Calculation of the Premium Reserve

The calculation of the premium reserve is even more complicated. This is caused by zillmerization, a procedure named after Zillmer, a German actuary.

Zillmerization has been created to solve a problem of timing. The cover of the insurer’s expenses is the expense loading, that arrives to the insurer (in case of regular premium insurances) gradually throughout the term, in equal payments.

1. There wouldn’t be any problem with this, if the expenses of the insurer would also arise this way. But the situation is different. There are expense parts (e.g. premium collection), that arise the same way. But these are the more negligible expense parts. 

2. The more significant expenses (contracting, underwriting, and policy issue) arise right at the signature of the policy. These are the expenses of commission, medical examination, administration, etc… that are due when the policy is signed. If the insurer wouldn’t zillmerize, then this would have two major consequences: 

3. The insurer would credit acquisition costs – that are to be debited to the policyholder, since they arise because of him – to the policyholder for a long period of time, that the policyholder would pay back gradually through the expense loadings. If the policyholder surrenders the policy at the beginning of the term, then the insurer couldn’t recover these expenses, since further premium payment ceases. This is one of the causes why insurers who do not apply zillmerization define a waiting period for non-forfeiture options. 

4. Zillmerization solves this problem in a way, that the insurer takes the premiums (above the current death benefit payments) of the first 0.5-2.5 years – depending on the insurance term – and uses all of it to cover expenses (i.e. borrows the premium reserve of the first 0.5-2.5 years from the policyholder) and pays this loan back gradually later on from the premium loading. The effect of this is demonstrated by the following example:

5. We see that the zillmerized reserve is lower than the non-zillmerized reserve in the whole term. Zillmerization has several consequences. One is that while the premium reserve is zero, there is no profit-sharing. The other is that the value of non-forfeiture options during this period is also zero. Zillmerization won’t result in negative premium reserve,

6. Since this would mean that the insurer lends money to the client, and the client can surrender the policy any time (contrary to the insurer, who is not allowed to terminate the life insurance policy), these situations have to be avoided under all circumstances!