Friendly Society – Liability Valuation

1.1

Unless otherwise stated, this Part applies to a non-directive friendly society.

1.2

In this Part, the following definitions shall apply:

defined percentage

means the percentage arrived at by taking (for all contracts of the same type as the contract in question for which an adjustment is made) the average of the percentages of the relevant capital sum under each such contract that represent the acquisition costs incurred which, after allowing for the effects of taxation, might reasonably be recovered from the premiums payable under the contract.

established surplus

means an excess of assets representing the whole or a particular part of the fund or funds maintained by the firm in respect of its long-term insurance business over the liabilities, or a particular part of the liabilities, of the firm attributable to that business as shown by an investigation to which Friendly Society – Reporting 2 applies.

exposure

means:

1. (1) (in relation to assets), an amount determined in accordance with Friendly Society – Asset Valuation 18 to 24;
2. (2) (in relation to a counterparty), an amount determined in accordance with Friendly Society – Asset Valuation 25 to 27.

general insurance business liabilities

means liabilities of the friendly society which are attributable to its general insurance business.

linked assets

means the long-term insurance business assets of the friendly society which are, for the time being, identified in the records of the friendly society as being assets by reference to the value of which property-linked benefits are to be determined.

valuation date

in relation to an actuarial investigation, means the date to which the investigation relates.

variable interest investments

means investments other than fixed interest securities.

2.1

Subject to 2.2, the amount of liabilities of a firm in respect of long-term insurance business and general insurance business and other lawful activities must be determined in accordance with generally accepted accounting practice or other generally accepted methods appropriate for insurance business.

2.2

In determining under 2.1 the amount of liabilities of a firm, all contingent and prospective liabilities must be taken into account.

3.1

This Chapter does not apply to a contract to the extent that it relates to, or is for the purposes of the making of an investment in, or is in connection with the making of an investment in, a building which is to be occupied by the firm and used by the firm for the conduct of its business.

3.2

Subject to 3.1, this Chapter applies to an obligation:

1. (1) under a contract relating to investments of the kind mentioned in item B under the heading "Assets" in Part I of Schedule 2 to Accounts Regulations (whether such contract constitutes an asset or liability of the firm);
2. (2) undertaken for the purposes of, or in connection with the making of, investments of the kind mentioned in (1); or
3. (3) under a contract providing for the purchase, sale or exchange of currency.

3.3

A firm which has or may have (following the exercise of any right by the firm or any other party) an obligation referred to in 3.2, to deliver assets or make a payment must:

1. (1) at all times identify the assets held by it which it considers to be the most suitable to cover such obligation; and
2. (2) make prudent provision for the effect on the amount of its excess assets of all reasonably foreseeable adverse variations between the value of the assets identified and the value of the assets which it is or may be obliged to deliver or the amount of the payment which it is or may be obliged to make.

3.4

For the purposes of 3.3, the ‘amount of its excess assets’ is the difference between the aggregate value of its assets (other than linked assets to the extent that they are held to match property-linked liabilities) determined in accordance with Friendly Society – Asset Valuation and the amount of its liabilities (other than property-linked liabilities or liabilities for which provision is made in accordance with this Chapter).

4.1

Except to the extent that provision for the deficit has been made (whether in the calculation of surplus assets or otherwise) in another affiliated company the value of whose shares is taken to be the value of its surplus assets under Friendly Society – Asset Valuation 5.1 or 5.2 (but only to the extent of the firm's proportional share of that undertaking), a firm must make provision in respect of a regulated affiliated company:

(1) where the affiliated company is also a subsidiary of the firm, for the whole of any solvency deficit; and

(2) in any other case, for the firm's proportional share of any such deficit.

4.2

For the purposes of 4.1, the identification and valuation of assets of a regulated affiliated company, available to cover liabilities and any capital requirement imposed by any relevant provisions of the PRA Rulebook or FCA Handbook, must be determined in accordance with Friendly Society – Asset Valuation 5.4.

5.1

The amount of insurance liabilities which are general insurance business liabilities must be determined in accordance with the regulations set out in Part VI of Schedule 6 to the Accounts Regulations.

6.1

In accordance with 6.2 to 6.4, the determination of the amount of long-term insurance liabilities (other than liabilities which have fallen due for payment before the valuation date) must be made in accordance with generally accepted actuarial principles and have due regard to the reasonable expectations of policyholders and make proper provision for all liabilities on prudent assumptions that include appropriate margins for adverse deviation.

6.2

The determination referred to in 6.1 must take account of all prospective liabilities as determined by the policy conditions for each existing contract, taking credit for premiums payable after the valuation date.

6.3

Without prejudice to the generality of 6.1, the amount of the long-term insurance liabilities must be determined in compliance with 7 to 16 and must take into account at least the following factors:

(1) all guaranteed benefits, including guaranteed surrender values;

(2) declared bonuses to which policyholders are already contractually entitled;

(3) all options available to the policyholders under the terms of the contract;

(4) discretionary charges and deductions;

(5) expenses, including commissions; and

(6) any rights under contracts of reinsurance in respect of long-term insurance business.

6.4

The determination referred to in 6.1 must take into account the nature and term of the assets representing those liabilities and the value placed upon them and must include prudent provision against the effects of possible future changes in the value of the assets on:

(1) the ability of the firm to meet its obligations arising under contracts for long-term insurance business as they arise; and

(2) the adequacy of the assets to meet the liabilities as determined in accordance with 7 to 16.

7.1

Subject to 7.2, 7.3 and 7.4, the amount of the long-term insurance liability must be determined for each contract by a prospective calculation.

7.2

A retrospective calculation may only be applied to determine the liabilities where a prospective method cannot be applied to a particular type of contract or benefit, or where it can be demonstrated that the resulting amount of liabilities would be no lower than would be required by a prudent prospective calculation.

7.3

Appropriate approximations or generalisations may only be made where they are likely to provide the same, or a higher, result than a determination made in accordance with 7.1.

7.4

Where necessary, additional amounts must be set aside on an aggregated basis for general risks which are not specific to individual contracts.

7.5

The method of calculation of the amount of the liabilities and the assumptions used must not be subject to discontinuities from year to year arising from arbitrary changes and must recognise the distribution of profits in an appropriate way over the duration of each policy.

7.6

The liabilities for contracts under which the policyholder is eligible to participate in any established surplus must have regard to the level of the premiums under the contracts, to the assets held in respect of those liabilities, and to the custom and practice of the firm in the manner and timing of the distribution of profits or the granting of discretionary additions, as the case may be.

8.1

The amount of the liability determined in respect of a group of contracts must not be less than such amount as, if the assumptions adopted for the valuation were to remain unaltered and were fulfilled in practice, would enable liabilities similarly determined at all times in the future to be covered from resources arising solely from the contracts and the assets covering the amount of the liability determined at the current valuation.

9.1

Where further specified premiums are payable by the policyholder under a contract (not being a linked long-term contract of insurance) under which the policyholder is eligible to participate in any established surplus and benefits (other than benefits arising from a distribution of surplus) are determined from the outset in relation to the total premiums payable thereunder, then, subject to 9.4 and 10:

1. (1) where the premiums under the contract are at a uniform rate throughout the period for which they are payable, the premiums to be valued must not be greater than such level premiums as, if payable for the same period as the actual premiums under the contract and calculated according to the rates of interest and rates of mortality or disability which are to be employed in calculating the liability under the contract, would have been sufficient at the outset to provide for the benefits under the contract according to the contingencies upon which they are payable, exclusive of any additions for profits, expenses or other charges;
2. (2) where the premiums under the contract are not at a uniform rate throughout the period for which they are payable, the premiums to be valued must not be greater than such premiums as would be determined on the principles set out in (1) modified as appropriate to take account of the variations in the premiums payable by the policyholder in each year,

save that a premium to be valued must in no year be greater than the amount of the premium payable by the policyholders.

9.2

Where the terms of the contract have changed since the contract was first made (the terms of the contract being taken to change, for the purposes of this rule, if the change is indicated in an endorsement on the policy but not if a new policy is issued), then, for the purposes of 9.1 one of the following assumptions must be made, namely that;

1. (1) the change from the date it occurred was provided for in the contract when it was made;
2. (2) the terms of the contract are those which apply from the date of the change except that a single premium is payable, at the date of the change, of an amount equal to the liability under the policy immediately before the change, calculated on a basis consistent with this Part and with the premiums actually payable from the date of the change; or
3. (3) the contract is in two parts, the first of which is for the benefits purchased by the actual premiums payable from the date of the change under the firm’s scales of premiums at that date, and the second of which is for all other benefits under the policy for which no premiums are payable after that date.

9.3

Where under a contract (not being a linked long-term contract of insurance) the policyholder is eligible to participate in any established surplus; and

(1) each premium paid increases the benefits (other than benefits arising from a distribution of surplus) provided under the contract; or

(2) the amount of a premium payable in future is not determinable until it comes to be paid,

future premiums and the corresponding liability may be left out of account so long as adequate provision is made against any risk that the increase in the liabilities of the firm resulting from the payment of future premiums might exceed the amount of the premiums.

9.4

An alternative valuation method to that described in 9.1 to 9.3 may be used where it can be demonstrated that the alternative method results in reserves no less, in aggregate, than would result from use of the method described in 9.1 to 9.3.

10.1

In order to take account of acquisition expenses, the maximum annual premium to be valued under 9 may, subject to 10.2, be increased by an amount not greater than the equivalent, taken over the whole period of premium payments and calculated according to the rates of interest and rates of mortality or disability employed in valuing the contract, of 3.5% (or the defined percentage, if it is lower than 3.5%) of the relevant capital sum under the contract.

10.2

The increase permitted by 10.1 must be subject to the limitation that the amount of a future premium valued must not in any event be greater than the amount of the premium actually payable by the policyholder.

11.1

The rates of interest to be used in calculating the present value of future payments by or to a firm must be no greater than the rates of interest determined from a prudent assessment of the yields on existing assets attributed to the long-term insurance business and, to the extent appropriate, the yields which it is expected will be obtained on sums to be invested in the future.

11.2

For the purposes of 11.1, the assumed yield on an asset attributed to the long-term insurance business, before any adjustment to take account of the effect of taxation, must not exceed the yield on that asset calculated in accordance with 11.3 to 11.13, reduced by 2.5% of that yield.

11.3

For the purpose of calculating the yield on an asset:

1. (1) the asset must be valued in accordance with the Friendly Society – Asset Valuation Part of the PRA Rulebook, excluding any provision under which assets may be taken at lower book values for the purposes of an investigation to which Friendly Society – Reporting 2 applies; and
2. (2) the future income from the asset required to be taken into account (whether interest, dividends or repayment of capital) must be reduced by a proportion corresponding to such part of any excess exposure to assets of that description, calculated in accordance with Friendly Society – Asset Valuation 22.2, as may reasonably be attributed to such assets.

11.4

For fixed interest securities the yield on an asset, subject to 11.13, must be that annual rate of interest which, if used to calculate the present value of future payments of interest before the deduction of tax and the present value of repayments of capital, would result in the sum of those amounts being equal to the value of the asset.

11.5

1. (1) For variable interest investments that are equity shares (other than those within 11.6) or land, the yield on an asset must, subject to 11.13, be the ratio to the value of the asset of the income before deduction of tax which would be received in the period of twelve months following the valuation date on the assumption that the asset will be held throughout that period and that the factors which affect income will remain unchanged.
2. (2) Account must be taken of any changes in the factors referred to in (1) known to have occurred by the valuation date and in particular:
1. (a) any known changes in the rental income from property or in dividends on equity shares;
2. (b) any forecast changes in dividends which have been publicly announced by the valuation date;
3. (c) the effect of any alterations in capital structure; and
4. (d) the value (at the most recent date for which it is known at the valuation date) of any determinant of the amount of any future interest payment, such value being deemed to remain unaltered for all subsequent dates.

11.6

For variable interest investments that are equity shares in bodies corporate drawing up accounts in accordance with legislation implementing the Accounts Directives or in accordance with the International Accounting Standards Committee accounting standards or US generally accepted accounting practice, the yield on an asset must, subject to 11.14, be the ratio to the value of the asset of:

1. (1) A + B; or
2. (2) 2 times A,

whichever is lower, where A = the income which would be received if it were calculated in accordance with 11.5, and B = half the excess (if any) of the relevant amount over A, but B must not be less than zero.

11.7

For the purposes of 11.6, the ‘relevant amount’ in relation to equity shares is the issuer’s profits after taxation from its ordinary activities for the most recent financial year ending on or before the valuation date which is reported in accounts in accordance with 11.8 which are publicly available, in so far as attributable to those equity shares, taking account of the effect of any alterations in capital structure.

11.8

For the purposes of 11.7, the issuer’s profits after taxation from its ordinary activities for the relevant financial year must be derived from accounts drawn up in accordance with legislation implementing the Accounts Directives or, if accounts are not drawn up in accordance with the Accounts Directives, from accounts drawn up in accordance with International Accounting Standards Committee accounting standards or US generally accepted accounting practice.

11.9

Where 11.6 applies, and a undertaking’s accounting period is longer or shorter than a year, the amount of profits or losses for that period must be annualised, and the annualised figure must be used to calculate the yield.

11.10

If the requirements in 11.7 and 11.8 are not, or cannot be, met, then the relevant amount is zero.

11.11

Subject to 11.12, for variable interest investments other than equity shares or land, the yield on an asset must, subject to 11.13, be that annual rate of interest which, if used to calculate the present value of future payments of interest (before deduction of tax), and the present value of repayments of capital, where applicable, would result in the sum of these amounts being equal to the value of the asset, on the assumption that:

1. (1) the value of any determinant of the amount of the next interest rate payment and capital repayment made during the following 12 months will be the value of that determinant at the most recent date for which it is known at the valuation date;
2. (2) the amount of future interest payments and capital repayments will take account, where appropriate, of:
1. (a) the right of either party to have the investment repaid, and
2. (b) an assumed yield on other comparable investments made in the future not exceeding an amount determined in accordance with 11.15 to 11.17; and
3. (3) indices and all other factors which affect future income payments or capital repayment will remain unchanged after the valuation date.

11.12

For investments in collective investment schemes given a value as an asset in accordance with Friendly Society – Asset Valuation 13, the yield may be determined as the weighted average of the yields (as determined by this Chapter) on each of the investments held by the collective investment scheme.

11.13

In calculating the yield on an asset under this Chapter:

1. (1) for an asset other than equity shares or land:
1. (a) a prudent adjustment must be made to exclude that part of the yield estimated to represent compensation for the risk that the income from the asset might not be maintained or that capital repayments might not be received as they fall due; and
2. (b) in making that adjustment, regard must be had wherever possible to the yields on risk-free investments of a similar term in the same currency;
2. (2) for equity shares or land, adjustments to yields must be made as appropriate to exclude that part, if any, of the yield from each category of assets of a similar nature, type and degree of risk that is needed to compensate for the risk that the aggregate income from such category of assets, taking one year with another, might not be maintained.

11.14

Notwithstanding 11.13(2), for equity shares within 11.6, adjustments to yields must be made as appropriate to exclude that part, if any, of the yield from each category of assets of a similar nature, type and degree of risk that is needed to compensate for the risk that the aggregate profits earned by a undertaking might not be maintained.

11.15

To the extent that it is necessary to make an assumption about the yields which will be obtained on sums to be invested in future, the yield must be determined in accordance with 11.16 and 11.17.

11.16

Where the liabilities are denominated in UK sterling, the yield assumed, before any adjustments to take account of the effect of taxation;

1. (1) on any investment to be made more than three years after the valuation date, must not exceed the lowest of:
1. (a) the long-term gilt yield current on the valuation date,
2. (b) 3% per annum, increased by two-thirds of the excess, if any, of the long-term gilt yield current on the valuation date over 3% per annum, or
3. (c) 6.5% per annum, where "the long-term gilt yield" means the annualised equivalent of the 15 year yield for United Kingdom Government fixed interest securities jointly compiled by the Financial Times, the Institute of Actuaries and the Faculty of Actuaries; and
2. (2) on any investment to be made at any time not more than three years after the valuation date must not exceed the assumed yield determined under 11.2 adjusted linearly over the said three years to the yield determined in accordance with (1).

11.17

Where the liabilities are denominated in currencies other than UK sterling, the yield must be determined on assumptions that are as prudent as those made under 11.16.

11.18

1. (1) In no case must a rate of interest determined for the purposes of 11.1 exceed the adjusted overall yield on assets calculated as the weighted average of the reduced yields on the individual assets arrived at under 11.2.
2. (2) In calculating the weighted averaged referred to in (1):
1. (a) the weight given to each investment must be its value as an asset determined in accordance with the Friendly Society – Asset Valuation, except where assets may be taken at lower book values for the purposes of any investigation to which Friendly Society – Reporting 2 applies; and
2. (b) except in relation to the rate of interest used in valuing payments of property linked benefits, both the yield and the value of any linked assets must be omitted from the calculation.

12.1

A firm must determine the amount of the liability in respect of any category of contract, where relevant, on the basis of prudent rates of mortality and disability and any other decrement that take into account:

1. (1) where the policyholder is an individual, the state in which he has his habitual residence; and
2. (2) where the policyholder is not an individual, the state in which the establishment of the policyholder to which the commitment covered by the contract relates is situated.

13.1

In accordance with 13.2, a firm’s provision for expenses, whether implicit or explicit, must not be less than the amount required, on prudent assumptions, to meet the total net cost (after taking account of the effect of taxation) that would be likely to be incurred in fulfilling contracts if the firm were to cease to transact new business twelve months after the valuation date.

13.2

The provision mentioned in 13.1 must have regard to the firm's actual expenses in the last twelve months before the valuation date and the effects of inflation on future expenses on prudent assumptions as to the future rates of increase in prices and earnings.

14.1

A firm must make provision on prudent assumptions to cover any increase in liabilities caused by policyholders exercising options under their contracts.

14.2

Where a contract includes an option whereby the policyholder may secure a guaranteed cash payment within twelve months following the valuation date, the provision for that option must be such as to ensure that the value placed on the contract is not less than the amount required to provide for the payments that would have to be made if the option were exercised.

14.3

Where a contract includes an option whereby the policyholder may secure a cash payment but 14.2 does not apply, the provision for that option must be such as to ensure that, if the assumptions adopted for the valuation of the contract are fulfilled in practice:

1. (1) the resulting value is not less than the amount required to provide for the payment which would have to be made if the option were exercised; and
2. (2) the payment when it falls due is covered from resources arising solely from the contract and from the assets covering the amount of the liability determined at the current valuation.

14.4

For the purposes of 14.3 the amount of a cash payment secured by the exercise of an option is assumed to be:

1. (1) in the case of an accumulating with-profits policy, the lower of:
1. (a) the amount which would reasonably be expected to be paid if the option were exercised, having regard to the representations of the firm; and
2. (b) the amount in (a), disregarding all discretionary adjustments; and
2. (2) in the case of any other policy to which this Chapter applies, the amount which would reasonably be expected to be paid if the option were exercised, having regard to the representations of the firm, without taking into account any expectations regarding future distributions of profits or the granting of discretionary additions in respect of an established surplus or in anticipation of such additions.

15.1

A firm must not treat any contract of long-term insurance as an asset.

16.1

A firm must not make allowance in the valuation for the voluntary discontinuance of any contract of insurance if the amount of the liability so determined would thereby be reduced.