As insurance companies face a crisis where their capital adequacy ratios are threatened after years of being unable to pay dividends due to the 'shock' of surrender reserves (hereinafter referred to as surrender reserves), financial authorities have decided to propose fundamental improvement measures. However, given that excessive business expenses driven by cutthroat competition among insurers have led to a surge in surrender reserves, additional regulations targeting these expenses are expected to be introduced.
"A sound company facing liquidation?" Reviewing downward revision of assumed mass surrender rates from 80~100% to 25~35%
According to financial authorities on the 9th, the insurance industry recently submitted a proposal for system improvements regarding the surge in surrender reserves to 58 trillion won to the Financial Services Commission (FSC) and the Financial Supervisory Service (FSS). If the current system, which requires setting aside 80~100% of the difference between cost-based liabilities and market-value liabilities depending on the level of the Capital Adequacy Ratio for Insurance Companies (K-CIS), is maintained, insurance company dividends will be halted, and some insurers face a crisis where even their basic capital could be deducted.
A likely improvement plan involves lowering the assumed mass surrender rate at the time of calculating surrender reserves from the current 80~100% to 25% for protection-type products and 35% for savings-type products. Surrender reserves are funds that insurers must pay out if policyholders surrender en masse. Currently, even for normal companies, reserves are accumulated based on an assumption of liquidation-level 100% surrender; the aim is to make this more reasonable. In fact, when calculating required capital under K-CIS, mass surrender risks (risks) are already assumed at 25% for protection-type products and 35% for savings-type products.
Additionally, there is a view that contracts initially resulting in losses and recorded as negative (-) liabilities should have their surrender reserves calculated at '0' won. Since surrender reserves represent funds to be returned upon surrender, accumulating even 'negative liabilities' does not align with the intent of the system. If only these two measures are reflected in the improvement plan, it is estimated that some insurers will generate dividend sources or see their surrender reserves, amounting to several trillion won, drastically reduced by more than half.
Some companies have also argued that new contracts should be excluded from the scope of surrender reserve calculations following the introduction of IFRS17 (new accounting standards). While they argue that since surrender reserves are a system designed to prevent profits arising from the transition in accounting standards from being siphoned out, new contracts should be excluded, it is expected that this will not be easily reflected in reality.
"Facing corporate tax hikes," property and casualty insurers who previously opposed now change stance.. Authorities: "Must include measures on business expenses"
Life insurance companies and property and casualty insurers, which previously issued conflicting statements, are now speaking with one voice. The property and casualty industry generally raised voices of opposition, arguing that if surrender reserves decrease, the amount recognized as deductible expenses under tax law would also shrink, increasing their tax burden. However, as surrender reserves have surged rapidly, more property and casualty insurers are reversing their positions.
A representative of a small-to-medium-sized company said, "We are deeply worried that our capital will be deducted due to surrender reserves ahead of the implementation of basic capital regulations," adding, "We cannot even conduct new contract sales properly." Another representative from a large property and casualty insurer stated, "The speed at which surrender reserves are accumulating is faster than expected, offsetting the effect of corporate tax savings," and expressed hope that "at least new contracts with lower surrender risks be excluded from the accumulation targets."
If the current system remains in place, it is estimated that large insurance companies will accumulate surrender reserves in the trillions of won, causing distributable profits to be halved by the end of next year. The dividend payout ratio is also expected to drop from an average level of 40% into the 20s, triggering red lights for the 'value-up program'.
Financial authorities have previously applied 'band-aid' solutions to the surrender reserve system twice. Since basic capital adequacy regulations are set to be implemented for the first time next year, they plan to propose fundamental improvement measures. However, the financial authorities view that the cause of the rapid surge in surrender reserves is excessive competition within the health insurance sector. In fact, since the introduction of IFRS17, business expenses have been deferred from seven years to as long as several decades, leading insurers to spend on new contract costs at record levels. While market-value liabilities decreased under accounting standards, this is cited as a major factor for the sharp increase in cost-based surrender reserves.
An official from the authorities stated, "While reasonable parts of the industry's proposals will be reviewed during the process of formulating improvement plans, solutions to the problem of business expenses being spent recklessly without limits must also be addressed together," adding, "We plan to prepare fundamental improvement measures that align with the original intent of surrender reserves."
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