ACTUARIAL SERVICES ADVISORY Other Balance Sheet Reserves: SAO & Reinsurer Concerns Las Vegas September 2004

2 SAO: Other Considerations Retroactive reinsurance assumed & Financial Reinsurance Write in on pg 3, not reflected in Schedule P or net reserves listed in SAO For reinsurance that does not pass risk transfer test Claims made extended loss & expense reserves Also appears in Schedule P Interrogatories Included in scope of opinion

3 SAO: Other Considerations Anticipated salvage/subrogation Consider how derivation of IBNR implicitly includes anticipated salvage & subrogation Discounting Disclose separately for tabular and non-tabular, appears elsewhere in Annual Statement ASOP 20 & 36 for guidance

4 SAO: Other Considerations Pools & Associations Net reserves for company’s share of voluntary and involuntary participation in UW pools included in reserves Asbestos & Environmental Reserves Net reserves for A&E included in Schedule P reserves Also reported in Note 33 Reinsurance Collectibility Must comment on collectibility of reinsurance in SAO Suggested sources for this information include company management, Schedule F, and public information Could have material effects Can discuss amounts set up to cover this risk

5 SAO: Other Considerations IRIS Ratios Comment on failure of reserve development ratios Any additional topics which have material effect NAIC has left this open-ended in the instructions, and requests comments on major risk factors that could have a material impact on the variability of reserves. Left to actuary’s judgment and discretion Should include items such as Mold, CD, 9/11, Large Ded WC, coverage disputes, etc.

6 Reinsurer Concerns: Other Reserve Balances Retro Premium Contingent Commission Premium Deficiency Reserve EBNR Reinsurance Risk Transfer

7 Reinsurer Concerns: Retro Premium Calculation must be consistent with other assumptions underlying IBNR, EBNR estimates – must be consistent with booked IBNR by contract to the extent possible Reinsurer perspective – most calculations don’t start for 3+ years, so can be ‘forgotten’, may be some data coding issues in identifying contracts and features For reinsurance contracts, can be material by contract or in total – one contract can be as high as $20M asset due reinsurer for all AY combined SOX audit implications

8 Reinsurer Concerns: Contingent Commission Similar issues as retro premium Varying terms in reinsurance contracts including sliding scale features Need consistency with other assumptions and booked IBNR Reinsurer perspective – many calculations don’t start immediately, either side can ‘forget’ Generally smaller in amount than retro premiums, but can be material in total SOX audit implications

9 Reinsurer Concerns: Premium Deficiency Reserve Don’t necessarily need actuary to calculate Actuary should verify appropriate LR used for each group, and expenses Liability must be recognized for each grouping where premium deficiency is indicated – grouping based on how contracts are marketed, serviced, and measured. No offset allowed. Optional to include PDR in SAO scope, instructions state that actuary must then also opine on reserves excluding it Accounting requirement: FAS 60, SSAP 53

10 Reinsurer Concerns: EBNR Different terms – EBNR, EBUB – IBNR estimates must be based on the appropriate earned premium EBNR asset not mentioned in SAO, but appropriateness of IBNR may depend on it Reinsurers generally estimate late reporting premium based on EP triangles, although can be done on a contract-by- contract basis for larger contracts Larger reporting delay for reinsurers – typically 3-4 months, so size of this asset will be material Companies may prefer to be conservative with this asset – auditors will look for any changes in conservatism or methodology

11 Reinsurer Concerns: Reinsurance Risk Transfer FAS 113 Accounting definition: Reasonable possibility for reinsurer to realize significant loss Generally accepted interpretation is 10% chance of PVLR > 110% Should get auditor sign off on questionable contracts before year end Can assess based on historical experience, or modeling Could have material effects on reserves of both ceding company and reinsurer if contracts do not pass risk transfer test – Schedule P must be gross of reserves that do not pass

12 Presenter’s contact details Sharon C. Carroll, FCAS, MAAA Senior Associate, KPMG LLP (314) The information contained herein is of a general nature and is not intended to address the circumstances of any particular individual or entity. Although we endeavor to provide accurate and timely information, there can be no guarantee that such information is accurate as of the date it is received or that it will continue to be accurate in the future. No one should act on such information without appropriate professional advice after a thorough examination of the particular situation. © 2004 KPMG LLP, a member firm of KPMG International, a Swiss cooperative. All rights reserved. Printed in the U.S.A G/SL