Retained asset accounts – a story with no legs

I try hard not to be cynical when I see news stories that seem to blast insurance companies for practices that are common in the business world.

I should try harder. And I will, at least after I’m done with this story:

Shorter Bloomberg: Insurers make money on the float!

This is the retained asset scandale that, if you follow the insurance industry, has become a bit of a tempest in a teapot.

In a nutshell:

When a person with life insurance dies, the insurance company owes his heirs a death benefit. The picture I have in my mind is that of an agent, eyes cast down, setting one hand on the shoulder of a grieving spouse and extending a check with the other.

But it doesn’t have to happen that way.

Sometimes the insurer puts the money into an account. Instead of sending a check, the insurer sends a checkbook and says, in essence, “Treat this like a checking account. Draw on it as you need it, and if you decide to spend the money or invest elsewhere, write a check for the outstanding balance.”

That is the retained asset account, so named because the beneficiary’s asset (the death benefit) is retained in the accounts of the insurer that paid the benefit.

The Bloomberg story points its finger at Prudential Financial. There’s a lot of discussion, but here are the objections:

  • The company can earn more on the float than it pays in interest.

OK, there’s only one objection. But if that’s a scandal, I can lead Bloomberg to a bigger one. It’s called banking. In banking, people give their money to a company called a bank. If they want, they can take their money out of the bank. However:

  • The company can earn more on the float than it pays in interest.

And the banking industry is even bigger than the life insurance industry.

The special twist that Bloomberg pushes is patriotism. The death benefit covers soldiers who die in combat.

Now Prudential doesn’t insure against combat deaths; it insures servicemen and women in case they die away from combat. The government pays a $400,000 death benefit for combat deaths. Prudential administers that payment.

It sets up the retained asset account. It contacts the relatives. 84% of those relatives cash out within a year.

But! While the money sits in the retained asset account, it earns interest. Bloomberg ominously notes the account paid a 0.5% rate in the first six months of the year while the general account that the money sits in earned a 4.2% rate.

I guess it’s the interest rate issue that burns me up the most, because the reporting of it is grossly misleading and seems intentionally structured this way. And without that issue – no story.

As the vast majority of people cash out of this account within a year, I assume the average time that Prudential holds the death benefit is nine months. I could be off in either direction, but not by a whole lot.

Now let’s look where the 4.2% investment yield comes from. It looks like it’s the annualized yield on the general account of Pru’s Financial Services Business segment. It’s on page 186 of the second quarter 10-Q (pdf here), (you’d go to page 190 using Adobe).  And if you look at that page, you’ll see that the general account money is invested in stocks, real estate, mortgages, etc. – stuff that you wouldn’t hold for an account due in nine months, because it’s not liquid.

But Prudential does that with its general account because the account stands behind longer-term obligations than just the retained asset accounts. The valid comparison would be the rate that Pru credits vs. the yield on high quality bonds of short duration.

Thanks to Yahoo Finance, I know the current 2-year AA corporate pays about 1.0%, and the six-month Treasury pays 0.2%. Now interest rates have been falling, but not that fast, so I’ll just guesstimate that Prudential was earning about 0.75% on the money held in the retained asset account.

So Pru earned 0.75%. And it paid 0.5%.

Egad! Call the FBI! Call the president! And where is Eliot Spitzer when you really need him?

But let’s look at that 0.5% rate a little closer. What do other highly liquid accounts pay?

For this research, I turn to my checking account. It’s paying 0.05%, or one-tenth of what Prudential was crediting.

Now the story harps on the fact that the retained asset account is not insured by the FDIC. So what is the going rate on liquid non-FDIC accounts?

For this, I turn to my money-market account. It’s paying 0.08%, or one-sixth what Prudential pays.

Prudential seems to be paying a generous rate.

Can you see why I’m so frustrated? My guess is a reporter who is smart enough to ferret out what retained asset accounts are, and how they work and is smart enough to dig down to page 190 of a 10-Q is smart enough to know that the 4.2% interest rate is irrelevant and smart enough to know that Prudential is paying a generous rate and smart enough to know there are things called banks that do all of the above.

Now without those facts, you still have a story:

  • The government doesn’t need Prudential to administer the death benefit. The feds know how to mail a check.
  • The insurer should be required to broadcast that the account is not insured.

But Bloomberg published that story, by the same reporter, in July. This time around, the reporter had nothing to write about.

Of course, I should be grateful, because he gave me plenty.



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