method of valuing annuities is explained in most elementary college textbooks on the mathematics of finance.105

The table of annuity values is no more difficult to use than a table of compound-interest or bond-interest rates. As stated above, there is no need for an actuarial department. The function of the actuary under this system is solely to recommend the tables to be used which will result in the equitable distribution among the participants. Even this function is relatively simple compared with the function performed by the actuary for a conventional life insurance company with obligations guaranteed in a fixed number of dollars. Where the annuity is chargeable solely on trust assets, as in the United Variable Annuities program, the liabilities are automatically adjusted to the resources available. Solvency is never in question. Any deviation of actual mortality experience of the group from the assumed mortality experience of the tables will only affect the incidence of the payments of the annuitants. It will not affect the aggregate amount received by the annuitants.

2. The Merging Mortality Myth

The idea has sometimes been advanced that the "merging of mortality" is an insurance function and that any life annuity which involves a merging of mortality should be regulated and supervised by the state insurance commissioner. Surprisingly, this merging-of-mortality theory has been expressed by counsel for several large life insurance companies, although never in a formal statement of any kind.

No case has been found specifically enunciating the merger-of-mortality theory, and search has failed to reveal any real support for this theory. The merging-of-mortality concept seems to be a myth without any foundation.

The mathematical laws of probability are among the greatest discoveries of modern times. They were originally developed in the field of biology and play an important role in the modern sciences of genetics, electronics, atomic energy and insurance. Briefly, scientists have found that what is pure random chance in one instance tends to follow a definite probability pattern in many instances. In one instance we "guess"; in many instances we know of a certainty, or at least a near certainty. The man who makes one bet at a roulette table "gambles," but the owner can predict his profits within a narrow margin. These mathematical laws of probability are not only known but are definite. A life insur

105 E.g., Hummell & Seebeck, Mathematics of Finance 158 (2d ed. 1956); Smail, Mathematics of Finance 54-55 (1953).

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ance company could not issue a life annuity on a single life if it knew there would be no further annuitants. But by using the laws of probability to compile mortality tables life annuities can be written. The company can predict mortality on the basis of the pattern of probabilities which holds true for large numbers on an average basis. The company knows that some annuitants will die quickly and others will live a long time. It knows that its liabilities to all can be met if it has an average experience of the group as a whole.

However, there is no merging-of-mortality except in a figurative sense. The company uses mortality tables to compute its guarantees, but the mortality tables reflect the average experience of a large group of people with whom the company may have no relationship. The company makes a basic assumption that its mortality experience will tend to follow this average mortality experience derived from these other people. As most life annuities written today are nonparticipating, the sole effect of any deviations from the assumed mortality is to provide a gain or loss for the company. In the case of a stock life insurance company this means the stockholders, not the policyholders.

Does the merging-of-mortality concept refer to the original assumptions which went into the makeup of the mortality table or to the actual annuitants of the company? If the former, we are in effect saying that any annuity which is valued on the basis of a mortality table is essentially an insurance instrument. If the latter, we are simply saying that deviations of the actual mortality experience from the assumptions in the mortality table which affect the company or the stockholders is an insurance idea. Neither of these theories would seem worth the mention if they were not held by many people.

As mentioned above, the first effective mortality table used to value annuities was designed in Roman days. The first modern type of mortality table, prepared on what is considered today to be a scientific basis, was developed by an astronomer before there were life insurance companies, and there are many instances of life annuities outside of the insurance field where mortality tables have been used to value the annuities.

The Canadian Government uses mortality tables to determine the rates for annuities which it sells to individuals. The actuary for the Social Security System, for the Railroad Retirement System, and for the Civil Service Retirement System have all resorted to actuarial science to value their commitments to pay life annuities. The Veterans Administration values the reserves which it sets aside to support the annuities

payable to beneficiaries by using actuarial methods and mortality tables. State and municipal retirement plans resort to mortality tables to value the annuities. The Carnegie Foundation for the Advancement of Teaching uses actuarial calculations based on mortality tables to determine how many assets it will need to discharge its commitments to pay annuities. Where several annuities are granted in trust on the death of the testator, mortality tables are used to value the portion of the estate needed to support these legacies. In short, the annuities furnished by life insurance companies are merely one in a long line of different types of annuities relying on mortality tables which in a loose sense "merge mortality."

The annuities provided by pension trusts are even more in point. Here the annuity is not charged against "the person of the grantor only" but is charged against the trust property. Therefore, variations in the actual mortality experience from the expected directly affect the amount of funds available for all annuitants. It might therefore be argued that there is a merging of mortality in the pension-trust cases which are not written by life insurance companies, and there is no merging of mortality in the annuities written by life insurance companies where the obligation to pay the annuity is a direct commitment of the company, where the mortality tables and mortality experience are only incidental to this commitment.

The proponents of the merging-of-mortality concept as the test for insurance regulation may find partial support and solace for their position in one case, In re Supreme or Cosmopolitan Council.106 In that case each member of a fraternal society made annual payments which were invested by the society in income-producing property. Earnings realized, after expenses, were distributed to the members as "dividends." On a member's death, withdrawal or lapse, his "account" was prorated among the remaining members of the "birth year class." The payments were contingent upon the continuation of life and were not a charge on the company but only on the funds. The court held this to constitute the doing of insurance business. The case, however, hardly justifies the reliance put upon it by the champions of the merging-of-mortality cause. In the first place the court's opinion makes no mention whatsoever of the concept of merging mortality. And in general the opinion is cursory and fails to come to grips with many matters one would hope and expect to find. The opinion is bottomed solely on the language of the New York insurance law as it stood after the amendment of 1939. But, fra108 193 Misc. 996, 86 N.Y.S.2d 127 (Sup. Ct. 1949).

ternal benefit societies had often engaged in insurance schemes in that state which were placed under the jurisdiction of the Insurance Department. Apparently there had been no attempt by the Insurance Department to claim jurisdiction over this plan prior to the passage of the amendment, but the reason does not appear. There is no discussion in the case of securities or the meaning of the word "security," and there was no intimation that the society would be subject to regulation by the SEC or by the State Securities Department.

When the New York statute was amended in 1939, insurance companies in that state were not permitted to invest in any common stocks. While a legislative intent that the insurance department should regulate the particular type of scheme involved in the Supreme Council case might have been correctly divined by the court in that case, it would be sheer judicial legerdemain to find a legislative intention that the insurance department should regulate a trust established for the purpose of distributing mutual-fund shares as variable annuities. It is interesting to note that the New York State Insurance Department evidently has not considered that the decision authorizes that office to regulate annuities provided through trusts.

There are other difficulties and complications in attempting to apply the New York law. Section 40(1) of the New York Insurance law provides that "no person shall . . . do an insurance business in the state unless licensed as an insurance company." Section 41(3) defines the term "doing an insurance business" as "the making . . . of of any insurance contracts . . ." Section 41(1) provides that the term “insurance contracts" shall be deemed "to include any agreement or other transaction whereby one party, herein called the insurer, is obligated to confer benefit of pecuniary value upon another party, herein called the insured. . . ." Where there is an annuity that does not "charge the person of the grantor" the New York courts might decide that there is no insurance contract within the meaning of the New York law. There is no party agreeing "to confer benefit of pecuniary value" upon another. The trustee's obligations are limited to the funds in the trust fund. The trustee has not entered into a contract to pay the annuities absolutely.

In addition, it seems rather obvious that the New York legislature did not intend to include inter vivos and testamentary trusts providing income for life to designated beneficiaries as constituting the doing of an insurance business. Any such interpretation would be far too broad. The most reasonable construction would be to regard annuities as those agreements regularly entered into by insurance companies.

In People v. Security Life Ins. & Annuity Co., the New York Court of Appeals said of annuity bonds: "These are not cases of insurance, and they are not to be governed by any rules applicable to life insurance. They are cases simply where for a gross sum paid the company became bound to pay certain sums annually during the life of the annuitants."107 Extensive research has produced no court decision or published administrative ruling in which the insurance department has challenged as a violation of section 40 or its predecessor a trusteed pension or retirement plan of either the individual or multi-employer type.

CONCLUSION

State insurance commissioners would open a Pandora's box of future trouble if they should attempt to regulate variable annuities having none of the traditional insurance earmarks. The present laws for regulating insurance have the benefit of familiar guideposts. Traditionally, benefits have been payable in a fixed number of dollars and the insurance company has indemnified or guaranteed something, assuming some risk in an effort to make something "sure." This has been the essence of insurance. If state regulation of insurance were extended to variable annuities which do not have the traditional insurance elements, we would be bereft of guideposts and insurance commissioners would embark on strange and uncharted journey. They would have to assume a curious and indefensible position if they should insist that annuities must be written by life insurance companies and can only be written with the traditional insurance elements. If the insurance commissioners cannot regulate variable annuities without the insurance elements, they must be willing to turn the regulation of these annuities over to some other agency such as the SEC or state securities commissioners.

In those variable-annuity arrangements where there is no assumption of risk by any person or company whatsoever, where there are no guarantees and no indemnity agreements, where benefits are not payable in a specified number of dollars, and the arrangement is merely a means of distributing mutual-fund shares, they are simply and solely investments since the speculative motive is paramount. What the investor seeks is much more akin to what the holder of mutual-fund shares buys than what the holder of a life insurance policy bargains for. The actuarial features are no more complicated than for any pension trust, retirement system, individual annuity, deferred-compensation plan, or annuity

107 78 N.Y. 114, 128 (1879).