that has developed with universal-life policies is that they tend to lapse at a much lower rate than other kinds of life insurance, because policyholders want to keep the guaranteed death benefit in force.
The ACLI had proposed a 2% lapse rate for the first five years of the policy, and lower rates thereafter. In response, North Dakota Insurance Commissioner Jim Poolman, chairman of the NAIC's life insurance and annuities committee, had requested an opinion on the use of lapse rates from the association's legal staff.
"Lowering the reserves will lower premiums, because the insurers won't have to tie up as much capital and won't have to purchase as much reinsurance or as many letters of credit," he said. "This legal opinion clears the way to move forward with a more modern approach to reserving."
"The higher reserves [from banning the use of lapse rates] are not necessary for the insurers to remain solvent and be able to pay claims under UL policies," said Scott Carney, head of retail-life product management for Atlanta-based ING U.S. Financial Services.
Most regulators aren't worried that the lower reserves will jeopardize insurer solvency or harm policyholders, Mr. Poolman confirmed. Insurance regulators and insurers are not at odds over the lapse rate issue but are merely trying to determine the best way to calculate reserves, he noted.
"Due to the flexibility in premium payments for universal-life policies, those policies never fit well inside of the existing reserving statutes," said Mr. Carney. Universal-life policies allow policyholders to decide whether to pay premiums upfront or delay payment, he noted.
"We never priced these products assuming that they would lapse," said Mike Farrell, executive vice president of MetLife Inc. in New York. "We knew that most people were buying UL policies mainly for the death benefit and not for investment, and therefore wouldn't let them lapse."