Keep It Simple

BY MICHAEL D. WOODS

A Gap in Insurance GAAP? ” ( JofA , Mar.05) is a very nice article—really clever, perhaps even brilliant. But therein is its difficulty. It adds a lot of complexity to the process of valuing a life insurance policy for little return—probably insignificant in any one entity. How much difference does it really make? What would the calculations cost? Would we need to hire an actuary?

If the result were significant, it probably would be in a closely held company. There the cost of compliance is an unneeded burden. It would not improve, but distort the financial picture for such a company’s business purposes.

Would its lenders rely on capitalized payments as the policy value or would they insist on cash value? If the company were sold, would the buyer pay for it, or would we have another set of special-purpose statements to prepare?

In considering the probability of a payoff using life expectancies, the article ignores all the other contingencies. If the policy is discontinued, I imagine recognizing a loss for the difference between premiums paid and cash value received. There are many ways it might be discontinued—retirement, disability, quitting or the company’s being sold. Conclusion: The payoff isn’t really very likely.

Putting it all together, let’s leave things as they are. The simplest solution is usually best, and in this case it would provide a more realistic picture of a company’s condition than the methods proposed.

Michael D. Woods, CPA
Kernersville, N.C.

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