Recent Developments in Indexed Annuity Disclosure and Illustrations

Recent Developments in Indexed Annuity Disclosure and Illustrations

Actuaries Club of Boston Annual Meeting September 22, 2011Actuaries Club of Boston Annual Meeting September 22, 2011

Kathryn Dowdell, FSA, MAAAProduct Actuary, Director Product ComplianceJohn Hancock

Kathryn Dowdell, FSA, MAAAProduct Actuary, Director Product ComplianceJohn Hancock

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Outline

• Background

• Annuity Disclosure Updates

• Annuity Illustration Standards

• Fixed Indexed Annuity Illustration Standards

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Background

• Current Illustration Environment– Annuities are out of scope for Life Insurance

Illustrations Model Regulation– No specific FINRA standards for VA Illustrations– Result can be a non-level playing field

• Subject to each company’s standards• Subject to interpretation of reviewers

• Future State– Proposed FINRA Rule 2211– Revised Annuity Disclosure Model Regulation

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• Buyer’s Guide and Disclosure Document– Variable Annuities no longer exempt

• Buyer’s Guide• Disclosure Document after January 1, 2014• Illustration Standards do not apply

– Disclosure Document• Fixed Indexed Annuity disclosure document must

include> Explanation of elements of the indexed credit

including caps, participation rates and spreads> Explanation of the calculation of the indexed-based

interest

Annuity Disclosure Updates

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Annuity Illustration Standards

• General Compliance Standards– Clearly label as illustration– Use company authorized software– Do not imply that non-guaranteed elements are

guaranteed– Clearly label guarantees– Number all pages – Page x of y– Describe assumed timing of all cash flows

• Additional Disclosure Standards – Illustration must reference the Buyer’s Guide and

Disclosure Document– Illustration must be accompanied by the Disclosure

Document

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Annuity Illustration Standards - continued

• Content– Narrative Summary– Numeric Summary

• Guaranteed• Non-Guaranteed

– Explanation of MVA if applicable

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Annuity Illustration Standards - continued

• Narrative Summary– Brief explanation of contract, riders and features illustrated– Brief explanation of riders, features or options elected but not illustrated– Definition of column headings and key terms– Explanation of minimum guarantees– Explanation of impact of surrender prior to maturity– For contracts subject to Required Minimum Distributions – an

explanation of the impact of RMDs on contract benefits– Explanation of when surrender charges will recur if applicable– Explanation of any conditions for payment of bonuses– Description of annuity options available

• Earliest (or only) Maturity Date• Periodic income amount at guaranteed rates for at least one guaranteed

option at later of age 70 or contract year 10

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Annuity Illustration Standards - continued

• Additional Narrative Summary Requirements for Fixed Indexed Annuities– Explanation of the elements used to determine the index-linked

interest• Indices• Indexing Method• Index Term• Participation Rate• Cap• Spread

– Explanation of how index-based interest is credited– Explanation of when company can change caps, spreads and

participations rates– Details of any fixed rate accounts and ability to allocate those accounts

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Annuity Illustration Standards - continued

• Additional Narrative Summary Requirements for Fixed Indexed Annuities (continued)– The following or a similar statement must be included

"This illustration assumes the index will repeat historical performance and that the annuity’s current non-guaranteed elements, such as caps, spreads, participation rates or other interest crediting adjustments, will not change. It is likely that the index will not repeat historical performance, the non-guaranteed elements will change, and actual values will be higher or lower than those in this illustration but will not be less than the minimum guarantees.

The values in this illustration are not guarantees or even estimates of the amounts you can expect from your annuity. Please review the entire Disclosure Document and Buyer’s Guide provided with your Annuity Contract for more detailed information"

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Annuity Illustration Standards - continued

• Nonguaranteed Values for Fixed Indexed Annuities– Three scenarios

• Most recent 10 calendar years• The 10 consecutive calendar years of the last 20 that would

result in the lowest growth• The 10 consecutive calendar years of the last 20 that would

result in the highest growth• Must show geometric mean annual effective rate for each

scenario– Have until April to update for most recent calendar year– Can not illustrate an index unless it has been in existence

for at least 10 calendar years

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Annuity Illustration Standards - continued

• Nonguaranteed Values for Fixed Indexed Annuities (continued)– If an index has been in existence for at least 10 years

but less than 20, the highest and lowest 10 consecutive calendar years are determined from the available performance

– If the numeric summary requires performance for more than 10 years, repeat the initial 10 years of performance

– If allocations to more than one index are illustrated• use the same allocations for all three scenarios• the highest and lowest 10 year periods are determined

separately for each index

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Annuity Illustration Standards - continued

• Nonguaranteed Values for Fixed Indexed Annuities (continued)– Caps, spreads and participation rates should not be more

favorable than current– Variations for low and high scenarios

• Surrender Values are not required to be illustrated• Do not illustrate beyond 10 years• These scenarios should show every type of adjustment that

may be made to the performance of the index. Must indicate any type of adjustment that is not illustrated due to the historical performance.

– Must include a graph showing changes in the account value over the 10 year period under each scenario

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Annuity Illustration Standards - continuedAnnuity Illustration Standards - continued

• Market Value Adjustment– Include a description of potential impact of MVA on

• Value at surrender• Death Benefit

– Describe both upside and downside impacts• A disclosure statement for the narrative summary is

included in the model– Must include a separate page that shows the impact

of the MVA in one positive and one negative scenario • may be a graphical presentation

– Illustration should reflect any floors and ceilings on MVA

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Annuity Disclosure Model

• Status– Adopted by Life Insurance and Annuities (A) Committee

on August 3, 2011– Was expected to be considered for final adoption at the

NAIC Summer National Meeting

Recent Developments in Indexed UL DisclosuresRecent Developments in Indexed UL Disclosures

Actuaries Club of Boston Annual Meeting September 22, 2011Actuaries Club of Boston Annual Meeting September 22, 2011

Michael L. Barsky, FSAAssistant Vice PresidentLife Product ManagementJohn Hancock

Michael L. Barsky, FSAAssistant Vice PresidentLife Product ManagementJohn Hancock

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OutlineOutline

• What is Indexed UL?

• IUL Industry Sales

• Illustrating Indexed UL

• Formation of IUL Illustrations Task Force

• Summary of Recommendations– Indexed UL vs Indexed Annuities

• Current Status / Next Steps

• What is Indexed UL?

• IUL Industry Sales

• Illustrating Indexed UL

• Formation of IUL Illustrations Task Force

• Summary of Recommendations– Indexed UL vs Indexed Annuities

• Current Status / Next Steps

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What is Indexed UL?What is Indexed UL?

• UL where interest credited is based on the performance of (one or more) external indexes

• Interest credited is subject to a minimum (floor), maximum (cap), and participation rate– Floor and cap are usually non guaranteed

• Various methods / time periods for index calculation– Most popular: annual point-to-point– Others: monthly point-to-point, annual multi-year

• Various Indexes– Most popular: S&P500– Others: S&P 400 midcap, Russell 2000, “Rainbow”

• Most products are accumulation-focused, high funding

• Most are nonregistered

• UL where interest credited is based on the performance of (one or more) external indexes

• Interest credited is subject to a minimum (floor), maximum (cap), and participation rate– Floor and cap are usually non guaranteed

• Various methods / time periods for index calculation– Most popular: annual point-to-point– Others: monthly point-to-point, annual multi-year

• Various Indexes– Most popular: S&P500– Others: S&P 400 midcap, Russell 2000, “Rainbow”

• Most products are accumulation-focused, high funding

• Most are nonregistered

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IUL Industry SalesIUL Industry Sales

• First IUL product introduced in 1997 by Transamerica

• Sales started slow but steadily climbing, especially since 2006– Now 11% market share

• First IUL product introduced in 1997 by Transamerica

• Sales started slow but steadily climbing, especially since 2006– Now 11% market share

VUL vs IUL Sales 2000-2010

0

500

1000

1500

2000

2500

3000

3500

4000

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010

Year

An

nu

al P

rem

ium

($M

)

VUL

IUL

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Illustrating Indexed ULIllustrating Indexed UL

• Covered by the NAIC Illustrations Model Regulation

• The caps, floors and participation rate are subject to DCS testing as any other nonguaranteed element

• However, need to translate these into to an appropriate illustrated rate

• Currently a variety of approaches by company– Lookback method is the prevailing approach– Periods range from 20-40 years– Different assumed issue dates by company– Result: identical products can be illustrated at different rates

• Indexed loans– Do applicants understand it is not a risk-free arbitrage

• Covered by the NAIC Illustrations Model Regulation

• The caps, floors and participation rate are subject to DCS testing as any other nonguaranteed element

• However, need to translate these into to an appropriate illustrated rate

• Currently a variety of approaches by company– Lookback method is the prevailing approach– Periods range from 20-40 years– Different assumed issue dates by company– Result: identical products can be illustrated at different rates

• Indexed loans– Do applicants understand it is not a risk-free arbitrage

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IUL Illustrations Task ForceIUL Illustrations Task Force

• Formed in June 2010

• Now 32 participants across 16 companies – Represents 87% of industry IUL sales

• Goals:– Education – make it easier for applicants to understand

how product works and the associated risk– Consistency – ensure that otherwise identical products can

be illustrated at the same maximum rate– Product Development – do not want to restrict innovation

• Formed in June 2010

• Now 32 participants across 16 companies – Represents 87% of industry IUL sales

• Goals:– Education – make it easier for applicants to understand

how product works and the associated risk– Consistency – ensure that otherwise identical products can

be illustrated at the same maximum rate– Product Development – do not want to restrict innovation

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Draft Summary of RecommendationsDraft Summary of Recommendations

• Recommendation #1: Standardized Lookback Method– 25 year lookback period (for one year point-to-point crediting methods)

• If less than 25 years history, use what is available and include a footnote

• For multiyear index periods, want 25+ years of endpoints, so use more than 25 years of history– Use all available days– Maximum rate = arithmetic average over all data points– Use current caps/floors/participation rates– For multiple indices, use separate bucket for each index– Example:

• 12% cap, 0% floor, 100% participation rate based on the S&P 500

• Use period from Jan 1 1986 – Dec 31 2010

• Calculate geometric average for 25 year period for each possible issue date

> Ex: Jan 1 = 7.27%; Jan 2 = 7.15%,…Dec 31 = 7.27%

• Then take arithmetic average of each day, resulting in overall average of 7.53%

• Recommendation #1: Standardized Lookback Method– 25 year lookback period (for one year point-to-point crediting methods)

• If less than 25 years history, use what is available and include a footnote

• For multiyear index periods, want 25+ years of endpoints, so use more than 25 years of history– Use all available days– Maximum rate = arithmetic average over all data points– Use current caps/floors/participation rates– For multiple indices, use separate bucket for each index– Example:

• 12% cap, 0% floor, 100% participation rate based on the S&P 500

• Use period from Jan 1 1986 – Dec 31 2010

• Calculate geometric average for 25 year period for each possible issue date

> Ex: Jan 1 = 7.27%; Jan 2 = 7.15%,…Dec 31 = 7.27%

• Then take arithmetic average of each day, resulting in overall average of 7.53%

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Draft Summary of RecommendationsDraft Summary of Recommendations

• Recommendation #2: Historical Tables

– Index History• Yearly history of the index and resulting crediting rates for

each of the most recent 20 calendar years

• Helps applicants to understand that yearly returns will fluctuate

– Indexed (aka Variable) Loan History• Yearly history of the loan rates and index crediting rates for

each of the most recent 20 years

• Helps applicants to understand that indexed loans are not a risk-free arbitrage, and that yearly crediting rates may be more or less than the loan rate

• Would be required whenever indexed loans are available, whether or not they are actually illustrated

• Recommendation #2: Historical Tables

– Index History• Yearly history of the index and resulting crediting rates for

each of the most recent 20 calendar years

• Helps applicants to understand that yearly returns will fluctuate

– Indexed (aka Variable) Loan History• Yearly history of the loan rates and index crediting rates for

each of the most recent 20 years

• Helps applicants to understand that indexed loans are not a risk-free arbitrage, and that yearly crediting rates may be more or less than the loan rate

• Would be required whenever indexed loans are available, whether or not they are actually illustrated

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Draft Summary of RecommendationsDraft Summary of Recommendations

• Recommendation #3: Alternative Lookback Period Table– To help applicants understand how the index would have

performed over shorter/longer time periods– Describe the resulting rates as “hypothetical interest

rates”– Example:

Assumed Lookback Periods10 yrs        20 yrs        25 yrs        30 yrs  

     40 yrs Hypothetical Interest Rates* 5.40% 7.35% 7.53% 7.43% 7.05%

* The non guaranteed values in this illustration are based on the hypothetical illustrated index credit rate not to exceed the

maximum hypothetical illustrated rate, current cost of insurance rates, and current expense charges.  The maximum hypothetical illustrated rate is 7.53%, based on a daily average of the annual compound index rates of return for a 25-year historical period through 12/31/2010.  This maximum hypothetical rate applies current growth cap rates, participation rates and guaranteed minimum interest rates to the past performance.  The hypothetical rate of return using the same methodology but with other historical reference periods are shown in the above table

• Recommendation #3: Alternative Lookback Period Table– To help applicants understand how the index would have

performed over shorter/longer time periods– Describe the resulting rates as “hypothetical interest

rates”– Example:

Assumed Lookback Periods10 yrs        20 yrs        25 yrs        30 yrs  

     40 yrs Hypothetical Interest Rates* 5.40% 7.35% 7.53% 7.43% 7.05%

* The non guaranteed values in this illustration are based on the hypothetical illustrated index credit rate not to exceed the

maximum hypothetical illustrated rate, current cost of insurance rates, and current expense charges.  The maximum hypothetical illustrated rate is 7.53%, based on a daily average of the annual compound index rates of return for a 25-year historical period through 12/31/2010.  This maximum hypothetical rate applies current growth cap rates, participation rates and guaranteed minimum interest rates to the past performance.  The hypothetical rate of return using the same methodology but with other historical reference periods are shown in the above table

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Draft Summary of RecommendationsDraft Summary of Recommendations

• Recommendation #4: Optional Historical Supplemental Illustrations– To help applicants understand the volatility of the index and

the impact on their values, a supplemental historical illustration is recommended

– Would assume that policy was issued 25 years ago and show resulting policy values based on actual calendar year returns

– Would be based on the same premiums, loans and policy changes as in the basic illustration

– Resulting final values may be more or less than those in the basic illustration

• Recommendation #4: Optional Historical Supplemental Illustrations– To help applicants understand the volatility of the index and

the impact on their values, a supplemental historical illustration is recommended

– Would assume that policy was issued 25 years ago and show resulting policy values based on actual calendar year returns

– Would be based on the same premiums, loans and policy changes as in the basic illustration

– Resulting final values may be more or less than those in the basic illustration

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Indexed UL vs Indexed Annuities Indexed UL vs Indexed Annuities Life Insurance Annuities

Required Number of Scenarios per Illustration

1 3

Ability to enter an assumed Illustrated rate(s)?

Yes No

Assumed rate during historical period

The entered rate(s), up to the maximum

a) historical performance of the index for the most recent 10 calendar years

b) historical performance of the index for the continuous 10 year period out of the last 20 year period that would result in the least index value growth

c) historical performance of the index for the continuous 10 year period of the last 20 year period

Assumed rate after historical period

The entered rate(s), up to the maximum

The geometric mean annual effective rate over the initial historical period shall be used to calculate the account value for the remaining years of the illustration. Applies to scenario (a) above only; the low and high scenarios shall not go beyond 10 years

Minimum historical period for index to be illustrated

None; include footnote if less than 25 years10 years

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Indexed UL vs Indexed Annuities Indexed UL vs Indexed Annuities

Life Insurance Annuities

Maximum rate

The maximum rated will be based on the 25 year lookback average for the one year point to point index. For multiyear indices, the maximum rate will be based on 25 years of endpoints

n/a….illustrations above will be created based on the actual history

Number of years of historical data used

25 years20 years, but only 10 of the 20 Years are used in any

one illustration

Graphical presentation required?

None; include footnote if less than 25 years

Yes: must compare the movement of the account value over the 10 year period for the low scenario, the high scenario and the most recent 10 calendar year scenario

Data pointsUse arithmetic average all available data points

(e.g. daily)Use calendar year results only

Which caps/floors/participation rates to use

Current No more favorable than current

Rainbows: If minimum historical period not available for all indices

Still under discussion. If more than one index is being used, use the full 25 years if available and use whatever period is available for the remaining index.

Must have 10 years history to illustrate

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Indexed UL vs Indexed Annuities Indexed UL vs Indexed Annuities

Life Insurance Annuities

Required disclosures 1. Historical Table - 20 years of historical calendar year returns 2. Indexed/Variable Loan Table - 20 years of calendar year loan rates vs indexed returns 3. Table of hypothetical interest rates for various lookback periods

"This illustration assumes the index will repeat historical performance and that the annuity’s current non-guaranteed elements, such as caps, spreads, participation rates or other interest crediting adjustments, will not change. It is likely that the index will not repeat historical performance, the non-guaranteed elements will change, and actual values will be higher or lower than those in this illustration but will not be less than the minimum guarantees. The values in this illustration are not guarantees or even estimates of the amounts you can expect from your annuity. Please review the entire Disclosure Document and Buyer’s Guide provided with your Annuity Contract for more detailed information"

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Current Status / Next Steps Current Status / Next Steps

• Task force preference is to make the IUL changes through ASOP 24

• Also, through updates to the AAA Practice Note (last updated in 2009)

• Other approaches being considered

• Task force preference is to make the IUL changes through ASOP 24

• Also, through updates to the AAA Practice Note (last updated in 2009)

• Other approaches being considered