5The Best Estimate Liability

SECTION 5 The Best Estimate Liability

Overview

The Best Estimate Liability is determined as the value of the expected future payments and receipts under the policy, gross of reinsurance, based on obligations at the reporting date.

Best Estimate Liability =

Value of expected future benefit payments

plus Value of expected future expenses

less Value of expected future receipts

Note that the benefit obligations projected include all contractual benefits. In particular, in the case of Participating Benefits they include Bonuses declared prior to (but not on, or after) the date of valuation.

In projecting the expected future cash flows, the Actuary makes assumptions about the expected future experience, taking into account all factors which are considered to be material to the calculation, including:

 investment earnings

 inflation

 taxation

 expenses

 mortality and morbidity

 policy discontinuance.

The Actuary’s assumptions must reflect a best estimate of the likely experience.

5.1 In accordance with the principles of section 3, where the valuation of the policy liabilities involves assumptions as to future experience, the assumptions used must be Best Estimate Assumptions.

5.2 In establishing Best Estimate Assumptions, due regard must be had for the materiality of:

1. the benefits being considered; and
2. the effect of particular assumptions on the determined result.

5.3 Valuing Liability Options

5.3.1 The Best Estimate Liability and Best Estimate Assumptions are to have regard to any options or asymmetrical distribution of liability outcomes.

5.3.2 Where the distribution of potential liability outcomes is equally likely to result in a gain or loss, then it will normally be sufficient to adopt the mean of the assessed distributions of future experience for the Best Estimate Assumptions and calculate the Best Estimate Liability accordingly.

5.3.3 However, the Actuary needs to consider and assess the extent that variations in the assumptions may be correlated, and/or may compound one another, in adverse circumstances. In such cases the Best Estimate Assumptions must be adjusted so that the Best Estimate Liability is representative of the mean of the distribution of the potential liability outcomes.

5.3.4 Where the benefits contain options that may be exercised against the company, then either the value of those options must be determined (via a suitable option pricing method) and added to the Best Estimate Liability, or the Best Estimate Assumptions adjusted so as to appropriately capture the value of the options as part of the Best Estimate Liability.