Tan Kin Lian's Blog: Comment - risk of high terminal bonus

Tuesday, June 10, 2008

Comment - risk of high terminal bonus

Hello --
It is an excellent point, Mr. Tan.

Obviously, terminal bonuses are higher than annual bonuses. Doing that -- pushing most of the bonuses to the end the policy -- puts the policyholders' fund at risk IF the courts would decide the company cannot simply walk away from its obligation to pay its terminal bonus, as promised.

That is what happened in the case of Equitable Life in UK. Equitable couldn't pay and it went broke.

Are Singapore insurers also at risk?

Well, it depends. In the case of NTUC Income, it gave its assurance at its recent AGM (May 30) that it would not walk away from its terminal bonus. It would pay it.

In a way, that is good for policyholders.

On the other hand, such a statement sounds very much like "an obligation".

Requiring NTUC Income to keep its promises (to meet its obligations) could be expensive for the company.

As mentioned, it was prohibitively expensive for Equitable Life in UK.

Sincerely,
Larry Haverkamp

6 comments:

SingaSoft said...: It is very clear from the report here:

http://news.bbc.co.uk/1/hi/business/3547441.stm

that what caused Equity Life to collapse is HIGH ANNUAL bonus DECLARED, and not the terminal bonus. Annual bonus once declared must be paid out.

If they have been conservative, and declared lower annual bonus and use higher terminal bonus to compensate, then they will not collapse.

How interesting that one same event, can have totally 2 different opposing opinions. One blaming on annual bonus, the other one blaming on special bonus.

But from layman point of view, it sounds more logical that DECLARED annual bonus is the problem, as this becomes liability that must be paid out.

So it is NOT the terminal bonus, it is the annual bonus declared that made Equitable Life collapse.; June 10, 2008 10:20 PM
Tan Kin Lian said...: Singasoft

Your interpretation of the bbc report is wrong. The bbc report clearly stated that it is the high terminal bonus that caused the problem with Equitable Life.

Some people said that the bbc report does not give the correct picture.

Yew Ming studied the Penrose report. He arrived at the same conclusion, that it is the high terminal bonus (unfunded) that caused the collapse of Equitable Life. The court decided that Equitable Life has to pay out the unfunded terminal bonus, even though it was not contractual and not guaranteed.; June 11, 2008 6:56 AM
SingaSoft said...: interesting how the very same event can have two opposing opinions, both from the experts in the field.

Your opinion implies that the root cause was the enforcement by court on the terminal bonuses promised.

The other opinion says it was the over-allocation of annual bonuses (an over-long smoothing at peak practises) combined with the assumption that promised terminal bonueses need not be paid out eventually.

Same figures, same facts, but different wordings...

In Singapore context, will Singapore courts enforce such pay out on terminal bonuses?

Isn't it more prudent (at least, from solvency point view) to declare lower annual bonuses and compensate it with terminal bonuses (whenever possible)?; June 11, 2008 9:33 AM
Unknown said...: This comment has been removed by the author.; June 11, 2008 10:43 AM
Tan Kin Lian said...: Hi Singasoft

You are obviously an expert in this field yourself.

I invite you to read the Penrose report or get your colleague or friend to study it. The reference is quoted in:

http://www.hm-treasury.gov.uk/independent_reviews/penrose_report/indrev_pen_index.cfm

I recall that Equitable Life does not declare high annual bonus. They market on high terminal bonus that are not properly reserved.; June 11, 2008 12:19 PM
siewkhim said...: Hi singasoft,

I think you miss the point. Annual bonus once declared has to be adequately reserve. Once it is reserved common sense will tell us that when payment is due, it can eventually be paid out. For example if I own you S$100 today and promise to pay you in 5 years' time I will put aside about S$95.15 today and with interest of 1%, I should able to pay you the S$100.

In the case of terminal bonus our friend Equitable Life made no reserve or indequate reserve is made. Do you still think that they can pay me the anticipate terminal bonus based on policyholders' reasonable expectation when nothing is put aside into the kitty. Maybe a modern day miracle from heaven can do that.

Some Appointed Actuaries (AA) will just do anything because he is paid to do what the management tell him/her to do. So is AA = Ass Actuary?; June 19, 2008 6:00 PM