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Old 05-24-2017, 04:52 PM
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Default Handling DAC for Single Premium

Is anyone familiar with DAC recognition for a single premium life policy?

We are developing a very simple term life product that could be sold in conjunction with closing a loan such that the premium is included in the loan amount - thus a single premium. We pay a commission to the closing agent.

FAS60 guidance on DAC says that acquisition expenses should be recognized in proportion to premium revenue recognized.

FAS97 governs the premium recognition for single pay long term contracts and says, "Any gross premium in excess of the net premium shall be deferred and recognized in income in a constant relationship with insurance in force."

So I read the US GAAP for Life Insurers book published by the SOA and it says the same things. At the end of chapter 4 they give a sample 20-year annual pay term life product. The example is shown in Table 4-12, Table 4-13, and Table 4-13_details in this spreadsheet available for download from the SoA:

https://www.soa.org/files/zip/gaap-txtbook-chpt04.zip

In the example, the first year premium is $138 and the capitalized cost is $307 = $100 + 150%*$138. The mechanism used to compute the DAC asset is:

[(PriorReserve - k*GrossPremium + CapitalizedCosts) * (1+ i) ] / (1-lapses-deaths)
where k is the CapitalizedCosts/PVGrossPrem

When I replace the annual premiums with a single gross premium equivalent to the present value of the annual premiums and adjust the DAC expense percentage to generate the same capitalized cost (so k doesn't change), the SoA model spits out a DAC of $0.00 for every policy month, which is consistent with recognizing all the premium and all the acq. cost immediately. That is obviously not the idea of GAAP accounting.

What do I need to do differently?
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Old 05-24-2017, 05:24 PM
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Originally Posted by Flying Squirrel View Post
Is anyone familiar with DAC recognition for a single premium life policy?

We are developing a very simple term life product that could be sold in conjunction with closing a loan such that the premium is included in the loan amount - thus a single premium. We pay a commission to the closing agent.

FAS60 guidance on DAC says that acquisition expenses should be recognized in proportion to premium revenue recognized.

FAS97 governs the premium recognition for single pay long term contracts and says, "Any gross premium in excess of the net premium shall be deferred and recognized in income in a constant relationship with insurance in force."

So I read the US GAAP for Life Insurers book published by the SOA and it says the same things. At the end of chapter 4 they give a sample 20-year annual pay term life product. The example is shown in Table 4-12, Table 4-13, and Table 4-13_details in this spreadsheet available for download from the SoA:

https://www.soa.org/files/zip/gaap-txtbook-chpt04.zip

In the example, the first year premium is $138 and the capitalized cost is $307 = $100 + 150%*$138. The mechanism used to compute the DAC asset is:

[(PriorReserve - k*GrossPremium + CapitalizedCosts) * (1+ i) ] / (1-lapses-deaths)
where k is the CapitalizedCosts/PVGrossPrem

When I replace the annual premiums with a single gross premium equivalent to the present value of the annual premiums and adjust the DAC expense percentage to generate the same capitalized cost (so k doesn't change), the SoA model spits out a DAC of $0.00 for every policy month, which is consistent with recognizing all the premium and all the acq. cost immediately. That is obviously not the idea of GAAP accounting.

What do I need to do differently?
Seems like you should be asking this of the people who provided your model.
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Old 05-24-2017, 05:49 PM
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Does the book have examples for FAS 97 limited pay contracts? I donīt think they will show any DAC amortized after the premium paying period. They may have an example for a single pay contract, which I suspect will show no DAC activity.
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Old 05-24-2017, 06:27 PM
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Quote:
Originally Posted by Flying Squirrel View Post
Is anyone familiar with DAC recognition for a single premium life policy?

We are developing a very simple term life product that could be sold in conjunction with closing a loan such that the premium is included in the loan amount - thus a single premium. We pay a commission to the closing agent.

FAS60 guidance on DAC says that acquisition expenses should be recognized in proportion to premium revenue recognized.

FAS97 governs the premium recognition for single pay long term contracts and says, "Any gross premium in excess of the net premium shall be deferred and recognized in income in a constant relationship with insurance in force."

So I read the US GAAP for Life Insurers book published by the SOA and it says the same things. At the end of chapter 4 they give a sample 20-year annual pay term life product. The example is shown in Table 4-12, Table 4-13, and Table 4-13_details in this spreadsheet available for download from the SoA:

https://www.soa.org/files/zip/gaap-txtbook-chpt04.zip

In the example, the first year premium is $138 and the capitalized cost is $307 = $100 + 150%*$138. The mechanism used to compute the DAC asset is:

[(PriorReserve - k*GrossPremium + CapitalizedCosts) * (1+ i) ] / (1-lapses-deaths)
where k is the CapitalizedCosts/PVGrossPrem

When I replace the annual premiums with a single gross premium equivalent to the present value of the annual premiums and adjust the DAC expense percentage to generate the same capitalized cost (so k doesn't change), the SoA model spits out a DAC of $0.00 for every policy month, which is consistent with recognizing all the premium and all the acq. cost immediately. That is obviously not the idea of GAAP accounting.

What do I need to do differently?
The US GAAP book covers this in section 4.11 of my edition (tables 4-14 through 4-16), where it goes through an example of a 3-pay 10-year endowment.

The DAC is amortized over the premium, and so in a single-pay case the acquisition expenses would not be deferred. However beyond the benefit & expense reserves and DAC you would have for a normal (payments over the life of the contract) FAS 60 contract you will also need to calculate a Deferred Profit Liability (DPL) (because the contract is a FAS 97 Limited Pay contract). For a single pay contract it will amortize the profit at issue (gross premium less the net premium, which for a single pay contract amounts to gross premium less acquisition expenses and the initial benefit and expense reserves) over the life of the contract in proportion to the insurance in force.

When you factor in the changes in the DPL into the income calculations (and add in investment income on assets backing the DPL) then the profit emerges as a flat percentage of the insurance in force.

Unfortunately like most examples in that text it's horribly presented and explained, and for whatever reason fundamental values (like the amortization factor for the DPL) seem to be hard-coded into the associated workbook rather than actually calculated. Though unlike other examples in that book it looks like the calculations may actually be right (albeit done in the most backwards way possible).
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Old 05-25-2017, 09:42 AM
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Thanks for pointing that out. I'll look at that example more closely.
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