SERVICE RELEASES TABLES OF 1990 DISCOUNT FACTORS FOR LINES OF BUSINESS UNPAID LOSSES FOR P&C INSURERS.

Rev. Proc. 90-23

SECTION 1. PURPOSE

This revenue procedure prescribes the manner in which taxpayers are to apply discount factors under section 846 of the Internal Revenue Code to unpaid losses as reported in the new configuration of lines of business that was adopted for the 1989 annual statement for fire and casualty insurance companies.

SEC. 2. BACKGROUND

01 Section 846 of the Code provides rules for determining the discounted unpaid losses of property and casualty insurance companies. Discounted unpaid losses are a component of the losses incurred deduction of section 832(b)(5). Section 846(a) provides that discounted unpaid losses are separately computed for each accident year of each line of business by applying an annual interest rate determined under section 846(c) and the appropriate loss payment pattern to the amount of undiscounted unpaid losses (and unpaid loss adjustment expenses) measured as of the end of the tax year.

Section 846(d) of the Code directs the Secretary to determine a loss payment pattern for each line of business that is applicable to unpaid losses attributable to the accident year ending with a determination year (calendar year 1987 and each fifth calendar year thereafter) and to each of the four succeeding accident years.

Section 846(e) of the Code allows an eligible taxpayer to make an election in each determination year to use its own historical experience to determine a loss payment pattern for each accident year of each line of business.

Section 846(f) defines the term "line of business" as a category for the reporting of loss payment patterns on the annual statement for fire and casualty companies approved by the National Association of Insurance Commissioners (NAIC).

02 Pursuant to the directives of section 846, the Internal Revenue Service annually publishes a series of discount factors for each line of business computed on the basis of an annually revised interest rate and loss payment patterns determined for each determination year. Discount factors applicable to unpaid losses attributable to 1987 and prior accident years are published in Rev. Rul. 87-34, 1987-1 C.B. 168. Discount factors applicable to 1988 accident year losses are published in Rev. Rul. 88-63, 1988-2 C.B. 130, and those applicable to 1989 accident year losses are published in Rev. Rul. 89-66A, 1989-1 C.B. 220.

03 (1) The NAIC has adopted several changes to the reporting of unpaid loss experience on the annual statement. Beginning with the 1989 annual statement, unpaid losses previously reported on Schedule O and Schedule P are reported on a revised Schedule P. In addition, the contents of several categories for the reporting of unpaid losses have been changed as described in sections 2.03(2) and 2.03(3) below.

(2) In two cases, unpaid losses that were reported in one line of business on annual statements for 1988 and prior years are now reported in several different lines: (a) Unpaid losses for the automobile liability line of business are now reported in two lines of business (private passenger auto liability/medical and commercial auto/truck liability/medical); and (b) Unpaid losses for the single line of business that included farmowners multiple peril, homeowners multiple peril, commercial multiple peril, ocean marine, aircraft (all perils), and boiler and machinery are now reported in three different lines (homeowners/farmowners, commercial multiple peril, and special liability).

(3) In three cases, unpaid losses that were reported in separate lines of business on annual statements for 1988 and prior years are now reported as one line: (a) Unpaid losses for the fire, allied lines, inland marine, earthquake, g1ass, and burglary and theft lines of business are now reported together in one line of business; (b) Unpaid losses for the fidelity, surety, and financial and mortgage guaranty lines of business are now reported in one line; and (c) Unpaid losses for the credit and credit accident and health lines of business are now reported in one line.

04 In the 1987 determination year the Secretary determined a separate loss payment pattern for each line of business that, pursuant to section 846(d)(1), must be applied through the 1991 accident year. Because these patterns were computed on the basis of aggregate industry loss experience as reported on the 1985 annual statement, they do not correspond to the new configuration of lines of business for the reporting of unpaid losses on the 1989 annual statement. The statute provides for redetermination of payment patterns only once every five years. Thus, payment patterns cannot be redetermined until the 1992 determination year. Furthermore, published loss experience data necessary for computing payment patterns on the basis of the new configuration of lines of business does not currently exist.

05 A taxpayer that in 1987 made a valid election under section 846(e) is required by that section to redetermine a separate loss payment pattern for each accident year of each line of business based on its own experience. These payment patterns are determined using unpaid loss experience as reported on the annual statement for the most recent year filed before the beginning of the accident year for which the payment pattern is determined. For example, payment patterns determined for the 1989 accident year are generally determined on the basis of 1987 annual statement information. Thus, these payment patterns do not correspond to the new configuration of categories for the reporting of unpaid losses on the 1989 annual statement.

06 Once a series of discount factors has been applied to unpaid losses attributable to an accident year for a line of business, that series cannot be subsequently redetermined and must continue to be used from one tax year to the next to discount those losses. S. Rep. No. 99-313, 99th Cong., 2d Sess. 504 (1986), 1986-3 C.B. (Vol. 3) 504.

SEC. 3. SCOPE

This revenue procedure applies to any taxpayer that is required to discount its unpaid losses under section 846 and that files with insurance regulatory authorities of a state or territory the annual statement for fire and casualty companies approved by the NAIC. Thus, it generally applies to insurance companies taxable under section 831(a). This revenue procedure applies on1y to the annual statement changes described in section 2.03 of this revenue procedure and only for accident years before the first accident year for which discount factors are computed (either by the Internal Revenue Service or by an electing taxpayer) for the new configuration of lines of business that was adopted for the 1989 annual statement.

SEC. 4. PROCEDURE

01 SPLIT LINES. If unpaid losses attributable to a single line of business for which the Internal Revenue Service (or a taxpayer electing to use its own experience under section 846(e) of the Code) has determined discount factors must subsequently be reported in two or more new lines on the annual statement, the discount factors determined for the original single line shall continue to be used to discount unpaid losses reported in each of the new lines.

02 COMBINED LINES. This section 402 provides taxpayers with two options for applying discount factors to unpaid losses that were reported in separate lines of business on annual statements for 1988 and prior years but are reported in one line beginning with the 1989 annual statement. A taxpayer using either option applies discount factors determined on the basis of the previously separate lines to unpaid losses reported on the new combined line of business. The options differ in the manner in which the unpaid losses reported in the new combined line are allocated among the previously separate lines for purposes of applying these discount factors.

No allocation must be made in the case of unpaid losses attributable to accident years for which discount factors are the same for each of the previously separate lines of business. Not allocating these losses does not violate the vintaging requirement described in section 2.06 of this revenue procedure. Discount factors published by the Secretary are the same for each of the previously separate lines of business in the case of all accident years other than the accident year ending with the year for which an annual statement is filed. Thus, for example, a taxpayer that applies these factors allocates among the previously separate lines of business only those unpaid losses reported for the new combined line of business that are attributable to the accident year ending with the annual statement year. No allocation is required for prior accident years. Similarly, a taxpayer that in 1987 made a valid election to use its own experience under section 846(e) must allocate among the previously separate lines of business only those unpaid losses reported for the new combined line of business that are attributable to an accident year for which the taxpayer computes different discount factors for the previously separate lines of business (see section 2.05 of this revenue procedure).

A taxpayer must elect one of the following allocation options by printing or typing "Rev. Proc. 90-23 Option One" or "Rev. Proc. 90-23 Option Two" at the top of Schedule F of its timely filed (including extensions) income tax return for the tax year ending with or within the 1989 calendar year and by using that option in discounting all unpaid losses described in section 2.03(3) of this revenue procedure on that return. For returns filed on or before May 16, 1990, the election may be made on an amended return filed on or before September 17, 1990. Once the election is made, it cannot be changed and remains in effect for all accident years to which this revenue procedure applies.

(1) OPTION ONE: ALLOCATION BASED ON TAXPAYER'S ACTUAL EXPERIENCE REFLECTED IN RECORDS OTHER THAN THE ANNUAL STATEMENT. For each accident year for which this revenue procedure requires an allocation, a taxpayer electing Option One allocates unpaid losses reported in the new combined line of business to each of the previously separate lines on the basis of its actual experience reflected in underlying books and records that segregate unpaid losses in accordance with the previously separate lines of business. A taxpayer electing this option must maintain records necessary to support its allocation.

(2) OPTION TWO. ALLOCATION BASED ON TAXPAYER'S EXPERIENCE AS REFLECTED IN PRIOR ANNUAL STATEMENTS. For each accident year for which this revenue procedure requires an allocation, a taxpayer electing Option Two allocates unpaid losses reported in the new combined line of business to each of the previously separate lines of business in the same proportion that the total of losses for each such separate line reported on the annual statements of the taxpayer for 1986, 1987, and 1988, bear to the total of losses for all the previously separate lines of business reported on those annual statements.

This computation is made using only those unpaid losses attributable to the accident year shown in each of these annual statements (1986-1988) that are at the same stage of development as the unpaid losses attributable to the accident year of the new combined line of business that are being allocated. Thus, for example, in the case of a taxpayer applying discount factors published by the Internal Revenue Service, only unpaid loss amounts attributable to the current year (AY + 0) from each of the prior annual statements are used, because for such taxpayers an allocation must be made only for AY + 0.

03 FINANCIAL GUARANTY. Unpaid losses attributable to the financial guaranty and related lines of business are discounted using the "Miscellaneous Casualty" discount factors published by the Secretary.

04 EXAMPLES. The following examples illustrate the procedures of this revenue procedure. They do not display the level of mathematical accuracy that may be required of calculations made by a taxpayer for purposes of filing an income tax return:

EXAMPLE (1). X Corporation, a calendar year taxpayer, is a property and casualty insurance company. X has not made an election under section 846(e) to use its own historical loss payment pattern. Since 1970, X has written policies in the automobile liability line of business. Beginning with the 1989 annual statement, X must report its unpaid losses for this line of business in two different categories: private passenger auto liability/medical and commercial auto/truck liability/medical.

See Table 1 for applicable discount factors and for the amounts of unpaid losses for the auto liability, commercial auto, and private passenger lines of business shown on X's 1988 and 1989 annual statements.

                       REV. PROC. 90-23 TABLE 1

EXAMPLE (2). Y Corporation, a calendar year taxpayer, is a property and casualty insurance company. Y has not made an election under section 846(e) to use its own historical loss payment pattern. Since 1980, Y has written policies in both the fidelity and the financial guaranty lines of business, and has written no policies for the surety line of business. Beginning in 1989, Y must report its unpaid losses for these lines of business in the same category on the annual statement. On its 1989 tax return, Y elects option one of section 4.02 of this revenue procedure.

See Table 2 for applicable discount factors and for the amounts of unpaid losses for the fidelity, financial guaranty, and new combined lines of business shown on Y's 1988 and 1989 annual statements. Y's records demonstrate that, of the $3400 of 1989 accident year unpaid losses shown on the 1989 statement for the new combined line, $2300 is attributable to the financial guaranty line and $1100 is attributable to the fidelity line.

                       REV. PROC. 90-23 TABLE 2

EXAMPLE (3). The facts are the same as in Example (2), except that on its 1989 tax return Y elects option two of section 4.02 of this revenue procedure. See Table 3 for the distribution of unpaid losses for the most recent accident year (AY + 0) of the two previously separate lines of business as shown on Y's 1986 through 1988 annual statements.

Thus, Y allocates its 1989 accident year unpaid losses reported on the 1989 annual statement for the new combined category based on a distribution of 34.78% (3200/9,200) to the fidelity line and 65.22% (6000/9,200) to the financial guaranty line. This results in 1182.52 (3400 x .3478) allocated to the fidelity line of business, 2217.48 (3400 x .6522) allocated to the financial guaranty line, and no amount allocated to the surety line.

SEC. 5. INQUIRIES

Inquiries concerning this revenue procedure should refer to its number and be addressed to the Office of the Assistant Chief Counsel (Financial Institutions and Products), Branch 4 (CC:FI&P:4), P.O. Box 7604, Ben Franklin Station, Washington, D.C. 20044.

SEC. 6. EFFECTIVE DATE

This revenue procedure is effective April 16, 1990, the date of its publication in the Internal Revenue Bulletin.

DRAFTING INFORMATION

The principal author of this revenue procedure is William L. Blagg of the Office of the Assistant Chief Counsel (Financial Institutions and Products). For further information regarding this revenue procedure contact William L. Blagg on (202) 566-3294 (not a toll-free call).