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1、&$%Unit 3Methods of distributing profit1&$%Introduction (1)For a with-profits contract, the initial level of the guaranteedbenefit will be lower than that for a corresponding non-profit contract with the same premium.Typically, this is because the company has assumed a very low level of guaranteed i
2、nvestment return in the original premium basis.Then, in each future year, any excess in the actual investmentreturn achieved over that assumed will give rise to a profit. Why?The expectation of with-profits policyholders is that some of thisannual profit will returned in the form of: an increase in
3、the minimum guaranteed benefit, or a reduction in the level of future premiums payable, or a one-offcash bonus.2&$%Introduction (2)In practice, profits will also arise from other sources (e.g. if mortality, withdrawal or expense experience is better than expected).However, in practice, these sources
4、 are likely to be much lesssignificant than the investment profit. Why?Also, in practice, there may be times when the actual investment return is lower even than the guaranteed investment return in the premium basis, and thus the company is likely to make a loss over the year.What is likely to happe
5、n to with-profits policyholders in this case?3&$%Introduction (3)Typically, life insurance companies will write a range of non-profit,with-profit and unit-linked business.Although we are interested in the distribution of the profit towith-profits policyholders, it is likely that some of this profit
6、willhave arisen from non-participating (i.e. non-profit or unit-linked) business.A proprietary life insurance company is owed by the shareholders,and consideration must be given as to how the profit earned each year is allocated between shareholders (in the form of dividends)and with-profits policyh
7、olders.What else might some of this profit be used for?A mutual life insurance company has no shareholders, and may bethought of as being owned by the with-profit policyholders.4&$%Additions to benefits approach (1)This method is commonly used in the UK.The guaranteed sum assured is increased by mea
8、ns of bonus distributions. There are three main types of bonus: regular reversionary bonus typically payable annually throughout the term of the contract special reversionary bonus may be payable as a one-offaddition to the benefit during the term of the contract terminal bonus usually payable as wh
9、en the contract reaches maturity (and, possibly, also on death and/or surrender)What are the main advantages and disadvantages of distributingprofit by means of an addition to benefits rather than a reduction in future premiums or a cash bonus?5&$%Additions to benefits approach (2)Regular reversiona
10、ry bonus is declared on an annual basis throughout the term of the contract. Once the bonus has been declared, the guaranteed sum assured is increased and cannot subsequently be taken away.The amount of bonus can be calculated in one of three ways: simple the bonus is expressed as a percentage of th
11、e basic sum assured under the contract compound the bonus is expressed as a percentage of the basic sum assured plus any previously declared bonus super-compound the bonus is expressed in terms of two percentages, one applied to the basic sum assured and a second (higher) applied to any previously d
12、eclared bonus6&$%Additions to benefits approach (3)For a given total amount of reversionary bonus at the maturity date, a compound approach defers more of the distribution of surplus than a simple approach (and a super-compound approach defers more than a compound approach).What are the main advanta
13、ges and disadvantages to both the company and the policyholder of deferring the distribution of the surplus?A company may also declare part (or all) of a reversionary bonus as special (i.e. in addition to any regular reversionary bonus declared).Why might an insurance company choose to declare a spe
14、cial reversionary bonus from time to time?7&$%Additions to benefits approach (4)The amount of the terminal bonus is determined when a claim (i.e. on death or maturity) is made under the contract.Why is it unusual for terminal bonus to be awarded in the event of withdrawal?In theory, the terminal bon
15、us may be thought to represent thedifference between the current level of the asset share for thecontract and the guaranteed benefit (including any previously attached reversionary bonus).Why?Note: Asset shares are discussed in more detail in Unit 4. However, the asset share can be thought of as the
16、 accumulation of the premiums received to date minus the cost of life cover provided and other expenses incurred.8&$%Additions to benefits approach (5)However, in practice, companies will smooth the rates of terminalbonus declared over time (to reduce the effect of fluctuations in theinvestment markets on the level of benefits provided).Thus, the actual terminal bonus may be more or less than that needed to bring the payout up the amount of the asset share.Also,
