#189 | Getting Involved in the AG49 Discussions

So, you clicked on the LinkedIn article because you want to get involved in the AG 49 discussions at the NAIC? Great. Here’s how to listen in, understand what’s going on in the debate and contribute.

First, how to access the calls. Contrary to what most people think, NAIC calls are public. All you have to do is register as an Interested Party with Chorus Call (click here). There are no qualifications to be an Interested Party in the NAIC discussions, however, you do have to input your credit card info. NAIC calls may be public, but they’re not free (unfortunately). An hour-long call usually runs about $13 and it will be automatically billed to your card. If you do not receive your IP code via email, call Chorus Call and ask them for it. Once you receive your Interested Party code, you’ll be able to dial into NAIC calls. Simply check the NAIC public calendar (here) to register for the call. You can still dial in even if you don’t register – just call 412-902-6510, tell the operator that you want the IUL Illustration Subgroup call and provide your IP code. They’ll patch you right into the call. Mute your phone until you’re ready to speak, otherwise everyone will hear you armchair-quarterbacking the call. The next call is this Thursday at 2PM.

There are some basic ground-rules for NAIC calls. The purpose of the calls is twofold – for regulators to be educated on particular issues and for them to make decisions. Although the regulators on the call have lots of experience with various life and annuity issues, they’re usually learning about what’s going on in the market on the fly from their domestic insurers and other regulators. That’s why the calls tend to have a heavy educational component before they get down to making a decision. Fred Andersen (MN) runs the show and moves the agenda along, calling on designated folks to present certain topics and kick off discussions. Anything not directly pertaining to a topic on the agenda will not get airtime. So if you do decide to speak up, make sure your comments are on topic and helpful to either furthering the regulators’ understanding of an issue or directly related to the technical question at hand. If you want to make more broad comments, put it in a comment letter.

There’s a prescribed order to who gets to comment: regulators on the subcommittee go first, then regulators not on the subcommittee and, finally, interested parties. The interested parties section is a free-for-all, but you’ll meet some new characters as you listen in, most notably Birny Birnbaum. Birny is the NAIC’s appointed consumer representative and he tends to take what most life insurers would consider a “conservative” stance on most issues. But at his best, he’s well-informed and extremely effective at providing a counter-balance to the carriers – as he has been on these IUL calls. You’ll also hear life insurer actuaries and government relations people speak up. Besides those folks, there’s usually precious few voices in the discussion.

I mentioned comment letters. They are extremely important to helping regulators raise issues and craft the agenda for discussion. Comment letters count – a lot. In general, every comment letter gets airtime on the call and the author of the letter gets a chance to provide color to their written comments, if they choose to do so. If you have a strong opinion, I would highly recommend that you submit a comment letter so that the NAIC knows what’s coming and gives you a chance to voice it, if they think it will contribute to the overall discussion. You can read all of the comment letters that insurers (primarily) have submitted in the discussion so far here and submit yours to Reggie Mazyck at the NAIC directly. His email is on the landing page for the IUL Illustration Subgroup.

Alright, so that’s how it works. But if you just dial into the call and listen to the debate you’re probably going to be completely baffled. Remember, these regulators are a very specific type of regulator – actuaries at the state insurance departments. These are actuaries discussing actuarial issues amongst themselves and with actuaries at insurance companies. The thing about actuaries is that they generally have a bad habit of making rather simple things sound extremely complex. This call will be no different. For non-actuarial folks actually selling or distributing insurance, listening to an NAIC call is like hearing your dentist debate with a supervising dentist about whether or not to extract your tooth. You have no idea what they’re saying because they’re speaking in entirely medical terms, but you know that what they decide is directly connected to whether or not you’re about to experience a lot of pain and discomfort and if they’d just speak like normal people, you could probably follow along.

Therefore, you need a way to translate what’s happening. I’m going to do my best to help you. This next section is required reading if you want to have a hope of knowing what they’re talking about on the next call. And sorry, it’s going to sound way more complex than it is (actuaries, remember), but I’m going to try to keep it simple.

First, you need to open up and read AG49. You can find it here. Here’s a breakdown of what matters (from a field perspective) in AG49:

1. Section 3(B), the Benchmark Index Account (BIA). This section defines a 1-year, point-to-point S&P 500 account as the account which sets the maximum illustrated rate for all accounts in the product. This is the provision that killed off higher illustrated performance for non-S&P indices, funky crediting methodologies and long-dated crediting buckets. But…
   1. Section (vi) states that the BIA only applies to other index accounts with the same account charges. If you have an account that otherwise conforms with the BIA definition but has, say, a 1% asset charge to buy a higher cap, then that account is its own BIA and the maximum rate applies to all other indexed accounts in the product with the same charge. This is the provision that allows high cap accounts to retain their higher maximum illustrated rates.
2. Section 4 – This is the section that governs what you directly see as the crediting rate in the illustration. 4(A) is the formula for setting the maximum illustrated rate based on what we call the hypothetical historical lookback methodology. Note that 4(A)ii allows an insurer to build a “hypothetical” BIA if they don’t offer a conforming one in the product.
3. Section 6 – Deals with illustrating indexed loans (rather ambiguously, I might add).

For most folks in the field, even if they don’t know exactly what part of AG 49 does what, they know that AG 49 changed the game on these 3 things. But for actuaries, the real fight was in Section 5, the Disciplined Current Scale. The…what? Exactly. Here’s where the dentist-speak starts. Allow me to decode.

Sections 3(B), 4 and 6 directly deal with the illustrated rate shown on the policy. Combined with the policy charges, the illustrated rate produces the illustrated non-guaranteed performance of the policy, which actuaries call the Illustrated Scale. Imagine, for a second, a world without restrictions on the Illustrated Scale. Life insurers could illustrate anything they wanted in terms of non-guaranteed charges or credits. So what makes non-guaranteed pricing reliable and reasonable? Enter the Disciplined Current Scale. Every year, per the NAIC Illustration Model Regulation (Model #582), the insurer’s illustration actuary has to certify that the Illustrated Scale qualifies as the Disciplined Current Scale (DCS). In order for the Illustrated Scale to qualify as the Disciplined Current Scale, the illustration actuary has to certify that the cash flows produced by the non-guaranteed policy charges and investment yields will be enough to deliver the benefits shown on the illustration. The DCS is what binds the non-guaranteed policy charges and credits to real-world expecatations. A carrier, theoretically, can’t go way out over their skis on illustrated non-guaranteed performance without bumping into problems with DCS testing.

DCS testing for IUL policies is extremely tricky. The problem with IUL is that the hypothetical historical lookback methodology (Section 4) generates significantly higher illustrated crediting rates for indexed crediting methodologies than the return on the insurer’s assets (please note the irony). Without some sort of gap-measure, every IUL would fail DCS testing and would illustrate performance virtually identical to a Universal Life policy. In order to deal with that problem, Section 5 of AG 49 made a specific provision that life insurers are allowed to assume that their net investment yield backing an Indexed UL policy could be increased by a factor of up to 1.45 in order accommodate the higher illustrated performance of Indexed UL products. This is what allows Indexed UL products to pass DCS testing at maximum AG49 illustrated rates.

The bizarre thing about AG49 is that the logic flows backwards. Regulators first allowed Indexed UL to illustrate differently than other Universal Life policies (Section 4) and then created an accommodation for DCS testing (the 1.45 factor in Section 5) so that Indexed UL products could pass the test. It should have gone the other direction. The necessary assumption behind the 1.45 factor is that buying hedges produces long-term, sustainable, supportable option profits to the tune of 45% annually. The first order of business for the regulators, therefore, should have been proving beyond the shadow of a doubt that option profits of 45% on average, forever, is empirically and theoretically bulletproof. Instead, regulators just picked a compromise number that allowed almost every insurer to illustrate the maximum illustrated rate under AG49 (Section 4) while still passing DCS testing (Section 5). The 45% option profit allowance was designed to be a secondary limit just in case things really got out of hand. Kind of like saying – ok guys, we’re going to let you guys go a little crazy, but no crazier than you are right now. Deal? Deal. Now don’t go and do anything stupid.

Except, you know, then multipliers came along, which is why the regulators are back to discussing AG49. The current status of the debate is that the regulators have voted that products with multipliers should illustrate no better performance than products without multipliers. It’s just as vague as that. However, regulators have put some pen to paper on how to accomplish it and the next call is designed to allow for discussion and comments on the proposal. Yes, it’s a little bit technical and wonky, but it’s not so hard to follow.

The proposal by the regulators was to make a modification to Section 5 to clarify what goes into net investment income for the purposes of applying the 145% gross-up factor. The draft language would have created a new term called the Supplemental Option Budget, which is the sum of the cost of providing all indexed benefits minus the net investment income times 145%. This attempts to disallow the insurer from using charges to buy indexed benefits that produce illustrated performance that would not be supportable by just the net investment income multiplied by 145%. Think of it as a way to clarify that when regulators mean net investment income, they mean net investment income for real this time – not net investment income supplemented by policy charges used to buy more hedges, which carriers had (with good reason) assumed would also get the 145% DCS allowance for illustrated performance.

The next call is primarily to address two questions. First, is limiting illustrated multiplier interest in this way effective? Folks on the call last week raised concerns that attempting to nix illustrated multiplier performance through the Disciplined Current Scale would have a lot of unintended consequences. Second, is there a way to limit illustrated multiplier interest through the Illustrated Scale (Section 4) rather than through the Disciplined Current Scale through explicit guidance? See, it’s not so complicated after all. Now that you know what’s going on, you should be able to follow most of the call.

Now, what can you contribute? Most importantly, field perspective. Remember that while the regulators on these calls are actuaries, they are first and foremost regulators whose mission is to protect consumers. These calls are about actuarial issues with real implications in the same way that a convoluted discussion between a supervising dentist and your dentist leads to real pain if your tooth gets pulled. Just like the dentist being supervised, you can bet that life insurers are on their absolute best behavior on these calls, showing their most upstanding side – almost comically so. I’ve heard carriers say some truly absurd things on these calls like, for example, illustrations aren’t used in competitive situations. Right. The default stance of a life insurer in front of its regulator is “nothing to see here, just another upstanding corporate citizen performing God’s work by the letter and spirit of the law.” Who gets to burst that bubble? Well, you do, my friend, because you’re the patient. You can bet your dentist would describe to the supervising dentist that your tooth extraction was painless and worry-free, all done by the book, with nary a drop of blood spilled in the process – hell, your dentist even said you said “thank you sir, may I have another?” at the end. But now you get to talk to the supervising dentists and tell them what really happened.

If you love Indexed UL and think that these multiplier designs are great, you get to say so. If you love Indexed UL and think these multiplier designs are borderline criminal, you get to say so. If you think all Indexed UL illustrations are completely absurd and multipliers are just the latest manifestation of the absurdity and certainly far from the last, like I do, then you can say that, too. But mostly, you can tell regulators that their idea of an illustration ain’t your idea of an illustration. They think illustrations are regulatory documents. You know that illustrations are weaponized for competitive purposes. Perhaps if they hear from real people that clients are being sold “free life insurance” with premium financed IUL, they’d think twice about how any IUL is illustrated. But do they hear about that from the carriers? Nah. Hopefully, you’re going to change that.

Or, if nothing else, you can listen into the dialogue and hear how the sausage is made. It’s fascinating and well worth your time. I strongly encourage you to get involved, understand the issues and participate if you think you have something substantive to contribute. Two final things to remember. First, if you miss the call, it’s gone forever. Be there and on time. And second, remember to mute your phone, but please don’t mute your voice. Your perspective needs to be heard and it can change the outcome.