The Hartford 2010 Annual Report Download - page 55

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Estimated Gross Profits Used in the Valuation and Amortization of Assets and Liabilities Associated with Variable Annuity and
Other Universal Life-Type Contracts
Estimated gross profits (“EGPs”) are used in the amortization of the DAC asset, which includes the present value of future profits; sales
inducement assets (“SIA”); and unearned revenue reserves (“URR”). See Note 7 of the Notes to Consolidated Financial Statements for
additional information on DAC. See Note 10 of the Notes to Consolidated Financial Statements for additional information on SIA.
Portions of EGPs are also used in the valuation of reserves for death and other insurance benefit features on variable annuity and
universal life-type contracts. See Note 9 of the Notes to Consolidated Financial Statements for additional information on death and
other insurance benefit reserves.
As of December 31, 2010 and 2009 the most significant EGP based balances that are amortized were as follows:
U.S. Annuity International Annuity Retirement Plans Life Insurance
2010 2009 2010 2009 2010 2009 2010 2009
DAC $ 3,251 $ 3,114 $ 1,617 $ 1,693 $ 820 $ 701 $ 2,667 $ 2,490
SIA $ 329 $ 324 $ 41 $ 28 $ 23 $ 23 $ 45 $ 42
URR $ 99 $ 96 $ 43 $ 70 $ — $ — $ 1,383 $ 1,182
Death and Other
Insurance Benefit
Reserves $ 1,052 $ 1,232 $ 696 $ 584 $ 1 $ 1 $ 113 $ 76
For most contracts, the Company estimates gross profits over 20 years as EGPs emerging subsequent to that timeframe are immaterial.
Products sold in a particular year are aggregated into cohorts. Future gross profits for each cohort are projected over the estimated lives
of the underlying contracts, based on future account value projections for variable annuity and variable universal life products. The
projection of future account values requires the use of certain assumptions including: separate account returns; separate account fund
mix; fees assessed against the contract holder’ s account balance; surrender and lapse rates; interest margin; mortality; and hedging
costs. Changes in these assumptions and, in addition, changes to other policyholder behavior assumptions such as resets, partial
surrenders, reaction to price increases, and asset allocations causes EGPs to fluctuate which impacts earnings.
Prior to the second quarter of 2009, the Company determined EGPs using the mean derived from stochastic scenarios that had been
calibrated to the estimated separate account return. The Company also completed a comprehensive assumption study, in the third
quarter of each year, and revised best estimate assumptions used to estimate future gross profits when the EGPs in the Company’ s
models fell outside of an independently determined reasonable range of EGPs. The Company also considered, on a quarterly basis,
other qualitative factors such as product, regulatory and policyholder behavior trends and would revise EGPs if those trends were
expected to be significant.
Beginning with the second quarter of 2009, the Company now determines EGPs from a single deterministic reversion to mean (“RTM”)
separate account return projection which is an estimation technique commonly used by insurance entities to project future separate
account returns. Through this estimation technique, the Company’ s DAC model is adjusted to reflect actual account values at the end
of each quarter. Through consideration of recent market returns, the Company will unlock, or adjust, projected returns over a future
period so that the account value returns to the long-term expected rate of return, providing that those projected returns do not exceed
certain caps or floors. This DAC Unlock for future separate account returns is determined each quarter. Under RTM, the expected long
term weighted average rate of return is 8.3% and 5.9% for U.S. and Japan, respectively.
In the third quarter of each year, the Company completes a comprehensive non-market related policyholder behavior assumption study
and incorporates the results of those studies into its projection of future gross profits. Additionally, throughout the year, the Company
evaluates various aspects of policyholder behavior and periodically revises its policyholder assumptions as credible emerging data
indicates that changes are warranted. Upon completion of the assumption study or evaluation of credible new information, the
Company will revise its assumptions to reflect its current best estimate. These assumption revisions will change the projected account
values and the related EGPs in the DAC, SIA and URR amortization models, as well as the death and other insurance benefit reserving
model.
All assumption changes that affect the estimate of future EGPs including the update of current account values, the use of the RTM
estimation technique and policyholder behavior assumptions are considered an Unlock in the period of revision. An Unlock adjusts
DAC, SIA, URR and death and other insurance benefit reserve balances in the Consolidated Balance Sheets with an offsetting benefit or
charge in the Consolidated Statements of Operations in the period of the revision. An Unlock that results in an after-tax benefit
generally occurs as a result of actual experience or future expectations of product profitability being favorable compared to previous
estimates. An Unlock that results in an after-tax charge generally occurs as a result of actual experience or future expectations of
product profitability being unfavorable compared to previous estimates.
EGPs are also used to determine the expected excess benefits and assessments included in the measurement of death and other insurance
benefit reserves. These excess benefits and assessments are derived from a range of stochastic scenarios that have been calibrated to the
Company’ s RTM separate account returns. The determination of death and other insurance benefit reserves is also impacted by discount
rates, lapses, volatilities and mortality assumptions.