Annuity companies receive rating assessments from 3rd party agencies on the creditworthiness and strength of the company. There are four large credit rating agencies that the insurance companies usually turn to for their ratings.
They are A.M. Best, Fitch, Moody's Investors Services and Standard and Poor's. An insurance company will commission one or more of these four agencies to rate their financial status. The financial rating is determined by several factors. The company's ability to meet its future financial obligations, it cash reserve, and the companies ability to manage risk when issuing policies are considered the most important of those factors.
As stated above, there are four main rating agencies, (A.M. Best, Fitch, Moody's Investors Services and Standard and Poor's). While they do use similar methods and calculations to determine an annuity companies rating, they all use proprietary systems unique to the specific rating agency. In additions to using different methods for determining the rating, each agency also has it's own grading system. For example, the top "grade" for S & P is AAA - Extremely Strong, while at A.M. Best the top grade rating is A++, Superior.
A.M. Best ratings (A++ to F) are assigned to insurance companies that subscribe to their interactive rating service. The Best's Rating represents and opinion based on a comprehensive quantitative and qualitative evaluation of a company's balance sheet strength, operating performance and business profile.
There are several factors taken into account when formulating the credit rating for the specific annuity carrier. The amount of cash in reserve held by a company, the history and timeliness of claim payments, and the ability to raise funds are all usually all factored in. And, balance sheet categories such as cash accounts, equities and bonds are compared against long-term obligations.
An insurance company makes a profits by reinvesting the funds it receives from selling an annuity. In order to ensure the money invested will be safe, the vast majority investment by most insurance and annuity companies is in US Treasuries. Both treasury bonds and bills are among the safest investments a company can make. Even when the markets or economy sours, the debt the US sells as bonds and bills will be paid with interest on schedule.
While debt obligation and managing risk are important factors when determining an annuity companies rating, they are not the only things a rating agency will look at. The annuity company needs to find a balance between premiums it takes in each month to the amount it must pay back each month to it's policy holders. This is particularly true for annuities products that guarantee an annuitant income for life. Annuity companies make use of actuarial tables that are slightly different than those used by life insurance companies. The annuity tables calculate the risk the company takes on when it sells the annuity contract.
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