Valuation Premium
Candlefocus EditorThe calculation of the valuation premium typically begins with an estimation of the amount of capital the company requires for the policy reserves. This amount is usually calculated by assigning a specific percentage to all applicable life policies, annuities and other reserves. The company's surrounding economic environment is also factored into the calculation.
The company may also consider the risk associated with the policy or asset being covered. For example, a policy may have low risk, but require a high valuation premium due to a high value of the assets covered. Of course, the opposite could also be true — if the policy or asset has a high risk, the company could choose to set a lower valuation premium in order to promote the policy and increase sales. Life insurance companies may also choose to set higher or lower valuation premiums based on their competitive environment and their own financial stability or appetite for taking on risk.
Overall, the valuation premium is an essential factor that life insurance companies must consider when determining the capital needed to cover liabilities and meet their policy requirements. Higher valuation premiums correspond with higher risks and higher values of the items being covered. Valuation premiums help life insurance companies remain financially solvent and able to pay out claims.