FORWARD

When I fIrst began teaching seminars for the later examinations 30 years ago, I stressed what were then two novel ideas: Be sure to get down the major points and use point form. Over the next ten years, the idea of being sure ofthe major points was accepted to the point where 75% of students knew substantially all the major points. Unfortunately, this meant that the examiners started having difficulty distinguishing students who should get a 4, a 5, a 6 or a 7. After one preparation session the students and I sat around discussing the phenomenon and I realised that the major points were all that students were learning. The session also pointed out that students were misreading questions and did not know related ideas because they were working with over summarized notes. (To the point that some people's manuals were covered with more handwriting than printed material) Discussions with some examiners confIrmed that these were problems they were encountering.

In setting up this manual, I have tried to provide a set ofnotes that does give the detailed points as well as the major ones. Outline form has been used as it is what you should be using on the examination - sentences take too long. Each note has been summarized independently so you can see what related facts should be considered. Crossing these areas out as you study is worthwhile but you will still see what goes with what as you prepare. Where lists are present, a number ofpoints in the list is in brackets at the end of the lead in line.

I have included a long answer question with almost all papers. Some are numerical. Most are short 1 to 3 mark pieces ofwhat may be a 10 mark examination question. The real benefIt is in comparing what you can put down after studying the material with the model answer.

Historically, 30-40% ofactuaries have been Canadian or Canadian trained. That makes the Canadian material equally important with the US and not something to be ignored. The spelling used by the typist was Canadian and I have made only small changes from it.

Good Luck.

:t~&4o~rftr0l~

INDEX

The Group Insurance Market Place Bluhm Group Chapter 1 B-3

Principles ofHealth Insurance Regulation Bluhm Group Chapter 14 1- 3

Regulation in the United States Bluhm Group Chapter 15 1-12

Regulation in Canada Bluhm Group Chapter 16 H-3andl- 7

Group Insurance Financial Reporting: US Bluhm Group Chapter 17 F - 83

Group Insurance Financial Reporting: Canada Bluhm Group Chapter 18 F-89

Risk Based Capital Formulae Bluhm Group Chapter 19 K - 7

Claim Administration and Management Bluhm Group Chapter 27 C ­ 3

Forecasting Bluhm Group Chapter 37 F - 94

Short Term Reserves Bluhm Group Chapter 40 D - 3

Claim Reserves for Long Term Benefits Bluhm Group Chapter 41 D - 6

Analysis ofFinancial and Operational Performance Bluhm Group Chapter 43 F - 68

Planning and Control Bluhm Group Chapter 45 F - 100

Reserves and Liabilities Bluhm Individual Chapter 6 E - 19

Other Insurer Functions Bluhm Individual Chapter lOB- 10 And C - 6

Health Insurance Reserves Model Regulation Bluhm Individual Appendix D E - 27

Introduction Duncan Chapter 1 C - 18

Care Programmes and Interventions Duncan Chapter 2 C - 19

Actuarial Issues in Care Management Evaluations Duncan Chapter 3 C - 22

Estimating Savings, UtiUsation Rate Changes, and Returns on Investment Duncan Chapter 4 C - 29

The Use of the Value Chain in Disease Management Programme Planning Duncan Chapter 5 C - 32

C-39

Understanding the Economics ofDisease Management Programmes Duncan Chapter 6 C-35

Measuring Disease Management Savings Outcomes Duncan Chapter 7

An Actuarial Method for Evaluating Disease Management Outeomes Duncan Chapter 8 C -43

Understanding Patient Risk and Its Impact on Chronic and Non-chronic Member Trends Duncan Chapter 9 C -48

Random Fluctuations and Validity in Measuring Disease Management Effectiveness for Small Populations Duncan Chapter 10 C -50

A Comparative Analysis of Chronic and Non-Chronic Insured Commercial Member Cost Trends Duncan Chapter 11 C-54

Testing Actuarial Methods for Evaluating Disease Management Savings Outeomes Duncan Chapter 12 C-58

Interpreting Financial Statements Higgins Chapter 1 F - 3

Evaluating Financial Performance Higgins Chapter 2 F -11

Financial Forecasting Higgins Chapter 3 F -21

Managing Growth Higgins Chapter 4 F-25

Risk Analysis in Investment Deeisions Higgins Chapter 8 F - 31

GAAP Objectives and Their Implications to Life Insurers Herget Chapter 1 F - 39

Authorities Herget Chapter 2 F-46

Expenses and Capitalisation Herget Chapter 3 F - 53

Individual Health Insurance Herget Chapter 10 D - 26 andE- 3

Group Insurance, Large Case Pension Liabilities and Related Liabilities D - 28 and E - 17 Herget Chapter 12

Financial Statement Presentations Herget Chapter 19 F-66

Sales and Marketing in Managed Health Care Plans: the Process of DistributionKongsveldt, Chapter 41 B - 12 and I - 42

The Employer's View of Managed Health Care Kongsveldt, Chapter 42 B -19

Common Operational Problems in Managed Health Care Plans Kongsveldt Chapter 46 J -70

Tax Issues Related to Risk Bearing Entities Kongsveldt Chapter 48 H-ll

Medical Management and Legal Obligations to Members Kongsveldt, Chapter 64 C-9

The Health Insurance Portability and Accountability Act of 1996 Kongsveldt Chapter 67 1-44

Health Plan Corporate Compliance Programmes Kongsveldt Chapter 68 I-53

What Is Enterprise Risk Management Lam, Chapter 4 J-4

Risk Transfer Lam Chapter 8 J-7

Risk Analytics Lam Chapter 9 J-I0

Business Applications Lam Chapter 15 J - 15

Quality Health Care: Are We Getting Our Money's Worth? Rosenbloom Chapter 9 A - 3

Consumer Directed Health Care - Pharmacy Benefits Rosenbloom Chapter II H - 8

Cafeteria Plan Design and Administration Rosenbloom Chapter 37 H - 9

Fiduciary Liability Issues Under ERISA Rosenbloom Chapter 39 1-28

Alternative Insured and SeH Funded Arrangements Rosenbloom Chapter 43 G - 3

Accounting Under FAS 106 Yamamoto Chapter 7 N-3

Other Accounting Yamamoto Chapter 8 N -12

Actuarial Methods and Assumptions Yamamoto Chapter 9 N -22

Measuring Retiree Group Benefit Obligations Yamamoto Appendix F is ASOP 6 N -34

Health Plan Performance Measurement Reports GH-CI00-07 A-9

NAIC Advertisements or Aeeident and Sickness Insuranee Model Regulation GH-ClOI-07 1- 34

Health Reserves GH-C 102-07 D - 29

The Actuary and Health Insurance Mergers and Acquisitions GH-C103-07 M - 24

Valuation Techniques GH - CI 04-07 M- 3

Components of Insurance Firm Value and the Present Value of Liabilities GH-C 105-07 M- 21

US Health Insurance Taxation GH-CI06-07 H -17

Taxation - Canada GH-C 1 07-07 H - 20

Calculated Risk - A Provider's Guide to Assessing and Controlling The Financial Risk of Managed Care GH-C 1 08-07 J - 16

Value Based Financial Measurement GH-CI09-07 F-72

Reinsurance for Group Accident and Health Insurance GH-CIIO-07 G - 13

DFCA Objectives DFCA Chapter 1 GH-CI12-07 J - 42

Analysis Game Plan: Issues, Considerations and Strategies DFCA Chapter 2 J - 44

Analysis of Company and Policyholder Behaviour Group Life and GrouplIndividual Health DFCA Chapter 6 J -56

Mapping of Health Company Risks GH - Cl13-07 J - 76

Economic Capital: Recent Trends in Implementation GH-C114-07 J - 33

Value at Risk- An Overview GH-C118-07 J - 38

Views on Risk Capital: Economic Capital vs Rating Agency Capital vs Regulatory Capital GH-C119-07 J - 85 and K - 12

Risk Based Capital Overview GH-C121-10 K - 3

ERM Practice as Applied to Health Insurers J - 109

Incurred Health and Disability Claims ASOP #5 D - 43

Analysis of Life, Health, or Property/Casualty Insurer Cash Flows ASOP# 7 E - 51

Regulatory Filings for Rates and Financial Projections for Health Plans ASOP#8 F -108

Long Term Care Insurance ASOP # 18 E - 56

Statements of Opinion Based on Asset Adequacy Analysis by Actuaries for Life or Health Insurers ASOP # 22 E-60

Data Quality ASOP # 23 0-46

Credibility Procedures Applicable to Accident and Health, Group Term Life, and Property/Casualty Coverages ASOP #25 L - 33

Valuation of Policy Liabilities: All Insurance Standards ofPractice - Practice Specific Standards for Insurers Section 2100 0-51

Valuation of Policy Liabilities: Life and Health (Accident and Sickness) Insurance Standards ofPractice - Practice Specific Standards for Insurers Section 2300 0-58

Risk Management for Individual Medical Insurance HSM 2006 Session 48 J - 93

Claim Payment Issues - What You Should Know HSM 2007 Session 17 F -110

Disease Management - The Next Generation HSM 2009 Session # 14 C -62

Claim Payment Issues - What You Should Know HSM 2009 Session 17 0-17

Predictive Modelling Hybrids: Gaining Increased Mileage HSM 2009 Session #23 C -72

Health Reinsurance Update in the Employer Stop Loss Insurance Model HSM 2009 Session 44 G-24

Comparative Effectiveness Research in the US HSM 2009 Session 45 A -15

An ABCD Overview HSM 2009 Session 69 L-7

The Art ofReserving Health Spring Meeting 2009 Session #78 D-23

US Qualification Standards HSM 2009 Session 89 L-22

Long Term Care Claim Reserves Valuation Actuary Symposium 2006 Session # 13 D-IO

Premium Deficiency Reserves for Health Insurance Valuation Actualy Symposium Session #30 E - 46

Premium Deficiency Reserves Discussion Paper AAA E - 32

Asset Adequacy Analysis Practice Note AAA E - 64

Qualification Standards for Actuaries Issuing Statements ofActuarial Opinion in the US AAA L -10

FAQs about the Revised Qualification Standards AAA L - 20

Practice Note on the Revised Actuarial Statement of Opinion Instructions for the NAIC Health Annual Statement AAA Practice Note L - 28

Actuarial Equivalence for Prescription Drug Plans and Medicare Advantage Prescription Drug Plans under the Medicare Drug Programme AAA Practice Note N - 42

Measurement of Health Care Quality and Efficiency: Resources for Health Care Professionals Society ofActuaries A - 22

Revised Code of Conduct Society ofActuaries L - 3

Value at Risk - An Overview The Financial Reporter May 1999 J - 40

A New Perspective on Risk Management: Creating Value by Managing Risk The Financial Reporter 12/2001 J - 83

Why More USA Life Insurance Companies Are Considering Economic Value as an Additional Internal Accounting System The Financial Reporter December 2001 F - 79

Economic Value Added for a Life Insurance Company Financial Reporting Section Monograph XVI F - 81

Responsible Health Care Reform The Actuary February/March 2010 1-62

Access to Care The Actwuy AprillMay 2010 1-64

Cost Control and Efficiency The Actualy June/July 2010 1-69

Funding/Financing The Actualy August/September 2010 1-73

Read, Write, Think Health Section News October 2004 L - 36

Enterprise Risk Management Health Watch January 2006 J - 78

Claim Reserve Model: How Actuaries Rely upon the Claim Data They Receive LTC News 0912008 D·49

The Lay Person's Introduction to Value at Risk Risks and Rewards March 1998 J - 81

Focus on Health Reform Kaiser Foundation 1-77

Health Valuation Actuary RSA 17 #3B pp. 1359·1375 J -102

Appraisals ofBlocks of Health Business RSA 19 #1A M-25

Appraisals - Process and Issues RSA 30 #2 M-35

D-29

Health Reserves

GH-CI02-07

I Introduction A. Reserves vs liabilities

- liabilities relate to claim events which have occurred but for which payment has not been made

- reserves are for obligations where the event has not yet occurred - "reserves" used to mean both, usually

B. Interplay of income statement and balance sheet - reserves used to match revenue and expense - start with cash received/paid - General Ledger - Balance Sheet entries adjust cash items to obtain matching ofrevenue and expense - Balance Sheet gives beginning and ending assets and liabilities and includes

accounting liabilities such as commissions payable

II Defmitions and Data Issues A. Defmitions

1. Active life reserves - contract plus unearned premium reserves for contracts not in claim status

2. Claim liability - established when event has occurred but payment has not been made

3. Contract reserves - portion ofcollected premia needed to pay expected future claims

4. GAAP reserves - may employ more realistic assumptions and include explicit methods of revenue matching

5. Incurred date - date on which obligation to pay was established. Look at contract.

6. Lags - period from incurral to payment

7. Loss adjusting expense - cost ofprocessing insured claims paid after valuation date

9. Premium deficiency reserves - required when a gross premium valuation determines there is a contractual obligation to fund future losses, but the liability cannot be recognized by an experience adjustment to the contract reserves

10. Provider liabilities - liabilities for withholds

11. Unearned premium reserves - premiums collected but allocated to period beyond valuation date (not an asset entry)

12. Valuation date - date as ofwhich statements prepared CACTEX2011 GHoCI02"()7

D-30

B. Variation in incurred date definition 1. Medical reimbursement plans

- typically date service rendered - admission date for hospital claims - ifdischarge date used, must hold an

additional liability - code re-admissions as oforiginal hospitalization

- sometimes claims batched and earliest date used

2. Medical stop loss coverage - varies with whether benefits on a paid or incurred basis

3. Extension ofbenefits under medical plans - for disabled, use date ofdisablement. - can be based on individuals or related to aggregate claims

4. Long term care - use date recorded for qualification for benefits - if income type and benefits payable used, include reserve for unaccrued claims

5. Disability coverages - date ofdisablement when tabular factors used - ifdate payments began used for short term coverages, a reserve needed for

elimination period - for survivor benefits, use date ofdisablement of decedent - for reopened claims, use original date

6. Loss adjustment expenses - use incurred date ofclaim

7. Caution - watch for operational changes affecting dates

C. Data considerations 1. General

- must assure data accurate and consistent - document any issues and assumptions

2. Internal consistency - reconcile claim data to paid claims - avoid overlap with accountants - ensure that all claim payments reflected either in paid claims or in reserves

3. Consider seasonality if - multiple years' data available - distortions limited - compensation can be made for other variables

rc ACfEX 2011 OH-C102-o7

D - 31

4. Documentation and data quality - must review for consistency and reasonableness - need not audit data - disclose any reliance - must seek and use appropriate data. Actuarial Communications must address

any known material imperfections. - disclose ifsufficient review not possible and give impact - ifdata so incomplete, inaccurate or inappropriate as to create a material bias, do

not undertake work - maintain adequate documentation for review - address reconciliation ofpaid claims to general ledger

D. Other quality and documentation issues - disclose each method used and its applicability - disclose influence and impact of data on method

ill Reporting Formats and Requirements A. Standards

- assumptions and computations effected by regulations - observe applicable actuarial standards ofpractice for jurisdiction - Practice Notes ofAAA help one keep current - review impact of government regulations - GAAP varies by jurisdiction

B. Follow up studies 1. General

- fundamental in testing reserve methods - done monthly or quarterly to test prior period and improve results for current

period - commonly adjust prior period results for new estimates of incurred claims

2. Run out studies - see Schedule H - compare claims paid plus residual unpaid liability to reserve - usually product or line ofbusiness specific

3. Experience studies - do where period too long for run out studies - more labourious and results less clear cut - earnings not revised - ifpresent value ofprojected gross premiums plus current reserve greater

than projected claim costs, reserve deemed adequate - consider effect of the deferred acquisition cost asset

C. Reporting applications 1. Regulatory reporting

- concerned with solvency and policyholder protection - means conservative and formats/computations constrained

CACTEX2011 GH-C102-07

D-32

2. GAAP reporting (This is US GAAP and only some statements apply in Canada.) a) Basis

- well developed in US and accepted internationally - emphasis on matching income and expenses while concerned about solvency - may be used for internal reporting - assumptions should be "reasonable with provision for adverse deviation" - benefit and expense reserves separate

b) bnpact - small for medical reimbursement and managed care - largest where interest, morbidity, mortality and expense allowances significant - eg individual health, long term care, LTD and issue age rated plans

3. Experience reporting for employees and providers - calculations less sophisticated except for fmancial settlement and pricing reviews - for settlements, often a 3 month run out period is used

4. Valuations for acquisitions - since reserves material to profitability, they are often a focal point of negotiation - often complete information lacking - sale may materially change payment patterns - often a final settlement after several months for claim reserves - GAAP based acquisitions more complex

IV Claim Reserves - biggest estimate for HMOs and group carriers. Significant for individual.

A. Types ofclaim liabilities and reserves 1. Due and unpaid liabilities

- reported and adjudicated but unpaid claims - small, so itemized or estimated from historical averages

2. In course of settlement claims - reported but un-adjudicated claims - system may record receipt. Otherwise use average claim factors and other

simple methods applied to a count ofclaims - may handle large claims on an individual basis - can be estimated as part ofIDNR and then split by experience factors

3. Incurred but Not Reported (ffiNR)

4. Loss adjustment expenses - assumes liability incurred when claim is - usually a percentage ofunpaid claims - may be zero where processing contracted out and contract enforceable

o ACTEX 2011 GH-CI02-07

D -33

5. Present value ofamounts not yet due - claims incurred before valuation date but not yet accrued - ego pro rata portion of first disability payment - usually done seriatim - usually for adjudicated claims so tabular methods can be used - hard for IBNR claims

6. Resisted claims - at least those where litigation in process - normally seriatim, assuming 100% ofclaim paid and possible damages

7. Outstanding accounting feeds - amounts acknowledged but unpaid eg claims paid by third party administrators

but administrator not yet paid by carrier - often based on accounts payable and invoices

B. Methods of estimation for claim reserves I. Case reserves

a) Examiner's method - claim examiner estimates ultimate payment and deducts what already paid - used for catastrophic medical claims and resisted claims - sometimes used for short term disability where amounts easily estimated

b ) Average claim size method - number of reported claims times experience based average amount - best if little variability in amounts and business stable

c) General - used only for small volumes - depends on accurate inventory ofclaims - IBNR estimated from loss ratio methods or prior period claim numbers times

average amounts, updated for volume changes

2. Projection methods a) Method

- develop projected incurred claims cost per unit of exposure - multiply by number exposed and subtract known paid claims

b) Applications - claims incidence low - volume small - data immature - a check for development method - validation of reasonableness of other methods

Cl ACfEX 2011 GH-CI02"()7

D-34

3. Loss ratio methods a) Method

- projected loss ratio developed - historical or pricing - multiply by exposed earned premium - subtract known claims

b) Applications - same as projection methods - where exposure data unreliable - where historical data suspect and pricing loss ratio deemed more reliable - where targeted loss ratio important internal measure

c) Caution - check projected loss ratio appropriate

4. Tabular methods a) Method

- applies a continuance table, with interest, to claims grouped by relevant factors - tables for statutory accounting may/may not be specified and/or modified - must check adequacy of reserves periodically

b) Application - disability and long term care - mNR and in the course of settlement reserves calculated separately

5. Development methods a) Introduction

I) General - also known as completion method - suitable for most medical coverages - assumes historical lag pattern accurate for incurred but unpaid claims • needed tabulations of incurral date vs month paid • estimates total claims and subtracts paid

ii) Characteristics of suitable coverages - ability to record incurral and payment dates i.e. lag - fairly smooth lag pattern - short incurral periods relative to maximum lag period - monthly preferred

but quarterly and annual sometimes used - need earned premiums or exposures (to adjust for volume and help

smoothing)

b) Detecting and projecting claims payment patterns - for medical claims need at least 24 months and preferably 48-60 months of data • normally summarize data by incurral vs paid month and get a claims triangle ­

see Exhibit 1 - object is to complete the square - first step is to get the accumulative paid triangle - Exhibit 2

Cl ACTEX 2011 GH-CI02-07

D-35

c) Age to ultimate development factors - assumes the percentage ofultimate payments recorded as of each duration lag will be the same for expected future payment

- next step is take data in b) and for months deemed complete. compute percentage of ultimate paid by duration

- if several months closed, can average the factors for each duration - next step is to divide claims paid to date for open months by the percentage of

ultimate paid to get total ultimate claims for open months - subtracting claims paid to date from the total ultimate claims gives the IDNR - problem is that the percentages paid to date vary from month to month and,

even if averages. are somewhat unstable - another problem is run out may take 24-36 months. making lags suspect

d) Age to age development factors i) Method

- within each column, develop ratio of succeeding cumulative claims to current eg (month n + 1)/(month n) to get development factors

- smooth the factors - the compilation factors are derived by starting at the bottom of a

column and reversing the process ii) Advantage - ratios less influenced by changes in exposure or cost trends

e) Smoothing factors I) General

- often prepare several estimates and select most likely - problems come from changes in costs or processing

a Simple averaging - 3. 6, 12 month periods used - 3 months uses most current data but 12 months smoothest - 6 a compromise

PRemoving bumps - remove distortions from major claims or processing problems and

allow for large claims separately - or throw out highest/lowest 1 or 2

y Weighted averaging - want to give additional credibility to most recent results - use sum ofthe digits or sum of the squared digits - constant declining percent weighting (i.e. declining balance fI o<r<l)

oOther types of means - harmonic - inverse ofmean of reciprocals - weights each value

by number of observations - geometric - nib root of product ofn observations

CACTEX2011 GH-CI02-07

D-36

ii) Dollar weighted vs ratio weighted - average cumulative payments for a lag month and then compute Factors - reduces effects ofprocessing changes - problems from distortions due to growth/inflation and seasonality

iii) Per member age to age ratios - before applying method, divide by exposure - adjusts for changes in volume - does some smoothing ofchanges in claims payment pattern

f) Developing fully incurred claims I) General

- ultimate factor often set at .97 to account for residual claims - apply procedure in c) to get unpaid claims liability

ii) Blending with projection method - since factors and claims for most recent months unstable, use other values

such as trended PMPM n month average projection if completion factors ~40-70%

iii) Blending with the loss ratio method - use earned premiums to scale for volume - divide earned premium into completed incurred claims estimates to

get loss ratios which are then projected - must be cautious and ensure earned premiums and/or loss ratios adequate ­

check assumed loss ratio estimates with those for nearly complete incurral months

iv) Applicability of credibility weights - assign each offrrst 3-5 months' completion factor a credibility factor and

use to average with loss ratio or per member per month based projections

g) Ad hoc and other overriding adjustments i) Trends - issues

- track demographic and morbidity shifts - changes in benefit plans, provider reimbursement and medical management - seasonality due to deductibles and seasonal changes in elective

hospitalizations

ii) Claims inventory or processing system changes a.Example

- hardware and software changes - changed coding conventions - staffing levels and weather - changes in adjudication when attempting to catchup on a backlog - abjlity to directJ'}' s:ubmit claims eJectronicaJJ'}'

CACfEX2011 GH-CI02"()7

D-37

~. Claims inventory reports - useful, particularly, if subdivided by claim type and gives numbers

received, processed and ending inventory - can compute average payment per claim and combine with inventory to

get claims in course of settlement - can also adjust lag factors and incurred and paid claims

iii) Reinsurance coverage - must be separated for regulatory reporting - can be a factor in calculations or an after the fact adjustment - coinsurance straightforward - stop loss requires tracking of large claims

C. Conservatism and assumptions for claims reserves 1. Goal is good and sufficient provision i.e. able to cover moderate adversity

- can be explicit but usually use conservative assumptions

2. Assumptions for the tabular method a) General

- results affected by - period - claims processing - underwriting - benefits

and tables should be modified to reflect product - not possible in some regulatory environments - best check on adequacy is a gross premium valuation

b) Claim termination rates - adjustments - effect ofAIDS - effect of benefits and treatment on mental and nervous conditions - can adjust for diagnosis specific termination rate differences caused by

changes in claim mix. Must remember to adjust residual group for pull outs. - defmition of disability. May adjust reserve factors and not termination rates

c) Disability benefit amounts i) Adjust for integration with government benefits.- not done for regulatory

reserves ii) Must consider

- likely benefit - chance ofreceiving benefit - likely duration - chance historical pattern will alter

iii) Inflation - not always addressed in regulations - may use long term assumptions or current expectations (market

interest rate less a real rate) - can effect termination rates - models can be complex or based on approximations

IC ACTEX 2011 GH-C102"()7

D-38

3. Conservatism increased when data quality reduced or differing plans grouped a) Specifications

i) Development methods - can incorporate in completion and projection factors - usually use most likely factors and add an explicit margin

ii) Tabular reserves - usually use most likely assumptions and add an explicit margin

iii) Projection methods - margins in trend assumptions iv) Loss ratio projections - margins can be implicit or explicit

b) General - margins should relate to uncertainty - highest for low frequency

and/or large average amount - look at available information - ifexcellent, low margin - can look at distribution ofpotential liability estimates - look at run

outs to see ifmargins materialize

V. Active Life Reserves A. General

- minimum is an unearned premium reserve - usually hold active life reserve on disabled lives - spread initial high expense costs - usually hold unearned premium plus mid terminal but could hold mean reserve less

deferred premiums

B. Unearned premium reserve - premium for period from statement date to paid to date - can be directly calculated or approximated by 50% of modal premium - minimum because insurer must refund premium on contract termination

C. Contract reserves 1. General

- occur because claim costs increase with age while premiums level - needed for individual income, long term income and medical reimbursement

policies sold on an issue age basis - may need for small group and association plans where ability to cancel regulated - part of increase wearing offofunderwriting and part cumulative anti-selection - must consider ability to raise rates

o ACTEX2011 GH-C1 02-07

D-39

2. Standardization ofassumptions - regulations give some guidance on interest, termination rates and method - morbidity costs less standardized than life because

- change in cost and incidence by age due to technological changes - variation in company practices, etc. large

- standards exist for cancer, disability, and hospital income but must be adjusted for inflation, benefit changes, etc.

- must reflect anticipated pattern of incurred claim costs for the plan - often use pricing assumptions plus a margin

3. Inflation adjustment approaches - new factors annually - factor times reserves which, in aggregate adjusts for inflation - anticipate inflation in reserves and valuation premiums and adjust if actual

differs significantly from expected

4. Computation - wide variety ofcoverages offered and multiple plans within a coverage,

further complicated by riders - valuation commonly groups similar but different benefits together - use I or 2 year full preliminary term methods but still some surplus strain - statutory interest, lapse and mortality likely conservative - GAAP more realistic but still more conservative than pricing assumptions

VI Premium Deficiency Reserves A. General

1. Arise from deficiencies arising post issue - recognized when a gross premium valuation requires higher reserves

2. Computation - present value of future claim costs and expenses less present value of future

premiums & current contract reserves, claim reserves, & premium reserves

3. Needed documentation - characteristics of included policies - time period reserve needed - how reserve to be released to offset losses - assumptions

B. Grouping ofpolicies - be consistent with marketing, rating. servicing and performance measurement - ifa subset deficient - can offset deficiency with excess on other policies in group - grouping should be material

©ACTEX2011 GH..cl02-07

D -40

C. Period for calculation - till deficiency no longer exists - do not anticipate cancellations unless likely to materialize - rating action may eliminate a deficiency - losses could extend indefmitely

D. Assumptions and conservatism 1. Rate increases must be reasonable and likely to be implemented - can induce

additional lapses 2. Enrollment - can include but cannot improve morbidity unless proven to reflect

underwriting wear off and anti-selection 3. Expenses - can be limited to direct costs if other policies pick up overhead 4. Include claims trend 5. Interest rates should be reasonable 6. Use after tax rates 7. Provider arrangements only reflect provider risk sharing arrangements ifclaim cost

effects determined and billed - if capitated providers may become insolvent, provide for purchase of

replacement services on a fee for service basis 8. Conservatism - use realistic assumptions

VII Outcome Based Contractual Reserves A. Employer based contractual liabilities

- claims stabilization reserves. On anniversary, calculate prior reserve plus earned premiums plus contractual interest credits less incurred claims, risk and retention charges.

- employer receives amounts in excess ofminimum - any balance paid after full run out on termination - accrue portion from anniversary to statement date

- done seriatim with simple formulae - can be positive or negative

B. Provider liabilities 1. Nature

- withholds - capitation payments owed - incentives - i.e. bonus - settlement under stop loss contracts - anticipated capitated provider insolvency - means insurer must pay for

benefits on a fee for service basis

2. Basis of calculation - aggregate or seriatim - can be done precisely periodically and updated for experience and volume

growth - sometimes accounted for on an ongoing basis and reconciled in settlement

process - basically track experience vs targets and apply incentive formula - do follow

up studies of appropriateness © ACfEX 2011 GH-C102-07

D -41

VIll Managed Care Issues A. Managed care organization reporting fonnats vary by jurisdiction

1. mNR broken down into - inpatient - physician - referral -medical

2. Medical expenses - broken into hospital, physician, other - referrals separated

3. Liabilities for incentives and withholds included in claims payable

B. mNR calculations 1. General

- needed for fee for service type payments - once obtained, split into fee for service cost, withholds, etc. - usually use traditional methods - however, fee schedules, pre-certification, etc. can be useful in estimation

2.Can improve PMPM estimates by considering - use reports for hospitals - changes in provider reimbursement - better documentation ofcatastrophic claims

3. In course of settlement and mNR -lags short for in network claims -MCOs' unpaid liability often 50% of insurers' - out ofnetwork claims small and complete like insurers' - for significant POS plans handle like traditional fee for service - in course of settlement more important but pre-authorization makes estimation

easier

4. Use of authorizations a) General

- available for hospita1, inpatient stays, outpatient procedures and specialists' referrals

- must then add unreported, emergency and out ofnetwork claims - better to combine two - use authorization data for short tenn and blend with

development method - when authorization data used, subsequently compare estimates to actual

CACTEX2011 GH-C I 02-07

D-42

b) Adjustment to authorization data - adjust for differences between authorized and actual due to claim evolving and

for un-preauthorized services - can be a form ofcompletion factors - adjust for differences between anticipated and actual costs of procedures/stays - trend/negotiated changes - include auxiliary services with hospital room and board - over-estimates due to

auxiliary services being concentrated in early days - ifvolume permits, subdivide referral services by type to reduce variability - may credibility weight traditional estimates with authorization based estimates

(best in short run) of use data to get cost ofclaims incurred. Then deduct claims paid to get mNR

- despite claims to contrary, preauthorization process not airtight

C. Calculation of provider liabilities 1. Risk based payment - elements

- liabilities based on projected payouts - targets may be for provider services or provider authorized costs (referrals, drugs) - calculation of outcomes based on actuarial estimates of incurred claims - settlements often lagged to reduce effect of estimates - not possible for valuation

- reserves on a best estimate basis - consider stop loss and carve outs

2. Bonus or incentive contracts are often based on meeting non-fmancial objectives - ensure values accurate

3. Stop loss provisions - managed care organization sells to providers and shows in claims reserves

4. Margins and assumptions - include margins for adverse deviations - ensure consistency of claims and provider withholds, etc. - may need to use pricing assumptions or historical loss ratios

E. Reporting processes - claims expense adjusted for capitations and incentives/withholds - withhold calculations commonly a part of monthly accounting transactions - incentives incorporated by budgeting a monthly allowance and deducting related

services - easier to book entire withhold as a liability until it is paid to providers - final accounting based on results after a 3 month run out.

©ACTEX2011 GH-CI02-07

LA-84

7. You are the consulting actuary for an investment fmn interested in investing in a start-up insurance company. You are given the following information:

Investors target cost of capital: 15.0% Risk free rate of return: 3.0% Expected market rate of return: 8.0% Beta: 1.250 Target Loss Ratio 80% of premium Target Expense Ratio 10% ofpremium Tax Rate 44% ofnet income Commissions 5% of premium Statutory Reserves 25% ofclaims Required Capital 3% ofpremium Investment Income 4% ofpremium

Year Projected Results: 1 2 3

# of Members 15,000 20,000 27,000 Annual premium per member 1,200 1,296 1,400

Determine whether the investment fmn should invest in the start-up insurance company, assuming a three-year time horizon. Show your work.

8. In a surprise move, the U.S. federal government has passed an amendment to the Medicare Prescription Drug, Improvement and Modernization Act of2003. The amendment stipulates the following:

- The annual deductible for the Medicare beneficiary increases to $400. - For the next $2,000 ofprescription drug expenses, the beneficiary pays 25%. - The beneficiary pays 1 ()()OIG ofprescription drug expenses between $2,400 and

$7,000, with no reimbursements from Medicare.

- Once total expenses exceed $7,000, the beneficiary is responsible for 20% of the cost. Your supervisor has asked you to prepare a brief exhibit demonstrating the beneficiary out-of-pocket costs. Below is the structure he would like you to complete:

Medicare Prescription Drug Benefit: How Much Will It Cost Me Now? Annual Drug Expenditures

Uninsured Beneficiary Insured Beneficiary Beneficiary Out-of­Pocket

$­$ 1,000 $ 4,000 $ 15,000

Prepare the complete exhibit for your supervisor. Assume a 15% pharmacy discount and annual premium of $840. Show your work.

C ACTEX 20) ) Long Answer Questions