Hi there, I am struggling with this concept. I get that it is used to reduce new business strain I get lost in the mechanics of how it operates. Could someone help provide a high level simple explanation please
Actuarial funding is no longer part of the SP2 course. It was deleted from the Core Reading a few years ago. Best wishes Mark
Yes, Actuarial Funding is part of the F102 syllabus, but not part of the SP2 syllabus. So anyone studying F102 can read on. Actuarial funding is used when initial expenses are recovered by using a higher than normal fund management charge. Imagine an insurer which has initial expenses of 95 on a contract with single premium of 1000. The insurer has increased its management charge by 1% to pay for these expenses. This isn't ideal because the initial expenses occur at the start of the contract, but the insurer will only get its charges gradually throughout the contract. On day one, the insurer pays the expenses of 95 and invests the premium into units. If it invests all the premium into units then it starts with a loss of 95. This is where the actuarial funding comes in. The insurer knows that it only needs to pay out the unit fund at maturity (we'll ignore death for simplicity). So it knows that actually the policyholder will only get 0.99 of its units after one year, and 0.99^10 of its units after ten years, because the insurer deducts a 1% charge each year. With actuarial funding the insurer just takes these charges on day one, so only puts 1000 x 0.99^10 = 904.4 into units instead of the full 1000. This gives the insurer an initial charge of 95.6 which covers the initial expenses. We can allow for mortality in a similar way by applying the charges up to the time of death and multiplying by the probability of death at that time. I hope this helps. Good luck with your studies. Mark
