By Jack Cumming
When I lived in New York City, new neighbors from St. Louis moved in next door. We soon became friends. One day we were driving past the Sixth Avenue building where I worked. I pointed it out. One of my new friends quickly responded, “I had no idea that the world needed actuaries.”
She was not the only one to be unaware of why we need actuaries.
At introductions, after people get past the word “actuary,” and after they ask what actuaries do, it’s often evident that they still have no clue. I like to quip that an “actuary” is a place where they bury dead actors. Get it? “Actuary,” “mortuary,” what could be the difference? After all, some like to think that we’re morticians in the abstract. There may be some truth in that, but that’s only part of the story. Harboring aging people for life, with all the contingencies that entails, is an intrinsically actuarial undertaking.
Promises Made and Kept
Continuing care community living promises a safe haven through the perils of aging. Actuaries are skilled at ensuring that such promises can be kept. In the best of circumstances, those promises include financial protections. For instance, not-for-profits are required to offer a safeguard against the loss of home if a resident outlives assets. Many for-profit communities offer similar assurances.
Another financial safeguard can be against the rising cost of long-term care if a resident comes to need assistance. The traditional type A contract protects against the added cost of such care, so residents don’t have to fear the financial consequences of decline. The managed care environment of a CCRC can allow such coverage to be provided more comprehensively at a lower cost than is customary in long-term care insurance. Actuaries are trained to evaluate risks like these, helping managements to make adequate provision for the promises on which residents rely.
Giving Options to Marketing
Moreover, options like the cost of care protections or the refund options in continuing care contracts are financial choices that can be actuarially priced to be equivalent. Thus, much as the choice of early retirement in Social Security is an individual choice, a community could offer all such options with actuarial equivalence. Actuarial equivalence can allow prospective residents to adapt financial options to the individual’s circumstances.
While many providers are wary of the risks of financial protections, actuaries are experts in risk quantification and management. Actuaries, too, can help providers manage such risks through what is known as reinsurance. Reinsurance is little different from insurance except that it operates at the corporate level. It can allow management to offer choices that they might otherwise consider too risky. Thus, the risk management expertise of actuaries can play an important role in CCRC innovations to improve marketing.
Unique to CCRCs is the prevalence of entrance fees. An entrance fee is a down payment on a lifetime contract. It’s very similar to a single premium insured annuity (or to the charitable gift annuities that are common for estate planning). For instance, a generous resident might buy charitable annuities from the community’s benevolence fund to offset the monthly fees otherwise required. The entrance fee is similar. The greater the entrance fee, the lower the monthly fees, assuming actuarial equivalence.
Underpricing draws down entrance fee investments, requiring higher future monthly fees to make up for the deficiency. Overpricing can be equally risky. High prices may drive prospects away, resulting in escalating vacancies. Pricing is the most central business judgment that most any business can make. Best practice includes actuaries in CCRC pricing.
The financial collapse of a CCRC is a risk no one wants to encounter. It’s especially damaging given the vulnerability of residents who may have grown much older while in residence. Unlike bank deposits, pensions, brokerage accounts, annuity contracts, and life insurance, there are no similar protections against CCRC financial failure. Involving actuaries can help minimize the risk of failure, but there are still many risks that are beyond the usual scope of actuarial expertise.
Consider some of the factors that may lead to collapse requiring liquidation or rehabilitation. Lagging occupancy, whether at startup, after an expansion, or simply because the property runs down or the neighborhood changes, is the most frequent cause for CCRC failure. These factors can lead to a death spiral of either operating losses or fee increases.
We’ve already mentioned the centrality of pricing decisions. Pricing fees above what’s acceptable in the market area can also result in dwindling occupancy. Alternatively, pricing may be insufficient. Revenues may not cover expenses. Delay in restoring profitability can result in a deepening deficiency leading to insolvency. Actuaries, together with market analysis, can help find the offering/pricing tradeoff sweet spot that allows a CCRC to thrive.
Not All Actuaries Are Equal
It’s evident that actuaries who have the vision and business sense to address these intermingled corporate factors are more than mere mathematicians. As one might expect, some actuaries’ interests and practice are by choice more technically mathematical. Still, many are more broadly oriented. Not all actuaries are math or actuarial science majors. An unusually high qualification is required of candidates who aspire to be Fellows of the Society of Actuaries.
Imagine a standard where an A- was the lowest passing grade. That is the mastery expected. Why? Because the focus of the Society of Actuaries has been that no one should be given the credential unless they are fully prepared to advise clients or employers. Employers of actuaries have the assurance that the actuaries they hire are fully capable of the assignments they take on.
Broad-Based Business Judgment
While questions of occupancy management and market assessment may not be technically actuarial in nature, the unique training of actuaries can be invaluable. Likewise, a business-minded actuary can be instrumental for corporate leadership as cultural and technical changes open new opportunities and present new challenges.
A common CCRC risk comes from the use of resident entrance fees to support enterprise expansion, thus leveraging the risk profile of the enterprise, and reducing the reserving of entrance fees to support related contractual commitments. Expansion is, of course, a special instance of corporate investment. While ill-considered investments are outside the narrower view of actuarial practice, the combination of mathematical and cultural understandings of top actuaries can be valuable in establishing and managing sound investment policies.
The finances of CCRCs, funding lifetime commitments, are intrinsically actuarial. It stands to reason, therefore, that actuaries should be involved in decision processes. Including the actuarial perspective regularly in management deliberations enables executives and their boards to have better assurance that those commitments can be fulfilled.
Some CCRCs get an actuarial report every five years. Clearly, risks like those discussed above, particularly management pricing and leveraging decisions, can change drastically over a five-year period. Other CCRCs involve actuaries regularly in their operating decision-making. The more often and more deeply actuaries influence the management of a CCRC, the more likely it is to be able to meet sponsor, financier, operator, and resident expectations.
Readers are reminded that I am myself an actuary by vocation. That both inclines me to see the value of actuarial analyses and business judgment and to regret those instances when disregarding risks results in corporate disaster. At the beginning of this article, I spoke of actuaries as morticians in the abstract. At this point, at my age, I can further share that I much prefer the abstraction to the reality. Click here for the story of my career.