Guarantees with British people usually only at expiration
British with-profits policies provide for lower guarantees than the endowment policies offered by German life insurers. These guarantees are also based on the scheduled expiry date and therefore do not usually apply in the event of early termination or partial termination (partial withdrawals).
British life insurers invest mainly in shares, in the past with a share of 50 to 70% of their net premium income on average about five times as much as German endowment life insurers. Products from the island outperformed their German competitors by 2 to 3 percentage points in terms of total long-term return. The focus is on achieving a high return, for which a higher risk is also accepted.
Guarantees, maturity bonus and smoothing not on termination.
In order to cushion this higher risk for the customer, British insurers apply a smoothing procedure. Within the framework of so-called “smoothing”, reserves are to be formed for worse years. During a bull market, for example, companies do not pass on all their price gains to customers in order to build up a buffer for times of crisis. The security capital consists to a large extent of the funds already generated, which have not yet been definitively guaranteed and passed on to the customer.
This includes in particular the maturity bonuses (final bonus), which are not included in the value of the units and are therefore not guaranteed. With this part of the contract value, the customer is also “liable” for the development of the capital markets – i.e. the decline in the “unsmoothed pool values” – until the contract expires. But this is mitigated by smoothing, so there is some stability in the predicted results.
However, in the event of premature sale of the shares, these guarantees are generally not applicable at all or only to a very limited extent. Then the guarantees given on the expiry date are completely lost, because on sale the policy value is adjusted by market price adjustments to the actual value of the underlying securities. Many customers feel that the calculation of this is incomprehensible, arbitrary or unfair.
Use of British methods violates German law
A common misconception among intermediaries and insurance clients is that UK insurers can “charge what they want and how they want” under mostly unfamiliar UK law. It is correct, however, that German insurance contract law (VVG) is to be applied.
However, the procedure practised by the British does not correspond at all to German law, which prescribes a so-called “current value” (less appropriate and agreed actuarial lapse deductions, if applicable) as the minimum surrender value, which is to be calculated quite differently.
As a rule, German law is agreed for the so-called “with profits” policies sold in Germany. These policies are therefore subject to German insurance contract law. This now provided from 1995 to 2007 in § 176 VVG1 that the insurer has to refund the surrender value in case of termination of an endowment insurance, which “is to be calculated according to the recognized rules of actuarial mathematics … as the current value of the insurance”.
Cancellation deduction must be reasonable and also agreed upon
With regard to the so-called cancellation deduction, § 176 (4) VVG stipulated “The insurer is only entitled to a deduction if it is agreed and reasonable.” The item cancellation deduction is not to be questioned here. It has nothing to do with the effect of the surrender values of British policies being reduced by market price adjustments, in particular as a result of the capital market situation. In principle, it too can only be levied if it is objectively reasonable and (transparently) agreed – otherwise the consequence follows directly from the law that it may not be deducted.
Legislator introduced the current value in 1994
In the course of deregulation in 1994, the German legislator introduced the concept of current value – also for British policies complying with German law – which is something completely new. It is so new that the old terms still dominate the imagination even of lawyers and wide circles of the insurance industry2.
In the explanatory memorandum3 to the new provision of § 176 VVG, the legislator states, among other things, that the current value depends on the capital market situation (more precisely: the yield expectations up to expiry) at the time of its calculation – this in itself is new, since the traditional calculation of the surrender value is made from the actuarial reserve using the unchanged actuarial interest rate applicable at the beginning of the contract.
According to the legislator’s conception, it is to be calculated prospectively as the difference between the present values of the future benefits and the premiums still to be paid in the future. Recognised actuarial methods are to be applied.
The calculation bases to be used for this purpose (expressly named as discount rate and mortality assumptions) are to be determined analogously to § 9 BewG. The legislator assumes that the policyholder will receive the real value of his insurance policy “when he surrenders it “4 .
Fair value means discounted full value of the contract
From an actuarial point of view, which is decisive here, Jaeger5 and Engeländer6 have dealt with the time value. In doing so, they come to the conclusion that the recognised actuarial methods for determining the present value as the difference in present value of future benefits (of the insurer) and future premiums to be paid (of the policyholder) are available, while only the assessment of the calculation bases to be applied for this purpose allows a certain degree of leeway, as is, however, also typical for present value calculations in other areas. In any case, the starting point is only the contractually agreed benefits and the contractually agreed premiums. The internal calculation bases or the insurer’s calculation are irrelevant: the current value must be determined from the customer’s point of view. The decisive factor here will be the question of interest.
The current market value can be determined objectively from the contractual provisions alone, e.g. by an external expert – at least as objectively and reliably as other current market values (e.g. income values of real estate), which are also recognised by the courts – despite the fact that different experts may arrive at different valuations and results. It is regularly applied, for example, when it comes to pension equalisation in the context of a divorce: in accordance with the case law of the Federal Court of Justice (BGH), family courts ensure that appropriate expert opinions on value are obtained.
British methods differ from fair value calculation
It is not simply the “surrender value” of the contract determined by the British by means of market price adjustment ultimately from the value of the underlying investments. Because the benefits and also the duration of the payment of the premiums depend on the occurrence of certain “random” events – death or survival to maturity – and have to be discounted to the time of surrender, standard actuarial methods and calculation bases – discount rate and mortality probabilities – come into play.
At maturity, the UK policies provide for certain guarantees, in addition to future current surpluses and the expected “smoothed” maturity bonus. Not only the minimum guarantees achieved, but everything that can realistically be expected at maturity must also be included in the statutory current value – just as, for example, a non-guaranteed terminal bonus is also included in the current value in the case of German policies.
In a non-contributory UK policy, EUR 148,000 is already guaranteed at maturity one year before expiry. In addition, there are EUR 2,000 in current surpluses and a maturity bonus smoothed by smoothing of EUR 50,000, which is currently expected but not yet guaranteed. Together this amounts to EUR 200 000. However, due to a stock market weakness, only 140,000 EUR will be paid out – also due to market price adjustments – if the policy is terminated one year before expiry – guarantees at expiry will not apply. However, even if the expected EUR 200,000 were discounted at 7 % to the termination date in the case of the present value because of the remaining uncertainties, at least almost EUR 187,000 would have to be paid out.
Customers are entitled to at least the current value of their insurance
Under German law, the customer is therefore entitled to the actual fair “current value” of his contract, which, as a result of the guarantees on expiry, is already significantly higher than what the British insurer calculated on the basis of the current weak capital market situation, even one year before expiry. The customer therefore has – if not yet statute-barred – a corresponding claim for subsequent payment. So deviating calculations by the British simply do not correspond to German law – the customer is entitled to the full market value (current value) of his policy. The main market-dependent factor here is the discount rate, which is used to calculate the fair value from the benefits expected in particular at maturity, and which depends on the capital market situation.
British overrode advice from actuaries
Engeländer7 (actuary and authorized signatory at KPMG) also writes about the time value:
“The introduction of this term is based on an initiative of actuaries who wanted to prevent foreign, in particular Anglo-Saxon methods of determining termination payments. While the current value is based on market values, in Great Britain the termination payments are determined on the basis of the insurer’s investments. This means that the insurer can speculate at the customer’s risk, as it only has to meet a predetermined benefit at expiry. The German requirement to pay at least the market-based current value as a termination payment forces insurers to make prudent and reliable investments appropriate to a retirement product.”
Infringement of statutory requirement: customers are entitled to minimum remuneration
Even if the British should not have taken this to heart – the statutory minimum surrender value – i.e. full current value – they cannot get around the German insurance contract law in force from mid-1994 to 2007. The current value is determined exclusively on the basis of the policyholder’s claims and obligations towards the insurer, irrespective of what happens internally within the insurer. The total effect of the future profit participation, including the profit sharing, is also taken into account. Maturity bonus, guarantees at expiry and any other promised benefit to be taken into account8
Engeländer (loc. cit.) points out that a qualified actuary must always be called in to determine the fair value. This is because the current value is not a value determined by the insurer in its own right, but an external value established by law.
Customers are entitled to a complete and comprehensible statement of account
Customers who feel unfairly treated by the surrender values calculated by UK insurers, including where applicable in the case of partial terminations or partial payouts or withdrawals, should therefore first request the insurer to recalculate the benefit as the current value in accordance with the law. In case of doubt or if the recalculation is refused, the current value can of course also be determined by an actuarial expert.
Reasons given by British insurers that the value of investments has fallen and that market price adjustments therefore have to be made are completely outside the scope of German law and are therefore irrelevant if this leads to lower benefits than the statutory current value.
No effective help from the state or interest groups in individual cases
Only when the customer or ex-customer of the insurer knows that the statement is still incorrect, and how much money is missing, can a lawyer really help. The hope that “the state” or “the insurance supervisory authority” would solve such problems proves to be deceptive and practically risky, because the customers’ claims could become time-barred in the near future. Accordingly, each affected person must make his own efforts to “make his case”, because associations and communities of interest offer no protection whatsoever against the loss of one’s own claims.
Banks can increase insolvency assets
In the case of unsuccessful leverage deals – credit-financed UK policies against single premiums – banks have the option of making subsequent claims for the higher current value over and above the surrender value collected. This means that in the event of the private insolvency of the former policyholder and investor, they will be able to repay the outstanding irrecoverable residual loan debt more quickly.
Brokers can reduce their advisory liability
Brokers who are held liable for such unsuccessful investments can point out that the client suffered a lesser loss. This is because the latter is entitled to the higher current value – not just the surrender value calculated by the insurer. If the customer does not enforce this against the insurer, he cannot therefore simply demand compensation from the broker in this amount.
1 In individual cases also since 29.07.1994.From 2008 this regulation was changed. 2 Engeländer, VersR 2005, 1031. 3 Legal Explanatory Memorandum to the Third Implementing Act/EEC to the ISA,BT-Dr. 12/6959,S. 103. 4 Legal Explanatory Memorandum to the Third Implementing Act/EEC to the ISA,BT-Dr. 12/6959,S. 103. 5 Jaeger, VersR 2002, 133. 6 Engeländer, NVersZ 2002, 436. 7 Engeländer, NVersZ 2002, 436. 8 Engeländer, NVersZ 2002, 436
by Dr. Johannes Fiala, Attorney at Law (Munich), MBA Financial Services (Univ.), MM (Univ.), Certified Financial and Investment Advisor (A.F.A.), Lecturer in Civil and Insurance Law (BA Heidenheim, Univ. of Cooperative Education), (www.fiala.de)
Dipl.-Math. Peter A. Schramm, expert for actuarial mathematics (Diethardt), actuary DAV, publicly appointed and sworn by the IHK Frankfurt am Main for actuarial mathematics in private health insurance (www.pkvgutachter. de).
Dipl.-Jur. Univ. Thomas Keppel, Attorney at Law (Law Firm Dr. Johannes Fiala)
with friendly permission of www.experten.de
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About the author
Dr. Johannes Fiala has been working for more than 25 years as a lawyer and attorney with his own law firm in Munich. He is intensively involved in real estate, financial law, tax and insurance law. The numerous stages of his professional career enable him to provide his clients with comprehensive advice and to act as a lawyer in the event of disputes.
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