C5 - DAC question (oh god no!)

[Phil]

1.
What's the relation between the DAC asset and DAC taxable amount?


2.
You know how the "% to amortize depends on the product line" (7.70% for Individual, 2.05% for Group, 1.75% for annuities)? Are those numbers the percentage of the initial acquisition expense that is used to form the DAC? Or are those numbers the amount of DAC that is taxable? I don't know what those numbers mean.

Thanks very much for your help, as always!

[kooky cookie]

life is much easier when you keep DAC and DAC tax completely separate in your mind

the %s you gave are for DAC tax

DAC (or DAC asset) is just negative expense reserve

[Single Mom]

I agree DAC and DAC tax are two completely different things. Don't try to compare them. DAC tax percentages are applied to premiums. They are a way for the IRS to get some more money and apply to every company, including companies that don't do GAAP reporting so they don't set up a DAC asset.

[Phil]

Sorry, two more questions, but thank you very much so far!

3.
Using Earnings Reserves, how does the company know over how long to amortize that initial acquisitions expense? 20 years? 30 years?

4.
If DAC tax is a tax on premiums, how is it different from Premium tax?

Thank you so much :smile:

[Double High C]

On 2001-10-25 10:56, Phil wrote:
4.
If DAC tax is a tax on premiums, how is it different from Premium tax?

Thank you so much :smile:



DAC tax is a zero interest loan to the govt. You pay a "DAC tax" on premiums, but get it back over the next 10 years (or perhaps 5 for "small" ins. companies), i.e. the amortization period.

[chica]

The DAC tax percent is a percent of premium that is used as a proxy to acquisition expenses to amortize. That's one of the complaints about it.

DAC tax is different from premium tax becuase 1) premium tax is not amortized and 2) DAC tax is really just a timing difference. It increases your earnings in the first year and then decreases it over the next 10 years. So, it only really affects the timing of your earnings (and hence the investment income). Premium tax, though, you don't get back. It just decreases your earnings.

Hope this helps a little...

[Double High C]

On 2001-10-25 11:46, chica wrote:
2) DAC tax is really just a timing difference. It increases your earnings in the first year and then decreases it over the next 10 years. So, it only really affects the timing of your earnings (and hence the investment income).



Comments:

a. The DAC tax calculation increases your "tax" earnings (calculated for FIT purposes only) in the first year ...

b. How does it affect investment income?

<font size=-1>[ This Message was edited by: Battery Park City on 2001-10-25 12:11 ]</font>

[Minerva]

With regard to how long to amortize the acquisition expense, it is amortized over the life of the contract (or block) based on the profit carrier.

[aNoNo]

There may be some ambiguity going on in this thread about DAC. (I am a first-timer on C5 so I am no expert on this stuff).

There are two types of DAC assets:
* There is a DAC amount for Federal Income Tax calculations;
* There is a DAC amount for GAAP accounting.
These two concepts are related conceptually but have different calculation mechanics.

"FIT" DAC would be calculated based on IRS regulatiions.
"GAAP" DAC would be based on promulgations of the FASB (Financial Accounting Standards Board). Something life SFAS 60 and 97 maybe?

The "FIT" DAC amount is for federal income tax purposes. The "FIT" DAC is an asset that is calculated as the premium times the specified capitalization rates (1.75% for annuities, 2.05% for group life, 7.70% for other). The creation of this "FIT" DAC asset in the year of issue increases taxable earnings (relates to the accounting formula that Equity = Assets - Liabilities; by creating the DAC asset, you increase Equity).

The "FIT" DAC asset is then amortized through annual level charges to earnings over the remaining years. "FIT" DAC is amortized over 10 years, or 5 years for a "small" insurnance comapany (where "small" is as defined by IRS regs).

So as stated in other posts above, the "FIT" DAC is a timing issue. The IRS gets more tax in the year of issue, and less tax in the following years until the DAC amount is amortized to zero.

"GAAP" DAC for GAAP earnings is designed to "smooth" earnings over the lifetime of a product to meet the accrual accounting goal of matching expenses and revenues to the "proper" accounting periods. Theoretically GAAP earnings are a more meaningful measure of income for management, potential investors, etc. I don't understand the details of how the "GAAP" DAC are calculated or amortized, but I think it might vary by type of business.

Any real actuaries want to help me out here on the GAAP DAC details?

[Health guy]

ExpNPR = Expense Net Premium Ratio = PVFE(0)/PVFB(0)

Expense Reserve = PVFE(t)- ExpNPR*PVFP(t)

DAC=(-1)*Expense Reserve

Earnings Reserves = Benefit Reserves - DAC (which is usually negative)

Thus, the Earning Reserve Increase (which is used in calculating stockholders earnings) is negative in the first year, but positive in subsequent years. This negative increase in reserves is meant to offset the large acquisition expense costs incurred at the beginning of the policy.

[Health guy]

My mistake:

Expense Net Premium Ratio = PVFE(0)/PVFP(0)

NOT the present value of future benefits as I stated in my previous post.

[yeppers-wsmn]

Hey, Health Guy,

Why don't you just edit your first post.

Once you do that, I'll delete this post.

Man, this new forum is Kicka$$.


Just takin' a study break....

[Double High C]

On 2001-10-25 15:40, Health guy wrote:
ExpNPR = Expense Net Premium Ratio = PVFE(0)/PVFP(0)

Expense Reserve = PVFE(t)- ExpNPR*PVFP(t)

DAC=(-1)*Expense Reserve

Earnings Reserves = Benefit Reserves - DAC (which is usually negative)

Thus, the Earning Reserve Increase (which is used in calculating stockholders earnings) is negative in the first year, but positive in subsequent years. This negative increase in reserves is meant to offset the large acquisition expense costs incurred at the beginning of the policy.


All the above is true under FAS60, with the following caveats:

1. DAC is reduced in loss recognition situations.

2. The expenses to which you refer must not include nondeferrable acquisition expenses.