Statutory Legal Reserves

gold blind justiceInsurance companies are required by statute to comply with the legal reserve requirements established by the state insurance laws.   Life companies that comply with the legal reserve requirements established by the state insurance laws are known as Legal Reserve Life Insurance Companies

Generally speaking, life insurance companies must keep reserves in stable investments, for example in cash, or in bonds. This ensures that the reserves are sufficiently protected from loss. While there are usually no specific investment recommendations, insurance companies are generally encouraged to invest in very conservative investments for their cash reserves.

It is a little known fact that it was not the U.S. government that bailed out the banking industry in the Great Depression but instead, it was Legal Reserve Life Insurance Companies.  From 1928 through 1938 over 9,000 banks suspended operations while 99% of all life insurance in force continued unaffected. 

Insurance companies must have by law at least dollar for dollar match to their liabilities in legal reserve.  Most have much more and many have been in existence for over 100 years.

The State Insurance Department

Most state insurance departments mandate a conservative “statutory” accounting system that will ensure company solvency. This “statutory” system has been successful for decades in minimizing insurance company failures and preventing policyholder losses. The state insurance department does review and measure the insurance companies’ cash flow and liabilities to ensure that they have the cash to meet policyholder obligations. They are audited by state insurance departments at least every 3 years. Life insurance companies also file quarterly and annual statements.

Required Reserves Ensure Payment of Policyholder Benefits

A large percentage of each premium dollar calculated by actuaries for each company goes into the policy owner’s reserve fund. This policy reserve (Legal Reserve) fund is a liability to the life insurance company. The fund is established as a way of determining or measuring the assets the company must maintain in order to be able to meet its future commitments under the policies it has issued.

If an insurance company’s reserve levels fall short, and it goes into what is called receivership, the remaining insurance companies in the state legal reserve pool must assume the liabilities and obligations of the insurer. The amount they are required to accept are based on the amount of insurance and annuities they have issued in that state. If one company has issued 10% of all insurance and annuities in that state, then they must accept 10% of any bankrupt insurer’s obligations for that state.

The reserve liabilities are established as financial safeguards to ensure the company will have sufficient assets to pay its claims and other commitments when they fall due. These assets are kept intact for payment of living and death benefits to the insured’s. The reserve pool protects annuity investors as well as those who purchase other life insurance products or policies.

Additional Safeguards

gold egg smallReinsurance

Nearly every legal reserve life insurance company further protects its policyholders by reinsuring part of the coverage with a life reinsurance company. This is done when the company will not or cannot undertake a risk alone. Reinsurance prevents relatively sizable claims from depleting a company’s policy holder reserves. The amount reinsured depends on many factors such as the size of the individual claim and the number of claims a company can expect.


The surplus is the amount by which a company’s assets exceed its liabilities. The surplus protects the policyholders and third parties against any deficiency in the insurer’s provisions for meeting its obligations. The determination of the optimum amount of surplus that a company will retain must be based on experience, current conditions, and an awareness of the primary goal of maintaining a strong company that is always able to pay claims as they arise.


In the unlikely event that a company’s annual statement or its own examination reveals possible financial weakness, one of several avenues is open to the company:

1) Produce additional operating capital

2) Sell its business to another life company

3) Merge into another financially stable life company

A legal reserve life insurance company simply does not close its doors and go out of business. Legal reserve life policyholders enjoy personal security safeguards unknown by other types of business.  Legal reserve life insurance companies have established a public responsibility to respect both the letter and the spirit of laws and regulation so the interests of their policyholders are always protected.

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