SEC Company Response from INDEPENDENCE HOLDING CO (CIK 0000701869) — Aug 23, 2005
INDEPENDENCE HOLDING CO (CIK 0000701869)
Date: Aug. 23, 2005 · CIK: 0000701869 · Accession: 0000701869-05-000024
AI Filing Summary & Sentiment
File numbers found in text: 001-32244
Referenced dates: July 21, 2005
Letter
Securities and Exchange Commission Form 10-K for Fiscal Year Ended December 31, 2004 Filed March 16, 2005 File No. 001-32244
Re: Independence Holding Company
Dear Mr. Rosenberg:
This letter is in response to the comments of the staff of the Division of Corporation Finance (the "Staff") contained in your letter (the "Comment Letter") dated July 21, 2005, regarding the above referenced filing of Independence Holding Company ("IHC" or the "Company"). Below are the Staff's comments followed by our responses.
Q1 Critical Accounting Policies
Insurance Reserves
For each of your health insurance products, provide us the following information in disclosure-type format to help us evaluate the adequacy of your health insurance reserves:
The amount accrued as of the latest balance sheet date presented, the total of which should agree to the amount presented on the balance sheet.
The amount of reserves for IBNR losses, separately from reported losses.
The range of loss reserve estimates as determined by your actuaries.
The key assumptions used to arrive at your best estimate of loss reserves within that range and what specific factors led you to believe this amount, rather than any other amount within the range, represented the best estimate of incurred losses.
A discussion that explains the judgments and uncertainties surrounding this estimate and the potential impact on your financial statements.
A1 The Company's health reserves by segment at December 31, 2004 are as follows (in thousands):
Policy Claims
IBNR
Claim Reserves
Total Health Reserves
Medical Stop-Loss
$
-
$
80,452
$
-
$
80,452
Group Disability
13,798
47,440
61,928
Credit A&H
1,026
-
5,814
6,840
Individual A&H and Other
8,383
10,200
19,362
$
2,495
$
102,633
$
63,454
$
168,582
Medical Stop-Loss
The Company's Medical Stop-Loss segment is comprised of Employer Stop-Loss, HMO Reinsurance and Provider Excess. The key assumptions in reserving for this segment relate to: (i) frequency and severity of claims; (ii) changes in medical trend resulting from the influences of underlying cost inflation, changes in utilization and demand for medical services, the impact of new medical technology and changes in medical treatment protocols; and (iii) the adherence by the managing general underwriters ("MGUs") that produce and administer this business to the Company's underwriting guidelines.
Much of the complexity in predicting ultimate claims and estimating reserves in Medical Stop-Loss is due to the excess of loss nature of these products. Fluctuations in results for specific coverage are primarily due to the severity and frequency of individual claims, whereas fluctuations in aggregate coverage are largely attributable to frequency of underlying claims rather than severity. Due to these fluctuations and the volatility inherent in this line of business, judgments must be made in reviewing the emerging development of this business. The Company must determine whether changes in development represent true indications of the emerging experience or are simply due to random claim fluctuations. In setting claim costs, the Company makes an assumption as to the trend in medical inflation for the coming year. Changes in medical protocols and advancements in technology, as well as underlying inflation in the costs of goods and services used in healthcare, can cause medical inflation to increase at a faster rate. The Company's MGUs are contractually required to adhere to the underwriting guidelines provided to them in, among other things, setting pricing and deductible levels. Deviations from these guidelines could materially affect the Company's reserving assumptions.
The Company's actuaries do not determine a range of loss estimates for this line of business since applying historical patterns to a small paid claims base would not yield an appropriate range of results. Instead, reserves for Medical Stop-Loss are typically set at expected levels consistent with underlying pricing assumptions. Changes to prior year reserve estimates are predominantly a reflection of actual paid claim experience in comparison to expected claim reserve levels rather than changes in assumptions. Due to the short-term nature of Medical Stop-Loss, redundancies or deficiencies will typically emerge during the course of the following year rather than over a number of years. For Employer Stop-Loss, the Company will typically maintain its reserves based on underlying pricing assumptions for a longer period than it will for HMO Reinsurance and Provider Excess for which reserves would be adjusted on a policy by policy basis. Because of the small number of HMO Reinsurance and Provider Excess policies it writes, the Company is able to evaluate each policy individually for potential liability by discussing open claims with each HMO or provider group and applying completion factors using historical data. With respect to its much larger block of Employer Stop-Loss policies, the Company will maintain its reserves at pricing until it determines that an adjustment is appropriate based on emerging experience from all of its MGUs for prior underwriting years.
Group Disability
The Company's Group Disability segment is comprised of Long Term Disability ("LTD") and Disability Benefits Law ("DBL"). The key assumptions on which Group Disability reserves are based relate to: (i) advancements in medical treatments; (ii) the rate of disability; and (iii) recovery rates. Advancements in medical treatments could affect future recovery, termination, and mortality rates. If the rate of disability increases, for example due to an epidemic or a recessionary environment, the Company would increase reserves. In regard to recovery rate, if disabled lives recover more quickly, reserves would be reduced; if less quickly, reserves would be increased. With respect to LTD only, other key assumptions are: (i) changes in market interest rates; (ii) changes in offsets; and (iii) cost of living. Changes in market interest rates could change reserve assumptions since the payout period could be as long as 40 years. Changes in offsets such as Social Security benefits, retirement plans and state disability plans will impact reserving. Inflation factors are often built into the underlying policies. If the rate of inflation increases more quickly, reserves would have to be increased. The IBNR rate is determined by reviewing historical trends.
As a result of the forgoing assumptions, it is possible that the historical trend may not be an accurate predictor of the future development of the block. As with most long term insurance reserves that require judgment, the reserving process is subject to uncertainty and volatility and fluctuations may not be indicative of the claim development overall. Ranges are not used to determine the ultimate amount of reported reserves for Group Disability. Based upon a review of the ratios over time, the Company uses a single estimate, which is the best estimate in management's opinion according to an interpretation of historical results and trends.
Credit Accident and Health ("A&H")
The key assumptions used in estimating the Credit A&H reserves relate to: (i) the mix of ages of the insured; (ii) the rate of disability; and (iii) the rate of mortality of disabled lives. If the mix is skewed towards older age groups the probability of disability increases. If the rate of disability increases, the Company would increase reserves. If mortality of disabled lives improves, the Company would have to pay benefits for a longer period of time. Ranges are not used to determine the ultimate amount of reported reserves for Credit A&H. Management records its best estimate based on the Company's experience. Credit A&H policies are accounted for based on actuarial estimates of the amount of loss inherent in that period's claims, including losses incurred for which claims have not been reported. The Company establishes reserves for benefit claims that (i) have been reported, but not paid; and (ii) have been incurred, but not reported.
Individual A&H and Other
This segment is a combination of closed lines of business as well as certain small existing lines. While the assumptions used in setting reserves vary between these different lines of business, the assumptions would generally relate to the following: (i) the rate of disability; (ii) the morbidity rates on specific diseases; and (iii) accident rates. The reported reserves are based on management's best estimate for each line within this segment. Ranges are not used to determine the ultimate amount of reported reserves for Other A&H. General uncertainties that surround all insurance reserving methodologies would apply. However, since the Company has such few policies of this type, volatility may occur due to a small number of claims.
Q2 As you appear to have significantly revised your estimate of health insurance reserves recorded in prior years, please provide us the following information in disclosure-type format to help us evaluate the adequacy of your disclosure regarding these changes in estimate:
Identify the years to which the change in estimate relates and disclose the amount of the related loss reserve as of the beginning of the year that was re-estimated. Discuss and quantify offsetting changes in estimates that increase and decrease the loss reserve.
Identify the changes in the key assumptions made to estimate the reserve since the last reporting date.
Identify the nature and timing of the change in estimates, explicitly identifying and describing in reasonable specificity the new events that occurred or additional information acquired since the last reporting date that led to the change in estimate.
Ensure the disclosure clearly explains why recognition occurred in the periods that it did and why recognition was not required in earlier periods.
Disclose any trends such as, the number of claims incurred, average settlement amounts, number of claims outstanding at period ends along with average per claim outstanding, and any other trends, necessary to understand the change in estimate. Please explain the rationale for a change in estimate that does not correlate with trends.
A2 Changes in the Company's total health reserves for the year ended December 31, 2004 are summarized as follows (in thousands):
Insurance policy claims
and reserves
Balance at beginning of year
$
175,692
Less: reinsurance recoverables
113,181
Net balance at beginning of year
62,511
Amount incurred:
Current year
85,588
Prior years
2,545
Total
88,133
Amount paid, related to:
Current year
44,146
Prior years
42,480
Total
86,626
Net balance at end of year
64,018
Plus: reinsurance recoverables
104,564
Balance at end of year
$
168,582
The following table summarizes the prior year amount incurred in 2004 according to the year to which it relates, together with the reserve at the beginning of the year to which it relates (in thousands):
Reserves at December 31, 2003
Prior Year
Amount Incurred
Total Reserves
$
35,810
$
(2,243)
16,539
2001 and Prior
10,162
(319)
Total
$
62,511
$
(2,545)
For purposes of the preceding tables, the prior year incurred amount has been revised to $2,545,000 from the originally reported amount of $5,570,000 principally to reflect the full conversion of Medical Stop-Loss data reported to the Company on a treaty year basis to a calendar year basis. Previously, the data for Madison National Life Insurance Company ("Madison") was inadvertently included in the Company-wide disclosures based on treaty year, while the data for Standard Security Insurance Company of New York ("Standard") was included after conversion from a treaty year to a calendar year basis using an actuarially developed methodology. Once the Madison data was converted from a treaty year basis to a calendar year basis, the breakdown of the current year as compared to the prior year amount incurred changed, but the total amount incurred and the year-end reserve levels did not change. The Company believes that the effect of conforming the subsidiaries' data was not material to the accuracy of its overall disclosures with respect to its reserves or the changes therein.
MGUs report their results to the Company based on the contractual period or "treaty year" specified in the reinsurance treaty applicable to that MGU. The treaty year basis is used because reinsurers, who are responsible for their pro rata share of profit commissions earned by the MGUs, track underwriting results according to the contractual term of the reinsurance treaty. A treaty or underwriting year is typically a twelve month period during which insurance policies with different effective dates during that twelve month period are reinsured. When the treaty year incepts after January 1st, the Company must make certain assumptions to convert the treaty year reporting provided to it to a calendar year basis.
The following sections describe, for each segment, the deficiency (unfavorable development) or redundancy (favorable development) experienced in 2004, together with the key assumptions and changes therein affecting the reserve estimates.
Medical Stop-Loss
The Company experienced unfavorable development of $3,000,000 in the Medical Stop-Loss segment, $3,132,000 of which relates to development in the 2003 reserves, slightly offset by positive development in prior years. Largely for the following reasons, the Company could not have been aware of these developments until 2004, the year in which we recognized the change in estimate: (i) an unexpectedly high frequency of claims reported in 2004 relating to 2003 cases as a result of an unforeseen resurgence in hospital claim trends; (ii) a general "softening" of the Medical Stop-Loss market in 2003 which did not show development until 2004; and (iii) deviations from underwriting guidelines by certain of its MGUs which were detected by the Company in its 2004 underwriting audits. The Company set its pricing and underwriting guidelines at the beginning of each treaty year based on its evaluation of its own experience and current market conditions. Changes in market conditions through the treaty year have unexpected effects on the underwriting and rating decisions of its MGUs and produce results which vary from the expectations implicit in its pricing.
Group Disability
The Group Disability segment had a favorable development of $735,000. This amount consists of a favorable development of $1,143,000 on the 2003 reserves primarily related to DBL and an unfavorable development of $408,000 for all other years related to LTD.
Due to the long-term nature of LTD, in establishing loss reserves the Company must make estimates for case reserves, incurred but not reported reserves, and reserves for Loss Adjustment Expenses ("LAE"). Case reserves generally equal the Company's best estimate of the present value of the liability for future benefits to be paid on claims incurred as of the balance sheet date. The LAE reserve is calculated based on an actuarial expense study. Since the LTD block of policies is relatively small, results can vary from year to year solely on the basis of one or two policies. It is not uncommon for a reserve of several hundred thousand dollars to be associated with one policy. If a small number of clai
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CORRESP
1
filename1.htm
August 23, 2005
Mr. Jim B. Rosenberg
Senior Assistant Chief Accountant
Securities and Exchange Commission
450 Fifth Street, N.W.
Washington, D.C., 20549
Re: Independence Holding Company
Form 10-K for Fiscal Year Ended December 31, 2004
Filed March 16, 2005
File No. 001-32244
Dear Mr. Rosenberg:
This letter is in response to the comments of the staff of the Division of Corporation Finance (the "Staff") contained in your letter (the "Comment Letter") dated July 21, 2005, regarding the above referenced filing of Independence Holding Company ("IHC" or the "Company"). Below are the Staff's comments followed by our responses.
Q1 Critical Accounting Policies
Insurance Reserves
For each of your health insurance products, provide us the following information in disclosure-type format to help us evaluate the adequacy of your health insurance reserves:
The amount accrued as of the latest balance sheet date presented, the total of which should agree to the amount presented on the balance sheet.
The amount of reserves for IBNR losses, separately from reported losses.
The range of loss reserve estimates as determined by your actuaries.
The key assumptions used to arrive at your best estimate of loss reserves within that range and what specific factors led you to believe this amount, rather than any other amount within the range, represented the best estimate of incurred losses.
A discussion that explains the judgments and uncertainties surrounding this estimate and the potential impact on your financial statements.
A1 The Company's health reserves by segment at December 31, 2004 are as follows (in thousands):
Policy Claims
IBNR
Claim Reserves
Total Health Reserves
Medical Stop-Loss
$
-
$
80,452
$
-
$
80,452
Group Disability
690
13,798
47,440
61,928
Credit A&H
1,026
-
5,814
6,840
Individual A&H and Other
779
8,383
10,200
19,362
$
2,495
$
102,633
$
63,454
$
168,582
Medical Stop-Loss
The Company's Medical Stop-Loss segment is comprised of Employer Stop-Loss, HMO Reinsurance and Provider Excess. The key assumptions in reserving for this segment relate to: (i) frequency and severity of claims; (ii) changes in medical trend resulting from the influences of underlying cost inflation, changes in utilization and demand for medical services, the impact of new medical technology and changes in medical treatment protocols; and (iii) the adherence by the managing general underwriters ("MGUs") that produce and administer this business to the Company's underwriting guidelines.
Much of the complexity in predicting ultimate claims and estimating reserves in Medical Stop-Loss is due to the excess of loss nature of these products. Fluctuations in results for specific coverage are primarily due to the severity and frequency of individual claims, whereas fluctuations in aggregate coverage are largely attributable to frequency of underlying claims rather than severity. Due to these fluctuations and the volatility inherent in this line of business, judgments must be made in reviewing the emerging development of this business. The Company must determine whether changes in development represent true indications of the emerging experience or are simply due to random claim fluctuations. In setting claim costs, the Company makes an assumption as to the trend in medical inflation for the coming year. Changes in medical protocols and advancements in technology, as well as underlying inflation in the costs of goods and services used in healthcare, can cause medical inflation to increase at a faster rate. The Company's MGUs are contractually required to adhere to the underwriting guidelines provided to them in, among other things, setting pricing and deductible levels. Deviations from these guidelines could materially affect the Company's reserving assumptions.
The Company's actuaries do not determine a range of loss estimates for this line of business since applying historical patterns to a small paid claims base would not yield an appropriate range of results. Instead, reserves for Medical Stop-Loss are typically set at expected levels consistent with underlying pricing assumptions. Changes to prior year reserve estimates are predominantly a reflection of actual paid claim experience in comparison to expected claim reserve levels rather than changes in assumptions. Due to the short-term nature of Medical Stop-Loss, redundancies or deficiencies will typically emerge during the course of the following year rather than over a number of years. For Employer Stop-Loss, the Company will typically maintain its reserves based on underlying pricing assumptions for a longer period than it will for HMO Reinsurance and Provider Excess for which reserves would be adjusted on a policy by policy basis. Because of the small number of HMO Reinsurance and Provider Excess policies it writes, the Company is able to evaluate each policy individually for potential liability by discussing open claims with each HMO or provider group and applying completion factors using historical data. With respect to its much larger block of Employer Stop-Loss policies, the Company will maintain its reserves at pricing until it determines that an adjustment is appropriate based on emerging experience from all of its MGUs for prior underwriting years.
Group Disability
The Company's Group Disability segment is comprised of Long Term Disability ("LTD") and Disability Benefits Law ("DBL"). The key assumptions on which Group Disability reserves are based relate to: (i) advancements in medical treatments; (ii) the rate of disability; and (iii) recovery rates. Advancements in medical treatments could affect future recovery, termination, and mortality rates. If the rate of disability increases, for example due to an epidemic or a recessionary environment, the Company would increase reserves. In regard to recovery rate, if disabled lives recover more quickly, reserves would be reduced; if less quickly, reserves would be increased. With respect to LTD only, other key assumptions are: (i) changes in market interest rates; (ii) changes in offsets; and (iii) cost of living. Changes in market interest rates could change reserve assumptions since the payout period could be as long as 40 years. Changes in offsets such as Social Security benefits, retirement plans and state disability plans will impact reserving. Inflation factors are often built into the underlying policies. If the rate of inflation increases more quickly, reserves would have to be increased. The IBNR rate is determined by reviewing historical trends.
As a result of the forgoing assumptions, it is possible that the historical trend may not be an accurate predictor of the future development of the block. As with most long term insurance reserves that require judgment, the reserving process is subject to uncertainty and volatility and fluctuations may not be indicative of the claim development overall. Ranges are not used to determine the ultimate amount of reported reserves for Group Disability. Based upon a review of the ratios over time, the Company uses a single estimate, which is the best estimate in management's opinion according to an interpretation of historical results and trends.
Credit Accident and Health ("A&H")
The key assumptions used in estimating the Credit A&H reserves relate to: (i) the mix of ages of the insured; (ii) the rate of disability; and (iii) the rate of mortality of disabled lives. If the mix is skewed towards older age groups the probability of disability increases. If the rate of disability increases, the Company would increase reserves. If mortality of disabled lives improves, the Company would have to pay benefits for a longer period of time. Ranges are not used to determine the ultimate amount of reported reserves for Credit A&H. Management records its best estimate based on the Company's experience. Credit A&H policies are accounted for based on actuarial estimates of the amount of loss inherent in that period's claims, including losses incurred for which claims have not been reported. The Company establishes reserves for benefit claims that (i) have been reported, but not paid; and (ii) have been incurred, but not reported.
Individual A&H and Other
This segment is a combination of closed lines of business as well as certain small existing lines. While the assumptions used in setting reserves vary between these different lines of business, the assumptions would generally relate to the following: (i) the rate of disability; (ii) the morbidity rates on specific diseases; and (iii) accident rates. The reported reserves are based on management's best estimate for each line within this segment. Ranges are not used to determine the ultimate amount of reported reserves for Other A&H. General uncertainties that surround all insurance reserving methodologies would apply. However, since the Company has such few policies of this type, volatility may occur due to a small number of claims.
Q2 As you appear to have significantly revised your estimate of health insurance reserves recorded in prior years, please provide us the following information in disclosure-type format to help us evaluate the adequacy of your disclosure regarding these changes in estimate:
Identify the years to which the change in estimate relates and disclose the amount of the related loss reserve as of the beginning of the year that was re-estimated. Discuss and quantify offsetting changes in estimates that increase and decrease the loss reserve.
Identify the changes in the key assumptions made to estimate the reserve since the last reporting date.
Identify the nature and timing of the change in estimates, explicitly identifying and describing in reasonable specificity the new events that occurred or additional information acquired since the last reporting date that led to the change in estimate.
Ensure the disclosure clearly explains why recognition occurred in the periods that it did and why recognition was not required in earlier periods.
Disclose any trends such as, the number of claims incurred, average settlement amounts, number of claims outstanding at period ends along with average per claim outstanding, and any other trends, necessary to understand the change in estimate. Please explain the rationale for a change in estimate that does not correlate with trends.
A2 Changes in the Company's total health reserves for the year ended December 31, 2004 are summarized as follows (in thousands):
Insurance policy claims
and reserves
2004
Balance at beginning of year
$
175,692
Less: reinsurance recoverables
113,181
Net balance at beginning of year
62,511
Amount incurred:
Current year
85,588
Prior years
2,545
Total
88,133
Amount paid, related to:
Current year
44,146
Prior years
42,480
Total
86,626
Net balance at end of year
64,018
Plus: reinsurance recoverables
104,564
Balance at end of year
$
168,582
The following table summarizes the prior year amount incurred in 2004 according to the year to which it relates, together with the reserve at the beginning of the year to which it relates (in thousands):
Reserves at December 31, 2003
Prior Year
Amount Incurred
Total Reserves
2003
$
35,810
$
(2,243)
2002
16,539
17
2001 and Prior
10,162
(319)
Total
$
62,511
$
(2,545)
For purposes of the preceding tables, the prior year incurred amount has been revised to $2,545,000 from the originally reported amount of $5,570,000 principally to reflect the full conversion of Medical Stop-Loss data reported to the Company on a treaty year basis to a calendar year basis. Previously, the data for Madison National Life Insurance Company ("Madison") was inadvertently included in the Company-wide disclosures based on treaty year, while the data for Standard Security Insurance Company of New York ("Standard") was included after conversion from a treaty year to a calendar year basis using an actuarially developed methodology. Once the Madison data was converted from a treaty year basis to a calendar year basis, the breakdown of the current year as compared to the prior year amount incurred changed, but the total amount incurred and the year-end reserve levels did not change. The Company believes that the effect of conforming the subsidiaries' data was not material to the accuracy of its overall disclosures with respect to its reserves or the changes therein.
MGUs report their results to the Company based on the contractual period or "treaty year" specified in the reinsurance treaty applicable to that MGU. The treaty year basis is used because reinsurers, who are responsible for their pro rata share of profit commissions earned by the MGUs, track underwriting results according to the contractual term of the reinsurance treaty. A treaty or underwriting year is typically a twelve month period during which insurance policies with different effective dates during that twelve month period are reinsured. When the treaty year incepts after January 1st, the Company must make certain assumptions to convert the treaty year reporting provided to it to a calendar year basis.
The following sections describe, for each segment, the deficiency (unfavorable development) or redundancy (favorable development) experienced in 2004, together with the key assumptions and changes therein affecting the reserve estimates.
Medical Stop-Loss
The Company experienced unfavorable development of $3,000,000 in the Medical Stop-Loss segment, $3,132,000 of which relates to development in the 2003 reserves, slightly offset by positive development in prior years. Largely for the following reasons, the Company could not have been aware of these developments until 2004, the year in which we recognized the change in estimate: (i) an unexpectedly high frequency of claims reported in 2004 relating to 2003 cases as a result of an unforeseen resurgence in hospital claim trends; (ii) a general "softening" of the Medical Stop-Loss market in 2003 which did not show development until 2004; and (iii) deviations from underwriting guidelines by certain of its MGUs which were detected by the Company in its 2004 underwriting audits. The Company set its pricing and underwriting guidelines at the beginning of each treaty year based on its evaluation of its own experience and current market conditions. Changes in market conditions through the treaty year have unexpected effects on the underwriting and rating decisions of its MGUs and produce results which vary from the expectations implicit in its pricing.
Group Disability
The Group Disability segment had a favorable development of $735,000. This amount consists of a favorable development of $1,143,000 on the 2003 reserves primarily related to DBL and an unfavorable development of $408,000 for all other years related to LTD.
Due to the long-term nature of LTD, in establishing loss reserves the Company must make estimates for case reserves, incurred but not reported reserves, and reserves for Loss Adjustment Expenses ("LAE"). Case reserves generally equal the Company's best estimate of the present value of the liability for future benefits to be paid on claims incurred as of the balance sheet date. The LAE reserve is calculated based on an actuarial expense study. Since the LTD block of policies is relatively small, results can vary from year to year solely on the basis of one or two policies. It is not uncommon for a reserve of several hundred thousand dollars to be associated with one policy. If a small number of clai