To Revise or Not to Revise

Editor's Note: This article is part of a series written by members of the CAS Committee on Professionalism Education (COPE) and the Actuarial Board of Counseling and Discipline (ABCD). The opinions expressed by readers and authors are for discussion purposes only and should not be used to prejudge the disposition of any actual case or modify published professional standards as they may apply in real-life situations.

Sue Signer, FCAS, MAAA, works for the consulting firm of Doubletake Actuaries Inc. Sue is the Appointed Actuary for On-The-Verge Insurance Company (OTVIC or the Company). OTVIC is a single state insurer that exclusively provides hospital and physician medical malpractice insurance with policy limits of up to $10 million per occurrence. Due to the hard reinsurance market,

Can and should Sue revise her loss and loss adjustment expense reserve analysis to consider this favorable post year-end experience?

OTVIC has not purchased reinsurance for the last several years. In her role as the appointed actuary, Sue has been retained to provide an actuarial statement of opinion related to OTVIC's loss and loss adjustment expense reserves as of December 31, 2004.

Sue completed her draft loss and loss adjustment expense reserve analysis on January 20, 2005. This analysis indicated a substantial reserve increase from the Company's initially booked figure. While the Company's CFO thought several of the largest claims reserved by the claims department used an extraordinary level of conservatism, he adjusted the Company's loss and loss adjustment expense reserves to match Sue's estimate. Based on the revised reserve figures, OTVIC was very close to the regulatory action level under the NAIC Risk-Based Capital calculation. On February 20 (before the annual statement and opinion were filed), the CFO of OTVIC called Sue to inform her that the Company has been able to close several large, older claims during the first six weeks of 2005 for considerably less than the December 31, 2004 case reserves Sue used in her analysis. The CFO goes on to explain that the remaining claims have developed approximately as would have been expected based on the assumptions in Sue's analysis (this was later confirmed by Sue herself). The CFO insists that Sue revise her projected December 31, 2004 reserve estimates to consider this additional information. This additional information would put OTVIC considerably above the level where regulatory action would be indicated.

Can and should Sue revise her loss and loss adjustment expense reserve analysis to consider this favorable post year-end experience? Would your answer be different if the loss experience for 2004 and prior was materially adverse during the first six weeks of 2005?

No.

Sue should not revise her analysis to consider loss experience after the end of the year, whether it was favorable or adverse. The projected reserves as of December 31, 2004 should be based on loss experience as it existed at year-end. The other numbers presented in the financial statement are based on year-end data and the loss reserves should not be an exception. Since claims develop every day, projecting reserves based on data after year-end is unrealistic and creates an additional and dangerous precedent for Appointed Actuaries. The loss experience after the end of the year will show up in the quarterly filings the Company is required to make with the insurance department.

Yes.

If she is made aware of the situation, Sue can and should revise her analysis to consider exceptionally material levels of loss experience after the end of the year, whether it is favorable or adverse. Sue's responsibility to her client, and the regulators who rely on her report, is to provide the best estimates possible. The actuarial professional standards provide some guidance for Sue. Specifically, section 3.5 of Actuarial Standard of Practice 36 states: "In addition to the reserve methods used, the actuary should consider the relevant past, present, or reasonably foreseeable future conditions that are likely to have a material effect on the results of the actuary's reserve analysis."

Obviously, Sue needs to make sure the use of post year-end data is disclosed in both her actuarial report and the opinion. This action is further supported by the fact that the saving is associated with closed claims, which represents "true" savings, as opposed to revised incurred losses associated with open claims that might suggest case reserve manipulation. Unnecessarily subjecting the Company to regulatory action will distract Company management from focusing on the future and diverts the regulator's attention away from other insurance companies more in need of regulatory scrutiny.

No and Yes.

One of the primary purposes of the appointed actuary's work is to provide information to help insurance departments in their responsibility for solvency regulation. As a result, while it might be acceptable for her not to revise her projected reserves for exceptional levels of favorable experience, it is irresponsible and a violation of Precept 1 of the Code of Professional Conduct for Sue to ignore material adverse experience that would suggest a need for regulatory intervention. At the very least, to be consistent with the ASOP 36 section 3.3.3 requirement to disclose items that represent significant risks and uncertainties that could result in material adverse deviation, Sue is required to disclose this known solvency related issue in her year-end opinion (thereby triggering regulatory action). Delaying regulatory action may well result in policyholders' being unable to receive the protection promised when their insurance coverage was purchased and may ultimately affect the community's access to affordable health care.