The Pricing actuary had recently priced a non participating 10 year regular premium endowment product which is now open to sales. The economic scenario has changed significantly as a result of which the valuation actuary had to revise his valuation assumptions. The first few policies sold for this product produced negative reserves. Q.1. what are negative reserves?(elaborately explain when they can occur and why they are considered not good) Q.2. Why do most regulators ask the insurance companies to set the negative reserves to zero in case of negative reserves?
Negative reserves suggest that the amount the policyholder will pay to the insurance company in premiums over the remainder of the policy exceeds the amount of benefits they get from their policy. Regulators don't generally like negative reserves, as including credit for them reduces the overall reserve amount (so the insurance company has less backing assets) and it is imprudent, as the policyholder in the situation above may realise their position and lapse their policy (so the insurance company never actually receives the positive premiums). See this thread for further comments on negative reserves in CT5: http://www.acted.co.uk/forums/showthread.php?t=2065
