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IAI Actuarial Core Principles · Actuarial Mathematics for Modelling · Non-unit reserves for unit-linked contracts (zeroisation)

In a profit test of a unit-linked contract, the non-unit cash flows are projected and non-unit reserves are set by zeroisation. What does zeroisation aim to achieve?

Zeroisation holds the smallest non-unit reserves needed so that no projected future non-unit cash flow is negative once reserve movements are included. It is built backwards from the end of the term, so reserves exist only to fund later negative cash flows.

  1. ASetting the unit fund equal to zero at every future policy anniversary
  2. BMaking the expected present value of all future non-unit cash flows exactly zero at outset
  3. CReleasing all non-unit reserves at the time the first premium is received
  4. DHolding the smallest non-unit reserves that make every projected future non-unit cash flow, after reserve effects, non-negativeCorrect
  5. Holding reserves equal to the full surrender value of the unit fund at each time

Explanation

Zeroisation sets non-unit reserves at the minimum level that avoids any negative non-unit cash flow in the projection, working backwards from the end of the term. A reserve is held only to the extent a later cash flow would otherwise be negative. The other options confuse it with unit fund values or with a zero-NPV condition.

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