Issues Facing the Public Pension Industry OPEB Liabilities – Insurance Option

1. Issues Facing the Public Pension IndustryOPEB Liabilities – Insurance Option Presented by: Alisa Bennett, Principal and Senior Actuary April 19, 2010

2. Insurance Proposal – A Cautionary Note Corporate Owned Life Insurance (COLI) • Using insurance policies on the lives of employees as assets to back employee benefit plans. • For tax-paying entities, takes advantage of tax-advantaged status granted to life insurance. • Tax savings presumably exceeds insurance policy costs, insurer profits and commissions.

3. Insurance Proposal – A Cautionary Note Proposal for non tax-paying entity usually involves collateral assignment. • Entity uses percentage of value of the insurance policies to secure loan to pay the premiums. • The out of pocket expense is the difference between the loan value and the policy values, which depends on: • Percentage of policy value recognized • Loan interest rate • Policy cash value growth rate

4. Insurance Proposal – A Cautionary Note Since there is no tax-advantage for a non tax-paying entity, in order for proposal to be viable, the policy cash value growth rate must exceed the loan rate by enough to cover the insurance policy costs, insurer profits and commissions. Considerations include: • Current and guaranteed loan rates • Current and guaranteed policy growth rates • Current and guaranteed policy costs (cost of insurance, surrender charges, administrative cost)

5. Insurance Proposal – A Cautionary Note Other Considerations: • Liquidity • How quickly and cheaply can the asset be converted to cash? • Insurers assess surrender charges to recover initial costs of securing and issuing policy. • Some insurers reserve the right to defer payment upon policy surrender, avoiding “run on the bank” situations.

6. Insurance Proposal – A Cautionary Note • Investment Opportunities • Insurance proposal works by securing a loan with an interest rate lower than the policy growth rate. Policies may be Indexed Universal Life (IUL) policies that grow in value based on a percentage of a market index with a guaranteed minimum crediting rate. • Can a similar loan and investment product be found that does not involve wrapping the assets in an insurance contract? • For non tax-paying entity, there is no tax savings to offset the cost of insurance (policy costs, profits and commissions).

7. Insurance Proposal – A Cautionary Note • Mortality • Death benefits are paid upon death of the insured (the employee or retiree). • Most proposals are presented to appear as if mortality is not a component (such as assuming no deaths occur before age 100). • Insurance premiums will be priced such that the insurer does not lose money on mortality experience.

8. Insurance Proposal – A Cautionary Note • Public Perception • In the private sector, there has been negative press regarding “dead peasant” insurance where employers have adopted similar programs. • What is the insurable interest in this situation? • Consent by employees.