Setting Assumptions (Second Exposure Draft)

Setting Assumptions

Exposure Draft

TRANSMITTAL MEMORANDUM

March 2019

TO: Members of Actuarial Organizations Governed by the Standards of Practice of the Actuarial Standards Board and Other Persons Interested in Setting Assumptions

FROM: Actuarial Standards Board (ASB)

SUBJ: Proposed Actuarial Standard of Practice (ASOP)

This document contains the second exposure draft of a proposed ASOP, Setting Assumptions. Please review this exposure draft and give the ASB the benefit of your comments and suggestions. Each written comment letter or e-mail received by the comment deadline will receive consideration by the drafting committee and the ASB.

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Setting Assumptions (second exposure draft)
Actuarial Standards Board
1850 M Street, NW, Suite 300
Washington, DC 20036-5805

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For more information on the exposure process, please see the ASB Procedures Manual.

Deadline for receipt of responses in the ASB office: July 31, 2019

History of the Standard

Assumptions are fundamental to the actuarial services performed by actuaries across all practice areas. The importance of actuarial assumptions continues to increase in the Sarbanes-Oxley environment, since the National Association of Insurance Commissioners promulgated the Model Audit Rule, and with the increased use of principle-based reserves and capital. Actuarial measurements often enter financial statements directly and are an integral part of managing the risk of an entity. In addition, the Public Company Accounting Oversight Board (PCAOB) is reviewing audit guidelines for auditing financial statements that include information provided by specialists, including actuaries (see the PCAOB Staff Consultation Paper No 2015-01 (“SCP”), The Auditor’s Use of the Work of Specialists).

While certain practice-area assumption-setting standards exist (for example, ASOP No. 27, Selection of Economic Assumptions for Measuring Pension Obligations, and ASOP No. 35, Selection of Demographic and Other Noneconomic Assumptions for Measuring Pension Obligations), and assumption-setting guidance is included within certain other standards (for example, ASOP No. 43, Property/Casualty Unpaid Claim Estimates), there remain gaps in guidance. The ASB believes it would be useful to issue a standard on setting assumptions for all practice areas that will supplement the guidance that currently exists. Accordingly, in January 2016, the ASB created a multi-disciplinary task force under the direction of the General Committee to draft a standard on assumption setting for all practice areas.

First Exposure Draft

The first exposure draft was issued in December 2016 with a comment deadline of April 30, 2017. Forty-five comment letters were received and considered in making changes that are reflected in the second exposure draft. For a summary of issues contained in these comment letters, please see appendix 2.

Notable Changes from the First Exposure Draft

The second exposure draft reflects significant revisions to coordinate with changes made to the proposed Modeling ASOP and in response to comments received on the first exposure draft of the proposed Setting Assumptions ASOP.

Changes made to the first exposure draft are listed below.

1. Section 1.2, Scope was revised as follows:

• to indicate that this standard applies to actuaries “when performing actuarial services that require the setting of assumptions for which the actuary is taking responsibility, giving advice on setting assumptions, or assessing the reasonableness of assumptions set by others”;

• to indicate that when an actuary is assessing the reasonableness of assumptions set by others, the actuary should follow the guidance in section 3 to the extent practicable;

• to clarify which ASOP will govern if another ASOP provides guidance on setting assumptions;

• to eliminate the concept of using assumptions in an actuarial work product; and

• to eliminate the reference to the selection of methodology and the matching of assumptions to the selected methodology.

2. Section 2, Definitions, was revised by deleting the term “entity,” modifying the terms “data” and “information date” to be consistent with those in other ASOPs, and adding the terms “assumption” and “prescribed assumption set by another party.”

3. Section 3.1.2, Adjustments for Data Deficiencies, was deleted and the concept incorporated into revised sections 3.2 and 3.3.

4. The reference to sensitivity testing in section 3.2 was eliminated because it is outside the revised scope of the standard.

5. The discussion of margins for adverse deviation was replaced with section 3.3, Assumption Margins.

6. The discussions of consistency of assumptions (revised section 3.5) and the reasonableness of the assumptions in the aggregate (revised section 3.6) were clarified to apply to “assumptions for which the actuary is taking responsibility.”

7. The proposed standard was modified to no longer include discussion of reasonableness of results. Revised section 3.4 provides characteristics of reasonable assumptions, and revised section 3.6 states, “…the actuary should set assumptions for which the actuary is taking responsibility that, in the actuary’s professional judgment, are reasonable in the aggregate.”

8. The guidance for actuaries collaborating on an assignment was deleted as this topic is covered by ASOP No. 41, Actuarial Communications, section 3.4.4. In addition, section 3.9, Reliance on Assumptions Set by Another Actuary, was added.

9. Section 3.11, Documentation, was added to be consistent with other ASOPs.

The ASB voted in March 2019 to approve this second exposure draft.

Assumptions Task Force
Maria M. Sarli, Chairperson
Shawna S. Ackerman	Margaret Tiller Sherwood
Ralph S. Blanchard III	Mary H. Simmons
Raymond R. Brouillette

General Committee of the ASB
Margaret Tiller Sherwood, Chairperson
Ralph S. Blanchard III	Susan E. Pantely
Andrew M. Erman	Judy K. Stromback
Dale S. Hagstrom	Hal Tepfer
Robert S. Miccolis	Christian J. Wolfe

Actuarial Standards Board
Kathleen A. Riley, Chairperson
Christopher S. Carlson	Darrell D. Knapp
Maryellen J. Coggins	Cande J. Olsen
Robert M. Damler	Barbara L. Snyder
Mita D. Drazilov	Patrick B. Woods

The Actuarial Standards Board (ASB) sets standards for appropriate actuarial practice in the United States through the development and promulgation of Actuarial Standards of Practice (ASOPs). These ASOPs describe the procedures an actuary should follow when performing actuarial services and identify what the actuary should disclose when communicating the results of those services.

PROPOSED ACTUARIAL STANDARD OF PRACTICE

SETTING ASSUMPTIONS

STANDARD OF PRACTICE

Section 1. Purpose, Scope, Cross References, and Effective Date

1.1 Purpose

This actuarial standard of practice (ASOP or standard) provides guidance to actuaries when performing actuarial services that involve setting assumptions.

1.2 Scope

This standard applies to actuaries when performing actuarial services that require the setting of assumptions for which the actuary is taking responsibility, giving advice on setting assumptions, or assessing the reasonableness of assumptions set by others.

Setting assumptions includes, but is not limited to, activities that may variously be referred to as developing or selecting assumptions, and may include an analysis of data or experience, industry studies, trends, economic forecasts, and other analyses, as appropriate.

Throughout this standard, any reference to setting assumptions also includes giving advice on setting assumptions. If the actuary’s actuarial services involve assessing the reasonableness of assumptions set by others, the actuary should follow the guidance in section 3 to the extent practicable.

Judgmental adjustments or assumptions applied to data, as described in section 3.4(c) of ASOP No. 23, Data Quality, are not within the scope of this ASOP.

Other ASOPs may provide guidance on setting assumptions. If the actuary determines that the guidance in this standard conflicts with a practice-area ASOP, the practice-area ASOP governs. If the actuary determines that the guidance in this ASOP conflicts with a cross-practice ASOP (applies to all practice areas), this ASOP governs.

If the actuary departs from the guidance set forth in this standard in order to comply with applicable law (statutes, regulations, and other legally binding authority), or for any other reason the actuary deems appropriate, the actuary should refer to section 4. If a conflict exists between this standard and applicable law, the actuary should comply with applicable law.

1.3 Cross References

When this standard refers to the provisions of other documents, the reference includes the referenced documents as they may be amended or restated in the future, and any successor to them, by whatever name called. If any amended or restated document differs materially from the originally referenced document, the actuary should consider the guidance in this standard to the extent it is applicable and appropriate.

1.4 Effective Date

This standard is effective for any actuarial work involved in setting assumptions performed on or after 12 months after adoption by the Actuarial Standards Board.

Section 2. Definitions

The terms below are defined for use in this actuarial standard of practice and appear in bold throughout the ASOP.

2.1 Assumption

A value that represents expectations, represents possibilities based on professional judgment, or may be prescribed by law or by others.

2.2 Data

Numerical, census, or classification information, or information derived mathematically from such items, but not general or qualitative information. Assumptions are not data, but data are commonly used in the development of assumptions.

2.3 Information Date

The date through which data and other information have been taken into account in setting assumptions reflected in an actuarial communication. The information date may be earlier than the date of any actuarial communication related to the actuarial services, and it may be earlier or later than other relevant dates, such as the date as of which an obligation is measured.

2.4 Prescribed Assumption Set by Another Party

A specific assumption that is set by another party, to the extent that law, regulation, or accounting standards gives the other party responsibility for setting such assumption. For this purpose, an assumption set by a governmental entity for a program that such governmental entity or a political subdivision of that entity directly or indirectly sponsors is a prescribed assumption set by another party.

2.5 Prescribed Assumption Set by Law

A specific assumption that is mandated or that is selected from a specified range or set of assumptions that is deemed to be acceptable by applicable law (statutes, regulations, and other legally binding authority). For this purpose, an assumption set by a governmental entity for a program that such governmental entity or a political subdivision of that entity directly or indirectly sponsors is not a prescribed assumption set by law.

Section 3. Analysis of Issues and Recommended Practices

3.1 General Considerations

The actuary should identify and set assumptions that take into account the following:

a. the purpose of the assignment;

b. the guidance in ASOP No. 23, in the consideration and the choice of data underlying the assumptions; and

c. the guidance in ASOP No. 25, Credibility Procedures, in the consideration of the credibility of data underlying the assumptions.

3.2 Information Used When Setting Assumptions

When setting assumptions for which the actuary is taking responsibility, the actuary should consider using the following information:

a. actual experience adjusted to current conditions where applicable, to the extent it is available, relevant, and sufficiently reliable;

b. other relevant and sufficiently reliable experience, such as industry experience that is properly modified to reflect the circumstances being modeled, if actual experience is not available or relevant, or is not sufficiently reliable;

c. future expectations or estimates inherent in market data when available and appropriate, or a combination of both; or

d. other relevant sources of information.

3.3 Assumption Margins

If the purpose of the assignment allows for provisions for margins, the actuary should consider the appropriateness of including a margin in the assumption. When setting a margin, the actuary should take into account the following:

a. the degree to which there is uncertainty around the assumption due to lack of relevant, credible company or industry experience data to support the assumption; and

b. whether the degree of uncertainty may vary over different periods of time within the time horizon of the assignment.

3.4 Reasonableness of Assumptions

For assumptions for which the actuary is taking responsibility, the actuary should set assumptions that are reasonable. For this purpose, an assumption is reasonable if it has the following characteristics:

a. it is appropriate for the purpose of the assignment;

b. it reflects the actuary’s professional judgment;

c. it takes into account experience, as discussed in section 3.2; and

d. it is expected to have no significant bias (i.e., it is not significantly optimistic or pessimistic) relative to the purpose of the assignment, except when a margin is included (as discussed in section 3.3).

3.5 Consistency of Assumptions

If the assignment requires the actuary to set multiple assumptions, the actuary should set assumptions for which the actuary is taking responsibility that are reasonably consistent with one another.

3.6 Reasonable Assumptions in the Aggregate

If the assignment requires the actuary to set multiple assumptions, the actuary should set assumptions for which the actuary is taking responsibility that, in the actuary’s professional judgment, are reasonable in the aggregate.

3.7 Subsequent Events

After the information date, if the actuary becomes aware of a subsequent event that could result in a material change in assumptions, the actuary should refer to the guidance in ASOP No. 41, Actuarial Communications.

3.8 Reliance on Data or Other Information Supplied by Others

When relying on data or other information supplied by others, the actuary should refer to ASOP Nos. 23 and 41 for guidance.

3.9 Reliance on Assumptions Set by Another Actuary

The actuary may rely on assumptions set by another actuary. However, the relying actuary should be reasonably satisfied that the other actuary’s assumption setting was performed in accordance with the appropriate ASOPs and is appropriate for the assignment. The actuary should disclose the extent of any such reliance.

3.10 Reliance on Assumptions Set by Others

When relying on assumptions set by others, the actuary should refer to ASOP No. 41 for guidance. The actuary should disclose the extent of any such reliance.

3.11 Documentation

The actuary should consider preparing and retaining documentation to support compliance with the requirements of section 3 and the disclosure requirements of section 4. When preparing documentation, the actuary should prepare such documentation in a form such that another actuary qualified in the same practice area could assess the reasonableness of the actuary’s work or could assume the assignment if necessary. The degree of such documentation should be based on the professional judgment of the actuary, and may vary with the complexity and purpose of the actuarial services. In addition, the actuary should refer to ASOP No. 41, section 3.8, for guidance related to the retention of file material other than that which is to be disclosed under section 4.

Section 4. Communications and Disclosures

4.1 Required Disclosures in an Actuarial Report

When issuing an actuarial report to which this standard applies, the actuary should refer to ASOP Nos. 23, 25, and 41. In addition, the actuary should disclose the following in such actuarial reports:

a. a description of each significant assumption;

b. the information and analysis used for setting each significant assumption in sufficient detail to permit another qualified actuary to assess the reasonableness of the assumption; and

c. material changes in significant assumptions since the most recent comparable actuarial findings communicated, to the extent known and readily available.

4.2 Additional Disclosures

The actuary also should include the following disclosures, when applicable, in an actuarial report:

a. any provisions for margins, as discussed in section 3.3;

b. the extent of any reliance on assumptions set by another actuary, as discussed in section 3.9;

c. the extent of any reliance on assumptions set by others, as discussed in section 3.10;

d. the disclosure in ASOP No. 41, section 4.2, of any prescribed assumptions set by law and prescribed assumptions set by another party;

e. the disclosure in ASOP No. 41, section 4.3, if the actuary states reliance on other sources and thereby disclaims responsibility for any material assumption selected by a party other than the actuary; and

f. the disclosure in ASOP No. 41, section 4.4, if, in the actuary’s professional judgment, the actuary has otherwise deviated materially from the guidance of this ASOP.

4.3 Confidential Information

Nothing in this ASOP is intended to require the actuary to disclose confidential information.

Appendix 1—Background and Current Practices

Note:  This appendix is provided for informational purposes and is not part of the standard of practice.

Assumptions have always played a fundamental role in actuarial work for every discipline. Actuaries set assumptions, give advice on setting assumptions, and assess the reasonableness of assumptions set by others.

Historically, actuaries have used various approaches to setting and evaluating assumptions. For example, actuaries have used the actual experience of the entity being modeled, relied on detailed research by experts, used highly sophisticated projection techniques, and relied on their own professional judgment. Most actuaries have used a combination of these and other approaches.

Assumptions are set in order to produce estimates under conditions of uncertainty. Even assumptions that are prudently developed and carefully used cannot eliminate inherent uncertainty and variability, and actual experience may differ, sometimes significantly, from the estimates derived using assumptions. These differences, by themselves, do not indicate a flawed assumption-setting process or noncompliance with standards. Similarly, the fact that different actuaries may apply different professional judgment and may choose different reasonable assumptions does not indicate a flawed assumptions-setting process.

While the setting of assumptions always has been an important part of actuarial practice, the importance of disclosing assumptions is increasing with the move to more principles-based financial reporting measurements and the increased focus on whether entities are properly funded or reserved to meet their obligations. Financial audits, reviews, and examinations also have evolved significantly in the last ten years. Sarbanes-Oxley and the Model Audit Rule promulgated by the National Association of Insurance Commissioners also have focused attention on assumptions. Furthermore, audits and examinations are increasingly conducted on a risk-focused basis, which contributes to the need for guidance on setting assumptions.

Appendix 2- Comments on the First Exposure Draft and Responses

The first exposure draft of the proposed Setting Assumptions ASOP was issued in December 2016 with a comment deadline of April 30, 2017. Forty-five comment letters were received, some of which were submitted on behalf of multiple commentators, such as by firms or committees. For purposes of this appendix, the term “commentator” may refer to more than one person associated with a particular comment letter. The Task Force and General Committee carefully considered all comments received, and the ASB reviewed (and modified, where appropriate) the changes proposed by the General Committee.

Summarized here are the significant issues and questions contained in the comment letters and the responses. Minor wording or punctuation changes that are suggested but not significant are not reflected in the appendix, although they may have been adopted.

The term “reviewers” in appendix 2 includes the Task Force, General Committee, and the ASB. Also, the section numbers and titles used in appendix 2 refer to those in the first exposure draft, which are then cross referenced with those in the second exposure draft.

Comments on this Exposure Draft

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