PHE BUSINESS OF LIFE INSURANCE MILES -M -DAMSON . ...... THE LIBRARY OF THE UNIVERSITY OF CALIFORNIA LOS ANGELES / This Cook is DUE on the last date 1915 stamped below UO S BUSINESS OF LIFE INSUEANCE THE BUSINESS of LIFE INSURANCE BY MILES MENANDER DAWSON CONSULTING ACTUARY Actuary of the New York Legislative Committee for the Investigation of Life Insurance; Fellow of the Institute of Actuaries; Member of the Actuarial Society of America; Author of " Elements of Life Insurance," " Practical Lessons in Actuarial Science," etc. NEW YORK AND CHICAGO THE A. S. BARNES COMPANY T : "'""-. -"^ yy \ ^ration Graduate California COPYRIGHT, 1905, BY A. S. BARNES & COMPANY Published September, 1905 Second Printing November, 1905 Third Printing October, 1906 Bus. Adraip. Library H - > 3 2 -fr- CONTENTS CHAPTEB PAGE INTRODUCTION vil I. FUNDAMENTAL NATUBE OF LIFE INSURANCE.... 1 II. THE SIMPLE MATHEMATICS OF LIFE INSURANCE. 8 III. ASSESSMENT LIFE INSURANCE 22 IV. LEVEL PREMIUM COMPANIES 31 V. RESERVES, NATURE OF AND NECESSITY FOR 38 VI. THE PARTITION OF THE PREMIUM 45 /*** VII. KINDS OF LIFE INSURANCE POLICIES .r* (53^ VIII. SURPLUS, WHENCE DERIVED AND How ASCER- TAINED 61 IX. SURPLUS, How APPORTIONED AND APPLIED 68 X. POLICY CONDITIONS (8fo XI. BENEFICIARIES INSUBABLE INTEREST 92 XII. CONVERTIBILITY 98 XIII. INDIVIDUAL ACCOUNTS 104 XIV. STOCK AND MUTUAL LIFE INSURANCE COMPANIES 113 XV. MUTUAL COMPANIES WITH GUARANTY CAPITAL AND MIXED COMPANIES 130 XVI. AN ANALYSIS OF AGENCY SYSTEMS 147 XVII. PROVISION FOR EXPENSES ANOMALIES IN LOAD- ING 159 XVIII. WHEN Is NEW BUSINESS PROFITABLE? 163 XIX. LEGAL RESERVE REQUIREMENTS AND THEIR EF- FECT 175 XX. THE EVOLUTION OF VABIETIES OF LIFE INSUR- ANCE POLICIES 193 XXI. REBATING, LOCAL BOARDS AND STOCK WITH POLI- CIES 206 XXII. "DATING BACK" SCHEMES AND INVESTMENT BONDS 218 XXIII. LIFE INSURANCE AS AN INVESTMENT 226 v VI CONTENTS CHAPTER PAGE XXIV. THE IDEAL POLICY (&, XXV. IMPAIRED, SUB-STANDARD, OB UNDER-AVERAGE LIVES 248 XXVI. FROM APPLICATION TO PAYMENT OF CLAIM. . . . 261 XXVII. INVESTMENT OF FUNDS 273 XXVIII. LESSONS FROM THE CREDIT MOBILIEB AND THE CREDIT FONCIEB 287 XXIX. REORGANISATION OF ASSESSMENT SOCIETIES. .. 300 XXX. THE READJUSTMENT OF RATES IN FRATERNAL INSURANCE ORDERS 317 XXXI. STATE AND NATIONAL SUPERVISION 334 XXXII. THE ANNUAL STATEMENT 350 XXXIII. THE GAIN AND Loss EXHIBIT 372 XXXIV. HINTS AND HELPS IN PURCHASING LIFE INSUR- ANCE 388 XXXV. REMEDIES ., . 400 > INTRODUCTION MANY books concerning life insurance have been published heretofore for the instruction of persons who are engaged in the life insurance business in one capacity or another. They will in some cases be found useful also to persons who merely patronise life insurance ; and, when this is true, will amply repay study. This book is published, however, for the spe- cial uses of the great public, composed of per- sons, nearly all of whom purchase insurance on their lives. Many of these also earn their live- lihood by selling it, some by employment in the service of companies that provide it, and a very few in managing these companies. It is hoped and anticipated that just because this book has been prepared for the instruction of all who buy and hold life insurance policies, it will be of unusual interest and perhaps of uncommon utility to the agents of life insurance companies, their employees and their officers; but that is not the chief purpose. In this volume it is intended to speak plainly and fairly on all subjects, on the ground that vll viii INTRODUCTION such is due the readers, and that the beneficent institution of life insurance is good enough to have the truth told about it. An earnest effort is made to do full justice to the merits of life insurance and of the liberal benefits of the modern life insurance policy; and, on the other hand, the evils and defects are dealt with unsparingly. This is a book of opinions, of the deliberate judgments which have been framed as a result of a quarter century's close and assiduous study and observation. It does not purport to be a mere narrative of facts without conclu- sions; instead it records the author's best- considered, thoroughly-formed and firmly-held convictions, set down without a desire to injure anybody, but with the purpose of serving all who read this book. New York, June 28, 1905. M. M. D. CHAPTER I FUNDAMENTAL, NATURE OP LIFE INSURANCE INSURANCE is indemnity. The earliest type of this is the bond of indemnity. A surety was the first insurer and the principal in the bond the first insured. Notwithstanding which, the giving of bonds by a corporation for the con- sideration of a premium is one of the most re- cently introduced forms of insurance. It follows, therefore, that the issue of a policy promising to pay money upon the happening of a named event, which is contingent only and may or may not happen, is or is not insurance, according as the beneficiary of the policy would or would not be a loser by the event in an amount not less than the sum insured. Insur- ance can only indemnify against loss ; more than this is gambling. This may be put another way which will per- haps make the distinction between speculative or gambling policies and insurance yet plainer. iWe are, in the nature of things, subject to perils, arising out of the conditions of human life. i Thus the owner of a house by the mere fact of his ownership becomes subject to the danger of loss or damage of his property by fire, light- ning, explosion or collapse. He has no choice but take these chances if he continues the owner. To that extent the nature of things makes of him a speculator. In the same manner the mere fact of marriage compels the wife to take these chances as to the survival of her husband to perform the duties of a husband toward her and of a \father toward her children, the mere fact of birth necessitates that the children take their chances likewise as to the survival of both par- ents to support and educate them, and the mere fact of the being alive of an individual subjects him to the perils of disablement by sickness or accident. From all of this there is no escape. Nature makes all of us speculators, of neces- sity, whether we will or not. Though the unvarying laws of nature will not permit one to escape the risks which they im- pose upon him, he may render those perils nuga- tory wholly or in part by combining with others who at the outset appear to be subject to like risks, and by engaging in advance that each shall bear his proportion of the loss which ac- tually falls upon some of their number. This is insurance in its most simple and obvious form. It is typical, likewise, and signifies that at the bottom al] insurance is mutual. The NATURE OF LIFE INSURANCE 3 losses are expected to be met, not from the capi- " tal, but from the premiums. In insurance, therefore, persons who, so far as they can themselves see or so far as the man- agers can discriminate, are equally liable to a given peril, contribute equally in proportion to the indemnity desired by each, small sums to a common fund from which those of their num- ber who actually suffer loss in the given manner are indemnified. For the individual, it is therefore a hedge, a counter wager, to cancel or offset the risks which nature compels him to take. It is the di- rect opposite of gambling, then, so far as the insured is concerned. At first blush it may seem that it must be gambling for the company which for a premium assumes the risk for a consideration. This view, however, flows out of a wrong conception of the function of the company in the matter, which is really, in this regard, merely that of custodian of the premium fund. It will at once be seen that if the insured were to arrange for indemnity by means of a mutual fund, there would be no gambling about it at any point, by which it is not meant to say that the success of the scheme would be assured or that bad busi- ness management would not be able to defeat the purpose. But if the total losses that would take place among the insured were certainly 4 BUSINESS OF LIFE INSURANCE known in advance and paid for then, or if not certainly known were made good after the event by assessments as agreed upon, payment being secured, it is clear that the individuals would be relieved of their risks and that no risk would be incurred by the company. In other words, the element of hazard would be entirely can- celled, except that in the latter case there might be variation in the price of the insur- ance. When the insurance is furnished by a company with capital or surplus which answers as a given guaranty of stability, it becomes a business, in- stead of a speculation, the distinction being that while an individual who assumes a single risk either loses or gains thereby the whole amount involved, the company which takes many, by means of the aggregate business reduces the possible variations to narrow limits and really makes of insurance a business attended with less peril than almost any other. Thus as to life insurance. During a given year, an individual either dies or he survives the year ; the result is a hundred per cent loss or a hundred per cent gain, if one wagers upon the one life. But make 100,000 of these bets upon persons of the same age and like physical con- dition and the variation in the result will not be two per cent usually, instead of two hundred per cent. NATURE OF LIFE INSURANCE 5 There is nothing more uncertain than life and nothing more certain than life insurance. The risk of death differs in important par- ticulars from all other perils to which we are exposed or which are made the subject of in- surance. The chief difference is that while other risks are hazards only, death is ultimately a certainty. At all times, therefore, it is a haz- ard, converging into a certainty. This does not mean that it is necessarily an increasing hazard at all ages, though it is at most ages; in the first year after birth, for instance, the mor- tality is heavier than in the second, and indeed the risk of death during the year diminishes each year throughout the period of early in- fancy. But whether taken from birth or from a later period when the liability to die becomes a rapidly increasing function, death is certain in the end. It follows, therefore, that insur- ance against death at whatever time it may take place, involves not merely providing against the hazard of death each year, but also provision to meet at the ultimate limit of human life an absolutely certain claim if one has up to that time been escaped. Insurance differs from gambling also in yet another particular. The company appears not merely in the role of putting at stake the amount of its policy, but also as stakeholder, *. e, ( as holder of the stakes put. up by the in- 6 BUSINESS OF LIFE INSUEANCE sured, itself putting up no stakes, but merely making good its losses out of the forfeited stakes of those of the insured who have not suf- fered loss and so cannot make claim, and out of its other funds if necessary. But in event of loss, it does not pay its obligation and also return the policyholder's stake, the premium which he has paid. Life insurance policies are, however, sometimes issued which do prom- ise the return of the premiums paid if death occurs within a certain period, or even, much more rarely, whenever death may occur. In the former case, in addition to a larger pre- mium, other conditions, such as proportionate returns in surrender value, are always less fa- vorable; and in the latter case the premium is made much higher, so that additional interest accumulations offset this. It is this feature, however, that the company is stakeholder, and not under obligations to re- turn the stake of the policyholder (i. e., retains in any event all premiums or all interest upon the funds or both), which makes insurance for the whole period of life, and especially by single premiums, possible, in spite of the fact that the death of the insured is certain in the end. This may be more clearly seen if it is con- sidered how certain to incur a total loss of his stake a man would be who would put up one thousand dollars against any stake you please, NATURE OF LIFE INSURANCE 7 in the hands of responsible third parties, the stakes of both parties, with all interest earned upon the same, to be given to the winner of a bet that a given person will not die. He would have lost his money as soon as he made the bet, and the only uncertainty would be as to when the stakeholder would turn the stakes over to his adversary. It was failure to see the necessity for provid- ing for an increasing hazard, converging into certainty, which has caused many serious errors in the fundamental plans of some institutions formed to furnish life insurance, and the thing which separates plans of insurance into sound and unsound is precisely whether intelligent re- gard for this principle has guided the company in determining its rates of premium and the management and disposition of its funds. THE mathematics of life insurance is, when the term is used in a comprehensive sense, so considerable and so technical that to be able to apply it properly is the most essential qualifica- tion for what has become a distinct profession. The calculations of actuaries, on the whole, also are of a nature not readily comprehensible by persons who are not skilled both in mathematics and in insurance principles and practices. In the profession some of the higher developments of the science of mathematics are applied at times which renders the processes more puz- zling to the man in the street. Very nearly all of this, however, is due to the desire to use ' ' short cuts ' ' or quicker processes to arrive at the desired result. In other words, these formidable-looking rules and formulas are merely labour-saving devices, like the calculat- ing machines which are often found in actu- aries' offices. The principles by means of which the ordinary calculations by actuaries are made LIFE INSURANCE MATHEMATICS 9 are very simple, and may be explained in a few words. The calculations are based upon a mortality table. This table shows how a certain large num- ber of persons, as 100,000 or 1,000,000, setting forth from a given age, is diminished year by year by death. They are based upon actual ex- perience, and when used for life insurance com- putations, upon actual experience among in- sured lives. Of course, no company does have just 100,000 men set forth, for instance, from age 21 at the same time, and continue under observation until all have died. Nor do all come under obser- vation, even, at a given age at all, nor all remain under observation until they die. What the companies have is the record of the actual ex- posures at each attained age, out of the lives insured by them, while under observation. That is to say, they can tell how many persons have passed through a certain year of age while in- sured by them, and how many of these have died. By dividing the number of the latter for each age by the number of the former, they can ascertain what percentage of those who passed through that year of age have in fact died. This is called the death-rate at that age. As much the larger number of "exposures" in a general insurance experience at any given age at which new lives are accepted for insur- 10 BUSINESS OF LIFE INSURANCE ance, and especially at the younger ages, would be likely to be persons who were not immedi- ately subject to a normal risk of death, because freshly selected by medical examination, Ameri- can actuaries hold that such a mortality table is not suitable for use in computing rates of pre- mium. For this purpose a table, in order to be safe, should not show a lower mortality than is to be expected on lives, for instance, which are at least five years past the time of examination. Such a table is called an ultimate table, meaning that it represents the mortality fairly to be ex- pected in a well-conducted company upon lives which have reached their ultimate death-rate for the various attained ages. Such a table the American Experience Table is considered to be ; and, although not constructed in this manner, the Actuaries' Table fairly fulfills this condi- tion. By means of these death-rates the actuary can compute the rate of premium necessary to cover the risk of death for a single year. At first sight it would appear that this would also be the increasing annual premium which the com- pany would need to charge ^ear after year to furnish continuous insurance at its current cost so long as is required. Theoretically, this is true, and practically it might stand also for many years. But it would not do permanently, because when the insured lives become old the LIFE INSURANCE MATHEMATICS 11 premiums would rapidly increase, and the need for the protection would rapidly decrease. In consequence, persons at these ages who did not think that the life insurance at the price was a good speculation for their estates, in other words, the hale and vigorous, would drop out, leaving only lives which are not up to the aver- age and are likely soon to fail. The mortality table was based upon the aver- age at these ages, as well as all others, which means upon a certain proportion of the lives being still healthy, as is always the case in a well-conducted company operating on the level premium plan. But when this condition no longer obtains, this mortality table does not represent the deaths to be expected, and there- fore rates based upon it would not be sufficient. No company has ever yet been able to apply this method of increasing premiums to cover the increasing hazards at the higher ages, and therefore no mortality experience suitable for such purpose is available. It would probably fix the ultimate limit of life at a very low age, comparatively, such as 75, instead of 96 or 100, because only lives which are practically certain to fail soon would continue the insurance be- yond age 70 or thereabouts, when confronted with constantly and very rapidly increasing premiums. Insurance on the increasing insurance plan 12 BUSINESS OF LIFE INSURANCE is feasible, though usually not desirable, when it is applied only at the ages of youth and of middle life, but a change must be made to level premiums before old age comes on; for, with the rapid convergence of the mere risk into a certainty of death, no other form of insurance is practicable, except level premium insurance. Yet all forms of level premium, whole life insurance, whether with premiums for life or for a term of years only, are precisely the mathematical equivalents of increasing pre- miums, and, if all men were clear-headed and fully informed, so that a man would carry his insurance so long as he wants it and no longer, and if at the higher ages men would not drop it rather than pay its average cost, when they con- sider their chances better than the average, it would be just as economical for a man to carry his insurance on the increasing premium plan, taking into account his payments and his indem- nity, as upon any other plan. To arrive at the method of computing a level premium, let us first consider how we would go to work to calculate the single premium. Let us assume the following mortality table to rep- resent the experience to be expected: LIFE INSURANCE MATHEMATICS 13 AMERICAN EXPERIENCE TABLE OF MORTALITY. Number Age. living. 10 100,000 11 99,251 12 98,505 13 97,762 14 97,022 15 96,285 16 95,550 17 94,818 18 94,089 19 93,362 20 92,637 21 91,914 22 91,192 23 90,471 24 89,751 25 89,032 26 88,314 27 87,596 28 86,878 29 86,160 30 85,441 31 84,721 32 84,000 33 83,277 34 82,551 Number dying. 749 Yearly proba- bility of dying. .007490 Yearly proba- bility of surviving. .992510 746 .007516 .992484 743 .007543 .992457 740 .007569 .992421 737 .007596 .992404 735 .007634 .992366 732 .007661 .992339 729 .007688 .992312 727 .007727 .992273 725 .007765 .992235 723 .007805 .992195 722 .007855 .992145 721 .007906 .992094 720 .007958 .992042 719 .008011 .991989 718 .008065 .991935 718 .008130 .991870 718 .008197 .991803 718 .008264 .991736 719 .008345 .991655 720 .008427 .991573 721 .008510 .991490 723 .008607 .991393 726 .008718 .991282 729 .008831 .991169 14 BUSINESS OF LIFE INSURANCE Age. 35 Number living. . . 81,822 Number dying. 732 Yearly proba- bility of dying. .008946 Yearly proba- bility of surviving. .991054 36 . . 81,090 737 .009089 .990911 37.... . . 80,353 742 .009234 .990706 38 . . 79,611 749 .009408 .990592 39 . . 78,862 756 .009586 .990414 40 . . 78,106 765 .009794 .990205 41 .... . . 77,341 774 .010008 .989992 42 . . 76,567 785 .010252 .989748 43 . . 75,782 797 .010517 .989483 44 . . 74,985 812 .010829 .989171 45 . . 74,173 828 .011163 .988837 46 . . 73,345 848 .011562 .988438 47 . . 72,497 870 .012000 .988000 48 . . 71,627 896 .012509 .987491 49 . . 70,731 927 .013106 .986894 50 . . 69,804 962 .013781 .986219 51 . . 68,842 1,001 .014541 .985459 52.... . . 67,841 1,044 .015389 .984611 53 . . 66,797 1,091 .016333 .983667 54 . . 65,706 1,143 .017396 .982604 55 . . 64,563 1,199 .018571 .981429 56 . . 63,364 1,260 .019885 .980118 57 . . 62,104 1,325 .021335 .978665 58.... . . 60,779 1,394 .022936 .977064 59 . . 59,385 1,468 .024720 .975280 60. ... . . 57,917 1,746 .026693 .973307 61 . . 56 371 1,628 .028880 .971120 62.. 54.743 1.713 .031292 .968708 LIFE INSURANCE MATHEMATICS 15 Age. 63 Number living. . . 53,030 Number dying. 1,800 Yearly proba- bility of dying. .033943 Yearly proba- bility of surviving. .966057 64 . . 51,230 1,889 .036873 .963127 65 . . 49,341 1,980 .040129 .959871 66.... . . 47,361 2,070 .043707 .956293 67.... . . 45,291 2,158 .047647 .952353 68 . . 43,133 2,243 .052002 .947998 69.... 70 ... . . 40,890 . . 38,569 2,321 2,391 .056762 .061993 .943238 .938007 71 . . 36,178 2,448 .067665 .932335 72 . . 33,730 2,487 .073733 .926267 73 . . 31,243 2,505 .080178 .919822 74 . . 28,738 2,501 .087028 .912972 75 . . 26,237 2,476 .094371 .905629 76 . . 23,761 2,431 .102311 897689 77 . . 21,330 2,369 111064 888936 78 . . 18,961 2,291 .120827 .879173 79.... . . 16,670 2,196 .131734 .868266 80.... . . 14,474 2,091 .144466 .855534 81 . . 12,383 1,964 .158605 841395 82 . . 10,419 1,816 .174297 825703 83 8,603 1648 191561 808439 84.... 6,955 1,470 211359 788641 85.... 5,485 1,292 .235552 764448 86.... 4,193 1,114 265681 734319 87 3,079 933 303020 696980 88 2,146 744 .346692 653308 89.... 1,402 555 .395863 604137 90.. 847 385 .454545 .545455 16 BUSINESS OF LIFE INSURANCE Age. 91. 92. 93. 94. 95. Number living. 462 Number dying. 246 Yearly proba- bility of dying. .532466 Yearly proba- bility of surviving. .467534 216 137 .634259 .365741 79 58 .734177 .265823 21 18 .857143 .142857 3 3 1.000000 .000000 Let us assume that the funds which are not immediately required to pay death losses will be invested to earn interest at 3 per cent per annum. Also that death claims are payable at the end of the year, which is not the case, of course, but it is assumed usually for conveni- ence in calculations. At age 10, according to this table, out of 100,- 000 living at the beginning of the year, 749 die during the year. The risk of having to pay the claim at the end of the first year, therefore, is .00749. The present value now of each dollar to be paid at the end of one year is $.97087, or of $1,000, $970.87. The present value of the chance of paying it is $970.87 multiplied by .00749. Out of the 100,000 starting from age 10, 746 are expected to die the second year, i. e., in their eleventh year of age. The chance that any par- ticular one of the 100,000 will be among them is .00746; the present value of the $1,000 if it is paid at the end of two years is $942.60; the LIFE INSURANCE MATHEMATICS 17 present value of the chance of having to pay the claim then is $942.60 multiplied by .00746. Proceeding in this manner, we find that the present value of the chance of paying the claim at the end of the fiftieth year is .02321 (since of the 100,000 setting out at age 10 2,321 die in their sixty-ninth year of age) multiplied by $228.11, the present value of $1,000 if paid at the end of 50 years. Similarly, .00001 multi- plied by $78.70 is the present value of the chance that a claim will fall due 85 years from now, be- cause of the possible survival of a given one to the age of 95 and his death in that year of age. When you add all these present values to- gether, you have the present value of all the chances that $1,000 will be paid on account of the death of the insured. To put it another way, you have the present value of the pre- miums on an increasing scale which he would need to pay throughout his lifetime, multiplied in each case by the probability that he will sur- vive to that age to pay the premium. The result is the single premium, which will pay for his life insurance as long as he lives. In paying for this insurance out of the single premium you may look at it in either of two ways, namely : First : That each year so much of the interest upon the single premium, and of the single pre- mium itself, if necessary, is taken as is required 18 BUSINESS OF LIFE INSURANCE to cover the full, annually increasing premium for $1,000 insurance. In this case, however, you must on the other hand rebate to the policy so much of this annually increasing premium as would pay for an insurance that year equal to the fund on hand, and when the insured dies the fund itself is rebated back in the same manner to those who survive. Second: That the "actual insurance," as it is called, L e., the amount payable above what the insured 's own fund will cover, is all that the company has at risk, and therefore all that need be charged for at the annually increasing rate of premium. The mortality being the same, that is, accord- ing to the table, the two things bring the insured out with the same net fund on hand. To compute the annual premium it is first necessary to find out what on the average one dollar, payable at the beginning of each year, so long as the insured lives, will be worth. Re- course is therefore had again to the mortality table, as follows: The value of the first $1.00 is 100 cents, be- cause it is paid in advance. If the dollar at the end of the first year were paid without reference to the survival of the in- sured, it would be worth $.97087. But it is only payable by the 99,251 men out of 100,000 who survive the year, and the chance that this youth, LIFE INSURANCE MATHEMATICS 19 starting out at age 10, will be one of them is plainly .99251. The present value of the chance that this dollar will be paid is, therefore, $.97087 multiplied by .99251. Proceed in like manner for each successive age and add together the results. This gives you the present value of one dollar paid at the beginning of each year that the youth will en- ter upon. You also have in the single premium the present value of all he needs to pay to carry life insurance for $1,000 as long as he lives. If you divide the latter by the former you have the number of dollars payable at the beginning of each year if the insured is living, which are equivalent in present value to the annually in- creasing premiums which are required to be met in order to carry his insurance as long as he lives. In other words, you have the sufficient annual premium. These premiums are called "net" because just sufficient to meet the claims if mortality and interest prove to be precisely as was as- sumed. Though the foregoing explanation will not, it is hoped, be found difficult to grasp, it is not necessary to have mastered even so much in order to be in possession of knowledge of the test to which all kinds of premiums must re- spond, in order that they may be known to be sufficient. This test is : Assume, for instance, that 100,000 youths of 20 BUSINESS OF LIFE INSURANCE age 10 were to set forth, paying the annual pre- mium alleged to be correct for that age. As- sume that interest is earned precisely as ex- pected and that the mortality is just as per the American Experience Table. The premiums are received the first year in advance from 100,000 youths. They are improved at interest for one year; $749,000 in death claims, because of the deaths of 749 of the group, must be paid at the end of the year. The 99,251 survivors pay their second premiums. The fund is again improved at interest for one year, and the 746 deaths which take place that year are paid for. The process is continued until the survivors have reached 95, during which year of age the last of them pass away. If the premiums have been correctly computed, and if the assumptions as to interest and mortality have been exactly realised, there will be just money enough on hand at the end of the year of age, 95, to pay the last claims and nothing left. This test of adequacy applies to all kinds of premiums and, whether the actuary's processes are easy to understand or difficult, they are, in computing premiums, directed toward bringing out results which will stand this test. If the premiums asked by any company or society are not such that, when worked out in connection with a large group and precisely on the assump- tions according to which they are supposed to LIFE INSURANCE MATHEMATICS 21 have been made, they accurately fulfill the con- dition that they enable the company to meet the claims, without surplus or deficiency, they are manifestly incorrect. Of course, however, un- less premiums and all calculations are carried out to very small fractions this test will not work out with absolute precision. CHAPTER III ASSESSMENT LIFE INSURANCE THE description which has been given of the simple mathematical principles of life insur- ance will enable us to consider the claims of a form of life insurance which not inaptly might be called unbusinesslike life insurance. It is known as assessment life insurance. At one time, not very long ago, institutions which fur- nished protection on this plan transacted fully one-half the entire life insurance of the United States; but of late the decline of this busi- ness has been marked. The errors of the plan have shown themselves in actual practice. Some of the companies have reorganised as regular insurance companies on the level pre- mium basis, not without hardships Jto their poli- cyholders; others, being unable or unwilling to reform their methods, have failed. Yet others still continue upon the old plans, being given a longer lease of life than their fellows because of one or other extraneous interference with the normal operation of the plan. 22 ASSESSMENT LIFE INSURANCE 23 Among the institutions which have longest been able to withstand the evil effects of the erroneous plan are the fraternal insurance so- cieties, although they were the first to introduce it. This is due to two things, viz. : the extraordi- nary economy and efficiency of their democratic system of management, and the vitality which the loyalty and strong interest of their individ- ual members give to them. On this account, also, they find it easier to pass over to sound plans than have assessment societies, which were con- ducted more nearly like business companies. The fraternal societies as a whole are now in the midst of such readjustment, some just entering upon it, some preparing to do so, and others just emerging. In spite of this, they are each year showing a large increase in membership, indi- vidual societies suffering a loss of membership usually only for a short time in consequence of readjustment. We are not here concerned with the history of assessment societies, and will consider only their plans, endeavouring to make clear wherein they were defective and how the errors may be overcome. The original assessment plan was as follows : Upon the death of a member one dollar was assessed against each living member, from the proceeds of which was paid a certain sum to his beneficiary. If the assessment produced more 24 BUSINESS OF LIFE INSURANCE than this sum, the remainder was held and ap- plied with future assessments to meet future claims, no assessment being called whenever the funds in the treasury enabled the society to pay the claim without recourse to a levy. If the proceeds of one assessment were not enough to pay the claim in full, it was provided that only so much as was actually realised should be paid. Commercial solvency was thus assured for the society beyond peradventure. It could not by any possibility owe more than it could pay, for the simple and sufficient reason that it prom- ised to pay only what it could collect. But, of course, that was very different from what the members were led to expect. In the first place, after the society grew big enough to pay a claim in full, the members considered the question settled for all time that their cer- tificates were good for the face at death. In the second place, after the society had been operat- ing a few years they came to the conclusion that there was a normal death-rate that could be maintained and would keep the cost from in- creasing beyond certain limits, the new mem- bers, "new blood," they called it, keeping down the average age and thus limiting the cost. In support of this they quoted the experience of the regular companies, which often show a more or less stable death-rate of 12 or 15, for instance, per 1,000 members. ASSESSMENT LIFE INSURANCE 25 These expectations have been rudely disap- pointed, and the institutions which could not in the nature of things become commercially in- solvent have miserably failed, unless reorgan- ised. This result, too, was only to be expected. The faults of the plan made it self-limiting. The members were only getting that sort of pro- tection cheap which can always be had cheap in any class of companies, viz., temporary insur- ance, not extending into old age ; and the failure to limit the insurance by contract to the period before old age supervenes proved in the end the Nemesis of the mistaken societies. Their mem- bers confounded short term, insurance with whole life insurance. Let us examine the plan somewhat closely. Its unfairness strikes one immediately. Pro- tection is given an entrant at 40, 50 or even 60 or older in some associations, at the same rate of assessment as at age 18 or 20. As all the money is being at once expended for the pay- ment of death claims, and as the insurance is therefore without provision to meet the in- crease of cost in later years, it is evident that these members should pay that year in propor- tion to the cost at their present ages, i. e., say according to the American Experience Table, in the ratio of $7.81 per $1,000 at age 20, $9.79 at age 40, $13.78 at 50, and $26.69 at 60. I have said "in the ratio," for, of course, in 26 BUSINESS OF LIFE INSURANCE the earlier years of the association, when the members have all been examined very recently, the mortality cost should not be so high as these figures, but the ratios between them should be about the same. If the cost was two-thirds as much, but eight monthly assessments of one- twelfth of these amounts apiece would need to be collected from each; if three-fourths as much, then nine monthly assessments, and so on, but preserving the ratios of cost. In the earlier years of these associations, however, the failure to charge according to age made little or no difference, as far as the popu- larity of the societies was concerned. Owing to the fresh medical examinations and the com- paratively low average ages of the entrants the mortality was low enough to give a very low rate, much lower, of course, than in the regular companies on the level premium plan with which it was usually compared. The managers of the societies very imperfectly understood the nature of the forces which were at work, and had a fatuous disposition to believe all things possible besides; most of the members did not under- stand at all, or were quite content to obtain pro- tection so cheaply and to let the question of its permanency take care of itself. A common say- ing was, "It will last as long as I need it." Not only was this plan unfair at the outset; it became increasingly so as the years went by, ASSESSMENT LIFE INSURANCE 27 both to the members admitted early, but still remaining at young ages, and also more par- ticularly to the very new members, upon the accession of whom, according to its own cham- pions, the prospects for permanency depended. The following will make this clear : Take the four members admitted at ages 20, 40, 50, and 60, whom we have already used for illustration, and observe the conditions twenty years later. They started out paying the same rates, although that very year they should have paid in the ratios of $7.61 for 20, $9.79 for 40, $13.76 for 50, and $23.69 for 60. Now they are each twenty years older and they are still pay- ing the same rates, without regard to age, though now, according to the risk of death for each by the American Experience Table, they should be paying in the ratios of $9.79, $26.60, $61.99 and $144.47, respectively. It will be observed that, not only is the young- est man discriminated against more and more heavily, but also that the annual cost to be met by all of them has much increased, and that, though still paying assessments at the same rate as at the outset, they will be paying more of them. Yet more unfair was the plan to the new mem- ber, just admitted at age 20, who is now put on a par with the member now 80 as well as with new members at ages higher than himself. 28 BUSINESS OF LIFE INSURANCE The consequence of this could not fail to be increased pressure as the years went by, the dis- crimination against the younger of the existing members driving them out through motives of self-interest, and the discrimination against new members causing them to seek protection else- where, perhaps in some newer society where these influences had not yet made themselves felt. Another form of assessment insurance was in- troduced after a time which seemed to many of the friends of the system to answer this objec- tion. It consisted in fixing the rates of assess- ments according to the ages upon admission, and is known as the graded assessment plan. Pre- cisely as under the other plan, there was to be collected currently merely enough to pay the losses. The graduation of the assessments was usually arbitrary, but, even when fixed by refer- ence to a mortality table, it was in accordance with the death-rates for the age upon admission. Let us consider our four men again. They will now set out with a proper rate of assessment for the first year, according to the cost at their re- spective ages, i. e., let us say, in the ratios of $7.81 for age 20, $9.79 for age 40, $13.78 at 50 and $26.69 for 60. But twenty years later, they are still paying the same ratios not, be it un- derstood, necessarily these amounts per annum, but probably more because of the increased ASSESSMENT LIFE INSURANCE 29 aggregate cost while How the actual cost of their protection is in the ratios of $9.79, $26.69, $61.99 and $144.47, respectively. This unfair- ness also bears yet harder upon the new mem- bers who are assessed the first year at correct ratios as among themselves but very incorrect in comparison with the old members. Such a plan would, of course, by starting out the first year with a fair division of cost and gradually departing from it as it was longer con- tinued, tend to give the society a longer lease of life than the other. But it is also plainly not of a permanent character and such a society has within it the seeds of necessary dissolution, un- less it can readjust its rates upon a fairer basis. Evidently both of these plans would fail to pass muster if submitted to the crucial test of a sound and permanent plan, set forth in the last article of this series. A knowledge of the appli- cability of that test would have rendered it im- possible for any man to accept the assessment plan as permanent. There is a third form of assessmentism which has nothing in common with these except that the right of unlimited assessment is retained though the premiums charged are in excess of the current cost and afford for a time at least some accumulation. Only too often this has been a cover for insufficient premiums, and these plans must be judged as all others by the ade- SO BUSINESS OF LIFE INSURANCE quacy of the premium. Whether it is adequate or not can usually be discovered by learning whether, voluntarily or otherwise, the company carries the full legal reserve, counting these pol- icies as what they purport to be, in which case the right to assess is not likely to be exercised and may be disregarded, but in order to know whether the policies are valued as what they pur- port to be, the premiums should be compared with the standard net premiums by the Ameri- can Experience Table for that form of policy, because in reorganising some assessment com- panies, departments have consented to treat old policies which purport to be whole life, as term insurance for one year at a time. It is also neces- sary to discover, certainly, whether the policy has been charged with a lien for the reserve or for deficiencies in past premiums. CHAPTER IV LEVEL PREMIUM COMPANIES THE first form of life insurance was assess- ment. Its beginnings are ancient, perhaps even going back to tl\e early Greek days, in the funeral benefits paid in certain guilds. Notwith- standing the defects of plan, such guilds have been able to maintain themselves for long pe- riods, for two reasons, one that they offered other important and exclusive advantages as do trade unions, for instance, and the other that the benefits and the payments were so small that the want of equity in the contributions did not cause anybody through self-interest to quit the enter- prise, as would have been the case, had the dis- proportionate costs and benefits been on a larger scale. Likewise, the first attempt at whole life insur- ance was on the assessment plan. A company, called "The Amicable Corporation," was char- tered in London in 1705, which conducted its business on the following basis, viz. : Members were received up to 45 years of age. Each paid 31 32 BUSINESS OF LIFE INSURANCE in the same sum at the beginning of each year. At the end of the year the funds on hand were divided among the beneficiaries of the members who had died during the year. With many changes of plan and adjustments of rates and benefits, this company survived until 1866, in which year it passed out of existence by reinsur- ing all of its outstanding risks in a solvent com- pany. It had long before eschewed the assess- ment plan, however, and was operating on the level premium plan, but the effects of its long continuance on an unsound plan had been un- favourable to its success. In 1722 charters were granted to two insur- ance companies, the Royal Exchange and Lon- don Assurance, to be organised upon a stock basis and to transact all forms of insurance, in- cluding the insurance of lives. But these com- panies, which, by the bye, are yet flourishing, undertook nothing but short term insurance at very high rates. About the middle of the eighteenth century the idea of founding a new company on the mu- tual plan to supply insurance for the whole pe- riod of life at level rates of premium, fixed by the age at entry, was brought forward by Thomas Simpson, whom the Encyclopaedia Brit- tanica calls "the greatest non-academical mathe- matician that England has ever produced," and James Dodson, formerly a professor of mathe- LEVEL PREMIUM COMPANIES 33 matics in one of the universities, by means of public lectures in London, upon the subject of life insurance from a technical standpoint, as well as a practical. Simpson was, in fact, the discoverer of the method of computing a correct level premium, although the manner of comput- ing the value of an annuity had been understood for a half century already. Sufficient support having been secured to war- rant it, application was made to Parliament for a charter. It was opposed both by the Amicable Corporation, which asserted that its charter was intended to be exclusive, so far as mutual life insurance was concerned, and by both the stock companies, on the ground that it would not be right, after granting them charters under which only a very small and unprofitable business had been secured or could be secured, to open the door to a new company which would compel a further division of this very limited business. All these companies also objected to the grant- ing of the charter on the ground that the level premium plan was an untried and very ques- tionable experiment which the ignorant public should not be encouraged to essay. Curiously enough, nearly seventy-five years later the New York Life and Trust Company, which has now long ago ceased to do a life insur- ance business at all, appeared in Albany in 1833 to protest against the granting of a life insur- 24 BUSINESS OF LIFE INSURANCE ance charter on the chief ground named by the two stock companies. The commissioners to whom Parliament re- ferred the question, reported that in view of the untried and much questioned plan proposed to be used, they recommended that no charter be granted and also expressed the opinion that the promoters should be required to show their faith in the proposition by putting up ample capital. In closing, they clinched their argu- ment by stating that if the organisers were really anxious to prove that their views were correct, they might, under the common law, form "an unincorporated voluntary association," in plain English, an unlimited liability partner- ship. And that is what they did, forming the "Equitable Society for the Assurance of Lives and Survivorships," now known as the Equita- ble Life Assurance Society of London, in the year 1762. This was the first level premium company. It is noteworthy that the arguments put for- ward also by the parliamentary commission, viz.: that every life insurance company, even though on a mutual plan, should have a guar- antee capital, has more than once been put for- ward since that time and the statute books of nearly every state to-day contain prohibitions of the organisation of new mutual companies a thing which had an important influence in LEVEL PREMIUM COMPANIES 35 turning the energies of men into founding as- sessment societies and has also resulted in con- tests as to the ultimate control of companies which are stock in form, though mutual in their operations. The rates of the Equitable of London were based upon a mortality table, deduced from the mortality bills of London and constructed by Simpson. Fortunately for the experiment, this table was higher than the company's experience proved to be and the rates, therefore, were re- dundant. In the Deed of Settlement provision had been made both for distributing a surplus and for assessing for a deficiency ; but it was as true then as now and ever that it is much easier to deal with a surplus than with a deficiency. The next table adopted was the famous North- ampton which called for a large reduction in premiums and was applied with many misgiv- ings and with a special addition to the premiums for contingencies. It transpired, however, that this table was also higher than was needed. In view of the grave doubts which many men of affairs harboured of the feasibility of the Equitable 's plan, it is especially fortunate that the mistake was charging more than was re- quired. Had it been otherwise and the life in- surance assumptions proved too low, as, for in- stance, the same table applied to annuitants proved unprofitable or the statistics upon which early rates for health insurance were based proved misleading, it might have been many years before level premium life insurance be- came successful. Instead, the success of the Equitable was prompt and complete, and as its resources in- creased and especially as its dividends and bonuses to policyholders increased, it became very popular and many other companies were organised upon similar lines. The Equitable is in existence to-day, as efficient as ever, with about $25,000,000 assets and paying excellent bonuses. It shut its doors to new members en- tirely at one time, but for many years has re- ceived them on favourable terms. From its foun- dation to the present time, it has never paid or allowed a commission or a salary or any other compensation, direct or indirect, for procuring new business. Its growth is slow, the new busi- ness amounting only to $1,000,000 or $2,000,000 per annum, which looks small, and is small, but does not prevent the company giving most ex- cellent returns. The small new business is in the main, in fact, a reflection upon the ability of men to "attend to their own business" life in- surance-wise, without the persuasive interven- tion of agents. There are other companies, also, which do not employ agents, and their patronage is similarly small. Under present-day condi- tions, it is unlikely that any more will be estab- LEVEL PREMIUM COMPANIES 37 lished to operate on that plan, but level premium life insurance is now nowhere regarded an ex- periment. It is, instead, a very symbol for strength and solvency. CHAPTER V RESERVES, NATURE OF AND NECESSITY FOB A FEATURE of all sound plans of life insurance excepting only the plan of premiums increasing as the cost increases which also is certainly not sound, as has been seen, unless merged into a level premium plan or discontinued before old age involves the payment during the earlier years of more than the insurance costs currently in order to avoid increasing the premium with the increasing cost. A level premium, to cover an increasing hazard, converging into certainty of loss, as does a whole life premium, calls for an accumulation of the excess of the premium over the current cost during the earlier years, the drawing back from this accumulation and its interest during the later years and the final application of the entire fund toward paying the insured 's own claim whenever his death takes place. This accumulation is called the reserve. Considered as an aggregate, the reserves of a life insurance company may be thought of in two 38 NECESSITY FOR RESERVES 39 ways, each of which has a special significance and helps to explain the nature and function of the reserve. From one aspect, the reserve is called the un- earned premium reserve. This means that the experience of the company being precisely as was assumed in computing the net premiums, as to mortality and interest, there should remain on hand after meeting all death claims a certain, definitely ascertainable sum of money which should be reserved on the principle that all the net premiums have been paid for insurance and that so much of them and their accumulations as are represented by the reserves has not been earned. The principle is the same as that the pro rata premiums of a fire insurance company up to the expiration of the policies have not been earned and should be reserved. The other aspect is that of a reinsurance re- serve, by which is not meant the amount which another company might conceivably accept, in fact, in addition to the future premiums, in order to take over the business, but what it would re- quire if the premiums receivable were the net premiums, if interest and mortality were pre- cisely as originally assumed and if no expenses were contemplated. The reason for this may ap- pear more clearly hereafter. But the chief rea- son is because the purpose of the reserve is not primarily merely to enable a company to secure 40 BUSINESS OF LIFE INSURANCE reinsurance, but instead to enable it to carry out its own obligations on the basis originally agreed upon. The expression ' ' reinsurance re- serve," therefore, is only an expression intend- ed to indicate the necessity for a reserve. Another mode of saying much the same thing is by the use of two terms employed by actuaries to signify two modes of computing the required reserves, viz.: "retrospective" and "prospec- tive. ' ' The former has reference to the deriva- tion and the latter to the uses. The former mode is by calculating how much would remain of the net premiums paid in the past, with their accu- mulations, the experience as to interest and mor- tality being precisely as assumed, and the latter by calculating the amount needed in the future, together with its accumulations and with the future net premiums, to enable the company to pay its claims, the experience in the future as to interest and mortality being precisely as as- sumed. It is frequently urged that there is no such thing as an individual reserve. The argument is that the liability as to particular policies of the same kind and of the same duration upon persons of the same age is in no two cases the same. For instance, one of them may be dying, so that no more premiums can be expected from him, while the payment of his death claim is im- minent ; and another may be in as good physical NECESSITY FOB RESERVES 41 condition as when he was accepted. There is something in this contention, also, and it has some bearing upon the question of surrender values and also upon the question of initial ex- penses, as we shall see. Yet it is possible to show, by considering the individual as a micro- cosm of the company as a macrocosm, as it were, or, in other words, as an average individual of his age and class, how the individual reserve may be computed and the function which it ful- fills. Let us first consider it from the retrospective view. Out of the premium paid, accumulated for one year at the assumed rate of interest, deduct the cost of the first year's actual insurance, i. e., of an insurance equal to the face of the policy less the reserve at the end of the year. The re- mainder will be the reserve itself. The neces- sary changes in order to make this a practicable process are simple and will not be further dis- cussed here. Then from the prospective view, the reserve is that sum which together with interest upon itself and the premiums to be paid in future, will meet the charges on the basis assumed for future costs of insurance as defined, throughout the life of the policy, and will be applied to help pay the claim upon the decease of the insured. It will be observed that both of these views have reference to the policy as a going contract 42 BUSINESS OF LIFE INSURANCE and are correct when it is so considered, because in that case, in charging for the insurance, all are treated as average risks, without regard to their then state of health. There might be oc- casion to view the matter somewhat differently, perhaps, when the policy is being surrendered upon a life presumably or certainly in good health or upon a life known to be moribund. In the former a surrender charge may be justified and in the latter a payment much in excess of the reserve ; but this does not seem to alter the pro- priety of considering the reserve to be individ- ual until some such disposition is called for. This individual reserve is important because it enables the insured to see precisely in what way his money accumulates, what disposition is made of it in the matter of paying for his insur- ance, including the disposition which is made in event of his death, which unless this be under- stood, is always a good deal of a mystery, and the necessity for maintaining and guarding it. The aggregate reserve which is the policy lia- bility of the company, is equal to the sum of these individual reserves, though it may be sepa- rately computed without arriving at the individ- ual reserves by calculating on the one hand the liability of the company on the basis of no fur- ther premiums receivable (which is the sum of the net single premiums at the attained ages, manifestly) and deducting therefrom the pres- NECESSITY FOR RESERVES 43 ent value of all net premiums receivable in fn- ture (which is, of course, these net premiums, multiplied in each case by the appropriate value of a payment of $1.00 per annum for life). Or it may be computed by first ascertaining the in- dividual reserves and then merely adding them together and, if the work has been accurately done, the result will be the same in either case. In Great Britain the aggregate system is in vogue and valuation is treated as a taking of stock to be independently undertaken, usually once every five years. It is claimed for the sys- tem that it is more nearly self-explanatory, the present value of the obligations and of the pre- miums being separately set out in the reports, and also that it involves less time and labor. There is something in each of these claims, though, as to the latter, the class of labour re- quired to make a good group or aggregate valu- ation is more skilled and better paid than the clerks who fill in sheets in a seriatim valuation, and as to the former, what is gained in clearness as to the meaning of the reserve is perhaps off- set by the difficulty the layman has in discover- ing what reserve is held against his own policy. Some companies might not think that an objec- tion, however. In the United States practically all valuations are seriatim. Tables of individual reserves are prepared and from these the valuation sheets 44 BUSINESS OF LIFE INSUEANCE are filled out, showing the reserve for each pol- icy. These are added up and the total is return- ed as the reserve. The checking is easy and the liability to error very little. The facility of mak- ing the valuation is such that all companies are valued every year, many of them oftener than once a year ; and a few contrive by a system of reserve bookkeeping to keep track of their re- serves day by day, or at furthest month by month. This may indicate that, while theoreti- cally the group process should be shortest and easiest, in practice the contrary is true. An- other advantage is that the seriatim system makes for uniformity ; the variations under the aggregate system, caused by the employment of different * ' short cuts ' ' are sometimes very con- siderable. CHAPTER VI THE PARTITION OF THE PREMIUM SOME years ago an erroneous impression was created in the minds of many who were inter- ested in the principles of life insurance by the statement in a very clever book upon the sub- ject, that a life insurance premium is separable into three * * elements, ' ' viz. : expense, mortality and reserve. The misinformation which this conveyed was not so much in the bare statement as in the inferences which would naturally be made and were in fact 'generally made after reading it. And the erroneous impression was made more definite by printing as an illustration a page of figures, showing the separation of whole life premiums into these "elements." One would naturally understand, of course, from the foregoing statement, that a certain fixed percentage of each premium is expected to be used for expenses, that another definite por- tion is used to pay current death-losses and yet another to accumulate into a reserve. If this were true, as stated, can one conceive what the 45 46 BUSINESS OF LIFE INSURANCE reserve could be for? To pay the certain claim, if one lives to the end of the table, was the an- swer given. But in that case and if all the death- losses are paid by the mortality "element," what is done with the policy's reserve when the insured dies? These questions the readers of this series should already be able to answer; but the idea that the reserve is" the fifth wheel of a waggon" naturally got abroad very promptly after this book appeared. The following explanation is needed to correct these false impressions : It is true that usually, though by no means always, a certain part of each premium, the same every year, except that some companies make it larger for the first year, is * ' loading, ' ' added to a net premium, sufficient merely to provide the guaranteed benefits, in case the assumed rate of interest and assumed mortality is exactly realised, for the purpose of providing a fund from which expenses may be paid, contingencies be met and dividends to policyholders be derived in part. But this load- ing is not by any means either the measure of justifiable expenditure as to the individual pol- icy, nor when it is the full loading on full par- ticipating premiums is it fairly expected that the expenses will absorb all of it. But the worst misconception is as to the divis- ion of the net premium into "mortality" and PARTITION OF THE PREMIUM 47 ' ' reserve. ' ' The illustration printed in the book gave this division as it really stands for just one year, the first after the policy is issued. The "mortuary element" was the cost of the insur- ance for that year, that is, the cost of carrying an insurance equal to the face of the policy less the reserve at the end of the year, mortality be- ing according to the table for that age. The next year the net actual insurance would be smaller and the mortality rate larger; in consequence the "mortality element," or cost of insurance, would be different, and, since the amount which remains in reserve is the remainder of the net premium, which does not differ in amount from year to year, it follows that the "reserve ele- ment" differed also from the amount of the year before. And so from year to year, the line be- tween the mortality and reserve "elements" shifts. On an ordinary life policy, after the lapse of years, the "mortality element" comes to exceed the whole net premium, and each year something is withdrawn from the reserve accu- mulated, in order to enable the policy to meet its share of the company 's death-losses. The following is an illustration of this, by the Actuaries' Table and 4 per cent., taken from Elizur Wright's "Savings Bank Life Insur- ance": 48 BUSINESS OF LIFE INSURANCE ACTUARIES' TABLE, 4 PER CENT. INTEREST DEATH ONLY. Age at entry, 32. Gross premium $24.10. Net premium, $18.04. Year of Pol. j Margin. 6.06 usurauce Normal Costs of Insurance. 8.33 Com- pany's Risks. 989.90 1 OC11-J.U Deposits. 9.71 Bumw* Reserve. 1 6.06 8.40 979.47 9.64 10.10 2 6.06 8.47 968.70 9.57 20.53 3 6.06 8.55 957.58 9.49 31.30 4 6.06 8.63 946.10 9.41 42.42 5 6.06 8.70 934.23 9.34 53.90 6 6.06 8.78 921.97 9.26 65.77 7 6.06 8.86 909.30 9.18 78.03 8 6.06 8.93 896.20 9.11 90.70 9 6.06 9.01 882.66 9.03 103.80 10 6.06 9.10 868.67 8.94 117.34 11 6.06 9.24 854.26 8.80 131.33 12 6.06 9.44 839.48 8.60 145.74 13 6.06 9.68 824.36 8.36 160.52 14 .6.06 9.98 808.95 8.06 175.64 15 6.06 10.09 793.27 7.95 191.05 16 6.06 10.66 777.32 7.38 206.73 17 6.06 11.02 761.11 7.02 222.68 18 6.06 11.41 744.66 6.63 238.89 19 6.06 11.83 727.99 6.21 255.34 20 6.06 12.27 711.10 5.77 272.01 21 6.06 12.74 694.03 5.30 288.90 PARTITION OF THE PREMIUM 49 Year of Pol. 22 Margin. 6.06 Normal Costs of Insurance. 13.22 Com- pany's Risks. 676.78 i jseu-in Deposits. 4.82 surauce i Reserve. 305.97 23 6.06 13.74 659.38 4.30 323.22 24 6.06 14.27 641.83 3.77 340.62 25 6.06 14.81 624.14 3.23 358.17 26 6.06 15.38 606.34 2.66 375.86 27 6.06 15.98 588.45 2.06 393.66 28 6.06 16.64 570.53 1.40 411.55 29 6.06 17.33 522.61 .71 429.47 30 6.06 18.06 534.73 .02 447.39 31 6.06 18.81 516.92 .77 465.27 32 6.06 19.60 499.22 - 1.56 483.08 33 6.06 20.41 481.65 - 2.37 500.78 34 6.06 21.26 464.26 3.22 518.35 35 6.06 22.13 447.08 - 4.09 535.74 36 6.06 23.01 430.13 4.97 552.92 37 6.06 23.89 413.42 5.85 569.87 38 6.06 24.79 396.98 - 6.75 586.58 39 6.06 25.69 380.82 7.65 603.02 40 6.06 26.60 364.96 . 8.56 619.18 41 6.06 27.51 349.41 9.47 635.04 42 6.06 28.43 334.19 10.39 650.59 43 6.06 29.34 319.31 -11.30 665.81 44 6.06 30.24 304.77 -12.20 680.69 45 6.06 31.14 290.58 -13.10 695.23 46 6.06 32.06 276.78 -14.02 709.42 47 6.06 32.93 263.34 -14.89 723.22 48 6.06 33.79 250.25 -15.75 736.66 49 6.06 34.58 237.46 16.54 749.75 50 BUSINESS OF LIFE INSURANCE Year of Pol. 50 Margin. 6.06 usuiiuiue Normal Costs of Insurance. 35.29 Com- pany's Risks. 224.90 1 OWU.-J. Deposita. 17.25 amvrmuem > Reserve. 762.54 51 6.06 35.95 212.52 17.91 775.10 52 6.06 36.52 200.54 18.48 787.48 53 6.06 37.08 188.05 19.04 799.76 54 6.06 37.64 175.95 -19.60 811.95 55 6.06 38.18 163.93 20.14 824.05 56 6.06 38.78 152.06 -20.74 836.07 57 6.06 39.48 140.44 21.44 847.94 58 6.06 40.18 129.08 22.14 859.56 59 6.06 40.99 118.11 22.95 870.92 60 6.06 41.98 107.73 23.94 881.89 61 6.06 43.14 98.14 25.10 892.27 62 6.06 44.44 89.52 26.40 901.86 63 6.06 46.40 82.60 28.36 910.48 64 6.06 48.17 77.24 30.13 917.40 65 6.06 46.65 70.08 28.61 922.76 66 6.06 40.75 56.50 22.71 929.92 67 6.06 .00 .00 18.04 943.50 68 .... .. . . . .... 1,000.00 It will be observed also that the "cost of in- surance" or so-called "mortality element" does not pay for insurance for the whole amount of the policy, but only for that amount less the re- serve upon the policy, which reserve is applied toward paying the claim. And this also indi- cates that the aggregate amount of the "mortal- ity elements" do not pay all the death-losses,but only the death-losses, less the reserves upon the respective policies. These facts having been once comprehended, it is apparent what mischief the misconceptions would work. The misconception about loading has led many an ill-advised manager to consider the whole amount paid in by policyholders as loading, legitimate spoils, instead of saving some part, if possible, for dividends. And the errone- ous impression that losses were paid entirely from the "mortality element" gave rise to a peculiar form of assessment life insurance which was in fact an attempt to do a level premium life insurance business under a charter, permitting unlimited assessments, but at premiums design- ed and represented to be level, though they were inadequate and could not possibly carry the con- tracts through. From the erroneous impression, also, that the reserve was only a needless excrescence there arose a form of reserve which was represented to be superior, because not a liability. It con- sisted in collecting a percentage addition to the "mortality element" which should be reserved in a special fund for contingencies, such as "mortality beyond the table," "a death-rate higher than 10 per 1,000," or what you will. All of these, of course, wholly missed the real im- port of the reserve, which is to maintain the pre- mium level, although the hazard is increas- 52 BUSINESS OF LIFE INSURANCE ing and will ultimately become a certainty of loss. On these plans several large and apparently flourishing societies were built up and their re- organisation upon sound plans or their utter failure has been one of the features of the last decade. CHAPTER VII KINDS OP LIFE INSURANCE POLICIES UP to this time the only forms of life insur- ance policies considered have been those which are payable only upon the death of the insured and premiums for which are payable throughout life, either by the same amount each year or by increasing premiums as the risk of death in- creases or by assessments the same for all ages or fixed according to age at entry. Of these we have found only the first-mentioned to be entire- ly and permanently feasible. In the course of the reasoning which has made this clear, we have incidentally shown how to find the net single premium for such an insur- ance, i. e., the sum which, paid in advance, will supply funds to pay for the insurance through- out the life of the insured. We also found that the way to compute the net annual premium re- quired was to find this net single premium first and then divide it by the present value of $1.00 each year, so long as the insured lives, which [will give the number of dollars each year as long n 54 BUSINESS OF LIFE INSURANCE as the insured lives, that are equal in present value to the net single premium or present value of all that will be required to pay for the insur- ance for the lifetime of the insured. But it may be desired to pay for the insurance in some other way than either in advance or by annual premiums as long as the insured lives, as, for instance, by annual premiums for ten years, fifteen years or twenty years. In order to compute these it is only necessary to calculate what the present value is of $1.00 each year in advance that the insured lives, but not beyond ten, fifteen or twenty years, respec- tively. Then divide the net single premium by this to find out how many dollars, payable in this manner, have the same present value as the cost of the insurance throughout the life of the in- sured. Of course, if the premiums are payable in this manner, the cost of insurance each year will be less than on a whole life policy issued at the same age at annual premiums, because the actual insurance is less. The actual insurance, it must be remembered, is the face of the policy, less the reserve, and the reserve on the limited payment policy is larger. The portion of each premium which goes to reserve is larger, both because the net premium itself is larger and also because the amount deducted for current cost of insurance is smaller. Of course, after the premium-paying LIFE INSUKANCE POLICIES 55 period has elapsed, all the current costs of the insurance are deducted from the accumulations of the reserve. Since the net single premium is the present value of all of the future costs of insurance, and since after no further premiums are to be paid the company must have in hand at all times for the protection of the policy the present value of all future costs of its insurance, it follows that the reserve on a paid-up policy at the end of any policy year is just the net single premium for the age attained. It follows, also, that a net single premium pro- duces each year income enough to meet the cur- rent cost of the insurance charged against it and also to augment it to the amount of the net single premium at an age one year higher. Policies are also issued for short terms at an- nual or single premiums. To calculate the single premium, the annual costs of the protection throughout the term are discounted by interest and mortality to their present value and multi- plied by the chance of surviving to pay the same, precisely as in the case of whole life insurances ; and to get the net annual premium, this net sin- gle premium is divided by the present value of $1.00 per annum, payable for the same term of years, provided the insured survives. A familiar and favourite form of insurance is endowment. It consists of a promise to pay the 56 BUSINESS OF LIFE INSURANCE sum insured in event the insured survives the period or in event he dies during the period. The latter portion of the promise is plainly a term insurance. The former is what is known as a pure endowment, viz. : a promise to pay a sum of money in event of the survival of the policyholder only. The net single premium for it is found as follows, taking age 10, the Ameri- can Experience Table and a term of twenty years for the purposes of the illustration : If $1,000 were payable certainly at the end of twenty years it would have a present value of $553.68, interest being taken at 3 per cent., an- nually compounded. But it is to be paid only in case the insured, aged 10, shall survive. The table shows that out of 100,000, 85,441 will sur- vive. Therefore, it will be necessary to pay only 85,441 out of 100,000, instead of the whole 100,- 000, if so many were insured. The chance of this individual being one of them, in other words, his chance of surviving, is .85441, therefore; and, if we multiply $553.68 by .85441, we shall have the present value of his prospect of receiv- ing the endowment. Add this net single premium for a pure en- dowment to the net single premium for a term insurance for the same period, covering the prospect that the sum insured will be paid be- cause of his death, and you have the total net single premium for the endowment insurance. LIFE INSURANCE POLICIES 57 Divide this by the present value of $1.00 per an- num for twenty years, payable each year only in case the insured survive, and you have the num- ber of dollars per year which are equivalent to the net single premium and which will, there- fore, furnish the promised benefits. Not infrequently the proceeds of a policy are made payable in instalments, for ten, fifteen or twenty years. In such case, the insurance premium is taken for such amount of insurance in one sum as will provide the instalments. Thus, for instance, at 3 per cent., twenty annual instal- ments of $50.00 per year in advance have a present value of $766.19. Accordingly, the com- pany charges for a promise to pay the insurance in these instalments the same premium which it would charge for an insurance of $766.19 in one sum. Sometimes, especially in recent years, the in- surance is for instalments payable for the life of the beneficiary, or for twenty years in any event, and for as much longer as the beneficiary survives. The computation of the premiums for these benefits is a little more complex and will not be described here; but the principle is un- altered, viz.: that the premium is the same as would be charged for a lump sum insurance of equal value. Another form of insurance is for guaranteed interest bonds, the sum insured not payable im- 58 BUSINESS OF LIFE INSURANCE mediately upon the death of the insured or upon his survival (i. e., the feature applied, in the case of an endowment, sometimes to the insur- ance only, sometimes to the pure endowment only and sometimes to both), but, instead, inter- est upon the nominal principal sum, payable for a term of years, such as twenty, and then the principal sum itself payable. Sometimes the interest is payable throughout the life of the beneficiary and then the principal sum is to be paid. If the interest is the rate which the company is really willing to guarantee that it will earn upon its funds, nowadays rarely more than 3^ per cent, and in many companies only 3 per cent., the nominal principal sum in such policies is the actual sum insured. But frequently the guaranteed rate of interest is 4 per cent, or even 5 per cent., when in point of fact in all its calcu- lations the company only counts upon realising 3 per cent, or 3| per cent. In such case the addi- tional amounts to be paid for interest are pro- vided for by increasing the actual sum insured and for which a premium is charged, by the pres- ent value of the extra instalment of | per cent., 1 per cent., 1^ per cent., or whatever it may be, upon the nominal principal. Thus, suppose an endowment policy has been issued for the nominal principal of $1,000, prom- ising that at the end of twenty years or at the LIFE INSURANCE POLICIES 59 prior death of the insured, interest shall become payable at the end of each year at 5 per cent, for twenty years, at the end of which term the prin- cipal of $1,000 shall be paid. And suppose that the company really expects to realise only 3 per cent, upon its funds. It must provide the extra 2 per cent., then, in some other manner. This is $20.00 per year, payable at the end of each year, for twenty years after the close of the en- dowment period or prior death of the insured; and, taken by itself, is merely an instalment in- surance for $20.00 per year for twenty years, on the twenty-year endowment plan. The present value of twenty instalments of $20.00 per an- num at the end of each year at 3 per cent, inter- est is twenty times $14.8775 or $297.55. It fol- lows, therefore, that the company must charge a premium which will furnish a lump sum insur- ance of $1,297.55, in order to guarantee these benefits. If the "guaranteed interest" feature applies only to the insurance in event of death, it need only charge this extra premium for the term insurance part; if to the pure endowment feature, then only for that part ; but if to both, then for both. The actual returns upon the proceeds of the policy will, of course, be only 3 per cent. ; and it is as if the proceeds, $1,297.55, had been paid over in cash and the insured or his beneficiary, as the case may be, had then bought a bond, pay- 60 BUSINESS OF LIFE INSURANCE ing 5 per cent, interest, with the proceeds, pay- ing therefore a premium of $297.55 on each $1,000, which reduces the net yield to 3 per cent. Another form of insurance which is some- times somewhat puzzling is known as ' return premium" or less frequently "guaranteed mor- tuary dividend ' ' insurance. It provides that in event of death during the specified period, in addition to paying the face of the policy the company will also return all or a certain part of the premiums. Rates for these benefits are made by finding the present value or net single pre- mium for an insurance of $100 the first year, $200 the second year, etc., throughout the term and dividing these by the corresponding values of $1.00 per annum throughout the term, if the insured survive. These are the rates, then, for an increasing insurance of $100 per year and the rate for an increasing insurance for the amount of the desired premium return may be computed by a very simple algebraical artifice. It is then added to the regular premium. CHAPTER vrn SURPLUS, WHENCE DERIVED AND HOW ASCERTAINED THE first life insurance company, organised to do a level premium business, the Equitable of London, provided in its deed of trust, as has already been stated, both for the return of the surplus if the premiums should prove redundant and for assessment against the insured if they should prove insufficient. It was a purely mu- tual company. Fortunately, the event showed that the mortality table employed exhibited a considerably higher death-rate than was actual- ly experienced, and in consequence there was a surplus to divide. This was apportioned to the policyholders, not in dividends in cash as had originally been contemplated, but in "reversion- ary bonuses" or additions to the sums payable at death. In order to see from what sources the surplus of a life insurance company arises, it is best to cast a look back over the constitution of the pre- miums. The net premiums, it will be remem- bered, are so calculated that they are accurately 61 62 BUSINESS OF LIFE INSURANCE sufficient to furnish the benefits and no more, in case interest is earned precisely as assumed, mortality is just as assumed and all policies are maintained in force until maturity as endow- ments or death. To these net premiums, some- thing has been added in loading, to cover ex- penses, contingencies and perhaps a provision to increase the surplus. It is manifest, first of all, that if the interest proves to be at least equal to the rate assumed and the mortality not to be higher than was as- sumed, no part of the funds being lost or wasted, there will be no pressure upon the loading on ac- count of contingencies. In that case, if the con- tribution of the policy to expenses is less than the loading or, better put, if the aggregate loadings exceed the aggregate expenses there will be a margin here for surplus. Manifestly, too, if there are not so many death-losses, or, more accurately, so much re- quired to pay the death-losses, as was assumed, there will be a surplus there, also. And, if the rate of interest realised upon the mean assets is higher than the rate assumed, this in turn will result in surplus. Of course, waste of the assets will offset this, such as losses on investments, etc. If some part or all of the individual reserves of members who discontinue is forfeited, all of this at first appears to be gain to the other mem- CONCERNING SURPLUS 63 bers. But both reasoning and experience show that this may easily prove to be otherwise. In the first place, it will at once be seen to be an anomaly that any business should really be the gainer by losing custom. Some part of the ap- parent gain, also, may be offset by the "adverse selection," as it is called, which is exercised, it is thought, by those who discontinue, the healthy being more disposed to discontinue and the fail- ing to continue at all hazards. But far beyond this in importance is the increased expenditure for new business, which, experience shows, be- comes necessary when the public has had ex- tended experience with a scheme in which one must persist or lose much or all of the benefits for which he has already paid. In all countries the companies which have established a reputa- tion for generous dealing with retiring policy- holders, procure their new business at rates of commissions markedly lower than the usual rates paid by other companies in the same field. Moreover, careful students of the subject will find, first, that these companies do in point of fact pay the largest dividends to policyholders ; second, that when companies have become less liberal, they have perforce increased commis- sions after a time, with rare exceptions and the exceptions attended with declining business; and, third, that when other companies have adopted more liberal conditions, they have been 64 BUSINESS OF LIFE INSURANCE able usually to reduce commissions without loss of agency efficiency. The difference in this regard is so marked that when the writer investigated the subject some years ago, he discovered that in two companies, possessing otherwise almost exactly equal capa- bility for producing surplus, one forfeiting everything upon discontinuance and the otlier not even forfeiting the current year's surplus, the two companies differing as to their policies also in every other regard, the one that had been most liberal had really earned and returned the largest dividends at the end of ten years on the same form of policy. It appeared, therefore, that the policyholders in the other company had been at the risk of forfeiture of all their re- serves and surplus, without any compensating benefit. The reason soon appeared, upon an ex- amination of the statistics of the experiences of the two companies, viz.: Starting at not far from the same expense rate at one time, the company which indulged in forfeitures had drawn away from the other company until it was using very nearly 10 per cent, of the pre- miums more for expenses, and this was almost wholly due to increased cost of new business. Since then it has adopted a different policy and in consequence of the liberal features has intro- duced lower commissions and materially re- duced its expense rate. CONCERNING SURPLUS 65 It is believed that a sufficient charge can be made against reserves, in fixing surrender values, to cover any possible " adverse selec- tion" by healthy lives retiring and poorer lives persisting, without impairing the popularity of the plans ; and even that a very moderate addi- tional margin might also be withheld. But it is now certain that more than this increases the disposition to wait about taking life insurance " until I can see my way clear through," to re- gard it a thing not to be undertaken and dropped when no longer required, without loss; and therefore is more than compensated by the in- creased expense necessary to induce men to in- sure their lives. In addition to the illustration referred to, very recent illustrations are fur- nished by the comparisons of dividend results in the American company, most famed for its lib- erality to policyholders, with the result's of divi- dends in leading companies which have sought to augment their earnings by forfeitures. A com- parison of the expense cost in these companies, and especially of the cost of new business, will usually show clearly what has offset the gains. It seems to be the operation of an inexorable law of compensation. The crucial test of the earnings of a life insur- ance company is, of course, its balance sheet. When it has covered with good assets its ma- tured liabilities and provided the portion of the 66 BUSINESS OF LIFE INSUEANCE present value of its unmatured obligations, in excess of tlie present value of future premiums available to meet them, in other words has also covered its reserves, whatever remains is sur- plus. If other means of ascertainment are employ- ed, such as computing the gain from each of the foregoing sources separately, it is wise always to put the whole in the form of a profit and loss statement, starting with the surplus according to the balance sheet at the beginning of the year and exhibiting at the close the surplus according to the balance sheet at the end of the year. Of such a character is the Gain and Loss Ex- hibit, which a few of the State departments, viz. : Wisconsin, Minnesota and South Dakota, refus- ing to be influenced by the objections of some of the companies, as other departments have been, insist upon the companies filing each year. Study of it will give a good conception of the nature of such a profit and loss statement, though, if the companies would aid to perfect it, instead of opposing its use in the published re- ports, it could be made more accurate and repre- sentative. It is, however, readily understood and will repay examination on the part of any- body who wishes to understand the principle of ascertainment of the sources of life insurance surplus. In connection with the apparent gains upon CONCERNING SURPLUS 67 surrender in the exhibit, it should be borne in mind that the sum named is the excess of the reserve held against these policies over the sur- render values allowed and does not take into account adverse selection to be made good, nor, what is really much more important, the fact that for several years after the issue of a policy in most companies, the reserve is in excess of what can possibly have been accumulated from the premiums upon the policy, after meeting the expense chargeable thereto, including cost of procurement, because the reserve is computed by them on the basis that the loading for ex- pense is the same each year, while the actual ex- pense is much higher the first year; and there- fore to pay the full reserve would be a loss. The actual profit from this source is not so great as it appears, not to mention the offset of increased expenses. CHAPTER IX SURPLUS, HOW APPORTIONED AND APPLIED THE apportionment of surplus among the pol- icyholders has always been a matter concerning which a variety of views have been held. The first company to be established on a level pre- mium basis and which needed to interest itself in the matter, provided in its deed of settlement for cash dividends which apparently should have been either percentages of the premiums paid, or, possibly, rebates of the overpayment, accurately ascertained according to the deriva- tion of the gains. But in practice, when it came to allocate the surplus the first time under the direction of the company's actuary, it declared bonuses as paid-up additions to the sum insured, the same upon policies which had been in force the same number of years, without regard to age upon admission or other differences. A bonus system of this general nature, i. e., giving the profits in increased insurance either by adding a uniform amount each year or by compounding, that is, adding a uniform percen- 68 APPORTIONMENT OF SURPLUS 69 tage upon all previous bonus additions, as well as the original sum insured, has prevailed in Great Britain against all suggestions for a change. A somewhat similar system was at first used in the United States, similar at least to the ex- tent that dividends were paid in bonus additions. In both countries, however, the pressure for cash returns caused the privilege to be granted of cashing the bonus for its present or net pre- mium value, as a paid-up insurance. In the United States this soon led to the intro- duction of cash dividends, and as interest re- turns were heavy, premiums good and expenses and mortality low, the cash dividends ruled large and consequently that plan became most popu- lar here. Division of surplus in the uniform or com- pound reversionary bonus manner must mani- festly be undertaken without too close observa- tion of the principle that the surplus arising from the policyholder's own premiums should in each case be returned. The nature of the sys- tem requires that another rule shall be followed, not necessarily to the complete exclusion of that principle, but so far so that attention to it can scarcely be given beyond loading the premium originally, so as to make this form of division as nearly just as possible under the usual circum- stances. 70 BUSINESS OF LIFE INSURANCE In this country, however, under the pressure of the cash dividend plan or at least of a rever- sionary bonus plan which called for naming the cash value of the bonus at the time it is declared and offering the option of an increased insur- ance or cash, attention was early given to the matter of derivation of the surplus and its ap- portionment accordingly. This developed what came to be known as the "contribution plan" under which the surplus is rebated back to the insured precisely as it is considered that his pol- icy has contributed it. Thus if the mortality has not been so high as was assumed, there is put into his dividend the proportionate saving on his own tabular cost of insurance. In like manner, if the expenses and contingencies have not ab- sorbed all the aggregate loading on the pre- miums, there is given him in his dividend the proportionate part of his loading that has not been required for expenses and contingencies. If the average interest returns upon the mean assets have exceeded the rate assumed, he re- ceives in his dividend interest at the additional rate upon the funds belonging to his policy. If his own policy funds or part of them have been subject to the risk of forfeiture upon discontinu- ance or surrender, this interest return may be swelled by adding such gains to the excess inter- est before computing the rate. For many years this plan seemed to give en- APPORTIONMENT OF SURPLUS 71 tire satisfaction to the managers of companies. Its principles, as stated, were regarded incon- trovertible, as indeed the fundamental principle of the contribution plan truly is. But its method of application has more recently become subjec- ed to very critical analysis and has been found not to square with the facts. Thus, for instance, if the loading is taken as the same amount each year, including the first, it is manifest that the initial expense is not covered the first year and it appears to be unfair to allow anything either from savings on mortality or from savings on loading until the excess of expenditure is made good, even if the profits on the investment por- tion of the premium are treated differently, as is sometimes, though not usually, the case. The gains or savings on the estimated cost of insurance, according to the table, which ac- crue during the earlier years of the insurance, are due, of course, to fresh medical selection. They are derived, therefore, from the premiums of the newly insured, and, though they are not to go to them exclusively, but rather to all alike else there would be no advantage to the existing members from admitting them it is reasonable before dividing any profit from this source to apply the gains, so far as is required, to cover the excess of cost of procurement over the cur- rent loading, which cost was incurred in secur- ing the new members who contribute the profit. 72 BUSINESS OF LIFE INSURANCE This works no unfairness and renders the divis- ion of surplus much simpler, because the present value of these gains from fresh selection may be estimated in advance and be offset once for all against the expenses or, per contra, the expenses be charged against the profits from mortality and loading combined, the remainder being cred- ited as a percentage of the loading. Originally surplus was distributed at fixed intervals, either five or seven years. That is, on a certain day a balance would be struck of the company's assets and liabilities and the resul- tant surplus was divided among the policyhold- ers of record upon that date, by some means which took into account how long each policy had been in force. This is still the prevailing system in Great Britain. It has the advantage that the amount distributed may be ascertained and be compared with the surplus earned and in hand. In this country, likewise, the early form was of dividends every five years, but they were de- clared as to each policy at the end of its policy year and not by a division of the profits to all at the same moment. This is now the customary, indeed the only method in use in the United States. This period was soon reduced to one year in all or nearly all of the companies. The pressure for more liberal surrender privileges proving so strong in the 60 's and 70 's that the APPORTIONMENT OF SURPLUS 73 companies could not resist, except by some ex- pedient, long-term dividend periods were intro- duced, with a condition for utter forfeiture upon discontinuance on the theory that there were enormous gains from these forfeitures that were to accrue to the policyholders who survived and persisted. The dividend term was usually made twenty years, but sometimes fifteen years or ten years and in a few companies five. This long-term dividend system was presented in many modified forms, two companies actually crediting the usual annual dividends and keep- ing an account with each policyholder, showing all such credits and all accretions from interest and other gains, one company declaring the divi- dend provisionally each year and then applying it to buy a pure endowment, due at the end of the agreed upon period provided the insured sur- vived, but most of the companies making no definite agreement and so not being bound to any particular mode of distribution. Indeed, nearly all of them employed a provision that the principles and methods used by the company in the distribution of surplus and its determination of the amount equitably due the insured shall be binding upon all parties, and do not apportion surplus until the term is on the point of expir- ing. In recent years, such policies are not made entirely forfeitable upon discontinuance ; on the contrary, they have liberal surrender privileges, so far as the reserves are concerned, but the sur- plus is forfeited upon discontinuance. That there was a considerable gain, if any at all, from the harsh forfeiture conditions, is much doubted, in view of the fact that all the estimates have failed to be realised. Reference has already been made, likewise, to the further fact that in several cases companies, operating under conditions otherwise similar, but giving liberal dividends annually and granting liberal values upon surrender, have made larger re- turns at the end of ten, fifteen or twenty years, besides furnishing meanwhile an increasing amount of insurance by means of annual divi- dends, applied as reversionary or paid-up addi- tions to the sum insured, than have other excel- lent companies upon policies calling for com- plete forfeiture of the accumulated surplus upon surrender or discontinuance. This is explained mainly, as has been shown, by the much larger expense of procuring new business which has always accompanied the deferred dividend plans. Of late years illustrations of results upon actual policies have largely taken the place of the estimates which were formerly used. It would be difficult to suggest a more thoroughly proper method of displaying the attractions of a policy. Yet the applicant should remember that APPORTIONMENT OF SURPLUS 75 the figures are results of past experience and that interest rates are now lower than twenty years ago and conditions not so favourable for large surplus earnings in some other regards. He should not expect more than that the results twenty years from now may be as favourable in proportion to returns on other investments as the returns before him in proportion to the pro- fits realised on other investments in the past. Most companies which have not issued these deferred dividend policies long enough to have matured them, now make use of the actual re- sults of one or more of the other companies, a practice at least less liable to abuse than the old custom of making estimates, if, as has been said, the applicant will but bear in mind that the fig- ures are not earnest that like results will be realised in future. The fact that in most of the deferred dividend companies the results of policies maturing in a given year have been in almost every case lower than the results of similar policies, completing their period the previous year, should serve to warn the applicants against accepting the fig- ures as more than indications that future re- sults, compared with future investment returns, will be as satisfactory as past results compared with past investment returns. In Great Britain, owing to the uniform and compound reversionary bonus systems, the actu- 76 BUSINESS OF LIFE INSURANCE aries of companies have for many years aimed, by the construction of the premiums and by the management following closely a course previ- ously mapped out, to secure substantial regular- ity and equality of bonuses from year to year. This followed a period of great variations and disappointments, however. It may be that some- thing of the same sort may be at hand in Ameri- can life insurance; and, indeed, there are com- panies whose dividends are, in their main ele- ments, pretty constant, though under our system of dividing surplus according to the contribu- tion principle, the fact is not so obvious. If there could be added to our requirements, made by insurance departments, returns as to the rates of dividends upon policies of the same kind, age and duration, with a sufficient number of examples to fairly illustrate the average, as is required in Great Britain, it would tend to strengthen the inclination to secure uniform re- sults from year to year if possible, would pre- vent companies or their agents misleading ap- plicants by ratios and the like which do not mean what they seem to say, and would direct the com- petition of companies toward yielding the best possible results to policyholders, in all cases. It would be a very valuable addition to the returns at present required to be made. The deferred dividend system introduced a great variety of methods of applying dividends. APPORTIONMENT OF SURPLUS 77 Thus, in addition to the options of taking them in cash or in paid-up additions to the sum in- sured, the privileges of applying them to pur- chase an annuity for life or for a term of years depending upon survival are the commonest forms. At the end of the dividend period there are usually added to these options the privilege of surrender of the policy for its full reserve value, in addition to the surplus, which may be drawn in cash or be applied in like manner as the surplus. These options have unquestionably added much to the attractiveness of the deferred dividend plans. A feature of this plan which is occasionally found is that the guaranteed reserve at the end of the period is a larger amount than the usual reserve for such a policy by the standards in use by the company. Sometimes it is said that this is guaranteeing more than the legal reserve, but this cannot be true, for when such a guaranty is given the department charges the company with a reserve large enough to cover it also. It is attractive to have the larger guaranty when dividends are deemed so unreliable; but, of course, if paid-up insurance is taken, the insured must leave with the company this larger reserve. The policy was designed both to attract by the larger guaranty and also to cover the extra mor- tality caused by adverse selection those who are in good health taking cash or other settle- 78 BUSINESS OF LIFE INSUEANCE ments and those who are in poor health continu- ing the insurance which is experienced as to the lives that continue their insurance. It is but fair to say that disappointment at the shrinking of annual dividends was a potent factor in rendering deferred dividends popular. Nowadays, in companies which issue many an- nual dividend policies, the dividends are pretty stable; and a similar stability, it is thought, is being attained in deferred dividends. It should also be remembered that, though subject to criti- cism for disappointing results as compared with estimates, partly, though not wholly, due to the declining rates of interest, the American com- panies have on the whole paid larger dividends than the companies of other countries. One company has tried the experiment of per- mitting policyholders to choose whether divi- dends are to be deferred or paid annually, upon the completion of the second year. So few have selected deferred that it is reported that the ex- periment is to be abandoned. Life insurance can be purchased from nearly all the companies on the non-participating plan and at very attractive rates, amounting to a very large dividend off the participating rates, guar- anteed from the outset. These rates are, how- ever, for purposes of meeting competition main- ly, and the sale is usually discouraged, especial- ly when a very low ra'c is made, by paying a APPORTIONMENT OF SURPLUS 79 much lower commission than upon participating policies and also by being unusually rigid in medical selection. Notwithstanding which lat- ter, non-participating policies practically always exhibit a less favourable mortality than partici- pating, showing that applicants who are in search of the most protection for their money; often know more about their prospects of life than the physicians can discover. A very few companies have tried selling non- participating life insurance exclusively, but all of them have had poor success except when they also conduct some other branch of business, such as industrial life insurance, i. e. f insuring all the members of the family for small weekly premiums collected at their homes, or as a gen- eral casualty insurance business. CHAPTER X POLICY CONDITIONS OEIGINALLY the policies of American compa- nies contained many conditions. In the first place, the validity of the contract, no matter how long it had been kept in force, de- pended entirely upon the exact truth of all the statements in the application, including the ap- plicant's statements to the medical examiner. These were made warranties, a consideration for the policy and by reference a part of the con- tract itself. The effect of this is that the con- tract stands or falls with the truth or falsity of all the statements. To see what significance this really has one must know what would be the status, were the statements received as representations merely. In that case, in order to avoid liability under the policy, the company would need to prove : First That the statement was material, i. e., that, had the truth been told, the risk would not have been assumed, or, more rarely, the death could not have occurred. 80 POLICY CONDITIONS 81 Second That the statement was false. Third That the statement was known to the applicant to be false or that he had every oppor- tunity to know whether it was true or false, in which event a duty devolves upon him to ascer- tain the fact before making the statement. When a statement is a warranty the company need only prove that it is untrue. It matters not that it was not material or that it had nothing to do with causing the death ; it matters not that he supposed it to be true, with good reason, and had no opportunity to learn that it was not true. In some States the courts have relaxed the legal maxims as to warranty ; in some others the Legislatures have done it for them. But in most States they are still in force without material modification. Nearly all companies still accept the state- ments made in the application as warranties, and accordingly, as is required by the laws of several States, attach a copy of the insured 's statements to the policy; but, practically with- out exception, they cancel this defence after one, two or three years, by providing that the policy shall then be incontestable. Sometimes, though rarely, the exception is made " except in the case of actual fraud," which, so far as it applies to the insured 's statements, makes them after that period representations merely. At first policies were filled with restrictions 82 BUSINESS OF LIFE INSURANCE upon residence and travel, occupation and mode of death. These are nowadays reduced to re- strictions for a short time only from one to three years, in different companies against residence or travel in the Tropic or Frigid Zones, against a few very dangerous occupa- tions and against suicide and death by duelling or in consequence of a violation of law. Some companies make their policies free from restric- tions from the outset. The policies of nearly all companies are now by their terms incontestable after from one to three years if premiums have been duly paid. The occasional exception, "except in case of actual fraud," has already been noticed. This exception is proper certainly and its presence indicates good faith. In point of fact, in cases of obvious fraud claims have been contested, notwithstanding the incontestable provision, and some courts have upheld the right to contest on the broad ground that it is against public pol- icy to uphold fraud. Contests are extremely rare, however, and life insurance companies have in the last quarter century changed from frequent litigants into most infrequent litigants. There is little to be desired in the modern life insurance policy in the matter of absence of annoying restrictions or onerous conditions. The only improvement, if it would be an im- provement, that could be suggested, is the total POLICY CONDITIONS 83 abolishment of the treatment of statements of the applicant as warranties ; and lawyers say, as to this, that under the rules of evidence enforced in some States, they cannot get these statements admitted even as representations, if not made a part of the contract, unless made before a notary and duly acknowledged. The British company earliest established to do a level premium life insurance business very soon began to purchase the policies of members who wished to surrender, allowing liberal values for them. When it had declared bonuses in addition to the sum insured, it soon set up the rule to allow the surrender of these bonus addi- tions at any time for their full reserve values, and now for many years it has allowed the with- drawal of the full reserve value of the insurance and all vested bonuses upon surrender of the policy, at the end of any year, including the first. The policies of the British companies, how- ever, have not contained guarantees of surren- der values for specified amounts, except in rare instances. Some companies have dealt very lib- erally with retiring policyholders and others quite the contrary, neither of these classes being compelled to do so either by contract or by stat- ute. The purchaser of life insurance there pro- tects himself by buying of a company with a reputation for generous treatment upon sur- render. 84 BUSINESS OF LIFE INSURANCE In the early days of life insurance in the United States no values whatever were allowed upon surrender. The public was familiar with the idea that when fire insurance expires and is not renewed by the payment of the premium there is no value there. The nature of the level premium life contract was not at first appre- hended nor that it of necessity called for invest- ment. This subject was considered by the Su- preme Court of the United States, in 1876, the court deciding as follows : "We agree with the court below, that the con- tract is not an assurance for a single year, with a privilege of renewal from year to year by pay- ing the annual premium, but that it is an entire contract of assurance for life, subject to discon- tinuance and forfeiture for non-payment of any of the stipulated premiums. Such is the form of the contract, and such is its character. It has been contended that the payment of each pre- mium is the consideration for insurance during the next following year, as in fire policies. But the position is untenable. It often happens that the assured pays the entire premium in advance, or in five, ten or twenty annual instalments. Such instalments are clearly not intended as the consideration for the respective years in which they are paid; for, after they are all paid, the policy stands good for the balance of the life in- sured, without any further payment. Each in- POLICY CONDITIONS 85 stalment is, in fact, part consideration of the en- tire insurance for life. It is the same thing where the annual premiums are spread over the whole life. The value of assurance for one year of a man's life when he is young, strong and healthy is manifestly not the same as when he is old and decrepit. There is no proper relation between the annual premium and the risk of as- surance for the year in which it is paid. This idea of assurance from year to year is the sug- gestion of ingenious counsel. The annual pre- miums are an annuity, the present value of which is calculated to correspond with the pres- ent value of the amount assured, a reasonable percentage being added to the 'premiums to cover expenses and contingencies. The whole premiums are balanced against the whole insur- ance. ' ' The contrary view is given in a minority opin- ion filed at the same time : "I cannot construe the policies as the major- ity have construed them. A policy of life insur- ance is a peculiar contract. Its obligations are unilateral. It contains no undertaking of the assured to pay premiums ; it merely gives him an option to pay or not, and thus to continue the obligation of the insurers, or terminate it at his pleasure. It follows that the consideration for the assumption of the insurers can in no sense be considered an annuity consisting of the an- 86 BUSINESS OF LIFE INSURANCE nual premiums. In my opinion, the true mean- ing of the contract is, that the applicant for in- surance, by paying the first premium, obtains an insurance for one year, together with a right to have the insurance continued from year to year during his life, upon payment of the same an- nual premium, if paid in advance." These decisions came later, however, than the earliest of the surrender value agitation, which began before 1860, as a result of forfeiture even of vested paid-up additions to the sum insured. The idea that this treatment was unfair first got abroad through the manifest injustice of for- feiting these paid-up additions. From this the whole subject came up for discussion. Elizur Wright was at about this time appoint- ed a commissioner of insurance for Massachu- setts. He was already an old man ; but, because he was skilled in mathematics and was by nature and training a reformer, he was well fitted to carry forward a movement for juster conditions. His agitation of the matter in his annual re- port resulted in action by the Legislature of Massachusetts, requiring companies of that State to continue the insurance upon surrender, for such time as 80 per cent, of the reserve would pay for at the net single premium for temporary insurance by the actuaries' table and 4 per cent, interest. 87 Later this was made automatic, unless the in- sured accepted, instead, paid-up insurance or a cash value. Yet later, under Mr. Wright's ad- vice, it was made compulsory to allow as a cash surrender value the full reserve, less a surren- der charge fixed by a method devised by himself. Compulsory cash surrender values are still re- quired by the laws of Massachusetts to be given by companies of that State, although the system of surrender charges has been modified. Several other States, notably New York, fol- lowed with laws requiring the allowance of sur- render values in extended or paid-up insurance, either upon application within six months after discontinuance or automatically, the laws in some cases applying to companies of the domi- cile only and in others to all companies doing business within the State. Even before Elizur Wright secured the enact- ment of the first surrender value law two com- panies of other States introduced the feature of surrender values in paid-up insurance into their policies voluntarily. It will be observed, there- fore, that in consequence of their own want of liberality theretofore, and of the pressure of law and of competition, American life insurance companies have necessarily made surrender values a matter of contract. An opposite course was, however, for a long time pursued as to sur- render values in cash and as to cash loans, but at 88 BUSINESS OF LIFE INSURANCE last competition compelled these, too, to be guar- anteed in the contracts. Several companies were willing to grant cash loans upon their policies long before they were willing to grant any form of surrender value. Loans to pay premiums in part were very early a feature of the business in America ; the * l loan note" plan, under which the insured paid part of his premium in cash, the remainder being charged against his policy and expected to be paid off by dividends, was one of the first plans to become popular. Its eventual disappearance was not due to anything unfair or unsafe in the plan, but to the two circumstances that the com- panies charged too high a rate of interest upon these loans and that the estimated annual divi- dends were not realised. But the same com- panies that would lend one policyholder 30 per cent., 40 per cent, or even 50 per cent, of his an- nual premium on this plan would neither lend him 10 per cent, nor indeed anything if he paid in the full premium in cash, nor allow him any- thing whatever upon surrender. Such anoma- lies as this have now long ago disappeared. On the other hand, at least one of the Massa- chusetts companies, though compelled to allow cash values upon surrender according to law, refused to grant cash loans, even so late as 1893, in which year it lost more business than most other companies, because it thus encouraged POLICY CONDITIONS 89 surrender, instead of permitting the insured to have a cash loan and to continue his insurance. In 1892, as a result of the change of manage- ment of one of the largest companies, great im- petus was given to the movement for voluntary granting of liberal surrender and loan features by the introduction of such conditions into its policies. The failure of the deferred dividend plans, with forfeiture of all premiums upon dis- continuance before the completion of the period, to yield the large returns expected, undoubtedly disposed the public to demand these privileges and to prefer in purchasing life insurance com- panies which offered them. In consequence now nearly all the companies are liberal enough in these regards, though the applicants will do well to compare policies carefully before purchasing. Under policies on the deferred plans the divi- dends are still forfeited to the surviving and persisting members upon death or discontinu- ance. But, on the other hand, the guaranteed surrender values frequently represent a larger percentage of the reserve than is allowed when dividends are annual. The forfeiture of the sur- plus, in such cases, is a substitute for a surren- der charge. As such it may not be very excessive unless surrender is made in the later years of the term. Various surrender privileges have been called ' ' non-forfeiture ' ' by different companies. Thus, 90 BUSINESS OF LIFE INSURANCE the allowance of surrender values in paid-up in- surance for a fractional amount or, perhaps, in extended insurance for the whole amount, if ap- plied for within six months after discontinuance, has been called non-forfeiture. Yet more com- monly has it been applied to the automatic ex- tension of the insurance for the whole amount for a limited term. In a sense, perhaps, each of these is non-forfeiture, for the whole value of the policy is not, as once was the case, definitely and finally forfeited upon discontinuance. But the original policy contract is forfeited and a new one set up in its stead. Non-forfeiture was the name first applied to a system which reached this country rather late and has not yet been generally accepted and put into practice, though some companies provide for it in their policies. Its late appearance here may be explained by the unwillingness of our companies to grant cash loans. In Australia, where the plan originated, it has been in use for half a century. It consists in applying all ac- crued surplus to pay the premium, whenever due and unpaid, and charging the remainder against the policy as a loan. This is continued until the entire fund is exhausted in maintaining the policy in force for the original amount, on the original plan, with full participation and with the right at any time before the policy lapses finally, to resume premium payment, POLICY CONDITIONS 91 without medical re-examination, either paying off the accrued indebtedness or permitting it to stand and paying interest upon it. A grace of one month in the payment of pre- miums has been given by some companies for many years and is now found in the policies of nearly every company. CHAPTER XI BENEFICIARIES INSURABLE INTEREST LIFE insurance policies were originally drawn up as contracts between the company and the beneficiary. Both in Great Britain and in this country the special statutes giving married women during coverture the right to have the proceeds of policies upon the lives of their hus- bands paid to their separate estates, ran that they might effect insurance upon the lives of their husbands. The life insured was the sub- ject of the insurance, but the insured was not really a party to the contract. This view of the matter made it doubtful whether a warranty by the insured was binding, so as to avoid the contract in event it proved false. This difficulty was overcome by having the beneficiary sign and warrant the statements, as well as the insured ; and this in turn was re- laxed into accepting the signature by the hus- band or father, when applying for life insur- ance, of the name of his wife or child, as well as his own, the theory being that if the warranty was not good, the contract itself was also not 92 INSURABLE INTEREST 93 good, being based upon precisely the same signa- tures. In Great Britain at an early date the evils of speculation in insurance upon the lives of others caused the enactment of "The Gambling Act," which forbade insurances being effected upon the lives of others, unless the beneficiary pos- sessed an interest in the life insured. This law, however, did not prevent one insuring his own life in favour of his estate and assigning it for value to whomsoever he desired. In the United States there are few laws con- cerning insurable interest, but our judges have generally derived rules to govern it from max- ims of the common law and from consideration of the fact that insurance is indemnity. It is worthy of observation at this point that this view was taken for some years in Great Britain, but that the highest court there has now decided that life insurance is not a contract of indemnity. In Great Britain a life insurance policy trans- ferred for value, however much less than it is worth, is good in the hands of its owner. The courts of New York and some other States have decided the same way; but the Federal courts, followed by the courts of most of the States, have carried the theories of indemnity and in- surable interest so far that they will not admit that a transfer for value is good beyond the amount of that value and interest thereon, on the theory that to allow more is to permit insur- ance beyond the insurable interest and gambling upon lives. Accordingly, these courts hold that the holders of policies, transferred for value, have only a right to a part of the proceeds suffi- cient to cover the value paid and that the origi- nal beneficiaries, as, for instance, the insured 's estate, have the right to the remainder. This view finds a justification in the fact that where the contrary view prevails, policies are frequently made the subject of sale to specula- tors and are also often taken with the intention to make an assignment for nominal value in or- der to defeat the Gambling Act or insurable in- terest rules of law. The fact that the legal status of the life insur- ance policy as a contract between the company and the beneficiary did not represent the actual relations of the parties soon developed in statu- tory provisions that the amount of insurance in favour of a wife, but paid for by the husband, which should be exempt from seizure for the benefit of his creditors, should be limited. Life insurance which was at the outset taken mainly in business transactions and to secure debts, has come more and more to be taken and paid for by the person whose life is insured, for the protec- tion of designated beneficiaries or of his estate. In order to give the insured a certain measure of control over the policy, though payable to a INSURABLE INTEREST 95 designated beneficiary, policies have frequently provided that dividends and the endowment or other cash value should be payable to the in- sured, and even that he should, without the con- sent of the beneficiary, have the right to borrow against the policy or to surrender it at any time. These adverse interests, of course, render the policy, in part or wholly, free from the exemp- tion from seizure for the insured 's debts during his lifetime, which applies when it is the sepa- rate property of the beneficiary without qualifi- cation. In recent years, policies have most frequently been issued, payable to a designated beneficiary, but with a reservation to the insured of power to change the beneficiary. This is equivalent to what is well known in law as "a general power of appointment" which has been uniformly held to leave the property in the person who pos- sesses the power, because he can take the title at will by appointing himself. It seems clear, therefore, that during 'the insured 's lifetime at least the policy is liable for his debts. Whether it would be in case he dies, title remaining in a specified beneficiary and the right to name him- self not having been exercised by the insured during his lifetime, is not so certain ; but there is at least a strong probability that it would. It would be well if the status were definitely deter- mined by statute, as it is in some of the laws 96 BUSINESS OF LIFE INSURANCE relating to fraternal beneficiary associations which definitely protect the life insurance against seizure for the debts of the insured, while at the same time giving him the power to change the beneficiary. There is at bottom good reason why the courts ought to relax their rigid decisions as to what constitutes insurable interest. Their purpose is to prevent one being advantaged by an insur- ance on the life of another when he has not an equal interest in the survival of that life. But, when a man purchases insurance on his own life for which he and not the beneficiary is to pay, and names a beneficiary, not for value, he there- by expresses his opinion that this person is re- garded by him to have such claims upon him as justify the protection. Unless not in possession of his faculties, he is in point of fact the best judge as to who would benefit by his survival and suffer by his decease, and it is to be hoped that this may one day be recognised. It has been recognised from the beginning in Australia, where laws concerning insurable in- terest are wholly wanting and a man may name any beneficiary he chooses. The results have been uniformly good. The manager of the largest company there says that there have been next to no abuses and that this freedom is gen- erally satisfactory. The following from Prof. Landell's "Sum- IXSURABLE INTEREST 97 mary of the Law of Contracts," the highest authority upon the subject, indicates that there may be special peril when the beneficiary named by the insured, under his reserved ''general power of appointment," is not a relative: "It was decided in Button vs. Poole (1677) that a daughter might maintain an action on a promise made to her father for her benefit, though it had previously been decided, as it has been since (and uniformly in England), that a person for whose benefit a promise was made, if not related to the promisee, could not sue upon the promise. This latter proposition is so plain upon its face that it is difficult to make it plainer by argument. A binding promise vests in the promisee, and in him alone, a right to compel performance of the promise, and it is by virtue of his right that an action is maintained upon the promise. In the case of a promise made to one person for the benefit of another, there is no doubt that the promisee can maintain an action, not only in his own name, but for his own benefit. If, therefore, the person for whose benefit the promise was made could also sue on it, the con- sequence would be that the promisor would be liable to two actions. In truth, a binding prom- ise to A to pay $100 to B confers no right upon B in law or equity. It confers an authority upon the promisor to pay the money to B, but that authority may be revoked by A at any moment." CHAPTER XII CONVERTIBILITY ONE feature which has been slowly developing in the policies issued by American life insurance companies is convertibility. The development is as yet by no means complete. It commenced in the matter of surrender values, and nowadays, as has been shown, a pol- icy is usually convertible upon surrender into 1. Cash. ' 2. Paid-up Insurance. 3. Extended Insurance. And at the end of specified periods, also into 4. A Life Annuity. 5. A Temporary Life Annuity. The benefit or principal sum insured may, ac- cording to the terms of the policies of many companies, be converted into 1. Instalments payable for a definite term. 2. Instalments payable for the life of the bene- ficiary. 3. Instalments payable for a definite term and so much longer as the beneficiary may survive. M CONVERTIBILITY 99 When the policy is written, payable in instal- ments, it may usually be converted into a policy for the commuted value of the instalments, pay- able in one sum. The provisions for instalment payment should be scanned carefully if the intention is to pre- vent the beneficiary reconverting the benefit into a lump sum by surrendering the instalments for their commuted value. The company is usually under no obligations to do this, however; and if it acts in good faith, will not do it and thus de- feat the purpose of the deceased policyholder. But unless the fund is impressed with a trust, which is not true in most cases, the company and the beneficiary are free to deal as they will with one another. The instalments are the equivalent of the lump sum benefit which the premium would pay for, on the basis of 3 per cent, or 3| per cent, in- terest, as the case may be. Until about 1900 sev- eral companies yet used 4 per cent., but that is now uncommon. In very few companies is there any participa- tion in the excess earnings of the fund which is being paid out in instalments, over the guaran- teed rate. In some companies, however, there are considerable gains to beneficiaries from this source. Like privileges of conversion into instalments for a fixed term, for life or for a fixed term and 100 BUSINESS OF LIFE INSURANCE as much longer as the insured survives, are often granted to the holder of an endowment policy, upon its maturity; or, if it is payable in instal- ments, conversion into a lump sum payment of the commuted value. And in some companies, conversion into instalments for the joint lives of the insured or beneficiary or for the life of the last survivor of them or for a fixed term and so much longer as the last survivor survives. In some policies with deferred dividends, and in some policies which merely permit dividends to accumulate to the credit of the policyholder, but withdrawable at any time, it is provided that when the whole accumulation, reserve and surplus, suffices or when, as other policies put it, the surplus will prepay all future premiums the policy shall become paid-up if the policy- holder so elects. This may convert a whole life policy with premiums for the whole period of life, into a limited-payment policy, or may ac- celerate the completion of the premium-paying period, in a limited-payment or endowment in- surance policy. And when the accumulation, reserve and sur- plus, equals the sum insured, according to the terms of the policies of some companies, the policy matures as an endowment or may do so at the option of the insured. In both these convertible features the com- pany may or may not have provided for such CONVERTIBILITY 101 apportionment of the surplus at frequent inter- vals as will enable the insured to know when the time is approaching for the exercise of his privi- lege of conversion; or no information may be given until notice of the arrival of that time is sent to him by the company. Another form of convertibility which is now allowed by some companies is from life into limited-payment or endowment insurance or vice-versa. It has not yet become common. The convenience and value of it will readily be seen from the following specimens of such privileges : Life policy, issued age 35. Premium, $27.10. Table of Subsequent Annual Premiums (after a stated number of premiums paid). To pay-up the policy in One, Ten, Fifteen or Twenty An- nual Premiums thereafter : SUBSEQUENT ANNUAL PREMIUMS. Years' Premiums Paid. One. Ten. Fifteen. Twenty. 5 $472.79 $57.40 $42.53 $35.46 10 435.96 53.36 39.83 33.52 15 393.89 48.96 37.00 31.62 20 347.70 44.38 34.21 29.91 To see the advantages given, compare the foregoing rates after fifteen years with the rates of the same company at the age 50, which are : 102 BUSINESS OF LIFE INSURANCE ANNUAL PEEMIUMS. One. Ten. Fifteen. Twenty. Age 50 $704.94 $87.62 $66.22 $56.59 Life policy, paid-up in twenty years. Issued age 35. Premium, $37.29. Table of Subsequent Continuous Annual Premiums, if policy is con- verted into a whole life policy at end of any policy year : End of Subsequent End of Subsequent Year. Premium. Year. Premium. 1 $26.52 11 $17.72 2 25.90 12 16.40 3 25.24 13 14.96 4 24.53 14 13.38 5 23.76 15 11.66 6 22.94 16 9.76 7 22.05 17 7.69 8 21.10 18 5.38 9 20.08 19 2.83 10 18.94 20 Paid-up The benefits plainly appear when the rate of $18.94, after the tenth year, is compared with the full premium of $39.10 for age 45. Endowment in twenty years. Issued at age 35. Premium, $47.55. Table of Subsequent Con- tinuous Annual Premiums (or life annuities if CONVERTIBILITY 103 full-paid) if policy is converted into a whole life policy at end of any policy year : End of Subsequent Life End of Subsequent Life Year. Premium. Annuity. Year. Premium, Annuity. 1 $25.95 11 $8.30 2 24.70 12 5.64 3 23.36 13 2.74 4 21.94 14 Paid-up 5 20.41 15 " $ .43 6 18.75 16 " 3.81 7 16.98 17 " 7.67 8 15.06 18 " 11.90 9 12.98 19 " 21.58 10 10.73 20 " 30.00 Many men buy insurance on the whole life plan temporarily, intending to change to limited premiums or to an endowment policy later. Often they make the change by lapsing or sur- rendering the life policy for what can be got for it or by negotiating an allowance upon the new premium, in exchange for it. But that they re- ceive full value is very unlikely, though on every account they should because they still continue the insurance, merely paying more or less there- after as the changed case calls for. When the foregoing conversion privileges are available they do. CHAPTER XIII INDIVIDUAL ACCOUNTS/ THE keeping of individual accounts with mem- bers and furnishing them with statements of the same, has been urged on two grounds, viz. : To supply them with information concerning the amount of surplus accumulated on deferred div- idend plans and to inform them as to the deriva- tion of the surplus. It was plainly intended by the charter mem- bers of the ' ' Old Equitable ' ' of London that an intelligent account should be kept, showing the mode of division; for the Deed of Settlement says: That when and as often as it shall appear to a General Court of the said Society, that the Stock of the said Society arising from pre- miums, is more than sufficient to pay the claims made, or liable to be made, upon the said So- ciety; then, and so often the said Society shall, in a General Court, declare a Dividend of the surplus or of such part thereof as shall, by the said General Court, be thought and judged con- ic* INDIVIDUAL ACCOUNTS 105 venient, amongst the then Members of the said Society who shall be Assured with the said So- ciety upon (and for the whole continuance of) their respective Lives, in manner and form fol- lowing (that is to say) : "The members of the said Society who shall be assured with the said Society upon (and for the whole continuance of) their respective lives (those who shall have so become Members in the then current year, or the then last year preced- ing, who are hereby declared to be incapable of any dividend, only excepted) shall be divided into classes according to the number of the years of their standing in the said Society ; and those of the said Members of the Society who shall have completed one entire year's standing in the said Society on or before the last day of Decem- ber next preceding the declaration of the said dividend, shall constitute the first of the said classes ; which being done, the sum to be divided shall be allotted to the several classes in such order that the sum to be divided among the sec- ond class shall be twice so much as the sum to be divided amongst the first class, and the sum to be divided amongst the third class shall be thrice so much as the sum to be divided amongst the first class ; and so on in an arithmetical pro- gression, the number of the terms of which series shall be the number of the said classes, and the common difference of which series shall 106 BUSINESS OF LIFE INSURANCE be unity, after which the sums so allotted to each several class shall be subdivided amongst the individuals of each class in proportion to the sums by them respectfully assured." The delightfully definite manner in which the declaration of bonuses, really made in defiance of the Deed of Settlement, was explained by the actuary of the company a half century later is in marked contrast : "A partition of the profits which the Society has from time to time acquired, so far as hath been deemed prudent and safe, has been made or appointed to be made by authority of Gen- eral Courts of the Society, by extending the allowance to Claimants after a certain rate to be computed upon the sums assured for every year's premium paid upon their respective Poli- cies prior to a certain day in such several Orders specified." These are the earliest instances. They have been followed by many. During the later years of his life, Elizur Wright, the great actuary and ex-Commissioner of Insurance for Massachusetts, earnestly cham- pioned a system of individual accounting which he called the "Savings Bank Plan," and which he explained as follows : "For example: Suppose his policy is for $1,000, payable at death or fifty, entered at twenty-five and has closed its ninth year, within INDIVIDUAL ACCOUNTS 107 this fiscal year of the company. Referring to the table, we find his reserve at the end of his eighth year $207.49, to which was added at the beginning of the ninth $22.15, making the self- insurance fund at the beginning of the ninth year $229.64. Four per cent, of the interest was required to make this $238.83 at the end of the year, and 1 per cent, to pay for managing the fund, so there is $2.30 of surplus from self-insur- ance. The normal cost of insuring him that year was $6.53, of which one-fifth, or $1.31, was saved, which is so much more of surplus from vitality. The insurance value at the beginning of the year was $54.30. Three per cent, of this would be $1.63 for expensed, to which if 2| per cent, of the premium be added for collection, we have $2.45 to be deducted from the margin, $4.23, which leaves surplus from that source of $1.78. Thus the surplus which belongs to him is : From self -insurance, $2.30 From insurance, 1.31 From margin, 1.78 $5.39 ' ' In the same way, if the policy had ended its first year within the fiscal year, its surplus would have been : From self-insurance, $0.21 From insurance, 1.46 From margin, .86 $2.53 108 BUSINESS OF LIFE INSURANCE "And for its twentieth year it would have been: From self-insurance, $6.70 From insurance, .68 From margin, 3.09 $10.47" THE TABLE REFERRED TO. i 11 B of . ys u O P t p valued as if it were a ASSESSMENT REORGANISATION 303 renewable one-year term policy with increasing premiums, although the premiums were not to increase and were to be held out to the members as level for life. Since the reserve is merely that sum which is absolutely required, together with future level net premiums, to keep them level and to meet the future costs of the insurance, this was tantamount to giving the State's certifi- cate of solvency to an institution which, in the nature of things, would not be able to carry out its engagements by holding the assets and col- lecting the premiums which the State was certi- fying would enable it to carry them out. That such a law could have received the approval of the insurance department of an important State is an astonishing thing, not easily explained. There was no requirement that the premium to be collected should be equal to the level net premium required according to the standards of mortality and interest set up by the law itself. It was, in consequence, entirely possible for an association to carry on its business, claiming to be a life insurance company with full reserves as required by the laws of the State of New York and as certified by its superintendent of insurance, which, in point of fact, neither had sufficient reserves nor charged sufficient pre- miums. Had the provision been carried out lit- erally it would have called for twice the reserves proper to a one-year term policy that is, for a 304 BUSINESS OF LIFE INSURANCE policy for one year only, or for a longer time with the rate increasing each year as the age in- creases. The actuaries of the department, how- ever, were reasonable men and so construed this requirement to mean merely that the usual one-year term reserve was called for. This was a sensible view to take, because, from a scientific standpoint, otherwise the law could mean nothing. Thus construed, it meant that these policies were to be treated as renewable one-year term policies, although they were not of this character, and such construction was wholly wrong. It looked for a time as if this madness was about to sweep over the entire country. Some important States, as, for instance, Ohio and Mis- souri, promptly enacted similar laws. Several business assessment associations exhibited a marked desire to get the benefit of the certifi- cates of the department, provided by this stat- ute. When the laws of the State of the company's domicile made no provisions for companies of this kind, the association would undertake to qualify as a stipulated premium company by applying for admission to New York or one of the other States as such, and by complying with the reserve requirements. Bather inconsistent- ly the New York department refused to consent to this and its ruling was followed in the other States for the most part. ASSESSMENT REORGANISATION 305 In this connection an interesting incident may be related which will shed much light upon the evils of this condition. A certain large western association which was then flourishing and which might easily have been preserved, had its managers not been misled into accepting instead of real adequacy the pseudo-adequacy provided by these laws, first applied for admission to one of these States in order to get the benefit of the certificate. Upon this being refused, the man- agers applied to a consulting actuary who, with- out telling an untruth, could have certified that the association could comply with the require- ments of the New York law as to the reserve for stipulated premium companies, according to the Actuaries' Table and 4 per cent, interest, and would still possess a surplus of many thousand dollars. The certificate was refused, it being manifest that the sole use that could be made of it would be to create the impression that the rates and reserves were adequate. Blinded, however, by the false impression caused by the adoption of these laws, the management per- sisted in its course until ruin overtook the asso- ciation. And in some other cases many of the evils which might have followed the adoption of these laws were prevented by the prompt exposure of their defects by the independent insurance press of the country, which criticised them unsparing- 306 BUSINESS OF LIFE INSURANCE ly, and, by apprising the agents of the regular companies throughout the country of the facts concerning the form of valuation prescribed by the law, prevented this unwarranted certificate of solvency from being as effectual as was antici- pated. In consequence, the only association that re- organised under this law in the State of New York soon changed its status again by taking advantage of the privilege of passing over into a level premium company. No new company has ever been organised under the stipulated premium law in New York, and it stands to-day a dead letter upon the statute books and a monu- ment of the folly of the managers of the associa- tion which caused it to be introduced and of the shame of the department which weakly consent- ed to it and approved it. Had the stipulated premium law not failed of its purpose, the assessment associations, by re- organising under it, could and would have con- tinued the issuance of policies for the whole pe- riod of life at inadequate rates of premium and with the pretence that the payment of the poli- cie's was secured by adequate reserves. This disgrace was narrowly averted. Nearly all the departments, however, exhibiting a praisewor- thy desire to assist the assessment associations to get on a sound basis, were guilty of laxity in their rulings to enable them to pass over into ASSESSMENT REORGANISATION 307 regular life insurance companies, in tKe follow- ing regard, viz. : While they did not permit the association to issue new policies, after qualify- ing as regular life insurance companies, without putting up sufficient reserves thereon, they con- sented to treat the old assessment policies as renewable one-year term policies for valuation purposes. The theory upon which this was done was that, while the individual policies were not, in fact, one-year term policies with increasing premiums, they were current cost policies in the aggregate, with provision that sufficient money must be collected currently from the insured under this class of policies to pay the aggregate losses. By the legal contract it is true that no reserve is required, excepting sufficient to pay losses up to the time the next premium fell due, but it is also true that to permit these policies thus to be classified as legal reserve policies was fundamentally an error, and their valuation on this basis was an endorsement of the proposition that a system of this sort could be operated in- definitely, and that the last claims to fall due under such policies actually could and would be paid. It would have been possible, in fact, to have valued the policies on the basis that the stipulated premiums named in the policy con- tracts were what was to be collected. Had the commissioners taken this view instead of the other, they would have compelled these compa^ 308 BUSINESS OF LIFE INSUBANCE nies to make an immediate readjustment of their business as a condition to being admitted as regular companies. This attitude taken by the insurance commis- sioners was for the purpose of enabling the as- sessment associations which reorganised in this manner to readjust their old business more at leisure. It was the idea that they would thus work off their old business by means of surren- ders, lapses and deaths, and particularly by means of rewriting it upon sound plans, Their position was not reprehensible under the circum- stances, although its wisdom may be doubtful. A very serious and unfortunate blunder, how- ever, was generally made by the insurance de- partments in permitting the transfer of associa- tions into the ranks of regular life insurance companies, in that with few exceptions they fail- ed to charge against them as a special reserve liability the reserves for which they were liable according to the terms of their contracts. By this is meant not reserves which would be neces- sary to carry out the contracts, but reserves which they had specifically promised in the poli- cies that they would set aside and accumulate. In many cases the policies or the constitution or by-laws bound the association to set aside a cer- tain portion of the premiums received, as a trust fund under conditions clearly specified, which fund could properly be drawn upon only to meet ASSESSMENT REORGANISATION 309 death losses, and for that purpose only when the conditions specified were fulfilled. Manifestly, this fund constituted a liability. The setting up of a standard for measuring the liabilities of life insurance companies under their ordinary con- tract obligations does not excuse an insurance commissioner for failing to charge against the company or association any further liability which it may have incurred by reason of its own express promise. Notwithstanding which, almost without exception, the commissioners by their laxity in this regard virtually authorised the associations to use these trust funds for their own purposes, treating the same as general sur- plus, whereas in all cases the laws in force when the same were created, as well as the conditions of the contract itself, strictly provided that these funds could not be used for expenses. The com- missioners of other States than that of the com- pany's domicile, accepting the certificate of val- uation by the commissioners of the home State, also set their seal of approval upon this conduct, sometimes with knowledge and sometimes un- consciously. The legislature of one State, Massachusetts, enacted a special law, requiring all the existing business assessment associations then doing business in the State, whether domiciled there or not, to cease issuing assessment policies, and authorising them to begin issuing level premium 310 BUSINESS OF LIFE INSUEANCE policies. This act provided definitely for the valuation of the assessment insurance as renew- able policies of one-year term insurance except when the same were limited payment policies, which are valued as the same forms of policies in legal reserve companies. The Massachusetts law also provided that these reorganised assess- ment companies should have the privilege for a limited time, originally five years and afterward extended to eight years, of having their policies valued as term insurance the first year, followed by a level premium insurance, beginning at the end of that year and at an age one year higher. This privilege is not granted in that State to any other companies. The wisest managers of the assessment asso- ciations which changed into legal reserve com- panies proceeded more or less promptly to ex- change for their outstanding assessment poli- cies, policies upon the usual level premium plans by means of solicitation by agents. The new policies were sometimes placed at the rates for the full attained ages of the insured, some allow- ance being made for the accumulation of sur- plus, if any, upon the original policy. As a means of encouraging this transfer, sometimes the rates of premium offered in making these exchanges contained a materially smaller ex- pense charge than was ordinarily the case. In many instances, however, the policyholder ASSESSMENT REORGANISATION 311 was offered a level premium policy with a rate as of his age at entry. This could be done, of course, only provided there was paid in cash or charged against the policy the reserve required to be in hand at the date of change. If charged, interest would require to be paid upon the lien. In some cases the companies consented that this should itself be charged, instead of being paid annually in cash, the intention being to com- pound the same. The wisdom of this is doubtful under all circumstances. In many cases the ac- cumulation would soon amount to more than the reserve, and, consequently, the plan is really im- practicable. There is also doubt as to its legal- ity. To this system of dating back the new policy and giving the rate for the age at entry, when fairly carried out, there could be no objection. In practice, however, it frequently occurred that the insured was not fully advised that such a charge was to be made, and this is particularly likely to be true when the interest is to be com- pounded instead of paid. Often the first inkling of the true situation that anybody interested in the policy received was when the insured died and the beneficiary had a much smaller amount than the face of the policy offered to her. When correctly and truthfully represented to the in- sured, this plan caused him to be placed in ex- actly the same position as if he had originally 312 BUSINESS OF LIFE INSURANCE taken a level premium policy, and, after the lapse of a period equal to that of his member- ship, had borrowed back the reserve. A western company, under the advice, it is said, of the actuary of the department of its home State and certainly without any interfer- ence on the part of the department, made use of a device of this nature which was much less excusable. Before it reorganised into a regular legal reserve company this association, which had charged a stipulated premium considerably in excess of the current cost of the insurance, held a large amount of funds under trust agree- ments with the policyholders according to their contracts and its own constitution and by-laws. Agents were sent out to induce these policy- holders to change over to a legal reserve plan on the following basis, to-wit : A twenty-payment policy was offered, dated back to the original date of entry and age at entry. Against this was charged a lien, not merely for the reserve required, but for a large amount in excess of the reserve. An addition, to pay for a temporary insurance for the remain- ing years of the limited payment period, was made to the premium for the policy, so that in case of death during that period the lien would be cancelled and the full face of the policy would be payable. The lien also was to accumulate at compound interest. All of this care to prevent ASSESSMENT REORGANISATION 313 the insured from realising that there was a charge against his policy was tantamount to an instruction to the agent to leave him as much in the dark as possible. The existing funds in the hands of the company belonging to the policy were not distributed to it either in reduction of payment of premium or otherwise, but a large surplus was estimated to accumulate by the end of the period, equalling or exceeding the largest surplus returns on similar policies in the leading companies of the country, which policies had actually been kept in force for the full period of twenty years, although these policies might now only have half that time to run or thereabout. It might be that the members were in some cases advised that the commuted back premiums which were charged as a lien would be deducted from the surplus when settlement was made, but there is reason to think that even this was not always explained with care. And they were not advised usually what would happen if the sur- plus was not enough to cover the debt. The effect of this scheme was to release to the company presumably the policyholder's interest in the accumulated funds and at the same time to charge his policy with more than the reserve at the time, thus enabling the company to put this lien instead of the increase of reserve for two or three years thereafter and to appropri- ate the premiums received to expense and cur- 314 BUSINESS OF LIFE INSURANCE rent mortuary purposes. This outrageous pro- ceeding was exposed in the insurance press and most other companies have been careful not to imitate it too closely. It has never been rebuked officially, however, to this day by any commis- sioner, and under its operation the company in question and some others have managed, despite the payment of an extravagant amount for ex- penses, to hold an apparently handsome surplus, which in fact ought long ago to have been re- garded a sacred reserve. Some business assessment associations have by resolution of the members, voting in person or by proxy, or by resolution of the board of directors, changed all their policies into whole life level premium policies, charging them with liens for the amount of the reserve. Since the companies were mutual and the contract was between one member and his fellow members, this was regarded lawful. In one case at least the legislature passed a law requiring such a change and directly stipu- lating that the reserve should be charged. This law made no provision for the application of any funds already credited to the policies, in re- duction of the charge or otherwise. It was in- terpreted to warrant the transfer of the funds on hand to the general surplus, and to authorise their use for purposes other than those named in the original agreements, The law provided for ASSESSMENT REORGANISATION 315 a notice to the members affected, but a state- ment of what had been done, which must have confused, more than enlightened, and not a plain statement of precisely what the beneficiary would receive, was sent to the members. In con- sequence most frequently the first actual notice of the lien which anybody interested in the pol- icy received was when death took place and a claim was made. The device of reinsuring the concern in an- other association or company has also been made use of. In such cases, usually liens for at least the amounts of the reserves have been charged by the contract of reinsurance. And often all the actual assets were transferred un- lawfully to the retiring managers as a commis- sion. The results have not been so good, on the whole, as in cases of reorganisation of the asso- ciation without losing its identity. The foregoing is a brief statement of the vari- ous modes of reorganisation and readjustment which have been adopted by business assess- ment associations. Some of them have been measurably successful and the companies are already upon a sound basis, with all their old business readjusted, though suffering somewhat as a result of the dissatisfaction of members with the change. Some of the plans employed involved great and unnecessary hardship for the members and opened the door for abuses 316 BUSINESS OF LIFE INSURANCE which ought to have been guarded against. Aside from the occasional features of conceal- ment and malversation, there is not very much to criticise. The conditions were hard and called for severe remedies. CHAPTER XXX THE READJUSTMENT OF RATES IN FRATERNAL INSUR- ANCE ORDERS THE necessity for the abandonment of their assessment plans of operation was not borne in upon the fraternal beneficiary societies until some time after the same lesson had been learned by the business assessment associations. This was due in large part to their much more rapid and persistent growth and to the sentiment of fraternity which bound their members together, but the principal cause was the low expense rate at which their affairs were conducted. This fea- ture caused the pressure upon the younger mem- bers, in the form of a higher price for the pro- tection than the fair cost of the same, to be ma- terially postponed, for a large part of what was saved in the expense cost could, of course, be offset by increased mortality cost, due to the faults of the plan, before comparison with insur- ance in other institutions would show that the member was being materially discriminated against. 317 318 BUSINESS OF LIFE INSURANCE In several of the societies, some of which have readjusted their rates successfully and are now upon an adequate rate basis, readjustment was deferred, in point of fact, until the members re- cently admitted were paying currently as much net for their insurance, to protect which no re- serve was being put up, as was necessary to carry level rate old line insurance with adequate reserves. In other words, that portion of their contributions which should have been set aside in order to maintain their rates of premium level throughout life was being withdrawn cur- rently in order to cover the deficiencies in the payments of the older members. This was, how- ever, about as far as the delay could be carried, under any circumstances, and in more than one society it would not have been possible to delay so long. Before the need for a radical change of plan was apprehended by the managers of the frater- nities one of the larger of them had already been compelled to dissolve in consequence of a tem- porising policy which resulted in changes that were not a material improvement over the old plans, and another of the older and larger so- cieties had drifted so far toward disaster that it was not possible to rescue it, and all that could be done was to watch its slow but sure progress toward dissolution, which, though de- ferred, came at last within the past year. FRATERNAL READJUSTMENT 319 The failure of the first-mentioned society and the irretrievable condition of the second were not lost upon the officers and representatives of the other orders, nor were the results of the re- organisations and attempts at reorganisation of the business assessment associations. In conse- quence, when the fraternal societies were reluc- tantly making ready for changes, they had be- fore them many examples indicating what to choose and what to avoid. Fortunately, also, at the very outset one so- ciety attempted to relieve itself by reducing the amount of benefit payable in event of death. This reduction did not take the form of a lien charged against the certificate for the amount of the reserve, but was a definite reduction of the amount payable. The purpose, however, was substantially the same as when a lien is charged, viz., to relieve the society from a part of its obli- gation in order to enable it to fulfill the remain- der. At the same time it was perhaps not so defensible, nor the reason for it so comprehensi- ble. The right to reduce the amount of the bene- fit was contested and the Court of Appeals of an important State decided that fraternal benefic- iary societies have no power to reduce the bene- fit payable upon the death of a member below the amount stipulated in his certificate and in the laws of the society at the time the certificate was issued. It should be explained, however, 320 BUSINESS OF LIFE INSURANCE that this does not mean that a society must necessarily pay its certificate in full for the max- imum amount. On the other hand, in case its constitution and by-laws provide that the pro- ceeds of one assessment only is to be paid, but not exceeding the maximum amount, of course this provision governs, although the proceeds of one assessment may be much less than the maxi- mum sum. It is by no means certain, of course, that this decision would be held to apply to the charging of a lien for the reserve, even though that were done without the express consent of the member and by the action of the representative body ; but the fact that its application is doubtful, and the further fact that this method has caused much dissatisfaction when employed by business as- sessment associations, combined to deter the fra- ternal societies from attempting it, although it is a device which offers the distinct advantage, according to the opinions of men who would call themselves prudent, that it does not apprise the members so bluntly and, therefore, offensively of the fact that there is a serious change in their payments and benefits, as does a sharp increase in the payments required. Perhaps in fraternal societies where, before a reform can be insti- tuted, it must be discussed by representatives of local bodies, this argument did not seem to have the urgency and cogency as in business assess- FRATERNAL READJUSTMENT 321 merit associations, where agitation could per- haps be wholly avoided by employing some scheme which did not alter the payment to be made by the member, although it might not be so sound or so satisfactory as one which would have advised all members precisely what was the nature of the change. At first the tendency of the fraternal societies in changing their plans was to stick to their pro- gramme of furnishing current cost protection. In other words, they were indisposed to change to level premium plans for two reasons: first, they had from the beginning decried the level premium plan, which was known among them by the hated name of ' ' old line ' ' ; and, second, they had preached both that a mathematical reserve is unnecessary, and also that fraternal societies could not safely accumulate one, which would mean the downfall of the fraternal system. Therefore, the first readjustments were made on lines which called for the accumulation of but a small reserve or none at all, and the furnish- ing of protection on some current cost basis more nearly consonant with sound principles than the former plans. Thus some of them caused to be introduced step-rate plans that is, term insurance with the rate advancing either every year or every five years. In most- cases these societies did not make any provision either for continuing the advance throughout life or 322 BUSINESS OF LIFE INSURANCE for maintaining a fixed premium after a certain age. In some cases, however, they did make such a provision by means of the collection of a small reserve contribution with the premiums collected prior to attaining that age. Three sys- tems of this nature have been adopted as fol- lows : First, a system by which the increasing rate prior to the age at which the rate is to become fixed, is the same without regard to the age at entry; that is to say, the reserve contribution, as well as the premium for the current risk, ad- vances each year. Under this system, which may be rigidly scientific, if properly computed, of course the amount of reduction of the rate to be charged after attaining the age named, will dif- fer according as one was admitted at one age or another, because the amount of reserve accumu- lated will differ. Second, a system under which, likewise, the reserve contribution increases as does the pre- mium to cover the current risk, but under which, notwithstanding, it is attempted to give the same rate to all the members after reaching the age designated without regard to their contributions to the reserve; thus, in effect, for instance, re- quiring the member who contributes from age 20 to age 45 and after age 45 contributes as much as a member admitted at 45, to be satisfied with the same rate from, say, age 60 as the mem- FEATEENAL EEADJUSTMENT 323 ber admitted at 45, although the value of his con- tributions to the reserve may be two or three times as much. The unfairness of this system is manifest, and that unfairness also implies un- soundness. It puts upon persons admitted at the younger ages a burden as compared with persons admitted at older ages, which will be borne only so long as the facts are not clearly discerned by them, and, therefore, the appli- cants for membership are unable to discriminate and exercise selection in the matter. In the course of time, however, this selection will come into operation and the scheme must necessarily fail, only persons at the higher ages seeking ad- mission and younger members withdrawing. It can be made fair only by collecting no reserve contribution up to the highest age of admission, so that from that point all the members will begin their contributions to reserve. Third, a system under which a level contribu- tion to reserve, fixed according to age at entry, is superimposed upon an increasing premium to cover the current risk, this level contribution to reserve being so computed for age at entry as to produce the same amount at, for instance, age 60, and, therefore, to reduce the net level premium which would otherwise be required from age 60 throughout life by the same amount without regard to the age of the member upon admission. Theoretically, this plan is sound, 324 BUSINESS OF LIFE INSURANCE and practically it can be operated, though not without difficulties. The chief embarrassment will be found in the application of a system of adjusting the collections to the actual cost, as by passing assessments when the funds on hand enable the society to do so. This may be over- come, however, by care in keeping the accounts, and also particularly in drawing the by-laws under which the scheme is operated. Under these plans it will be observed, how- ever, the society must accumulate reserves, and as compared with the level premium plan, the distinction is one of degree and not one of prin- ciple. It should be noted also that in order that even the most scientific plan of this nature may work satisfactorily it is necessary that the trust character of the reserves accumulated should be recognised, and that in particular under no cir- cumstances should the reserves for the purpose of maintaining premiums level beyond, say, age 60 be drawn upon in order to meet death losses at other ages. In other words, frequent valua- tions to determine the reserve required are nec- essary or the contributions to reserve must be religiously set aside for that purpose, or both. The experiment of readjusting by offering a level premium estimated to be sufficient on the basis of certain lapse expectations has also been made in fraternal life insurance on a large scale. The society which first undertook this and which FRATERNAL READJUSTMENT 325 is still its most important exemplar, is distin- guished also because of the fact that it is the first fraternal insurance order to collect funds to a large amount. Its initiative in this regard, followed by a successful experience both in the field and in holding its members, undoubtedly had a great deal of influence in causing the re- moval of the objections to the accumulation of a reserve, which were so deep-seated in the minds of the officers and the representatives in frater- nal societies. At the same time it cannot be said that this society has demonstrated the success of its plan. There have been two valuations, as required by the laws of Great Britain, in which country it is also operating, and these show that as compared with the reserves required on the ordinary basis, there is a very large deficiency. The same actuary certifies that upon certain assumptions as to lapsation, which on the face of his statement do not appear to be reasonable, the reserves brought out are less than the accu- mulated funds; but until there is a demonstra- tion that the experience of the society is within the assumptions made in computing such re- serves and that the ratios employed are unques- tionably reliable, judgment must necessarily be suspended as to whether the plan is succeeding or not. In more recent years there has been a strong tendency in the readjustment of the rates of 326 BUSINESS OF LIFE INSURANCE these societies toward the introduction of a level premium plan. This was to have been expected, and is in accordance with the experience in Great Britain likewise, where reorganisation of the friendly societies was effected in almost every case upon the basis of level rates of pre- mium. With very rare exceptions, also, the so- cieties have not attempted to take into account the possible influence of lapses or discontinu- ances in computing their new rates of premium, and in the few cases in which they have taken this into account they have done so in a hap- hazard manner, so that their computations and the rates which they have made cannot be re- garded in any sense as demonstrated to be ade- quate. Several of them, however, have adopted rates which, according to their mortality experi- ence, may be relied upon as sufficient. In most of the recent readjustments the rates have been put into effect at the full attained ages of the members, with the exceptions noted hereinafter. In some of the organisations men- tioned, however, they have been put into effect as of the ages at entry, and then no provision, or an obviously insufficient provision, was made to cover the missing reserves which would have accumulated, had the insurance actually been in force at level premiums from the age at entry. This is, perhaps, one of the most reprehensible departures from correct principles that has put FRATERNAL READJUSTMENT 327 in an appearance in these readjustments, be- jjt'ause it gives a semblance of soundness in the sufficiency of premiums demanded for new en- trants, while, in point of fact, it leaves the in- stitution insolvent until another readjustment is made. Of course, it is not possible that a fra- ternal society when it finds it necessary to re- adjust its rates, should have on hand out of the past contributions of its members a sufficient amount to make good its reserves, on the basis of giving them all the rates at ages of entry. If it had on hand this reserve, it would be because the rates in the past have been sufficient, and, therefore, no readjustment would be required. In other words, that a readjustment is necessary indicates that this reserve is not on hand. The exigencies of the situation, however, usu- ally call for some concession to members in vari- ous advanced ages, in consequence of which such a man is usually given the rate, not at his full attained age, but at some age under that of his full attained age. In one of the societies which readjusted its rates, it was found that the funds on hand would cover the reserves on the policies of members at attained ages beyond 70, if they were all given the rate for the age of 70 ; this was done accordingly. In some other socie- ties which have readjusted, advantage was taken of the fact that the mortality at the younger ages was considerably under that exhibited by 328 BUSINESS OF LIFE INSURANCE the standard tables, and in consequence some part or all of this advantage was drawn upon in the form of a fraternal assessment or a guar^ antee fund assessment upon the younger mem- bers only, to make good the deficiency in re- serves upon the older members, who were there- by given rates at age 65, age 60, or even in one instance age 55. The complete success of these methods of meeting the conditions is not yet demonstrated ; but sufficient is known to warrant the statement that the chief menace to their suc- cess has been the dissatisfaction of the older members, notwithstanding these liberal provi- sions for their relief, which has had a much more marked influence upon the younger members in causing them to discontinue, than any dissatis- faction with the rates of premium required to be paid by them. A very important question in connection with the readjustment of rates in these societies has to do with the mortality table to be employed. At first blush this seems to the tyro in actuarial science a very simple matter. He has at hand standard tables which are used by the State de- partments in computing the reserves of legal reserve companies, and are also used by the com- panies themselves in computing their rates of premiums, surrender values, etc. If the argu- ment is presented that these tables are redun- dant at the younger ages, i. e., that they repre- FRATERNAL READJUSTMENT 329 sent a higher mortality experience than a thor- oughly well-conducted society, operating among persons not subject to extra hazards because of occupations or otherwise, may fairly expect to experience, which is true, the same tyro will, doubtless, turn to the National Fraternal Con- gress Table of mortality, which was deduced from the experience of two or three of the so- cieties and has been repeatedly endorsed by the National Fraternal Congress and is its mini- mum standard for adequate rates in new fra- ternal societies. There will be found to be many objections to either of these courses. In the first place, owing to the classes of persons admitted, their occupa- tions, habits, race and other characteristics, the mortality in each society is more or less distinc- tive. The novice, if he were to apply one of the tables mentioned, might easily find, as has more than once been the case, that the mortality of the particular society was already in excess of his table. On the other hand, in some cases he might find that the actual mortality was lower even than according to the National Fraternal Con- gress Table or that it was somewhere between the rates in that table and in the standard tables. He will also discover that there is a strong ten- dency on the part of the representatives and the officers in these societies to readjust the rates on the basis that precisely twelve monthly as- 330 BUSINESS OF LIFE INSURANCE sessments per year are to be brought about without producing a surplus or a deficiency. If he is entirely new at the work he may even fall into the error of supposing that this may be ac- complished; but although his knowledge be sufficient to cause him to refuse his assent to this proposition, he cannot fail to be impressed that the whole spirit of the fraternal insurance sys- tem is that no larger rate should be required to be paid than is believed to be necessary, and that the small surplus which such a rate, conserva- tively computed, ought to produce, be employed in passing assessments whenever the funds are sufficient to do so. In other words, he will dis- cover that the disposition is not to increase the rates more than is believed to be absolutely nec- essary, and this is but fair, taking into account that the members have in the past supposed that they have the same protection at the low rate which they have been paying and which has proved to be wholly inadequate. To pass to re- dundant rates would be too great a change. All of these considerations signify that a mor- tality table, deduced from the society's own ex- perience, if it is large enough and of sufficient duration to afford reliable data, is to be pre- ferred to all other standards. At this point, how- ever, it is necessary to give voice to a warning. The aggregate mortality experience of practi- cally every fraternal society is so affected by the FRATERNAL READJUSTMENT 331 years of exposure of lives within the first four or five years after their admission into the so- ciety and just after passing the medical exami- nation, that it cannot be relied upon as a correct guide for the experience which will almost cer- tainly follow a readjustment, during which it should not be expected, although it may be hoped for, that there will be any considerable accession of new members, and it must be expected that there will be large defections on the part of existing members. The defections on the part of existing members will probably mean suffi- cient adverse selection to offset the favourable selection in the mortality on account of the mem- bers yet remaining within the first five years of their memberships, and therefore it is not rea- sonable to expect that the mortality will be more favourable than the ultimate experience, i. e., the experience upon lives insured in the society after the first five years or more of their insur- ance has elapsed. In other words, for the pur- pose of computing the required rates of pre- mium, it is necessary that there be made from the experience of the society, if possible, what is known as an ultimate table of mortality. Even in these ultimate tables the experiences of different societies, composed of members of entirely different classes, distinguished in vari- ous respects, have been widely different, extend- ing from a table as low or lower than the Na- 332 BUSINESS OF LIFE INSURANCE tional Fraternal Congress Table at many ages, to a table materially higher at many ages than the so-called standard tables. It follows, there- fore, that before anything in the matter of re- adjustment of rates should be undertaken, a thorough-going investigation of the society's ex- perience should be made. If that experience is not extensive enough, either in numbers of lives exposed or in duration of insurances, to enable an entire mortality table to be deduced, the data should, notwithstanding, be cast into such form as to give as good an indication as possible of the probable mortality, and by means of this some existing table may be selected to be em- ployed either with suitable modifications or without modification, as the case may require. In recent years no fraternal society has un- dertaken a readjustment of its rates merely by leaving its old members on the old and faulty plans, while applying correct rates to new mem- bers. This glaring blunder of the business as- sessment associations has happily been avoided. In consequence, the full shock of the readjust- ments has usually been felt by the entire mem- bership. In some cases there has been a loss of membership of from 25 per cent, to as high as 40 per cent. ; but if the new rates are 1 in fact ade- quate and if the society gets upon a genuinely sound and solvent basis, this does not matter much. FRATERNAL READJUSTMENT 333 vVTiile the plan of giving rates at age at entry and charging liens for the reserve has not been employed as a matter of compulsion by any fra- ternal beneficiary society, the privilege is grant- ed by some of them that a member may go back to his rate at age at entry by consenting to have such a lien charged and to pay interest upon the same. It has been found, however, at the most, that not more than one member in fifteen desires to make such a change. By far the majority have consented to pay the rate at the full attained age. That the changes from assessment plans to sound plans has so far taken place without a large number of failures is a remarkable cir- cumstance well worthy of mention. The changes, even when very extensively affecting a vast number of people, have frequently been carried into effect with a small diminution of the mem- bership, which gave way also in a short time to an advance in membership, confidence being soon re-established. The American people have much to blush for, that they ever permitted the aberration of assessmentism to sweep over the country, but they have also good reason to con- gratulate themselves that the consequences have not been more serious. CHAPTER XXXI. STATE AND NATIONAL STJPEKVISION THE supervision of the life insurance business and of life insurance companies by State and National authorities has taken various forms in different countries. Thus, in Great Britain, there was stubborn resistance to the introduc- tion of any form of supervision whatever. Life insurance companies were organised there un- der the ordinary stock company laws, with as large an authorised capital and as small a part of it paid in as they desired. They also reported their entire assets, beyond liabilities actually ac- crued, as surplus, or otherwise valued their poli- cies on any basis they chose, including counting the gross premiums receivable in future as wholly available to offset future policy liabili- ties. In consequence, the most misleading bal- ance sheets were put forth, with sometimes the present value of future premiums producing so large a surplus that it appeared that all the re- sources presently possessed by the company were surplus, with a considerable margin above that. 3S4 STATE SUPERVISION 335 Notwithstanding the stubborn disinclination of the true Briton to submit to State regulation and interference with his private business, this could not go on unchecked forever. Sooner or later actual commercial insolvency, in the sense that the companies were unable to meet their present, matured liabilities, overtook several of them and there was a great scandal about it. Charles Dickens, the eminent novelist, made the hardships incurred by the unsuspecting who en- trusted their hard earnings to these concerns, the principal motive in one of his most impor- tant novels. The rising young statesman of that day, who afterward became known as "the great commoner" of his generation, Gladstone, also seized upon these evils as a target for his philip- pics in the House of Commons. His proposal was that the life companies should be subjected to a very strict system of supervision, including official valuation of their policies, and that in addition to this there should be established a State system of insurance, operated through the post-offices, which by its competition would com- pel the companies to charge fair rates of pre- mium. In the face of bitter opposition he succeeded in carrying these measures, with some modifica- tions. The provision for supervision was al- tered, however, so that in the main requirements are only as follows, viz. : No new company can be established until it has deposited with the Board of Trade $100,000 in acceptable securities as stipulated in the act, which cannot be with- drawn until the company has accumulated re- sources from its premiums in excess of this amount. An annual report is required likewise, setting forth the income and outgo and the re- sources ana liabilities other than reserves. At least every five years a valuation of the policies is required, according to a table of mortality and a rate of interest to be selected by the company and to be specified in the returns ; much of the valuation data must be furnished also, and, in case the valuation is not by net premiums, then the amount of deduction from the gross pre- miums to cover future expenses must be dis- tinctly specified. In addition to this, it is pro- vided that by appeal to the courts a company can be wound up when found insolvent on the basis of reserves according to what is known in the United States as the Actuaries' Table and 4 per cent, interest; but this last-mentioned pro- vision has rarely been availed of. Although these simple requirements appear to an American, accustomed to a much stricter sys- tem of supervision, to be weak and futile, they were sufficient together with the popular outcry against mismanagement to check the depreda- tions of scoundrels and schemers, and the Brit- ish life insurance companies have, on the whole, STATE SUPERVISION 337 enjoyed a very high reputation since that time for good management, sound methods and un- doubted solvency. There is, notwithstanding, nothing to prevent assessment associations from qualifying under this law. The result was that a large American association entered Great Britain, making the required deposit, which it also had a right to take down soon afterward, and conducted an assessment life insurance business there for many years without interference on the part of the authorities and under precisely the same law under which the regular life insurance companies operated. After this weakness in supervision, which really amounted to complic- ity, had permitted the concern to carry on the business, there was recently enforced, through a decision confirmed by the House of Lords, a construction of the contracts of the company which, had it been applied to any of its valuations, would have shown it to be insol- vent, or, more correctly, it was adjudged that the company had held out its policies to be of that character, though they were not, and there- by had committed a fraud. This fraud, if fraud it was, had been perpetrated day after day un- der the very nose of the authorities and with their full knowledge, but without interference, and the decision of the courts was manifestly! unfair unless it be taken as an indictment of the 338 BUSINESS OF LIFE INSURANCE laws of the country, as well as an indictment of the company itself. It forbade, in effect, the re- organisation of the association upon a sound basis, and is in marked contrast with the consid- eration with which certain British societies of the same general type were treated at an earlier date, when they were compelled to undergo re- organisation. Yet more recently there has been a scandal likewise under the loose operation of the British form of supervision, because a certain trading company engaged in the tea business had prom- ised promiscuously to pay pensions after the deaths of their husbands to women who pur- chased tea. This concern, after having built up an immense business in this manner, was rather tardily required to qualify by the deposit of securities as a life insurance company. When it failed, shortly afterward, it was discovered that the present value of the pensions promised by it was far in excess of $50,000,000, while the re- sources were less than one twenty-fifth that sum. In addition to this, a fraternal society hailing from this side of the water has been doing busi- ness in Great Britain for some years, having qualified under the same act, and has filed two valuations of its policies, in both cases showing an enormous deficiency on a valuation of the usual sort, but asserting that this deficiency was turned into a surplus by selecting a form of val- STATE SUPERVISION 339 nation which assumes a heavy rate of lapse. This matter has been an open scandal in Great Britain for some time and shows clearly that the present laws for the supervision of life insurance compa- nies are fatally defective and offer nothing like the protection that they ought to persons who purchase life insurance policies and annities. In the United States, as has been said, there has been gross neglect of requirements of sol- vency for assessment and fraternal societies, and as to regular insurance companies super- vision has mainly been concerned in insisting that assets should be held, sufficient to assure the payment of the policies upon maturity be- yond all question. While, of course, there is no such virtue in legislation as will effectually pre- vent the aggregate resources from falling below the aggregate liabilities, there is this virtue when reports and valuations are required each year, viz., that, unless the supervision is affected by collusion or utter incapacity, the existence of a deficiency will be discovered before it has be- come so large that the company is irretrievably ruined. In the last twenty-five years there have been many instances of this, and, indeed, since State supervision was introduced in the United States, the number of utter failures among regu- lar life insurance companies, as distinguished from instances where reinsurance was effected, has been very small indeed. 340 BUSINESS OF LIFE INSURANCE While, in a more or less experimental fashion, life insurance supervision had been attempted in more than one State before the appointment of two commissioners of insurance in the State of Massachusetts, in 1858, this appointment, which brought Elizur Wright forward as one of the commissioners, may be regarded as virtually the starting point of supervision of life insur- ance in this country. What Elizur Wright did to introduce a proper system of net valuation as a test of solvency has already been related in these pages, and it is not necessary to do more than to refer to the same again. His selection of a mortality table fairly representing the ac- tual experience of life insurance companies, his resolute championship of net valuation as against the valuation of gross premiums, and his insistence that no life insurance company should be permitted to do business that could not dem- onstrate its ability to carry out its contracts, soon placed the department of Massachusetts in a position of authority which has since been maintained constantly by the exceptional hon- esty and unswerving devotion to duty of his suc- cessors in office. Supervision of life insurance companies was soon introduced in most of the other important States likewise, the State of New York being among the first. New York had for its first superintendent of insurance a man of the high- STATE SUPERVISION 341 est probity and of great ability, Hon. William Barnes, but, unfortunately, since that time, while the post has in several instances been filled by men of the highest character, both for ability and honesty, it has also several times been occu- pied by individuals concerning whom and their administration of this office it would not be pos- sible to say anything good. One of the duties of the officer to whom is en- trusted the supervision of life insurance is the examination of the companies from time to time. In Massachusetts and in some other States, the department is required to make an examination at least once every three years or five years, as the case may be ; but in other States examina- tions are made at the discretion of the commis- sioner or superintendent. The efficiency of supervision in a State may be judged by the fre- quency and thoroughness of the examinations of companies domiciled therein. Partly in conse- quence of neglect in this regard, it has now and then happened that companies by means of false reports to the home departments have been able to continue doing business for several years after they had become insolvent, and to hold themselves out to the public as solvent institu- tions, being provided with a certificate from the home department to that effect. Originally, examinations were made in all cases at the expense of the company. Naturally, 342 BUSINESS OF LIFE INSURANCE this soon became a matter of much scandal. In the first place whenever venal legislators de- sired to provide for hangers-on, it was a simple matter, and frequently popular like wise, to order an examination of one or more insurance com- panies. In the second place, by means of these examinations, if there was anything to criticise, large amounts could be wrung from the com- panies in blackmail. During the earlier days of supervision there were many instances of both evils, and it became necessary, in order to pre- vent them, either to provide that the examina- tion should be made at the expense of the State or that the cost of the same should be covered into the State treasury and the persons employ- ed as examiners should be compensated by the State. Wherever the former method has been introduced there has been practically no com- plaint as to the continuance or the revival of the old evils, and under the latter system complaints have been infrequent. Another form of abuse, however, perhaps in- eradicable so long as there is notNational super- vision and State supervision continues, is the examination of companies of other States, which are licensed to do business in the State. These examinations are frequently undertaken with- out any good reason and merely for purposes of private emolument. Most frequently they are made by the wholesale, the examiners starting STATE SUPERVISION 343 out from home and making or pretending to make one examination after another, in each case charging for the expense of a railroad return trip and for hotel and other bills, and exacting a per diem which they really do nothing to earn. This has been carried so far that one bold buccaneer actually invaded the home office of a company in Great Britain, presented his card, insisted on the privilege of examining the com- pany, and for a very superficial glance at its books exacted the cost of his European trip. In this country the evil has been rampant, and yet there appears to be no way to extirpate it, so long as there is not a system of National super- vision. In the National Convention of State Insurance Commissioners and elsewhere it has been from time to time proposed that a rule be established that the certificate of the department of the com- pany's home State be accepted in all cases, and that no examination be made or required other than by the department of the home State. It will never be possible to secure compliance with this ruling, so long as there is not an effectual system of National supervision, for the reason that the insurance department of a State is charged with the protection of the people of that State, and in all cases, if the administration of the department of another State is known to be corrupt or to be improperly influenced by politi- 344 BUSINESS OF LIFE INSURANCE cal considerations, so that its certificate as to a particular company is of doubtful value, it be- comes the duty of the State insurance commis- sioner or superintendent to refuse to accept its certificate and to insist upon an independent investigation of the company's affairs. It has been suggested that in such cases he should first ask the department of the home State to make an examination, but it is manifest that in many instances he would feel that such an examination would be as worthless as the certificate already in his hands. Another evil which has sprung up in connec- tion with these examinations has been the em- ployment of consulting actuaries not connected with the State department, but having a connec- tion with the company examined. It seems al- most incredible that the impropriety of a con- sulting actuary, known to be retained by a par- ticular company, being permitted to make an examination of that company for a State depart- ment, should not be so clear that by no possibil- ity could it have been consented to by the depart- ment, the public or even the actuary himself. Yet notoriously this has been done in more than one instance. Even at the present time the sen- timent against it is not so strong that it would not be possible for it to be repeated. It would be well perhaps if every department were to provide itself with an actuary and examiners STATE SUPERVISION 345 capable of making such investigations, but in any event actuaries should not be employed who are also employed by the company undergoing investigation. A yet more serious evil, however, within the departments themselves has been the connec- tion, in a consulting capacity, of department actuaries with companies which were subject to their supervision and which upon occasion they examined. In several instances, partly as a con- sequence of this, no doubt, reprehensible prac- tices have been permitted to spring up until they have become a public scandal. The ' ' investment bond" business, to which reference has already been made in these pages, was fostered by the connivance of certain department actuaries who were also connected with the companies as con- sultants or at various times did work for them in that capacity. Another evil has been the variations in the rulings of the commissioners of the same State from time to time and of the commissioners of different States at all times. At one period in the history of life insurance great and undue laxity in the matter of accepting advances to agents, commuted commissions, furniture and fixtures and other items as available assets, followed by sudden and undue severity, which cut out all or practically all of these allowances, played an important part in causing the ruin of many com- 346 BUSINESS OF LIFE INSURANCE panics, which would not otherwise have been compelled to go to the wall, but might have been preserved permanently. In recent years the re- versal of the practice of one of the smaller States in the matter of accepting valuations on a pre- liminary term basis, caused the downfall and reinsurance of a small but perfectly solvent life insurance company domiciled in that State. The new ruling was also so far from being justified that it was reversed by the unanimous vote of the judges of the Supreme Court of the State, but too late to save the company. In all cases where the companies depend upon rulings of de- partments, therefore, they are more or less in danger. It would be well if these rulings could be given such authority and weight that, once made, they would not and could not be over- thrown, but would stand as precedents until after a full hearing, similar to a trial in court, they have been adjudged erroneous. Or perhaps it would be better still if the companies were everywhere permitted to appeal to the courts. This they are able to do in some States, and the ruling last referred to was set aside by the Supreme Court of the State upon the appeal of one of the companies aggrieved. But in some States, notably Massachusetts, the ruling of the commissioner is final until he has himself re- versed it, unless it can be proved that he has wilfully abused his discretion. STATE SUPERVISION 347 There is also a want of unif ormity in the laws of the various States, which the commissioners, meeting in convention, have, so far without com- plete success, endeavoured to obviate by making recommendations for legislation in the different States so as to bring about uniformity. This certainly is very much to be desired, but is prob- ably hopeless, so long as the matter is in the hands of the legislators of forty different States. In other words, we shall probably never have uniform laws regulating life insurance through- out the country until National supervision has been introduced. Life insurance interests, as a whole, are warmly favourable to National super- vision on the following grounds, viz.: First, it would go a long way toward securing uniform regulation and supervision of life in- surance companies. Second, reports to the National department and examinations by it would entitle a company to admission to all the States. Third, discrimination on the part of a State in taxation against companies of other States would probably not be permitted. Fourth, the certificates of the National depart- ment of insurance would have much greater weight in foreign countries. Fifth, if insurance were directly under the supervision of the National government the Fed- eral authorities would be in a better position to 348 BUSINESS OF LIFE INSURANCE protect the interests of American life insurance companies abroad. Sixth, probably in the course of time State supervision, with its petty exactions, its possi- bilities of blackmail and extortion, and its forty separate establishments with their large ex- penses, would pass away. Just how much opposition could be mustered against the proposal to establish a system of National supervision it is not easy to estimate, for the reason that up to the present time the impracticability of the scheme has prevented the opposition from showing its strength. The plan is understood to be favoured by the present administration, which indeed has made a start in that direction, through certain inquiries under the direction of the Department of Commerce and Labour. But an obstacle which seems to be insuperable is that many years ago the Supreme Court of the United States decided in a famous case entitled "Paul vs. Virginia," that insur- ance is not commerce, and this decision has been confirmed by repeated adjudications since that time. It is clear, therefore, that unless this can be reversed the supervision of insurance as a part of inter-state commerce cannot be assumed by the National government. There is no rea- sonable doubt that insurance nowadays, what- ever may have been the case many years ago, is not merely a part of the commerce of the conn- STATE SUPERVISION 349 try, but is also a most important part; but de- cisions of the Supreme Court of the United States are very stubborn things, and whether the plain logic of facts would suffice to cause that court to reverse its previous attitude in this matter is very doubtful. In any event, no at- tempt has so far been made to cause the ques- tion to come up for a rehearing, and, until this has been done, or. as an alternative, the Consti- tution itself has been amended, it is idle to talk of National supervision. CHAPTER XXXII THE ANNUAL STATEMENT THE following is a copy of the form of the life insurance statement to the insurance depart- ment that is usually given to the public : ANNUAL STATEMENT. Income First year's premiums on original policies without deduction for com- missions or other expenses, less $ for first year's reinsur- ance $ Surrender values applied to pay first year's premiums $ Total first year's premiums on orig- inal policies $ Dividends applied to purchase paid- up additions and annuities $ Consideration for original annui- ties involving life contingencies. . .$ 350 THE ANNUAL STATEMENT 351 Consideration for supplementary con- tracts involving life contingencies^ Total new premiums $ Renewal premiums without deduction for commissions or other expenses, less $ for reinsurance on renewals $ Dividends applied to pay renewal pre- miums $ Surrender values applied to pay re- newal premiums $ Eenewal premiums for deferred an- nuities $ Total renewal premiums $ Total premium income $ Consideration for supplementary con- tracts not involving life contingen- cies $ Interest on mortgage loans. .$ Interest on collateral loans. .$ Interest on bonds and divi- dends on stocks $ Interest on policy loans or liens $ Interest on other debts due the company $ Rent $ Total interest and rents $ 352 BUSINESS OF LIFE INSURANCE Profit on sale or maturity of ledger assets $ Total income $ Ledger assets December 31st $ Total $ Disbursements For death claims, $....; ad- ditions, $....; total $ For matured endowments, $....; additions, $....; total $ Total amount paid for death claims and ma- tured endowments $ For annuities involving life contingencies $ Surrender values paid in cash $ Surrender values applied to pay new premiums $ Surrender values applied to pay renewal premiums. ...$ Dividends paid to policyhold- ers in cash $ Dividends applied to pay re- newal premiums .'...$ THE ANNUAL STATEMENT 353 Dividends applied to pur- chase paid-up additions and annuities $ Total paid policyliolders $ Paid for claims on supplementary contracts not involving life contin- gencies $ Commissions and bonuses to agents (less commission on reinsurance) first year's premiums, $....; re- newal premiums, $ . . . ; on annuities (original renewal), $ ; total $ Salaries and allowances for agencies, including managers, agents and clerks $ Agency supervision, travelling and all other agency expenses $ Medical examiner's fees, $....; in- spection of risks, $. . . . ; total $ Salaries and all other compensation of officers and home office em- ployees $ Rent $ Advertising, $ ; printing and sta- tionery, $ ; postage, $....; total . $ Legal expenses $ Furniture and fixtures $ Insurance, taxes, licenses and depart- ment fees $ 354 BUSINESS OF LIFE INSURANCE Taxes on real estate $ Repairs and expenses (other than taxes) on real estate $ Loss on sale or maturity of ledger as- sets $ All other disbursements , .$ Total disbursements $ Balance $ Ledger Assets Book value of real estate $ Mortgage loans on real estate $ Collateral loans $ (Schedule of same.) Loans made to policyholders on this company's policies assigned as col- lateral $ Stocks and bonds owned by the com- pany $ (Schedule of same.) Deposited in trust companies and banks on interest $ Cash in office $ Suspense account $ Agents' balances $ " Total ledger assets $ Non-Ledger Assets Interest due and accrued on mortgages $ THE ANNUAL STATEMENT 355 Interest accrued on bonds and stocks $ Interest due and accrued on collateral loans $ Interest accrued on policy loans or liens $ Interest accrued on other as- sets $ Rents due and accrued on company's property or lease $ Total $ Market value of bonds and stocks over book value $ New Business. Renewals. Gross premiums due and unreported ... $ $ Gross deferred pre- miums $ $ Totals $ $ Deduct loading $ $ Totals $ $ Net amount of uncollected and de- ferred premiums $ Gross assets $ 356 BUSINESS OF LIFE INSUEANCE Deduct assets not admitted Suspense account $ Agents' debit balances $ Total . ; $ Total admitted assets $ Liabilities Net present value of all the outstanding policies in force on the 31st day of December, 1903, computed by the Insurance Depart- ment on the Combined and American Experience Ta- bles of Mortality, with 4 and 3 per cent, interest.. .$ Same for reversionary ad- ditions $ Same for annuities $ Total $ Deduct net value of risks of this company reinsured in other solvent companies. .$ Net reserve. . Present value of amounts not yet due on supplementary contracts not in- volving life contingencies $ THE ANNUAL STATEMENT 357 Death losses in process of adjustment or adjusted and not due $ Death losses reported, no proofs received $ Matured endowments due and unpaid $ Death losses and other policy claims resisted by the com- pany $ Annuity claims involving life contingencies due and un- paid $ Total policy claims $ Premiums paid in advance $ Dividends or other profits due policy- holders $ Reserve for contingent guarantee fund . $ Surplus to be apportioned in 19 $ Total liabilities $ 358 BUSINESS OF LIFE INSURANCE EXHIBIT OF POLICIES NUMBER AND AMOUNT OF POLICIES AND ADDITIONS CLASSIFIED, INCLUDING PAID-FOB BUSINESS ONLY Policies in force at the commencement of the year, including additions : Number. Amount. Whole life policies $ Endowment policies ... $ All other policies (in- cluding return pre- mium additions) $ Additions to policies by dividends $ New policies issued during the year : Number. Amount. Whole life policies $ Endowment policies ... $ All other policies (in- cluding return pre- mium additions) $ Additions to policies by dividends $ THE ANNUAL STATEMENT 359 Old policies revived during the year : Whole life policies Endowment policies . . . All other policies (in- cluding return pre- mium additions) .... Additions to policies by dividends Old policies increased : Whole life policies .... Endowment policies . . . All other policies (in- cluding return pre- mium additions) Transfers, deductions: Whole life policies. . . . Endowment policies . . . All other policies (in- cluding return pre- mium additions) .... Transfers, additions: Whole life policies Endowment policies , , , Number. Amount. $ $ Number. Amount. $ $ Number. Amount. $ $ Number. Amount. $ 360 BUSINESS OF LIFE INSUEANCE Number. Amount. All other policies (in- cluding return pre- mium additions) .... $ Totals after transfers $ Deduct policies decreased and ceased to be in force $ Total policies in force at the end of the year $ Policies in force at the end of the year, includ- ing additions : Number. Amount. "Whole life policies .... $ Endowment policies ... $ All other policies (in- cluding return pre- mium additions) .... $ Reversionary additions $ Total policies in force at the end of the year $ Policies which have ceased to be in force dur- ing the year, with the mode of their termination : Number. Amount. Terminated by death . . $ By maturity (endow- ments) $ THE ANNUAL STATEMENT 361 Number. Amount. By expiry (term) $ By surrender $ By lapse $ By decrease $ Totals $ Annuities in force December 31st, 19 $ BUSINESS IN NEW YORK. On the lives of citizens of New York : Number. Amount. Policies in force De- cember 31st, 19 . . . $ Policies issued during 19 $ Total $ Deduct policies ceased to be in force dur- ing 19 $ Policies in force in New York Dec. 31st, 19. $ Losses and claims un- paid Dec. 31st, 19. . $ Losses and claims in- curred during 19 . . $ Total , $ 362 BUSINESS OF LIFE INSURANCE Number. Amount. Losses and claims on policies in New York paid during 19 . ... $ Losses and claims un- paid Dec. 31st, 19 .. $ Premiums collected or secured in New York in cash and notes or credits during 19 , without any deduc- tion for losses, divi- dends, commissions or other expenses ... $ In the income the items of ''surrender values" and " dividends" applied consist of moneys not actually paid out and received again; but these amounts are included in the surrender values and dividends paid, in order to show the total, and so are entered here again as a part of the income in order to balance the account. The "consideration for supplementary con- tracts," appearing twice in the income, is also not an actual receipt ; when a policy which is to be paid in instalments, or by an annuity, matures by death or otherwise, the total present value of the benefits is .entered as a death claim or ma- tured endowment, and then this item for the same amount is entered as an offset. When the THE ANNUAL STATEMENT 363 benefit is payable as an annuity the present value is entered as "consideration for supple- mentary contracts involving life contingencies," and when in instalments for a fixed period only, as "consideration for supplementary contracts not involving life contingencies." The careful separation of first-year and re- newal premiums and the separate statement of interest totals by classes of securities is an ex- cellent feature of this statement form, enabling the financial management to be judged pretty severely. The item of "profit on sale or maturity of ledger assets" represents the gains already actually realised and reduced to possession. The "excess of market values over book values" of the securities still held is not included in this. In considering a company's statement it is well to remember that the three items of "divi- dends" in the disbursements will give but a very imperfect and misleading basis for comparison as to returns to policyholders, because the divi- dend systems, and especially the dividend pe- riods, differ widely, so that one company may be paying a large amount in deferred dividends, another nothing at all because no policies have completed their periods, and yet another may be paying an annual dividend to each of its poli- cies. What is required, really, is an addition to the 364 BUSINESS OF LIFE INSURANCE statement blank, calling for specimens of the annual and deferred dividends at selected ages for all plans and durations paid during the preceding year or accumulated to date to the provisional or absolute credit of the policies. The insured will never be able to judge discrimi- natingly as to the comparative merits of indi- vidual companies and their policies until this is required. It speaks much for the patience, but little for the wisdom, of Americans that this has been delayed so long and is not yet here. British companies have been called upon to make simi- lar reports for thirty-five years past. If it were introduced here it would result in competition in "returns to policyholders " instead of a race for bigness, for it would powerfully stimulate the efforts of companies to serve their patrons and would greatly reduce the preliminary ex- pense incurred to obtain new business, which now unquestionably causes policyholders to re- ceive lower dividends in most companies than they would receive if nothing at all were paid to secure new business, and only that amount were transacted which would come in without solicita- tion. The items of commissions and bonuses to agents, agency salaries and allowances and agency supervision expenses are nearly wholly charges for obtaining new business. It is credi- bly reported that the experience of more than THE ANNUAL STATEMENT 365 one company shows that business upon which no renewal commission is paid, renews as well as that upon which such commission is allowed. Most, if not all, of this item is virtually deferred compensation for writing new business and is frequently paid in addition to an immediate compensation in first year's commissions that is itself excessive. Under the item of "legal expenses" unques- tionably items of expenditure are sometimes in- cluded which would not look well if put into plain print. Life insurance companies are every now and then made the victims of legislative "strikes," as well as of departmental raids. An item which sometimes appears in life in- surance companies' statements also is "com- muted commissions." This means sums of monev paid to agents in consideration of their releasing their claims for commissions upon re- newal premiums. Observe that the form of statement is of "income" and "disbursements," and not "re- ceipts" and "disbursements." The reason for this is that there would be included in receipts, of course, the repayments of investments, and in disbursements the payments for investments. The first of these does not really belong in "in- come" account, because it does not signify that the company has any more assets on account of the change than it had before, and the latter 366 BUSINESS OF LIFE INSURANCE likewise is not, strictly speaking, a disburse- ment. Yet accountants have found the name "income" to define what they really mean to set forth, but have so far not replaced "disburse- ments" by a better name, which would signify that the money has actually been expended. Of course, the word "expenditures" would have this meaning ; but, unfortunately, it is too nearly like "expenses," and might be confused with the latter by a careless reader. It is sufficient, without further discussion, to point out the fact that the movement of investments is not touched by this statement. While, of course, it is proper and very desira- ble that items of receipts and disbursements which merely signify that there has been a change in the form of assets should be omitted from the statement, it is very desirable that there should be added to the statement blank inquiries which will call out accurate informa- tion as to the details of securities and as to loans upon collateral, together with information concerning any changes that have been made during the year in securities owned and in the securities held as collateral. A recent investiga- tion of a large life insurance company has indi- cated that it would be wise to require a state- ment of the cash on hand and deposits in vari- ous banks and trust companies to be rendered each and every montL, ^"nce it has transpired THE ANNUAL STATEMENT 367 that amounts held by favoured trust companies were reduced materially just before the annual statement and promptly increased immediately afterward. In the same way a much more seri- ous deception has been practised in more than one instance, which came to the attention of the public, in the form of substitution of securities, just after making the statement. Thus in the case of a life insurance company which failed a few years ago it was discovered that it had been customary to withdraw the good securities which were reported to be on hand on December 31st soon thereafter and to substitute securities which had been disposed of only a short time be- fore December 31st; and recently, as the result of an examination of a company during the autumn months a similar condition was shown, the company being possessed of securities of a poor quality when the examination was made, for which unexceptionable bonds and stocks had been substituted by the time the annual state- ment was called for. As a means of preventing extravagance, or at least of rendering policyholders fully ac- quainted with its proportions, it has often been suggested that the individual salaries paid to the principal officers ought to be set forth in the statement. The item of "net amount of uncollected and deferred premiums," also showing the manner 368 BUSINESS OF LIFE INSURANCE in which the same was arrived at, is not always clearly comprehended. The reason why it ap- pears in the statement is that on the other side of the account reserves are charged against all policies, whether paid for by annual premiums or by quarterly or semi-annual premiums ex- cepting only industrial policies which are paid by weekly premiums precisely the same as if all had been paid by annual premiums. On this account it is necessary to take credit for the por- tions of the annual premiums which have not been paid, and in doing this the loading is de- ducted. It will be observed that the items embraced by 11 suspense account" and "agents' debit bal- ances" are not admitted and are deducted from the assets. In the matter of market value of bonds and stocks over book value there has at times been a good deal of discussion as to whether this should appear in statements at all or not. Some have taken the position that stocks and bonds ought to appear in the statement at their cost value except when, after a considerable length of tune, the market had shown that the cost value could not be realised, in which case they should be given the market value ; but, on the other hand, they should in no case be marked higher than the cost value. The argument in favour of this is that companies buy these securities for the THE ANNUAL STATEMENT 369 purpose of investment and not of speculation, and that the state of the market at a particular time offers no indication as to the value which will be realised by the company. This view is so far adopted by the State of New York that the law provides that the values may be fixed ac- cording to the range of the market for a reason- able time and need not be determined by the quotations on the closing of the market on De- cember 31st of each year. The chief item in the liabilities of a life insur- ance company is the reserve upon its policies. This reserve is usually computed by the Actu- aries ' Table and 4 per cent, on all policies issued prior to January 1st, 1901, and by the American Experience Table and 3| per cent, on all policies issued after that date, unless the company elects to have its policies valued by a higher standard. These tables are not suitable for the valuation of annuities ; yet, until very recently, they were uniformly valued by them in all departments. Now a table of mortality adapted from experi- ence derived from annuitants, known as McClin- tock's Table, has been adopted for use in the New York department. The total amount of outstanding claims in any well-conducted company is certain to be very small, for the reason that life insurance com- panies are usually very prompt in the payment of their claims. 370 BUSINESS OF LIFE INSURANCE The item called in this statement ' ' reserve for contingent guarantee fund," is known in the statements of most companies as " surplus." It consists of the surplus reserved for future divi- dends upon policies which have not reached the close of their dividend periods. The item of "premiums paid in advance" con- stitutes a liability, of course, until the time ar- rives when the premiums would have been pay- able in due course. There are two manners of prepaying premiums, viz., one by merely dis- counting the same at ordinary interest and de- positing them on condition that, if death occurs before the premium would have been due, the amount paid, with interest at the same rate, shall be returned ; the other, by having the premiums discounted both by lnr>se and mortality ratios and waiving the condition that the premium is to be returned in event of death before the date when it would have been due. "The exhibit of policies" is practically self- explanatory. It is customary for the depart- ments to require this to be reported, first, for the business done by the company everywhere, and, second, for the business transacted within the State; and a separate statement of the losses and claims paid and incurred and the premiums within the State collected is also required. If a person intending to purchase life insurance will make a careful study of the statements of the THE ANNUAL STATEMENT 371 various companies which are brought to his no- tice he will find that there is much in them that is interesting and that may be valuable in guid- ing him in his selection of a company. First and foremost, of course, is the character of the as- sets of the company. This may be judged not merely by the lists of securities, but also by the returns upon the same and the investment losses or gains during the year. By obtaining the previous statement and comparing the market values also he can ascertain what fluctuations have been taking place. By means of the statement of business trans- acted he can learn whether the company is go- ing forward or going back in the volume of new business and whether its rate of lapse is exces- sive or normal. It is also possible for him to calculate the rate of interest realised upon tho mean assets or the invested assets, as he may prefer, and also to compute the ratios of ex- penses to premiums, which may in some cases have a good deal of significance; but he will do well if he does not permit himself to be led into considering elaborate series of ratios, alleged to have certain significance, which sounds plausi- ble, but is, in point of fact, misleading. CHAPTER XXXIII THE GAIN AND LOSS EXHIBIT IN the summer of the year 1897 the late W. D. Whiting, an eminent actuary and by far the most influential with the insurance commission- ers of the country and most frequently employed by them, brought up in the National Convention of Insurance Commissioners a proposal to add to the annual statement form for life insurance companies a gain and loss exhibit. Practically no opposition to the proposal was manifested, and it was adopted by a unanimous vote and was added to the requirements for the statement of the transactions of the companies for that year. There was nothing further heard of the mat- ter in any public way until after the blank forms for the statements were sent out in the last days of 1897 and the first days of 1898. Then most of the life insurance companies urged the depart- ments not to insist upon their making out of the exhibit. All the State departments, excepting only Connecticut, Wisconsin, Illinois and Ten- nessee, weakly consented, notwithstanding that 372 THE GAIN AND LOSS EXHIBIT 373 they had voted in favour of the exhibit; but, owing to the fact that nearly all the companies do business in one or more of these States, the publication of the exhibits by them made the facts known as widely as if all the State depart- ments had required it. The departments of New York, Pennsylvania and Massachusetts were conspicuous in their disapproval of what they had previously ap- proved. The attitude of the Massachusetts com- missioner in this matter is and has always been puzzling. In common with practically every in- cumbent of the office, the present commissioner, in spite of more than one peculiar position, cred- ited to want of clear information on his own part and to following bad advice from others, has enjoyed an excellent reputation for honesty, probity and virtuous intentions. Yet, alone among the commissioners, he at once made an open fight against the gain and loss exhibit, which for the first time gave to the insured an insight into the actual conduct of the business by the companies to which they intrusted their funds on a mutual or participating basis, and for several years he refused to enter the con- vention because of the presence of this obnox- ious exhibit in the uniform blank, approved by the commissioners. Notwithstanding a strong fight made by the representatives of some of the companies, two 374 BUSINESS OF LIFE INSURANCE succeeding conventions endorsed the exhibit. The publication of the first statements showed clearly enough why there was strong opposition on the part of some of the companies and no very warm support from any of them. Some showed very small gains, the margins being, al- most wholly offset by excessive expenses. Some were weak in certain respects, strong in others. One of the bitterest opponents made a good showing in earnings from each source, but its profits from illiberal surrender values were so large that they constituted a serious reflection upon it. More than any other one influence, per- haps, this exhibit led to the complete victory of liberality to policyholders, the company in ques- tion being one of the earliest to reform. After an absence for several years from the National Convention of Insurance Commission- ers, the commissioner of Massachusetts re- turned, but only when W. D. Whiting, the actu- arial sponsor of the gain and loss exhibit, was dead, his place having been taken by a younger champion, of far less experience. In the con- vention, after the re-entrance of the commis- sioner of Massachusetts, two fights were made. The first was led by him and was to exclude con- sulting actuaries from the convention, such hav- ing been admitted previously when accredited as actuaries of departments. To this there would perhaps be no objection, though the ani- THE GAIN AND LOSS EXHIBIT 375 mus, viz., vengeance for the support of the gain and loss exhibit by consulting actuaries, is obvi- ous. Yet, as has been stated in these pages, the employment of such actuaries by departments to examine companies which they also served had become scandalous. But what the conven- tion did was to except from the rule every resi- dent actuary connected with a department who also did consulting work for companies if not on the basis of a salary or time retainer. Thus they have left the very worst abuse untouched to this day. The other fight was upon the gain and loss exhibit itself, and was led bv the second deputy of the New York department, who was for the first time sent to the convention to represent his department. The conditions were peculiar. "With Mr. Whiting dead, and several of the com- missioners who oriarinallv supported the pro- posal, out of office, the championship of its con- tinuance was much weakened, and, although it had mustered a maioritv of the votes thereto- fore, it had actually been enrplovpd by only seven departments altogether, the others dis- creetly dodging the annoyance of company protests. Moreover, it was known that several departments would probably call for it in any event. And under these conditions the conven- tion voted against the exhibit. The trouble is that, while most of the com- parties had ceased to object strenuously, the pub- lic, which needed the information so seriously, did nothing as is usually the case ; and, in con- sequence, the public servants, wittingly or un- wittingly, served the companies and not even the true interests of the companies instead of the people. The commissioner of Tennessee considered his department bound by the action of the con- vention of which he was a member, although the opponents of the exhibit had never construed their duties in such a fashion. The Illinois de- partment also abandoned it. The commissioner of Connecticut has called for the exhibit from each company every year, but since this action of the convention has not made the individual exhibits public. The commissioners of Wiscon- sin, Minnesota and South Dakota alone re- mained faithful, and their reports have been in great demand every year since that time. The interest in this part of the report has caused the commissioner of Minnesota to reprint in pamph- let form the gain and loss exhibit, and it has had a wide circulation. Leading insurance papers also republish a wealth of tables and ratios from it, and a consulting actuary, residing in Massa- chusetts, every year publishes the same in more detailed form for the use of agents and in- sured. The following is the form of the exhibit: THE GAIN AND LOSS EXHIBIT 377 GAIN AND LOSS EXHIBIT DURING YEAR OF STATEMENT CREDITS. Divisible surplus, December 31st, '04 $ Total gross premium receipts $ Deduct total net premiums $ Loading earned $ Interest, dividends, and rents $ Profit and loss items $ Interest earned $ . .crease in market values $ Expected mortality on insurance $ Deduct expected mortality on reserve. . . .$ Expected mortality on net amount at risk $ Expected payments on annuities $ Deduct reserves expected to be released by death $ Expected net payments on annuities $ Reserves released on surrendered and lapsed policies $ (Of the above $. . . . was from policies upon which three years' premium had not been paid.) Dividends released on surrender and lapsed policies $ Credit balance unaccounted for $ Total credits $ 378 BUSINESS OF LIFE INSURANCE DEBITS. Expenses incurred: Insurance $ Expenses incurred: Investment $ Total management expenses $ Interest required to be earned to maintain reserve $ Death losses incurred $ Instalment death claims incurred (com- muted value) $ Total debits $ Deduct : Reserves released by death of insured. . . .$ Compromises on losses $ Actual net mortality on insurance $ Annuity payments incurred $ Deduct reserves released by death of an- nuitants $ Actual net payments to annuitants $ Cash values paid for surrender and lapsed policies $ Values applied to purchase extended in- surance $ Values applied to purchase paid-up insur- ance $ Total surrender values $ (Of the above $. . . . was for policies upon which three years' premiums had not been paid.) THE GAIN AND LOSS EXHIBIT 379 Dividends to policyholders $ . . crease in deferred apportioned divi- dends $ Total dividends incurred to policy- holders $ Dividends to stockholders $ Special credits or reserves to policyhold- . ers not herein provided for (state name).. . .$ Debit balance unaccounted for $ Divisible surplus, December 31st, 1905 $ Total debits ' $ Source of net gains or losses, distribu- tions to policyholders and payments to stockholders : Divisible surplus December 31st, 1905.$ (a) From loading $ (b) From mortality $ (c) From annuities $ (d) From surrender and lapsed policies. $ (e) From surplus interest $ Total realised $ . . crease in market values $ Surplus earned (or lost) during the year..$ Total $ DISTRIBUTIONS FROM SURPLUS. Dividends paid policyholders in cash $ Dividends applied by policyholders in re- duction of premiums $ 380 BUSINESS OF LIFE INSURANCE Dividends applied by policyholders to pur- chase paid-up additions $ Dividends paid stockholders $ . .crease in unpaid dividends $ . .crease in deferred dividends $ . .crease in special credits or reserves to policyholders $ Surplus applied during the year. . . .$ State present basis of computation Divisible surplus December 31st, 1905.$ Mortality table, or tables Interest rate, or rates Insert the words "gain" or "loss," "in- crease" or "decrease" in each case, whichever may be required. This exhibit is really nothing more nor less than a "profit and loss" statement, such as every business firm and company requires to be taken off at least once a year for the information of all parties in interest. The policyholders in all mutual companies and the holders of participating policies in other companies are parties in interest. They have every right to know what prof- its are earned and whence derived, what sal- vages have been made and how the margins have been disposed of, and not only should such THE GAIN AND LOSS EXHIBIT 381 an exhibit, as complete and intelligible as possible, be required of every company, but every company should also be required to put a copy in the possession of every policy- holder. Of the value of the exhibit, Hon. John A. McCall, president of a leading life insurance company, and known as the most able, efficient and unswervingly upright insurance super- intendent New York has had, made the following statement before the National Convention of Insurance Commissioners in 189S: "As it is the province of history to teach us how we may avoid the mistakes of our pre- decessors, I venture to suggest the following as some of the safeguards suggested by this study : "1. The utmost care in making investments, security to be always the paramount considera- tion. "2. The necessity of frequent revaluations of securities, and of their rigid adjustment to changing conditions. "3. The close study of a company's business upon the principles of the 'Gain and Loss Ex- hibit/ now required by several insurance de- partments. "4. The assumption, for purposes of practi- cal administration, of a higher standard of re- 382 BUSINESS OF LIFE INSURANCE serve than that by which the company's sol- vency is tested under the law." Some of the objections that have been brought to it part of which are good reasons for asking for its amendment, but none valid arguments for doing away with it are as follows : First. Under * ' loading earned, ' ' as compared with " expenses incurred," the company which employs the preliminary term plan gets credit, not for more loading in the aggregate through- out the life of a policy, but for a larger part at the outset. Also companies do 1 not "load" alike, some adding little and others much. Therefore, this is no test of economy. Granted. This is a profit and loss statement. It shows what the company has left, if anything, from its own provision for expenses, and it has done something and may do more to cause com- panies to cut off unnecessary expense. Moreover, it can easily be made a test of economy both in management and in cost of new business by dividing the statement into two parts, one showing the loading and cost of new business for the first year of insurance, and the other the renewal margins and the expenses of management. The commissioner of Wisconsin has extracted this information, and, although he does not publish the figures for individual com- panies, he gives the following totals for the business of the year 1903 : THE GAIN AND LOSS EXHIBIT 383 POLICIES IN FORCE LESS THAN ONE FULL. YEAE THIRTY-FOUR COMPANIES. Total expected death losses, Amer- ican Experience Table $ 9,144,952.66 Total actual death losses incurred (not deducting reserves) 5,157,637.50 Total loading on first year's pre-- miums collected 12,795,932.91 Total expenses chargeable to first year : 1. Commissions ..$25,525,078.17 2. Other expenses. 11,101,091.72 Total expenses first year $36,626,169.90 Total renewal premiums received. .$241,986,533 Total expenses $71,276,612 Less first year 36,626,170 $34,650,442 By means of such tables for each company, if provided, the policyholder or applicant could apply a reasonably just test of economy in first- year expenses and in expenses of management to every company. Second. The items, " interest, dividends and rents, profit and loss items, increase or decrease in market values," on one side, and "interest required to make good the reserve," on the other, will show a much larger profit in a com- pany carrying a large accumulation of surplus under deferred dividend plans than in one car- 384 BUSINESS OF LIFE INSURANCE rying a smaller surplus, though the latter may be realising a better rate. True ; but the larger surplus really is earned, is it not? What should be done to remedy this is under the head, "Distribution from Surplus," at the foot of the exhibit, to require the full net interest, actually to be credited to the accumula- tion of surplus, to be so dealt with. The inclusion of changes in market values is also criticised ; but to the extent that they are voluntarily or compulsorily embraced in the statement of resources and liabilities, they cer- tainly should be included here. A profit and loss statement must accord with the rest of the report, i. e., must start with the surplus at the beginning of the year, as shown by the financial statement, and close with the surplus at the end of the year. Third. The item of "expected mortality on* net amount at risk," it is said by some objec- tors, is not susceptible of exact calculation and must be estimated, thus vitiating the entire ex- hibit. The objection has only the basis that, when a company attempts to arrive at this directly, it is a tedious' process, usually liable also to errors. But it does not need to be undertaken directly. The total gain or loss is shown by reference to the financial statement. Every other item that makes up that total may be ascertained with THE GAIN AND LOSS EXHIBIT 385 ease ; the remaining profit or loss is from mor- tality under or over the expected. The amount of the "actual net mortality on insurance" is readily determined; this, together with the profit or loss on mortality, gives the "expected mortality on net amount at risk," without both- ering with the "expected mortality on insur- ances" and "expected mortality on reserves." The process of elimination here described is the simple and reasonable way to obtain the desired information. Fourth. Mortality is expected to be higher in industrial companies. True ; but if the industrial companies, volun- tarily or compulsorily, get up their statements on the basis of the standard tables, instead of by tables deduced from industrial experience, the apparent profit and loss should follow the statements. To do so merely transfers the ap- parent profit to the difference between loading and expenses. Fifth. The items, "expected net payments on annuities" and "actual net payments to an- nuitants, ' ' are likely to show a loss when a gain has really been secured, if the standard tables of mortality among insured lives are used. But, in the first place, if and when annuities were valued, as they ought to be, by tables de- duced from experience with annuitants, the ob- jection would fall to the ground, and, again, if 386 BUSINESS OF LIFE INSURANCE the financial statement is to show a fictitious surplus by undervaluing annuities, there is no impropriety about making the profit and loss statement correspond. The gains are by this method thrown into the margins on loadings of premiums. The foregoing are the chief objections that have been urged, usually speciously and because companies did not enjoy the disclosures which the exhibit makes of defects of management. The objections could be obviated very easily so far as they call for remedies or improvements, and ought to be, as follows : By stating the loading upon premiums for the first year of insurance separately and also ex- penses for that year. By stating expected and actual net mortuary losses for the first year separately. By requiring industrial insurance mortality, both expected and actual, to be stated separate- ly, using a proper table to measure it. By requiring margins on non-participating business to be computed and reported sepa- rately. By requiring the interest for the accumula- tion of deferred dividends to be set aside defi- nitely for that purpose. By requiring the expected net payments on annuities to be computed according to a life table from the experience with annuitants. THE GAIN AND LOSS EXHIBIT 387 Even in the absence of these amendments, however, the gain and loss exhibit is, next after the financial statement, much the most valuable guide a person intending to purchase life insur- ance can have, both in regard to the company's prospects for success and also in regard to the earnings currently realised for holders of par- ticipating policies. Its utility as an indication of a company's prospects has been shown very clearly in sev- eral instances. Thus the failure of a certain small New York company was plainly forecast by it, for several years, and the recent troubles of two others of the smaller companies were quite as plainly foretold several years in ad- vance. Lawmakers could perform no better service for the public than to enact laws requiring this exhibit to be made each year by every company in as simple and self-explanatory form as possi- ble, and a copy to be sent, with a copy of the company's financial statement, to each policy- holder. The exhibit can be made, as has already been proved, a most powerful engine to secure reform of methods which now prevent life insur- ance from being as beneficial and economical as it should be and cause it only too often to be purchased under a misapprehension as to the earnings and the prospects for dividends. CHAPTER XXXIV HINTS AND HELPS IN PUECHASING LIFE INSUEANCE IN purchasing life insurance the intending ap- plicant has the following matters to consider : 1. His own requirements and responsibilities. 2. His ability to pay premiums. 3. The soundness of the company's plans. 4. The solvency and strength of the company. 5. The earning power of the company. 6. The dividends actually paid to individual policyholders. 7. The terms and conditions of its policies. Upon each of these something may be said for his guidance. Every man is, from the very fact that he is a man, subject to the risks of personal disability and of premature death, as well as certainly des- tined to die some day. Therefore, the occasion for life insurance always exists. But the need for it is sometimes not so obvious, and the amount required, as well as the form of policy most suitable, depends upon conditions peculiar to the individual. 388 HINTS AND HELPS 389 Any man, perhaps, would be unwise, in view of possible future engagements, to assume that he will never have reason to protect any person against loss by his death, merely because no per- son at this time has such claims upon him. Yet it must be acknowledged there are now and then individuals who know to a moral certainty that there will be no need for insurance upon their lives. As to the average man, it might safely be pre- mised already in his infancy that he will re- quire, in order to cover the financial loss to others that will be caused by his death, if he lives to, say, age 25, a certain minimum amount of life insurance sufficient to support, in a very economical fashion, a widow and one or more children. And, on several grounds, it would be well if, in the same manner that parents make other provisions for the future responsibilities of their children, they were to provide for the going into force, promptly upon the young man's attaining his majority, for instance, of a moderate amount of life insurance at a mini- mum cost. This can be done at a very small an- nual investment by the parents during the boy's minority, securing for him the attaching of the insurance at age 21, without regard to the then state of the health of the insured and at the same low rate. Thus by the payment from birth of $8.55 per annum, returnable if the boy dies 390 BUSINESS OF LIFE INSURANCE before 21, an insurance of $1,000 of the sort de- scribed might be furnished, paying the company the same margin of loading as one beginning at 21, which would cost $19.62 per annum, and which would have much less value. Since, also,by reason of personal condition or of changed fam- ily history, many of the boys who reach 21 will be uninsurable and so unable to cover their re- sponsibilities, by life insurance, if not provided for in this way, it is evident that this small in- vestment would be a wise one. But, in any event, there can be little doubt that every young man at the outset of his adult life, whether already burdened with the respon- sibilities of a family or not, has such probabili- ties that there will, ere long, be interests depend- ing upon his survival which it will be his duty to guard and that he may, when that time comes, not be safely insurable, that he is not warranted in deferring taking ^-n that reasonable amount of life insurance which will provide bare necessi- ties for those who may be dependent upon him. How much ought this to be I The answer must necessarily differ with the conditions ; but it is, perhaps, safe to say that for the average clerk, employee, small tradesman, skilled workman and the like in the larger cities, it should be suffi- cient to produce an income for twenty years of not less than $500 per annum. This, discounted at interest at 4 per cent., would call for an insur- HINTS AND HELPS 391 ance of nearly $7,000. If the policy is taken out promptly upon attaining majority, it would cost, at the lowest whole life non-participating rates, $105.07, or about one-tenth of the average in- come, perhaps, of the members of this class and much more than that percentage of the income at the outset. Delay will result in a higher cost also. The purchase of participating policies, also, would increase the cost about 40 per cent, at the outset, but if the company has been care- fully selected and if the dividends are drawn annually in cash, the net cost may be as low or lower. It is worthy of note that, on the same basis as the non-participating rates are com- puted, a similar policy, secured by the parents paying from the birth of the child, would cost from the boy's majority only $6.54 per $1,000, or $45.78 per annum in all. In the smaller cities, towns and villages about two-thirds of this provision, or, in round num- bers, $4,500 to $5,000 of life insurance, will an- swer, and day labourers in town and country, according to the usual scale, require a minimum provision of, say, 40 per cent, of the sum first mentioned, or a life insurance of from $2,500 to $3,000. In each case, if the insurance be taken at once upon attaining one's majority, the cost should not exceed 10 per cent, of the average earnings. Some increase in this ratio of cost to income is justifiable, surely, in order to secure a 392 BUSINESS OF LIFE INSUEANCE corresponding protection against disability by accident or disease and a provision for old age; the necessary increase, if the insurance is taken at the age of 21, would be to about 12 1-2 per cent, to 14 per cent, of the income. A diminution of the total life insurance by from one-third to two-thirds below this proper mini- mum in order to increase the element of in- vestment so as to defer the dividends for twenty years, to pay for the policy in twenty years or to mature as an endowment in twenty years or less, or anything of the sort, is an abuse of life insurance, the purchaser being seduced by the hope of personal gain into failing to per- form his full duty. The only conceivable defence for this is that many a man has been lured into performing some part of his duty by the absurd expectation that, after furnishing insurance for twenty years, the policy would yield impossible profits. Efforts have been made from time to time to determine scientifically the value of a man's life in order to fix the amount of insurance that he should carry. The usual course has been to com- pute the present value of his surplus earnings- some would use the entire earnings for the term of his expectancy, as if he were certain to live that long and no longer, or else the present value of an annuity upon his life for this amount. Neither of these methods accords with HINTS AND HELPS 393 tHe facts, which call for the elimination of the period of old age and also for deduction for probable loss of time by disability, provision against which cannot be made by life insurance, but must be made, if at all, by health and acci- dent insurance. The argument is that if a man owns a building, producing a certain rental in- come, he insures against the loss of that income by fire, and so he should against this loss of in- come. But a man does not take fire insurance to provide an income, but merely to cover the value of the building alone, i. e., to enable him to build again, and in taking life insurance a similar rule calls for considering what is intended to be ac- complished, and the wise man makes the pro- vision which is actually required, or is likely to be, for the maintenance of those to whom he owes that duty. To pay up the insurance in a short term or to cause it to mature at a given age, if the insured survive, are in themselves desirable; but they are justifiable, as has been said, only in case a sufficient provision against the financial loss be- cause of the insured 's death has actually been made. When the policyholder has secured, there- fore, the protection for those dependent upon him which he knows will be requisite in order to enable them in event of his death to be main- tained as he would have them maintained, he can with propriety increase the amount of his in- vestment in order to mature the policies as en- dowments, for instance, or to pay them up in a short period ; but, even in that case, in view of the possible turns which fortune may take, he ought to insist that these policies be convertible into whole life insurance, upon favourable terms, at the end of any year, so that he may be as nearly certain as possible that he can keep the insurance in force. Proper attention to the question of the sound- ness of the plans of insurance offered by a com- pany is requisite also. In every community there can be found aged men and men otherwise infirm and uninsurable who relied upon an un- sound plan of insurance which could not and did not " finance out," as the expression goes, but instead either left them without protection or called for an outlay so much higher than was anticipated and than would have been necessary, if paid from the outset, that they could not con- tinue. Even as "temporary protection," for which many men wKo carry insurance of this na- ture have taken it, it is not desirable unless the applicant has a sufficient amount of insurance upon sound plans already, and not then unless he is prepared to meet the inevitable increase in rates without complaint, or, as is his privilege, to drop out without resentment. Legal reserve companies may usually be re- lied upon to be offering sound plans, but now HINTS AND HELPS 395 and tEen this has not been the case, owing to the remissness of State officials, as, for instance, when "investment bonds" were permitted to be sold. Yet all that a legal reserve company actu- ally guarantees is sure, so far as sound plans can make it sure, because the reserve held, to- gether with the future premiums, will at least enable the performance of all that was guaran- teed. But promises that are not a part of the guarantees should be accepted with great cau- tion. Some of the fraternal societies are now ope- rating on sound plans and with adequate rates. Two of them carry the full legal reserve, and, while charging lower rates than regular life in- surance companies because managed less expen- sively, are on as sound a basis as any regular company. Several others have adopted adequate rates and have made proper provisions for ac- cumulating reserves. Some others have approx- imated this condition and will doubtless make other changes later to make the reapproachment complete. The solvency of a company depends upon something more than the soundness of its plans. "Sound plans" has reference to the mathemati- cal sufficiency of its premiums, but their actual sufficiency depends upon the following: The mortality not being higher than as per the table employed. 396 BUSINESS OF LIFE INSURANCE The expenses and contingencies not absorbing more than the loading. The funds being safely invested and yielding interest at least equal to the assumed rate. One or even two of these may not be true in a particular case, and yet solvency may be main- tained because the loss by these is more than offset by the margin of profit in the other. There might even be an instance also of mere solvency being assured by gains from forfeitures, though all three of these were to show a loss. But sol- vency on such terms is precarious. The character of the assets is also a most important determinant of the solvency and strength of a company; but the policyholder must not be misled by the appearances into sup- posing that an extremely long list of quoted se- curities is conclusive evidence of a company's superiority. The contrary is the case, in some instances, at least. Life insurance companies have little occasion to realise quickly, and the possession of too long a list of quoted bonds and stocks might mean that the management is spec- ulating upon variations in quotations. The existence of a considerable surplus is deemed an evidence of strength, as indeed it is. But the best evidence of strength and security, beyond mere solvency, is continued and unabat- ing margins of surplus from year to year, es- pecially if liberally contributed by each of the HINTS AND HELPS 397 sources mentioned. Better proof of fundamental vigour can hardly be expected and is rarely to be had. A study of the gain and loss exhibit is impor- tant, therefore, even though the applicant pur- poses purchasing non-participating insurance, for it goes to the question of the strength of the company. But it is of yet greater importance if the policy is to be participating, because in that way only can the applicant obtain a good gen- eral idea of the relative prospects for surplus- earning of the various companies. Yet the thing of the greatest significance always supposing that a company is not dividing each year more than was really earned is the actual dividends paid to individual policyhold- ers. Not the total dividends paid and allowed, but the actual payments to each individual pol- icyholder. If the applicant is going to buy an annual dividend policy he should require the candidates for his favour to show him the scale of annual dividends, actually paid in the current year by their respective companies upon policies one year old, two years old, etc., of the exact kind he is considering and issued at his exact age. Or, if the company will not furnish this schedule and why a company should refuse to do so unless conscious of its inferiority it is hard to see he should insist upon the records of, say, four such policies, names and addresses being 398 BUSINESS OF LIFE INSURANCE given, issued respectively five, ten, fifteen and twenty years ago, each with annual dividends. As to deferred dividends, companies that have completed such periods usually furnish actual results as illustrations; but it is necessary for the applicant to bear in mind that interest was higher and expenses lower years ago and that these results are not very likely to be duplicated. He should also examine the statement of the company and its gain an^d loss exhibit carefully to ascertain whether the company is actually earning a good margin of surplus and carrying such an accumulation as the sample dividends would call for, or appears, on the other hand, to be paying these dividends which should have been accumulating for years, wholly or in large part from current earnings. If it is possible for the applicant to learn whether the company is known to pay excessive commissions which he may usually do upon careful inquiry that is also a strong indication whether good dividends are to be expected. The companies whose entire expense for new busi- ness is far within the percentages named in a previous chapter on this subject are invariably paying excellent dividends, while several com- panies which of old had unexcelled reputations for the payment of dividends have fallen far back since they adopted extravagant scales of first year's commissions. HINTS AND HELPS 399 Especially when the applicant is offered a very liberal rebate should he be suspicious that the commissions are too high to enable the com- pany to pay its policyholders so good dividends, as if it were to pay no commissions whatever and do little new business, instead of better. The applicant should inspect with great care the policies submitted to him, comparing them with the requirements, set forth in a previous chapter, for "The Ideal Policy." A general and insistent demand for the best will cause all good companies to write them. He should carefully take into account the possible exigencies of his own future and aim to take a policy which will not embarrass him unduly, without regard to the changes which may take place in his condi- tion physically, but will be a friend, no matter what happens. CHAPTER XXXV EEMEDIES NOTWITHSTANDING that this book has had to do chiefly with the merits and beneficence of the institution of life insurance, there have been found flaws and errors which required notice and criticism, and it would not be fair to leave the reader without a suggestion as to the appro- priate remedies. First and foremost, the lessons of life insur- ance history, enforced by recent events, demon- strate that the formation of purely mutual com- panies, required by law to maintain solvency, should be encouraged. The organisation of mu- tual societies to operate on unsound plans, on the other hand, should not be permitted. At present precisely the contrary is the fact. Mutual companies may be organised freely to operate on unsound assessment plans, but may not be organised at all under the legal reserve laws. Whether this came about through the cupidity of existing companies, desiring a mo- nopoly, or through the stupidity of legislators who, being influenced by no present interest, 400 REMEDIES 401 calling for such powers, blindly shut the door against the enterprise of the future generations, does not much matter. It has resulted in the evils of assessmentism assuming gigantic pro- portions and also in many grievous ills in life insurance companies operating on sound plans. No remedy can go to the root of the matter, therefore, which does not provide for the organi- sation of regular mutual companies. That is the first essential thing for a good law. The second is to enable the mutual company to conduct its business successfully, while main- taining complete solvency. Under existing con- ditions this cannot be done, except by employing the subterfuge of making the first yeaf*s pre- mium, in part or wholly, a one-year term pre- mium, and this also is not permitted in at least one important State. What is needed is that the legal reserve requirements follow the facts and do not charge companies a reserve to cover a higher mortality during the first five years of insurance than will be experienced, but instead, by computing the true liability as exactly as pos- sible, set free the funds which on a most econom- ical basis are required in order to secure the benefits for all which accrue from the accession of new members. Such a modification of the reserve laws, so as to admit of the use of what is known as "select and ultimate" reserves during the first five 402 BUSINESS OF LIFE INSURANCE years, should, of course, be permissive only, leaving companies free to employ a higher re- serve standard if they choose, but it should be the minimum standard because fairly a test of solvency on the basis of participation as pro- vided by the premiums. If there be no such modification or if resort be not had to preliminary term, as stated the mutual company cannot meet its expenses for the first year of insurance, out of the "loading" in the usual premium, and so cannot succeed, un- less by being placed under financial obligations for money advanced to purchase business al- ways a serious thing and usually a means of un- limited ' ' graft. ' ' It results also in participating premiums being higher than would otherwise be necessary. A bill modifying the law as stated was passed bv the New York Assembly in 1905 and was on third reading in the Senate when it adjourned. It was not pressed for passage, because unex- pected opposition was encountered; but it had been approved by leading experts and by sev- eral of the principal companies. It is often proposed to limit commissions, or even the total expenditure for new business, by law, to a certain proportion of the new pre- miums or to the loading upon the first year's premium. Were the latter attempted, the tendency to REMEDIES 403 higher premiums would be more pronounced than now, and the law would, besides, be evaded continually, of necessity, unless the company re- sorted to preliminary term, in which case the statute would be valueless as a restraint upon wastefulness, if the whole premium on limited- payment life and endowment plans were treated as being paid for by one-year term insurance. If the reserve laws were rectified, so that small and new mutual companies, operating on sound plans and maintaining complete solvency, could be established wherever desired, the re- quired reserve being what is reasonably needed for solvency, these companies, with their econ- omy and their lower premiums, would perhaps set such a standard of economical efficiency that compulsory regulations would be unnecessary. Indeed, more than one of the larger companies would make use of this natural limitation of profitable expenditure promptlv. In the reports of companies the following things are greatly to be desired, viz. : Complete returns of investment and loan transactions throughout the year. The gain and loss exhibit, made mandatory and not at the option of the commissioner, and perfected, especially so as to distinguish be- tween participating and non-participating, ordi- nary and industrial, expenses and losses for the first year and for other years. 404 BUSINESS OF LIFE INSURANCE Scales of dividends, actually paid or allowed the year previous, on the different classes of pol- icies issued, for several sample ages and for all durations, and statements showing the accumu- lations per $1,000 under different forms of de- ferred dividend policies. In the management of mutual companies the prohibition of proxy voting, and the introduc- tion of direct voting by mail, or in local meet- ings by secret ballot. A provision permitting the retirement of capi- tal stock in all companies operating on the mu- tual or participating plan by the payment of just compensation. Other things of minor moment could be sug- gested, but the foregoing amendments to exist- ing laws and practices would render most of the things nowadays complained of impossible or highly improbable, and would also enable the policyholders to judge discerningly of compa- nies and policies. In other words, the best thing to secure both soundness and the largest returns to policyholders is what was most warmly rec- ommended by Emory McClintock, actuary of the Mutual Life Insurance Company of New York, at the National Convention of Insurance Com- missioners in 1898: FREEDOM AND PUBLICITY. THE END, University of California SOUTHERN REGIONAL LIBRARY FACILITY 305 De Neve Drive - Parking Lot 17 Box 951388 LOS ANGELES, CALIFORNIA 90095-1388 Return this material to the library from which it was borrowed. NOV 1 9 20Q3 UC SOUTHERN REGIONAL LIBRARY FACILITY A 000190297 2 ,ur-RN UN'