t c memo united_states tax_court acuity a mutual_insurance_company and subsidiaries commissioner of internal revenue respondent petitioner v docket no filed date held evidence that insurance_company a’s loss_reserves were actuarially computed in accordance with the rules of the national association of insurance commissioners naic and the actuarial standards of practice asops and fell within a range of reasonable reserve estimates as determined by a’s appointed actuary in accordance with the asops is highly probative in establishing that a’s loss_reserves are fair and reasonable and represent only actual unpaid_losses within the meaning of sec_1_832-4 and b income_tax regs held further a’s carried loss_reserves of dollar_figure for are fair and reasonable and represent only actual unpaid_losses michael m conway richard f riley jr george r goodman and katherine d spitz for petitioner alan m jacobson laurie a nasky and jan e lamartine for respondent memorandum findings_of_fact and opinion vasquez judge respondent determined deficiencies of dollar_figure for and dollar_figure for in the federal_income_tax of acuity a mutual_insurance_company acuity and subsidiaries collectively petitioner after concessions the sole issue remaining for decision is whether acuity’s yearend reserves for unpaid_losses and loss adjustment expenses carried loss_reserves of dollar_figure for as used in computing losses_incurred within the meaning of sec_832 are a fair and reasonable estimate and represent in the notice_of_deficiency respondent disallowed petitioner’s claimed deductions for guaranty fund expenses in the amounts of dollar_figure and dollar_figure for and respectively respondent now concedes that petitioner is entitled to these deductions unless otherwise indicated all section references are to the internal_revenue_code code in effect for the year at issue and all rule references are to the tax_court rules_of_practice and procedure all amounts are rounded to the nearest dollar only actual unpaid_losses within the meaning of sec_1_832-4 and b income_tax regs findings_of_fact some of the facts have been stipulated and are so found the stipulation of facts the supplemental stipulation of facts and the accompanying exhibits are incorporated herein by this reference i background on acuity petitioner is a group of corporations that filed consolidated federal_income_tax returns for acuity is the common parent of the consolidated_group acuity is a mutual property and casualty insurance_company organized as a corporation under the laws of the state of wisconsin in wisconsin was acuity’s state of domicile and principal_place_of_business in the decade before acuity’s mix of business changed dramatically in acuity’s written premiums of approximately dollar_figure million were divided acuity was incorporated on date as the mutual automobile insurance_company of the town of herman it changed its name in date to mutual auto insurance_company of wisconsin and again in date to heritage mutual_insurance_company it adopted its present name of acuity in date for convenience of the reader we henceforth refer to the company as acuity regardless of the legal name of the company in effect at the time of the event described acuity is owned by its policyholders almost equally between personal lines and commercial lines acuity wrote approximately of the premiums in wisconsin and the remaining approximately in other states illinois indiana iowa kentucky michigan minnesota nebraska north dakota ohio south dakota and tennessee in the following years acuity experienced tremendous growth far in excess of the property and casualty insurance industry averages acuity’s written premiums grew by an average of for the five-year period compared to the industry average of as reported on acuity’s annual report for acuity continued posting double-digit growth each year from to acuity’s growth tapered off in and to and respectively but at the same time industry growth was just and for those two years as reported on acuity’s annual report for all in all acuity’s written premiums of approximately dollar_figure million in had more than tripled from acuity’s mix of business changed dramatically both by state and by line of insurance acuity’s written premiums in tennessee grew from dollar_figure in to over dollar_figure million in acuity’s written premiums increased almost 5-fold in illinois and more than 18-fold in michigan during this same time period other states saw more modest increases and some saw year-to-year decreases acuity’s written premiums decreased in ohio in and and decreased in indiana minnesota nebraska and wisconsin in acuity also entered some new states it began writing insurance in missouri in and in arizona and kansas in in its home state of wisconsin acuity’s written premiums grew from approximately dollar_figure million in to approximately dollar_figure million in an average annual growth rate of almost however as a percentage of its total written premiums acuity’s written premiums in wisconsin decreased every year from to this is so because acuity was growing at an even faster rate in other states in acuity wrote approximately of its total premiums in wisconsin compared to approximately in and approximately in the composition of the premiums had also changed from an approximately split between commercial and personal lines in acuity’s growth rate in commercial lines was much faster than in personal lines so much so that in acuity wrote approximately of its total premiums in commercial lines and only approximately in personal lines the following table shows acuity’s written premiums for for each of the states in which it did business state arizona illinois indiana iowa kansas kentucky michigan minnesota missouri nebraska north dakota ohio south dakota tennessee wisconsin total written premiums dollar_figure big_number big_number big_number big_number big_number big_number big_number big_number big_number big_number big_number big_number big_number big_number big_number percentage of total ii lines of insurance acuity writes policies in many different lines of insurance the following table shows acuity’s written premiums for by line of insurance as a percentage of its total premiums as reported on acuity’s annual_statement for annual_statement lines percentage of total premium sec_1 fire allied lines homeowners multiple peril commercial multiple peril inland marine workers compensation other liability-occurrence products liability-occurrence private passenger auto liability commercial auto liability auto physical damage fidelity surety burglary theft boilery machinery -0- -0- percentages do not add up to because of rounding acuity’s insurance policies are written on an occurrence basis as opposed to a claims made basis an insured is covered under an occurrence-based policy if a covered event ie an accident or injury giving rise to a claim occurs during the period the policy is in effect in other words coverage depends upon the date of the covered event and not the date on which an insured files a claim in some cases acuity may not even realize that it faces potential exposure until many years later a line of insurance can be classified as short tail coverage or long tail coverage short tail coverage refers to a line of insurance in which claims are generally less complicated and faster to resolve auto physical damage and the property damage components of homeowners multiple peril and commercial multiple peril are generally short tail coverages because the extent of damage to property ie an automobile home or building can often be assessed quickly and quantified accurately claims are often closed within a relatively short time in contrast long tail coverage generally refers to more complicated claims that can stay open for months or even years these claims may involve damages that are not readily observable or injuries that are difficult to ascertain workers compensation which constitutes nearly of acuity’s business by written premiums is generally long tail coverage because of the inherent uncertainty in determining the extent of an injured worker’s need for medical treatment and loss as discussed infra events giving rise to a claim which have already occurred but have not yet been reported to an insurance_company are known as incurred but not reported ibnr of wages for time off work other long tail coverage lines of insurance include products liability-occurrence other liability-occurrence private passenger auto liability commercial auto liability and the portion of homeowners multiple peril and commercial multiple peril covering liability acuity both indemnifies its policyholders and provides them with a legal defense iii insurance_company_loss_reserves the insurance industry is unique in that a consumer pays an insurance_company upfront in exchange for a promise of performance if and when a covered event giving rise to claim occurs at the point of sale the insurance_company does not know whether it will be called upon to fulfill its promise when that might happen or what that might cost loss_reserves are the standard means for managing this uncertainty and for ensuring that an insurance_company has sufficient resources to meet its obligations consider for example a young worker who suffers a back injury on the job and undergoes an operation if the operation is successful then the worker may be back to work in a matter of days but there is a possibility that the operation may be unsuccessful complications might arise necessitating further treatment in some cases the worker may require treatment for his or her entire life and thus acuity may face exposure for decades moreover on occasion acuity has to reopen closed claims because for instance a worker’s condition unexpectedly worsens or a new medical procedure becomes available loss_reserves are an estimate of an insurance company’s unpaid losses7 and loss adjustment expenses lae in this context losses refer to the dollar amounts that an insurance_company has paid or will pay to claimants losses do not indicate that an insurance_company is unprofitable losses are reduced by salvage and subrogation s s recoveries unpaid_losses are equal to the sum of an insurance company’s case reserves and ibnr unpaid_losses can also be unpaid_losses are the future amounts that an insurance_company expects to pay on claims existing as of a given date lae are the costs of administering claims lae comprise two components allocated loss adjustment expenses alae and unallocated loss adjustment expenses ulae alae are lae that are directly attributable to individual claims such as the costs of a medical examination or defense attorney ulae are lae that are not directly attributable to individual claims such as the overhead of the claims department salvage is an amount that an insurer has recovered or expects to recover from damaged property that it has obtained through the process of compensating a claimant subrogation is an amount that an insurer has recovered or expects to recover from a third party who has some responsibility for causing damage to an insured for which the insurer compensated the insured case reserves are estimates of unpaid amounts for claims established by a claims department for known and reported claims ibnr is an estimate of the ultimate cost of claims that have not yet been reported to an insurer plus an estimate of the inadequacy or redundancy of the case reserves expressed as the difference between ultimate losses and paid losses loss_reserves are commonly computed by estimating ultimate losses and lae and then subtracting paid losses and lae reinsurance recoveries are subtracted from loss_reserves computed on a direct or gross basis to arrive at loss_reserves on a net_basis loss_reserves are a liability on an insurance company’s balance_sheet an insurance_company is required to set_aside liquid_assets such as cash and investments to back its loss_reserves there are statutory restrictions as to the type of these assets and the manner in which they can be invested adverse consequences can result if an insurance_company sets its loss_reserves too low or too high underreserving accounts for more than of all insolvencies in the past four decades underreserving can lead to downgrades by ratings agencies loss of customers and regulatory action overreserving limits the capital an insurance_company can use for other purposes such as growth ultimate losses are an estimate of the total amount that an insurance_company expects to pay on claims existing as of a given date ultimate losses include amounts that have already been paid and amounts that have not yet been paid paid losses are the amounts that an insurance_company has already paid on claims existing as of a given date paid losses are known amounts acuity’s loss_reserves for were its largest liability acquisitions new product development or geographic expansions moreover overreserving reduces the surplus of an insurance_company making it appear less profitable actuarial estimates are inherently uncertain because they are dependent on future contingent events the challenge of loss reserving is to predict not only the incidence of unreported claims but also the factors influencing the losses on known claims actuarial science and statutory accounting provide a framework for loss reserving iv actuarial science actuarial science is the study of the financial costs of risk and uncertainty involving the application of mathematics statistics and financial theory to assess the risk that an event will occur and to estimate the ultimate financial cost of events or liabilities such as insured events under an insurance company’s policies actuarial science recognizes specific accepted methodologies for computing insurance_company_loss_reserves actuaries are credentialed professionals whose work involves the application of the recognized standards of actuarial science to become an actuary in the united_states an individual needs at minimum a bachelor’s degree and must pass a rigorous series of exams administrated by a professional society the casualty actuarial society cas is the professional society for actuaries who work in the property and casualty insurance industry an aspiring actuary must pass seven certification exams to become an associate of the cas and nine certification exams to become a fellow of the cas fcas a credentialed actuary may also become a member of the american academy of actuaries maaa the actuarial standards board asb is vested by the professional actuarial societies with the responsibility for promulgating actuarial standards of practice asops for actuaries providing professional services in the united_states actuaries are required to follow the asops by their actuarial societies in date the asb adopted asop property casualty unpaid claim estimates with an effective date of date asop provides guidance to actuaries in performing professional services relating to the estimating of unpaid_losses and lae for property and casualty insurance_companies from date until date the statement of principles regarding property and casualty_loss and loss adjustment expense reserves cas statement of principles as adopted by the board_of directors of the cas served as the primary guidance relating to the estimating of unpaid_losses and lae for property and casualty insurance_companies the cas statement of principles states in relevant part principle sec_1 an actuarially sound loss reserve for a defined group of claims as of a given valuation_date is a provision based on estimates derived from reasonable assumptions and appropriate actuarial methods for the unpaid amount required to settle all claims whether reported or not for which liability exists on a particular accounting date an actuarially sound loss adjustment expense reserve for a defined group of claims as of a given valuation_date is a provision based on estimates derived from reasonable assumptions and appropriate actuarial methods for the unpaid amount required to investigate defend and effect the settlement of all claims whether reported or not for which loss adjustment expense liability exists on a particular accounting date the uncertainty inherent in the estimation of required provisions for unpaid_losses or loss adjustment expenses implies that a range of reserves can be actuarially sound the true value of the liability for losses or loss adjustment expenses at any accounting date can be known only when all attendant claims have been settled the most appropriate reserve within a range of actuarially sound estimates depends on both the relative likelihood of estimates within the range and the financial reporting context in which the reserve will be presented v statutory accounting for insurance_companies the national association of insurance commissioners naic is an organization of insurance regulators from all states the district of columbia and five u s territories the naic is a forum for regulators to coordinate regulatory efforts and to develop uniform regulatory policy where uniformity is appropriate the naic describes itself as the united states’ standard-setting and regulatory support organization for the insurance industry the naic promulgates a standard financial statement form known as the annual_statement insurance_companies in wisconsin are regulated by the wisconsin office of the commissioner of insurance woci acuity is subject_to regulation and oversight by the woci wisconsin does not have its own annual_statement instructions instead insurance_companies domiciled in wisconsin as is acuity are required to use the naic instructions for the annual_statement changes in the annual_statement form made by the naic are automatically adopted in wisconsin annual statements are required to be prepared on the basis of statutory accounting principles sap these accounting principles are specifically made applicable to insurance_companies under state law accuracy and completeness of the annual statements are critical to states’ ability to meaningfully monitor insurance companies’ financial condition including solvency annual statements are also reviewed and relied upon by customers investors insurance agents financial rating organizations and other insurance industry participants as a report of an insurance company’s financial condition annual statements are not prepared on the basis of generally_accepted_accounting_principles gaap annual statements are filed with the applicable state insurance regulators and are public documents they are signed by officers of insurance_companies under penalty of perjury acuity is required to file an annual_statement of its financial condition and quarterly statements with the woci and with each state in which it does business in addition acuity is required to file a statement of actuarial opinion prepared and signed by a qualified actuary this qualified actuary is known as the appointed actuary asop statements of actuarial opinion regarding property casualty_loss and loss adjustment expense reserves date provides guidance to the appointed actuary in preparing the statement of actuarial opiniondollar_figure naic statutory accounting practices and procedures are set forth in the accounting practices and procedures manual ap p manual which is sometimes referred to as a codification the ap p manual is used as the reporting standard for annual statements in wisconsin statements of statutory accounting the annual_statement must be filed with the woci on or before march the asb adopted asop in date with an effective date of date the asb adopted a revised edition of asop in date with an effective date of date the revised edition provides additional clarity and guidance and eliminates redundant language and guidance that existed between the earlier version of asop and asop references to asop are to the version adopted in date except as otherwise noted principles ssaps are pronouncements of accounting rules adopted by the naic and are included in the ap p manual ssap no entitled unpaid claims losses and loss adjustment expenses states among other things that management of an insurance_company shall record its best estimate of its liabilities for unpaid claims unpaid_losses and loss claim adjustment expenses vi the computation of acuity’s loss_reserves for benjamin m salzmann is acuity’s president and chief_executive_officer he is not an actuary he did not attempt to compute acuity’s loss_reserves for or for any other year instead he and other members of acuity’s management deferred to and relied upon the professional judgment of acuity’s three fully credentialed actuaries on staff led by patrick tures fcas maaa mr tures graduated from st norbert college in de pere wisconsin in with degrees in mathematics and business administration right after college he started his actuarial career at acuity as a pricing analyst while at acuity he began taking the certification exams administered by the cas in he moved to kemper insurance he worked there for years rising in the ranks from actuarial analyst to assistant manager to manager to director in he passed the last of the certification exams and became an fcas soon after he became an maaa in mr tures returned to acuity as its vice president--actuarial and strategic information the same position that he held in and as of the date of trial working with sarah kemp fcas maaa associate actuary cathy staats fcas maaa actuary and nathan baseman actuarial analyst mr tures prepared acuity’s actuarial data and reserve analysis for he computed acuity’s loss_reserves for both on a quarterly basis and at yearend mr tures produced approximately pages of actuarial analysis in performing his loss reserve computations he used eight separate actuarial methods to compute acuity’s estimated ultimate losses the eight methods are the paid development method incurred development method paid bornhuetter-ferguson bf method using ultimate premiums and an expected loss ratio incurred bf method using ultimate premiums and an expected loss ratio paid bf method using ultimate counts and expected severity incurred bf method using ultimate counts and expected severity paid method using a weighted average and incurred method using a weighted average mr tures the cas statement of principles states selection of the most appropriate method of reserve estimation is the responsibility of the actuary ordinarily the actuary will examine the indications of more than one method when estimating the loss and loss adjustment expense liability for a specific group of claims also performed computations under the brosius method but in his professional judgment he decided not to rely upon any of those computations the starting point for each of the eight methods is actual data where appropriate mr tures used acuity’s historical data he and his staff had complete access to acuity’s claims underwriting marketing and sales data in states where acuity lacked sufficient historical data he consulted industry data however he did not uncritically substitute industry data in place of acuity’s historical data instead he used his best professional judgment in adjusting the industry data and development patterns to account for acuity’s trendsdollar_figure each of the eight methods then calls for the selection of various inputs unlike the actual data that enters into the methods the inputs are by and large estimated or projected figures selected on the basis of an actuary’s assumptions and judgment the inputs and the manner in which they are used vary from method to method for example the paid development method and the incurred development the adjustments resulted in lower loss_reserves than would have been the case had mr tures used the industry data without adjustments we use the term inputs to refer generally to figures an actuary selects for use in an actuarial method method use loss development factors to estimate ultimate losses the paid bf method using ultimate premiums and an expected loss ratio and the incurred bf method using ultimate premiums and an expected loss ratio use loss development factors from the paid development method and the incurred development method respectively and a weighting between actual losses and expected losses to estimate ultimate losses the paid bf method using ultimate claim counts and expected severity and the incurred bf method using ultimate claim counts and expected severity use projected ultimate claim counts and projected ultimate severity to estimate ultimate losses mr tures used his best professional judgment in selecting inputs taking into account acuity’s changing mix of business rapid growth evolving claims patterns increasing litigation costs and other factors he computed estimated development is defined as the change between dates in the observed value of some quantity a loss development factor is a ratio of losses as of one valuation_date to losses as of another valuation_date the frequency the number of claims per exposure unit of payroll of workers compensation claims at acuity was decreasing but the severity the average payment on each claim was increasing for example in illinois where acuity’s business was rapidly increasing a greater percentage of claims resulted in litigation as than in wisconsin the cas statement of principles states understanding the trends and changes affecting the data base is a prerequisite to the application of actuarially continued ultimate losses using each method for each of acuity’s lines of insurance for some lines and in particular those with short tail coverages the methods continued sound reserving methods a knowledge of changes in underwriting claims handling data processing and accounting as well as changes in the legal and social environment affecting the experience is essential to the accurate interpretation and evaluation of observed data and the choice of reserving methods mr tures organized acuity’s data into lines of insurance for the annual_statement lines of insurance reserving process the following table shows those lines and the corresponding lines as presented on acuity’s annual_statement for acuity’s lines of insurance homeowners workers compensation business package bis-pak commercial auto liability commercial auto physical damage general liability homeowners multiple peril workers compensation commercial multiple peril commercial auto liability auto physical damage products liability-occurrence other liability-occurrence fire allied lines inland marine fidelity surety burglary and theft boiler and machinery other liability-occurrence private passenger auto liability auto physical damage property inland marine glass crime surety and fidelity umbrella personal auto liability personal auto physical damage produced similar outputs for example for acuity’s commercial auto physical damage line the lowest output was an estimated ultimate loss of dollar_figure while the highest output was an estimated ultimate loss of dollar_figure for accident_year for other lines and in particular those with long tail coverages the outputs of the methods varied considerably for example for acuity’s umbrella line the lowest output was an estimated ultimate loss of dollar_figure while the highest output was an estimated ultimate loss of dollar_figure for accident_year mr tures likewise used his best professional judgment in selecting estimated ultimate losses from the outputs of the eight methods his selection techniques varying by accident_year and line of insurance included taking the simple average of the outputs of all eight methods the weighted average of the outputs of two or more methods and the output of a particular method for the more recent accident years where the data is immature he placed greater reliance upon the bf methods he arrived at total expected estimated ultimate losses of dollar_figure as of yearend for we use the term outputs to refer generally to the results produced by an actuarial method mr tures used the terms expected and selected synonymously in referring to his best estimates mr tures used three actuarial methodologies in computing estimated ultimate alae and anticipated ultimate s s as was the case with estimated ultimate losses mr tures used his best professional judgment in selecting inputs to and outputs from the methods he arrived at total expected estimated ultimate alae of dollar_figure and total expected anticipated ultimate s s of dollar_figure as of yearend for he added the total expected estimated ultimate losses total expected estimated ultimate alae and ulae reserves netted out the total expected anticipated ultimate s s and subtracted the paid losses and lae to arrive at expected loss_reserves of dollar_figure on a direct basis for he subtracted ceded reserves attributable to reinsurance recoveries of dollar_figure from the expected loss_reserves of dollar_figure on a direct basis to arrive at expected loss_reserves of dollar_figure on a net_basis for dollar_figure he used the paid alae development method the paid alae to paid loss development method and the bf method in computing his estimated ultimate alae he used the paid s s method the paid s s to paid loss development method and the bf method in computing his anticipated ultimate s s three sheets in mr tures’ workpapers showing reconciliation to schedule p of the annual_statement a reserve review and reserve ranges show acuity’s loss_reserves as dollar_figure dollar_figure and dollar_figure respectively the record does not reflect what the small differences in these reserve amounts are attributable to they may be attributable to rounding we find that these small differences are de_minimis we further find that mr tures’ best estimate for acuity’s loss_reserves was dollar_figure the average of the three continued in addition to his expected loss_reserves mr tures computed a loss reserve range and loss_reserves under two hypothetical scenarios he selected the outputs of the methods that produced in the aggregate across all accident years and lines of insurance the lowest and highest estimated ultimate losses estimated ultimate alae and anticipated ultimate s s in computing the lower and upper bounds respectively of the loss reserve range he arrived at a loss reserve range of dollar_figure to dollar_figure on a net_basis for in a process he called scenario testing mr tures modified his selection of inputs in the methods to compute loss_reserves under two hypothetical scenarios reflecting assumptions that were more favorable optimistic scenario and less unfavorable pessimistic scenario to acuity than those used in computing his expected loss_reserves he computed the loss_reserves under the optimistic and pessimistic scenarios independently of his expected loss_reserves using the same methods but with continued amounts and the amount that acuity’s management adopted and reported on its annual_statement for see infra pp because s s reduces losses mr tures used the lowest anticipated ultimate s s in computing the upper bound of the loss reserve range and vice versa the loss reserve range would have been much wider had mr tures selected the lowest or highest output for each accident_year or line of insurance separately different inputs he arrived at loss_reserves of dollar_figure under the optimistic scenario and loss_reserves of approximately dollar_figure million under the pessimistic scenario the following table shows the loss_reserves mr tures computed for net_loss reserves lower bound of range optimistic scenario best estimate expected pessimistic scenario upper bound of range amount dollar_figure big_number big_number big_number big_number vii acuity’s management approves mr tures’ expected loss_reserves mr tures submitted to acuity’s management his expected loss_reserves of dollar_figure for approval his expected loss_reserves were his best estimate of the amount acuity would ultimately be expected to pay for all losses including lae over the amount it had already paid as of yearend in his professional opinion his expected loss_reserves made a reasonable provision for acuity’s unpaid_losses and lae he did not request management’s approval for any other the record does not reflect the exact amount mr tures computed for the loss_reserves under the pessimistic scenario mr tures did not consider federal_income_tax consequences in his loss reserve analysis loss reserve amount nor did management suggest that he do so management approved of his expected loss_reserves of dollar_figure and adopted that amount without change as acuity’s carried loss_reserves for dollar_figure viii independent analysis of acuity’s loss_reserves as part of his systematic checks and balances mr salzmann had an outside consulting actuary independently review acuity’s loss_reserves each year and prepare a statement of actuarial opinion acuity’s board_of directors selected john r kryczka as acuity’s appointed actuary for mr kryczka is an fcas a fellow of the canadian institute of actuaries fcia and an maaa he has worked in the insurance industry since with a concentration primarily in property and casualty insurance in date he joined the accounting firm of pricewaterhousecoopers llp pwc as a senior consulting actuary in he was a director at pwc and he had been promoted to managing director by the time of trial the purpose of mr kryczka’s engagement was to determine whether acuity’s carried loss_reserves of dollar_figure ie mr tures expected loss carried loss_reserves are the loss_reserves reported by an insurance_company on its annual_statement the accounting firm was known as coopers lybrand at the time reserves as adopted by acuity’s management fell within a range of reasonable reserve estimates mr kryczka was not asked to opine on a particular amount that he believed acuity should report as its carried loss_reserves under asop sec_3_3 mr kryczka could issue one of five types of opinions a determination of reasonable provision--when the stated reserve amount is within the actuary’s range of reasonable reserve estimates see sec_3_6 the actuary should issue a statement of actuarial opinion that the stated reserve amount makes a reasonable provision for the liabilities associated with the specified reserves b determination of deficient or inadequate provision--when the stated reserve amount is less than the minimum amount that the actuary believes is reasonable the actuary should issue a statement of actuarial opinion that the stated reserve amount does not make a reasonable provision for the liabilities associated with the specified reserves c determination of redundant or excessive provision--when the stated reserve amount is greater than the maximum amount that the actuary believes is reasonable the actuary should issue a statement of actuarial opinion that the stated reserve amount does not make a reasonable provision for the liabilities associated with the specified reserves asop sec_3_6 states in relevant part the actuary may determine a range of reasonable reserve estimates that reflects the uncertainties associated with analyzing the reserves a range of reasonable estimates is a range of estimates that could be produced by appropriate actuarial methods or alternative sets of assumptions that the actuary judges to be reasonable asop sec_3_3 states in relevant part the actuary should document the scope and intended use of the statement of actuarial opinion d qualified opinion--when in the actuary’s opinion the reserves for a certain item or items are in question because they cannot be reasonably estimated or the actuary is unable to render an opinion on those items the actuary should issue a qualified statement of actuarial opinion such a qualified opinion should state whether the stated reserve amount makes a reasonable provision for the liabilities associated with the specified reserves except for the item or items to which the qualification relates e no opinion--the actuary’s ability to give an opinion is dependent upon data analyses assumptions and related information that are sufficient to support a conclusion if the actuary cannot reach a conclusion due to deficiencies or limitations in the data analyses assumptions or related information then the actuary may issue a statement of no opinion mr kryczka performed an independent actuarial analysis of acuity’s loss_reserves for spanning approximately pages acuity provided mr kryczka with its actual data--the same data that mr tures used in his analysis acuity did not dictate to mr kryczka what actuarial methods to use or what assumptions to make mr kryczka and his team met with acuity’s actuarial team and its management including mr salzmann and the vice presidents of claims personal lines and commercial lines to better understand the changes that were mr kryczka did not have access to mr tures’ workpapers in performing his actuarial analysis or in issuing his statement of actuarial opinion for he could not recall whether he received mr tures’ workpapers afterwards taking place within acuity mr kryczka then used his own professional judgment in determining appropriate actuarial methods to use and selecting inputs to and outputs from the methodsdollar_figure asop sec_3_5 states in relevant part the actuary should consider the likely effect of changing conditions on the subject loss and loss adjustment expense reserves the actuary should consider whether there have been significant changes in conditions particularly with regard to claims losses or exposures that are new or unusual and that are likely to be insufficiently reflected in the experience data or in the assumptions used to estimate loss and loss adjustment expense reserves asop sec_3_5 states in relevant part the appropriate type and extent of reserve analysis will vary with the nature of the claims and exposures the historical pattern of loss development and the expectation of future conditions as they affect the liabilities associated with unpaid_losses and loss adjustment expenses a number of reserve analysis methods are available to and are used by actuaries selection of specific methods a modification of such methods or the development of new methods should be based on an understanding of the nature of the claims the development characteristics associated with these claims and the applicability of various methods to the available data mr kryczka used the paid loss development method incurred loss development method bf method using ultimate premiums and paid loss and bf method using ultimate premiums and incurred loss to compute estimated ultimate losses he used the paid alae development method bf method using ultimate loss and paid alae and ratio of incremental paid alae to paid loss method to compute estimated ultimate alae he used the s s development method and bf method using ultimate loss and s s to compute continued mr kryczka computed a point estimate of dollar_figure and a narrow range of reasonable reserve estimates from dollar_figure to dollar_figure around the point estimate using a pwc process known as actuarially determined insurance assets and liabilities adial under adial an insurance company’s loss_reserves are reasonable if they fall within the narrow range no further inquiry is required if the loss_reserves fall outside the narrow range the adial process calls for further analysis to determine whether there is additional variability not reflected in the narrow range and for a second review by a different actuary in pwc’s national_office to determine whether a wider range of reasonable reserve estimates might be appropriate and if so whether the loss_reserves fall within that wider range mr kryczka determined that acuity’s carried loss_reserves of dollar_figure fell within his narrow range and concluded that the reserves were reasonable he prepared and signed a statement of actuarial opinion opining that acuity’s carried loss_reserves for a meet the requirements of the insurance laws of wisconsin continued anticipated ultimate s s mr kryczka defined a point estimate as a single number that comes out of his analysis b are computed in accordance with generally accepted actuarial standards and principles c make a reasonable provision for all unpaid loss and loss adjustment expense obligations of the company acuity under the terms of its contracts and agreements on date mr kryczka provided the statement of actuarial opinion to acuity acuity filed the statement of actuarial opinion and its annual_statement for with the woci in the underwriting and investment exhibit of its annual_statement for acuity reported losses of dollar_figure and loss adjustment expenses of dollar_figure the sum of which is acuity’s carried loss_reserves of dollar_figure mr salzmann and two other officers of acuity signed the annual_statement for under penalty of perjury ix audit of acuity’s financial statements acuity prepared its financial statements in accordance with sap as required by state insurance regulators in addition acuity prepared a separate set of financial statements in accordance with gaap for internal management purposes and to maintain transparency acuity engaged pwc to audit both sets of financial statements for thomas l brown tom brown then a partner at pwc was the losses and loss adjustment expenses refer to unpaid_losses and lae on a net_basis in charge of the audit and mr kryczka served as the actuarial specialist on the audit teamdollar_figure as relevant here tom brown and his team evaluated acuity’s quality controls and tested the integrity of the claims that comprised acuity’s loss_reserves a material_item on acuity’s balance_sheet the audit team examined a sampling of claims on a number of criteria including accuracy of the dates and dollar amounts validity under the terms of the insurance contracts and completeness of the population as a whole ie no missing claims or sequential gaps the audit team did not find anything that would render acuity’s financial statements unreasonable or potentially misleading and so pwc issued acuity an unqualified opinion as to both the sap and gaap financial statements x a m best company the a m best company best is a rating agency specializing in the insurance industry best evaluates the financial condition of insurance_companies at the time of trial tom brown was the chief financial officer of rli corp an insurance_company unaffiliated with acuity some of the items examined by the audit team are part of acuity’s actual data entering into the actuarial methods the audit team did not perform an actuarial analysis of acuity’s loss_reserves an unqualified opinion is an opinion that a company’s financial statements are fairly represented in all material respects and rates them on the basis of the insurance company’s financial solvency ability to pay claims and other factors best annually publishes best’s insurance reports--property casualty which are a compilation of best’s individual ratings on all property and casualty insurance_companies it rates best annually reviews acuity gerard altonji a financial analyst and assistant vice president at best was the team leader for acuity’s review representatives from best including mr altonji met with acuity’s management including mr salzmann with respect to the review on date wendy rae schuler acuity’s treasurer and vice president--finance sent best a letter best letter containing financial information on acuity it was standard practice to send best this type of letter among the many topics discussed in the best letter was a paragraph on acuity’s loss_reserves that stated as of date the actuarial net indicated reserves were dollar_figure million with the carried reserves at dollar_figure million this represents a reserve margin of of the indicated reserve or dollar_figure million acuity continues to adhere to the philosophy that an adequate reserve position is the bedrock of our business model this is exhibited in our claim department’s rigorous attention to case reserve adequacy and our heavy scrutiny of indicated ibnr levels acuity maintains a reserve position consistent with the risks inherent in the exposure growth we have assumed from opportunities in the current market ms schuler who is not an actuary wrote this paragraph using information from mr tures’ workpapers she did not speak with mr tures in writing the paragraph she intended to convey in the first two sentences the information shown on a sheet in mr tures’ workpapers entitled reserve review reserve review sheet on the reserve review sheet mr tures shows a comparison in tabular form between acuity’s carried loss_reserves and the loss_reserves he computed under the optimistic scenario he used the column heading carried to refer to acuity’s carried loss_reserves the column heading indicated to refer to the loss_reserves he computed under the optimistic scenario and the column headings strength and strength to refer to the differences in absolute and percentage terms respectively between the carried and indicated reserves ms schuler used the term reserve margin in the best letter in place of the terms strength and strength in referring to the difference between acuity’s carried loss_reserves and the loss_reserves under the optimistic scenario she copied the last three sentences of the paragraph almost word for word from a sheet the cas statement of principles states that an indicated loss reserve is the result of the application of a particular loss reserving evaluation procedure entitled reserve analysis acuity actuarial results which was part of a presentation to acuity’s board_of directors as part of its review best calculates a best capital adequacy ratio bcar score which is a ratio of an insurance company’s adjusted policyholder’s surplus divided by the capital required to support its business risks the bcar score is computed using a risk-based model that assesses the risk of an insurance company’s assets and liabilities including loss_reserves for purposes of determining the capital required to support each of those risks in computing acuity’s bcar score for best determined that acuity’s carried loss_reserves of dollar_figure might be deficient by the bcar analysis did not suggest either explicitly or implicitly that acuity should change its carried loss_reserves best provided the bcar analysis to acuity’s management on date mr altonji and his team completed best’s report on acuity for best gave acuity an a superior rating for best described acuity’s reserve quality as maintains conservative reserving practices as evidenced by consistently favorable loss reserve development on both a calendar_year and accident_year basis favorable development has been driven by applying this percentage to acuity’s carried loss_reserves of dollar_figure best calculated in the bcar analysis that the carried loss_reserves might be deficient by dollar_figure the workers’ compensation line although most other major lines of business have developed favorably as well xi loss reserve development favorable development and unfavorable development are terms used to describe downward and upward revisions to loss_reserves respectively insurance_companies periodically revise their loss reserve estimates as new information on existing claims comes to light the following table shows the development on acuity’s carried loss_reserves for accident years before when measured as of yearend annual_statement date loss and alae reserves dollar_figure big_number big_number big_number big_number big_number big_number big_number big_number change in reserves dollar_figure big_number big_number big_number big_number big_number big_number big_number big_number change all numbers are in thousands the following table shows the development on acuity’s carried loss_reserves for accident_year when measured as of yearend for through development through loss and alae reserve sec_1 dollar_figure big_number big_number big_number big_number cumulative change dollar_figure big_number big_number big_number big_number change all amounts are in thousands federal income taxes xii on or about date petitioner filed form 1120-pc u s property and casualty insurance_company income_tax return for on schedule f losses incurred-- sec_832 petitioner reported discounted_unpaid_losses of dollar_figure that figure represents acuity’s carried loss_reserves of dollar_figure for discounted pursuant to sec_846 on date respondent mailed petitioner a notice_of_deficiency in which he determined inter alia that acuity’s carried loss_reserves for were overstated by dollar_figure discounted_unpaid_losses are used in computing losses_incurred within the meaning of sec_832 respondent adjusted petitioner’s taxable_income upward by dollar_figure and then made a corollary downward adjustment of dollar_figure to reflect discounting under sec_846 petitioner timely petitioned the court for redetermination i applicable law opinion acuity as a nonlife insurance_company must compute its taxable_income under sec_832 see sec_831 under these statutory provisions gross_income includes amounts earned from investment and underwriting_income computed on the basis of the underwriting and investment exhibit of the annual_statement approved by the national association of insurance commissioners sec_832 underwriting_income is defined as the premiums earned on insurance contracts during the taxable_year less losses_incurred and expenses_incurred sec_832 losses_incurred means losses_incurred during the taxable_year on insurance contracts and includes increases for the year in discounted_unpaid_losses as defined in sec_846 sec_832 as sec_832 provides in general --the term losses_incurred means losses_incurred during the taxable_year on insurance contracts computed as follows continued defined in sec_846 unpaid_losses generally means unpaid_losses shown in the annual_statement filed by the taxpayer for the year ending with or within the taxable_year of the taxpayer unpaid_losses include unpaid lae sec_832 taxable_income equals gross_income as described supra less various deductions allowed pursuant to sec_832 sec_832 one of the deductions allowed is for losses_incurred as defined in sec_832 sec_832 continued i to losses paid during the taxable_year deduct salvage and reinsurance recovered during the taxable_year ii to the result so obtained add all unpaid_losses on life_insurance contracts plus all discounted_unpaid_losses as defined in sec_846 outstanding at the end of the taxable_year and deduct all unpaid_losses on life_insurance contracts plus all discounted_unpaid_losses outstanding at the end of the preceding_taxable_year iii to the results so obtained add estimated salvage and reinsurance recoverable as of the end of the preceding_taxable_year and deduct estimated salvage and reinsurance recoverable as of the end of the taxable_year the amount of estimated salvage_recoverable shall be determined on a discounted basis in accordance with procedures established by the secretary although such a deduction would appear potentially duplicative of losses_incurred that are taken into account in determining the underwriting_income component of gross_income under sec_832 the statute specifically prohibits the same item from being deducted more than once see sec_832 the applicable regulations which have remained substantively unchanged since their promulgation in require the taxpayer to establish that its estimate of unpaid_losses is fair and reasonable and represents only actual unpaid_losses sec_1_832-4 b income_tax regs applicable regulations see md deposit ins fund corp v commissioner 88_tc_1050 the applicable regulations provide as follows in computing losses_incurred the determination of unpaid_losses at the close of each year must represent actual unpaid_losses as nearly as it is possible to ascertain them b losses_incurred every insurance_company to which this section applies must be prepared to establish to the satisfaction of the district_director that the part of the deduction for losses_incurred which represents unpaid_losses at the close of the taxable_year comprises only actual unpaid_losses see sec_846 for rules relating to the determination of discounted_unpaid_losses these losses must be stated in amounts which based upon the facts in each case and the company’s experience with similar cases represent a fair and reasonable estimate of the amount the company will be required to pay amounts included in or added to the estimates of unpaid_losses which in the opinion of the district_director are in excess of a fair and reasonable estimate will be disallowed as a deduction the district_director may require any insurance_company to submit such detailed information with respect to its actual experience as is deemed necessary to establish the reasonableness of the deduction for losses_incurred the validity of the applicable regulations is well established see eg 69_tc_260 aff’d 598_f2d_1211 1st cir 65_tc_715 and is not in dispute a reserve for unpaid_losses is an estimate of the insurer’s liability for claims that it will be required to pay in future years see w cas sur co v commissioner 65_tc_897 aff’d on another issue 571_f2d_514 10th cir unpaid_losses may not be based on estimates of potential losses that might be incurred in future years but instead must be based on the actual_loss_experience of the insurance_company see md deposit ins fund corp v commissioner t c pincite hosp corp of am v commissioner tcmemo_1997_482 the burden_of_proof is on the taxpayer to substantiate its claimed deduction see rule a 290_us_111 86_tc_298 on date petitioner filed a motion in limine to exclude two of respondent’s exhibits and to shift the burden_of_proof to respondent by order dated date the court took so much of petitioner’s motion as moved to shift the burden_of_proof under advisement in its opening brief petitioner withdrew the part of its motion relating to the burden_of_proof accordingly petitioner bears the burden_of_proof ii the naic annual_statement a seventh circuit law the court_of_appeals for the seventh circuit to which an appeal in this case would lie absent a stipulation to the contrary see sec_7482 has stated that state insurance commissioners’ preferences about loss_reserves are not some intrusion on federal tax policy using their annual_statement is federal tax law 972_f2d_858 7th cir 96_tc_61 in 698_f3d_357 7th cir 135_tc_543 the court_of_appeals stated that b oth sec_832 and sec_846 refer to the naic-approved annual_statement as the source of the unpaid_losses used in calculating gross_income underwriting_income which includes losses_incurred must be computed based on the annual_statement any doubt about whether the unpaid_losses included in those losses_incurred are also to be computed according to the annual_statement is resolved by the specific reference to that statement in sec_846 we agree that the naic-approved annual_statement provides the rule for computing deductible loss_reserves under sec_832 at least where the naic has in fact provided a rule emphasis added b the parties’ arguments the parties dispute what role if any the annual_statement plays in determining whether an insurance company’s loss_reserves are fair and reasonable respondent argues that the relationship between the annual_statement and sec_832 does not prove that petitioner’s carried loss reserve is fair and reasonable respondent further argues that state farm and sears roebuck co hold that the annual_statement controls for what is includible in the loss reserve but not the amount of the loss reserve itself petitioner argues that respondent simply fails to give due recognition to the expansive embrace of the annual_statement in determining p c loss_reserves for tax purposes in state farm and sears roebuck and co petitioner further argues that n o tax case supports an adjustment to a p c insurance company’s ordinary unpaid loss_reserves determined by professional actuaries through accepted actuarial methodologies and reported on the annual_statement in accordance with naic statutory accounting guidance--which of course is exactly the situation presented in acuity’s case the law is well settled that the mere inclusion of an estimated figure on the annual_statement including a loss reserve estimate does not conclusively establish its reasonableness for tax purposes see hanover ins co v commissioner f 2d pincite 89_f2d_186 9th cir aff’g 33_bta_501 hanover ins co v commissioner t c pincite t he cited cases which held the annual_statement to be conclusive did not involve the reasonableness of the estimated figures appearing on such statement but rather the format or methodology of such statement the parties agree to that much the parties’ disagreement as we understand it is whether the annual_statement provides any guidance in computing the amount of a loss reserve estimate and if so how does that guidance factor into determining whether an amount so computed is fair and reasonable for tax purposes c ssap no the relevant naic rule governing loss_reserves is ssap no which establishes statutory accounting principles for recording liabilities for unpaid claims and claim adjustment expenses for unpaid_losses and loss adjustment expenses for property and casualty insurance contracts the naic recognized in ssap no that no single claim or loss and loss claim adjustment expense reserve can be considered accurate with certainty we similarly recognized in physicians ins co of wis inc v commissioner tcmemo_2001_304 physicians ins slip op pincite that there is no single correct loss reserve estimate except possibly in hindsight ssap no instead provides that management of an insurance_company shall record its best estimate of its liabilities for unpaid claims unpaid_losses and loss claim adjustment expenses this requirement is in accord with 57_tc_58 wherein we stated that when the annual_statement methodology is predicated upon the use of estimates those estimates must be the best possible ssap no provides some general principles and considerations in computing the amount of a loss reserve estimate the liability for claim reserves and claim liabilities unpaid_losses and loss claim adjustment expenses shall be based upon the estimated ultimate cost of settling the claims including the effects of inflation and other societal and economic factors using past experience adjusted for current trends and any other factors that would modify past experience various analytical techniques can be used to estimate the liability for ibnr claims future development on reported losses claims and loss claim adjustment expenses these techniques generally consist of statistical analysis of historical experience and are commonly referred to as loss reserve projections the estimation process is generally performed by line_of_business grouping contracts with like characteristics and policy provisions the decision to use a particular projection method and the results obtained from that method shall be evaluated by considering the inherent assumptions underlying the method and the appropriateness of those assumptions to the circumstances no single projection method is inherently better than any other in all circumstances the results of more than one method should be considered emphasis added ssap no reflects the naic’s recognition that past experience needs to be adjusted for current trends and other factors ssap no further reflects the naic’s understanding that each actuarial method has its own set of assumptions and a single actuarial method is not appropriate in all cases these principles are consistent with the applicable regulations which provide that unpaid_losses must be stated in amounts which based upon the facts in each case and the company’s experience with similar cases represent a fair and reasonable estimate emphasis added they are also consistent with our caselaw which provides that a fair and reasonable estimate of a taxpayer’s unpaid_losses is essentially a valuation issue and a question of fact see hanover ins co v commissioner t c pincite physicians ins slip op pincite minn lawyers mut ins co v commissioner tcmemo_2000_203 minn lawyers slip op pincite aff’d 285_f3d_1086 8th cir utah med ins ass’n v commissioner tcmemo_1998_458 utah med slip op pincite d the asops appointed actuaries and actuarial opinions the naic rules also require an insurance_company to file a statement of actuarial opinion prepared and signed by its appointed actuary with the annual statement the statement of actuarial opinion sets forth among other things the appointed actuary’s opinion as to the reasonableness of the insurance company’s loss_reserves the appointed actuary is required to follow the asops the asops provide objective principles and considerations in computing loss reserve estimates and ranges among other things thus the asops provide a basis for a taxpayer to objectively validate that the methods and assumptions it relied upon to make its estimate are reasonable physicians ins slip op pincite asop in particular provides guidance to an appointed actuary in issuing a statement of actuarial opinion asop sec_3_2 provides that the appointed actuary should consider the cas statement of principles relying on minn lawyers respondent argues that p etitioner’s attempted reliance on acuity’s appointed actuary at pwc is unwarranted because pwc did not review or opine on whether acuity’s carried reserve met the standards for a federal_income_tax deduction for unpaid_losses respondent further argues that p etitioner’s effort to conflate state regulatory requirements with federal tax requirements is without merit respondent’s argument misses the mark in minn lawyers the taxpayer’s management added an adverse development reserve onto the case reserves established by the taxpayer’s claims department minn lawyers slip op pincite we found that the taxpayer failed to prove the necessity of the adverse development reserve id pincite the taxpayer’s appointed actuary at milliman robertson inc milliman and kpmg peat marwick kpmg issued a statement of actuarial opinion for the first year in issue and the second and third years in issue respectively certifying to the state regulator that the taxpayer’s loss_reserves made a reasonable provision for the taxpayer’s unpaid_losses and lae id pincite however the record did not establish that such a certification was equivalent to the requirement in the applicable regulations that loss_reserves must be fair and reasonable id we placed little weight on the appointed actuaries’ certifications that the taxpayer’s loss_reserves were reasonable because the actuarial reports prepared by those same actuaries indicated the contrary the taxpayer’s appointed actuary at milliman did not compute a range of reasonable reserve estimates id pincite the actuary instead computed a best estimate that was significantly lower than the taxpayer’s loss_reserves and the taxpayer did not provide any explanation for the difference id the taxpayer’s appointed actuary at kpmg likewise computed a selected point estimate that was significantly lower than the taxpayer’s loss_reserves id pincite although the actuary computed a range of reasonable reserve estimates that encompassed the taxpayer’s loss_reserves the range was so large that we could not determine whether every point in the range was fair and reasonable id pincite we found that the taxpayer failed to prove that its loss_reserves were fair and reasonable id pincite we concluded that the point estimate of the commissioner’s actuarial expert which exceeded the point estimate of the taxpayer’s appointed actuary at milliman was the best estimate of the taxpayer’s loss_reserves for the first year in issue and the point estimates of the taxpayer’s appointed actuary at kpmg were the best estimates for the second and third years in issue id pincite in the instant case mr kryczka acuity’s appointed actuary at pwc issued a statement of actuarial opinion certifying to the woci that acuity’s carried loss_reserves are reasonable petitioner does not argue that mr kryczka’s certification is tantamount to a sanctification of acuity’s carried loss_reserves as fair and reasonable for tax purposes rather petitioner argues that mr kryczka performed his work and provided his opinion in conformity with professional actuarial and statutory accounting standards and opined that acuity’s carried reserve was reasonable under those standards these are the standards that this court has looked to in prior loss reserve cases we agree as we determined in minn lawyers the mere certification by an appointed actuary that an insurance company’s loss_reserves are reasonable is of little probative value for tax purposes however contrary to respondent’s argument such is not the case with respect to the actuarial computations of the appointed actuary underlying that certification in minn lawyers while we rejected the certifications of the taxpayer’s appointed actuary at kpmg we accepted the point estimates actuarially computed by the kpmg actuary as the best estimates of the taxpayer’s loss_reserves for the second and third years in issue in physicians ins the taxpayer retained the firm tillinghast-towers perrin tillinghast to compute its loss_reserves physicians ins slip op pincite the taxpayer’s actuary at tillinghast served as its appointed actuary id pincite we found that the taxpayer’s loss_reserves were unreasonable because the taxpayer’s management added a margin of approximately onto the point estimates actuarially computed by the tillinghast actuary id pincite however as was the case in minn lawyers for the second and third years in issue we accepted the tillinghast actuary’s point estimates as the best estimates of the taxpayer’s loss_reserves for the two years in issue id pincite in utah med the taxpayer also retained the firm of tillinghast to compute its loss_reserves utah med slip op pincite the taxpayer’s actuary at tillinghast also served as its appointed actuary id pincite however unlike the taxpayer in physicians ins the taxpayer in utah med selected its loss_reserves each year from within a range of reasonable reserve estimates actuarially computed by the tillinghast actuary id pincite we found that the tillinghast actuary complied with all relevant actuarial standards ie the asops id pincite we concluded that the taxpayer’s loss_reserves were fair and reasonable for the years in issue id pincite in sum the statement of actuarial opinion is an integral part of the annual_statement the naic rules require an insurance_company to file a statement of actuarial opinion prepared and signed by its appointed actuary the appointed actuary is required to follow the asops and the asops in particular asop provide objectively reasonable guidance to the appointed actuary in computing loss reserve estimates and ranges for the purpose of opining on the reasonableness of the insurance company’s loss_reserves consequently we find that an appointed actuary’s actuarial analysis and determination is highly probative for tax purposes respondent’s assertion that petitioner cannot rely on acuity’s appointed actuary at pwc is unfounded and contrary to our caselaw e annual_statement conclusion sec_832 is no ordinary rule it expressly links federal taxes to the naic’s annual_statement sears roebuck co f 2d pincite and the naic-approved annual_statement provides the rule for computing deductible loss_reserves under sec_832 at least where the naic has in fact provided a rule state farm f 3d pincite as discussed supra the naic rules do not provide a mechanical formula nor does one exist to calculate the precise amount of loss_reserves required for each insurance_company instead the naic rules provide principles and considerations for computing an estimate of an insurance company’s loss_reserves these principles and considerations are objectively reasonable and consistent with the applicable regulations and our caselaw the asops further provide objectively reasonable guidance to actuaries for computing loss reserve estimates and ranges in addition the naic rules require an insurance company’s appointed actuary to evaluate the reasonableness of the insurance company’s loss_reserves in a statement of actuarial opinion the asops in particular asop provide objectively reasonable guidance to the appointed actuary in this task accordingly in the factual determination whether an insurance company’s loss_reserves are fair and reasonable and represent only actual unpaid_losses we assign substantial weight to evidence that the loss_reserves were actuarially computed in accordance with the naic rules and asops and fell within a range of reasonable reserve estimates as determined by the insurance company’s appointed actuary in accordance with the asopsdollar_figure iii mr tures’ actuarial analysis a qualified actuary mr tures fcas maaa a qualified and credentialed actuary computed acuity’s loss_reserves for he had at the time almost years of actuarial experience including several years as acuity’s vice president--actuarial and strategic information he was intimately familiar with acuity’s business and had complete access to acuity’s claims underwriting marketing and sales data as described supra p asop sec_3_3 a provides that w hen the stated reserve amount is within the actuary’s range of reasonable reserve estimates see sec_3_6 the actuary should issue a statement of actuarial opinion that the stated reserve amount makes a reasonable provision for the liabilities associated with the specified reserves the revised edition of asop renumbered this section and changed some of the terminology but the concept remains largely the same the revised edition of asop sec_3_7 provides that an actuary should consider a reserve to be reasonable if it is within a range of estimates that could be produced by an unpaid claim estimate analysis that is in the actuary’s professional judgment consistent with both asop no property casualty unpaid claim estimates and the identified stated basis of reserve presentation b selection of inputs mr tures began his reserve analysis with actual data based on past experience where appropriate he used acuity’s historical data in states where acuity lacked sufficient historical data he consulted industry data following ssap no the cas statement of principles and the asops he examined and adjusted the data to account for acuity’s changing mix of business rapid growth rate evolving claims patterns increasing litigation costs and other factors using his best professional judgment he then selected appropriate and reasonable inputs into his actuarial methods respondent argues that mr tures was biased in his selection of inputs relying upon high assumptions that are not supported by acuity’s past experience respondent attacks mr tures’ judgment in selecting paid loss development factors for accident_year in the workers compensation analysis that were the average of the last five years rather than the more recent three years in which the trend was going down for development at and months respondent similarly attacks mr tures’ judgment in selecting incurred loss development factors that were higher than acuity’s actual loss development respondent shows in his brief the following table of incurred loss development factors selectively quoted from mr tures’ workpapers accident_year selected for development pincite month sec_1 development pincite months respondent omits from his table earlier accident years which were shown on the same page of mr tures’ workpapers and considered in his analysis for example the incurred loss development factor of that mr tures selected for development pincite months for accident_year is lower than acuity’s incurred loss development factors of for accident_year and for accident_year furthermore the incurred loss development factor of is the five-year average respondent has not cited a single ssap asop or other objective source nor have we found any supporting his argument that a three-year average loss development factor is reasonable whereas a five-year average loss development factor is somehow unreasonable respondent misquotes mr tures’ workpapers in that the incurred loss development figures for development pincite months respondent shows in his brief relate to accident years and not respondent attacks several other figures in mr tures’ workpapers as being inappropriately excessive inconsistent with acuity’s actual experience and a product of mr tures’ poor ‘judgment ’ we are unpersuaded by respondent’s criticisms of mr tures’ actuarial selections ssap no states that loss_reserves shall be computed using past experience adjusted for current trends and any other factors that would modify past experience the underlying premise is that past experience can be used to predict future experience however implicit in this premise is the recognition that past experience should not be viewed in a vacuum changing conditions both inside and outside an insurance_company can cause future experience to diverge from past experience past experience must thus be appropriately adjusted to reflect these changing conditions this is where actuarial judgment comes into play as the cas statement of principles appropriately states understanding the trends and changes affecting the data base is a prerequisite to the application of actuarially sound reserving methods mr tures credibly testified as to the process by which he used acuity’s historical data and industry data adjusted the data to reflect changing conditions within and without acuity and selected inputs using his sound actuarial judgment mr tures’ workpapers consisting of approximately pages of actuarial analysis corroborate his testimony we find that mr tures made a reasonable selection of inputs in accordance with his best professional judgment and the principles and considerations embodied in ssap no the cas statement of principles and the asops we decline to substitute respondent’s judgment for mr tures’ professional judgment see eg physicians ins slip op pincite declining to second-guess the professional judgment of the taxpayer’s actuary c actuarial methods and outputs mr tures used eight actuarially recognized methods to compute acuity’s estimated ultimate losses and three additional methods to compute estimated ultimate alae and anticipated ultimate s s he performed computations under the eight methods and then used his best professional judgment in selecting among the outputs of the methods respondent argues that t he paid loss development method and the paid using 5-year weighted average method have the least amount of assumptions to be made by the actuary but mr tures never selected either of these methods respondent seems to imply that those two method sec_54 from respondent’s brief it appears that respondent is referring specifically to acuity’s workers compensation line of insurance mr tures did continued would have been more appropriate to rely upon because they require fewer assumptions however his argument is contradicted by the express language of ssap no which provides that n o single projection method is inherently better than any other in all circumstances ssap no provides that an actuary should consider the inherent assumptions underlying each method and the appropriateness of those assumptions under the circumstances in deciding which methods to rely upon mr tures did just that he performed computations under the brosius method but in his best professional judgment decided not to rely upon them for the more recent accident years where the data is immature he placed greater reliance upon the bf methods other times he selected a simple average a weighted average or the output of a particular method we find that his choice of methods and selection of outputs were reasonable and consistent with ssap no the cas statement of principles and the asops continued incorporate the paid loss development method and the paid using 5-year weighted average method into his selections in other lines as an example for acuity’s commercial auto liability line mr tures took the simple average of the outputs of all eight methods for accident years and d no margin added mr tures arrived at expected loss_reserves of dollar_figure on a net_basis for he credibly testified that his expected loss_reserves were his best estimate of the amount acuity would ultimately be expected to pay for all losses including lae over the amount it had already paid as of yearend he further credibly testified that acuity’s management adopted his expected loss_reserves without change mr salzmann likewise credibly testified that acuity’s management did not make any adjustments to mr tures’ expected loss_reserves likening this case to physicians ins and minn lawyers respondent argues that acuity added a margin onto mr tures’ actuarially computed loss_reserves respondent argues that mr tures computed indicated loss_reserves of dollar_figure and then deliberately increased his indicated reserve by dollar_figure respondent further argues that b ecause the court has been clear about the non-deductibility of margins acuity attempted to make it appear as though its dollar_figure million self-described margin was actuarially determined respondent asserts that acuity tried to hide its dollar_figure million margin by having mr respondent interchangeably uses the terms margin add-on and mark-up in his brief tures revise the actuarial assumptions within his workpapers to support acuity’s target of a carried reserve with a margin reserve review sheet respondent points to the reserve review sheet in support of his argument the reserve review sheet contains a table with the column headings carried indicated strength and strength underneath the column heading carried are amounts for the components comprising acuity’s carried loss_reserves ie alae ibnr ulae ibnr case reserves etc the sum of the amounts is acuity’s carried loss_reserves of dollar_figure underneath the column heading indicated are amounts for the same components adding up to dollar_figure which mr tures testified to be the amount of the loss_reserves he computed under the optimistic scenario we find mr tures to be a very credible witness see 58_tc_560 stating that the process of distilling truth from the testimony of witnesses whose demeanor we observe and whose credibility we evaluate is the daily grist of judicial life the strength and strength columns show the differences between the carried and indicated columns the amounts add up to dollar_figure a difference of dollar_figure from acuity’s carried loss_reserves we treat this difference as de_minimis and immaterial it may be due to rounding see supra note respondent attaches great significance to mr tures’ use of the term indicated arguing that t he use of the term ‘indicated’ throughout acuity’s own documents and its use by other actuaries confirms that acuity added a margin to its actuarially indicated carried reserve respondent further argues that i f ‘indicated’ were defined as ‘optimistic ’ mr tures’ workpapers or analysis would be nonsensical we disagree the cas statement of principles states that a n indicated loss reserve is the result of the application of a particular loss reserving evaluation procedure that definition is consistent with mr tures’ use of the term in his workpapers on the reserve review sheet we find that he used the term indicated to refer to the result he computed under the optimistic scenario he used the term indicated on the sheet directly preceding the reserve review sheet to refer to his expected loss_reserves ie the result he computed using his best estimates on a sheet entitled reserve range sec_12 in which mr tures compared in tabular form his expected loss_reserves with the lower and upper bounds of his loss reserve range he used the term indicated reserves - direct to refer to the amounts he computed on a direct basis the term indicated ceded reserves to refer to the amounts of reinsurance and the term indicated reserves - net to refer to the amounts he computed on a net_basis respondent has failed to persuade us that mr tures’ use of the term indicated on the reserve review sheet or elsewhere supports his argument that mr tures computed an actuarially indicated loss reserve of dollar_figure and subsequently hid a margin within his actuarial computations best letter in a similar vein respondent points to the best letter in support of his argument relying heavily upon two sentences in which ms schuler stated as of date the actuarial net indicated reserves were dollar_figure million with the carried reserves at dollar_figure million this represents a reserve margin of of the indicated reserve or dollar_figure million respondent also relies upon mr altonji’s testimony that he understood the two sentences to mean that acuity believes that they have a comfortable cushion in the loss_reserves respondent argues that ms schuler understood that her use of the term ‘margin’ meant ‘margin’ and that her use of the term ‘actuarial indicated’ meant actuarially determined indicated reserves - net is the difference between the indicated reserves - direct and the indicated ceded reserves however ms schuler is not an actuary as described supra pp she wrote the paragraph on acuity’s loss_reserves in the best letter using information from mr tures’ workpapers she did not speak with mr tures in writing the paragraph the information for the two sentences in question came from the reserve review sheet but ms schuler inadvertently took that information out of context on the reserve review sheet mr tures compared acuity’s carried loss_reserves with the loss_reserves he computed under the optimistic scenario mr tures used the terms strength and strength to refer to the differences in absolute and percentage terms respectively between acuity’s carried loss_reserves and the loss_reserves under the optimistic scenario ms schuler used the term reserve margin in place of strength and strength she credibly testified that she understood the word margin to mean difference as in the difference between the indicated or optimistic scenario and the carried she further credibly testified that acuity’s carried loss_reserves are mr tures’ best estimate and do not contain any cushion we note that her understanding is consistent with merriam webster’s collegiate dictionary 10th ed which defines margin as inter alia measure or degree of difference mr altonji’s understanding of the two sentences in question while relevant is certainly not determinative and it is contradicted by the credible testimony of mr tures mr salzmann and ms schuler we are simply unpersuaded that ms schuler’s inartful wording of two sentences in the best letter establishes that acuity added a hidden margin to its loss_reserves mathematical computations respondent argues that mr tures did not estimate a reserve of dollar_figure and then subtract dollar_figure dollar_figure from that to determine an ‘optimistic’ estimate he estimated a reserve of dollar_figure and added a ‘strength’ or ‘margin’ to it however the bare fact that mr tures’ expected loss_reserves are higher than the loss_reserves he computed under the optimistic scenario does not establish that one was used to compute the other mr tures credibly testified that he computed the loss_reserves under the optimistic scenario independently of his expected loss_reserves using the same methodologies but varying his assumptions and inputs and we so find we note that dividing mr tures’ expected loss_reserves by would also result in the loss_reserves under the optimistic scenario conclusion on margin substantial credible_evidence in the record supports petitioner’s position that acuity’s carried loss_reserves contain no margin mr tures credibly testified that his expected loss_reserves were his best estimate of acuity’s unpaid_losses and lae he further credibly testified that he did not add a margin onto a lower estimate to arrive at his expected loss_reserves his workpapers corroborate his testimony and show in great detail the computation of his expected loss_reserves both of respondent’s actuarial experts reviewed mr tures’ workpapers and neither of them noted the existence of a hidden margin mr salzmann and ms schuler both credibly testified that acuity adopted mr tures’ expected loss_reserves without change on the basis of the foregoing we find that acuity’s carried loss_reserves are mr tures’ actuarially computed best estimate with no implicit or explicit margin e prior loss reserve development respondent cites acuity’s history of favorable development for accident years before as evidence that acuity’s carried loss_reserves for are not fair and reasonable respondent argues that acuity had an average redundancy of brian brown one of petitioner’s actuarial experts also reviewed mr tures’ workpapers and he too did not observe any kind of hidden margin over from through respondent further argues that acuity had actual knowledge of its over-reserving practice but failed to explain how mr tures adjusted his methods or assumptions to incorporate acuity’s over- reserving experience petitioner argues that there has been substantial variability in acuity’s loss_reserves and that five of the six years preceding show favorable development of under petitioner further argues that mr tures took this prior experience into account in his loss reserve analysis for we agree with petitioner the fact that a taxpayer’s loss reserve estimate proves with hindsight to be higher than actual payments does not establish that the taxpayer’s estimate was unreasonable see utah med slip op pincite a taxpayer’s loss reserve estimate must be fair and reasonable but is not required to be accurate based on hindsight id physicians ins slip op pincite in utah med we approved of the lookback method whereby the taxpayer’s actuary reestimated ultimate loss estimates for prior coverage years in computing the ultimate loss estimates for the years at issue see utah med slip op pincite similarly in physicians ins we approved of the fact the taxpayer’s actuary took into account developing redundancies in establishing loss reserve estimates see physicians ins slip op pincite we find that mr tures took acuity’s prior development into account in his actuarial analysis he credibly testified that this occurs as the actual losses replace the expected losses on each loss development triangle he further credibly testified that he used the latest data available in his analysis respondent asserts that mr tures took into account the redundancies in prior years only as data inputs into the loss triangles in later years this new data did not ‘supplant’ or replace the old data the new data added another ‘diagonal’ to the loss triangles that is the old data remained under the correct accident_year with an increase to its age maturity and the new data provided another year’s worth of information we find this distinction to be immaterial whether the latest data supplemented or supplanted prior data the record establishes that mr tures incorporated acuity’s development into his actuarial analysis further evidencing the reasonableness of his analysis acuity’s favorable development decreased from an average of approximately for to approximately for see supra p f conclusion on mr tures’ actuarial analysis mr tures performed his actuarial analysis in accordance with the naic rules the cas statement of principles and the asops he used his best the years before the year at issue in which mr tures was acuity’s vice president-actuarial and strategic information are professional judgment in selecting appropriate and reasonable inputs to and outputs from his actuarial methods he computed expected loss_reserves of dollar_figure for acuity’s management adopted that amount without change respondent’s attacks on mr tures’ actuarial analysis are all unconvincing we find the foregoing to be substantial evidence that acuity’s carried loss_reserves for are fair and reasonable see supra pp iv mr kryczka’s actuarial analysis and determination the naic rules require an insurance_company to file a statement of actuarial opinion prepared and signed by a qualified actuary with the annual_statement mr tures was perfectly qualified to issue and capable of issuing the statement of actuarial opinion however mr salzmann wanted to create an additional level of review he wanted an outside consulting actuary to independently review acuity’s loss_reserves and issue the statement of actuarial opinion this was part of his systematic checks and balances consequently acuity’s board_of directors selected john r kryczka fcas fcia maaa to be acuity’s appointed actuary for a qualified actuary like mr tures mr kryczka was and is a qualified and credentialed actuary he had more than years of actuarial experience at the time he issued his statement of actuarial opinion he too familiarized himself with the latest changes to acuity’s business before performing his actuarial analysis he credibly testified that he and his team met with acuity’s management including mr salzmann to understand what’s going on with the company’s book of business we need to understand what is going on with the company in order to make the proper actuarial judgments in our reports so we can try to project what’s going to happen in the future b determination of reasonable provision mr kryczka performed his actuarial analysis in accordance with the asops in particular asop governing statements of actuarial opinion he used his best professional judgment and took into account the latest changes to acuity’s business in selecting appropriate and reasonable inputs to and outputs from his actuarial methods he computed a narrow range of reasonable reserve estimates from dollar_figure to dollar_figure around a point estimate of dollar_figure he determined that acuity’s carried loss_reserves of dollar_figure fell within his narrow range and issued a statement of actuarial opinion opining that acuity’s carried loss_reserves for a meet the requirements of the insurance laws of wisconsin b are computed in accordance with generally accepted actuarial standards and principles c make a reasonable provision for all unpaid loss and loss adjustment expense obligations of the company acuity under the terms of its contracts and agreements c no range stretching respondent’s principal argument is that mr kryczka stretched his range to ensure that it encompassed acuity’s carried loss_reserves respondent argues that t his is merely accommodating petitioner not checking or balancing the carried reserve we find that respondent’s argument is contrary to the evidence in the record asop sec_3_3 provides that an appointed actuary should document the scope and intended use of a statement of actuarial opinion mr kryczka was appointed by acuity’s board_of directors to perform an independent review of acuity’s carried loss_reserves for the purpose of determining whether the reserves were reasonable in the first paragraph of his statement of actuarial opinion mr respondent also argues on brief that mr kryczka stretched or extended his point estimate to ensure that he could create a range that encompassed acuity’s carried loss_reserves respondent does not explain how a number as opposed to a range can be stretched or extended we understand his argument to be that mr kryczka computed an unreasonably high point estimate by using assumptions and selections in his actuarial analysis that were biased high we reject this argument see infra pp kryczka wrote that my responsibility is to express an opinion on loss and loss adjustment expense reserves based on my review as explained supra pp under asop mr kryczka could express one of five types of opinions determination of reasonable provision determination of deficient or inadequate provision determination of redundant or excessive provision qualified opinion or no opinion he did not accommodate petitioner and rubber stamp acuity’s carried loss_reserves to the contrary he performed an independent actuarial analysis consisting of approximately pages pursuant to asop sec_3_5 and computed a range of reasonable reserve estimates for the purpose of determining whether acuity’s carried loss_reserves fell within that range asop sec_3_6 supports mr kryczka’s approach it states that an actuary may determine a range of reasonable reserve estimates that reflects the uncertainties associated with analyzing the reserves a range of reasonable estimates is a range of estimates that could be produced by appropriate actuarial methods or alternative sets of assumptions that the actuary judges to be reasonable mr kryczka credibly testified that if acuity’s carried loss_reserves fell outside of his range of reasonable reserve estimates he would not have issued a determination of reasonable provision opinion under asop sec_3_3 a mr kryczka used a pwc process known as adial to compute his range of reasonable reserve estimates he computed separate ranges for each of acuity’s lines of insurance and then applied a weighted average to the individual ranges to compute an overall range he described the range he computed as a narrow range or a stage one range mr kryczka credibly testified that if an insurance company’s loss_reserves fall within an actuary’s narrow range of reasonable reserve estimates computed under adial the actuary’s inquiry ends and the actuary issues an opinion opining that the loss_reserves are reasonable he further credibly testified that if an insurance company’s loss_reserves fall outside of the actuary’s narrow range the actuary would have discussions with the insurance_company to try and understand whether there was some additional variability that was not reflected in the actuary’s analysis and if so the actuary might revise the narrow range if the actuary determined that a revision was not warranted pwc’s internal process calls for a second review by a different actuary in pwc’s national_office to determine whether a wider range of reasonable reserve estimates would be justified mr kryczka described this wider range as a stage two range acuity’s carried loss_reserves of dollar_figure fell within mr kryczka’s narrow range of reasonable reserve estimates from dollar_figure to dollar_figure consequently his inquiry ended and he issued a statement of actuarial opinion opining that acuity’s carried loss_reserves make a reasonable provision for acuity’s unpaid_losses and lae d appropriate and reasonable range respondent argues that mr kryczka’s range was so large that petitioner cannot show that every point within the range represents actual unpaid_losses as nearly as it is possible to ascertain them respondent further argues that n ot only can a range not be entered on a federal_income_tax return or naic annual_statement but the range itself is so wide as to be meaningless we reject the implication in respondent’s argument that mr kryczka’s decision to compute a range may have been inappropriate asop sec_3_6 specifically authorizes the computation of a range of reasonable reserve estimates likewise the cas statement of principles states that t he uncertainty inherent in the estimation of required provisions for unpaid_losses or loss adjustment expenses implies that a range of reserves can be actuarially sound mr kryczka computed a in utah med ins ass’n v commissioner tcmemo_1998_458 slip op pincite the taxpayer selected a loss reserve estimate at the high end of a range of reasonable reserve estimates computed by the taxpayer’s actuary for each of the years at issue we rejected respondent’s argument that the midpoint of an actuarially sound range is the only fair and reasonable estimate see id slip op pincite range of reasonable reserve estimates for the purpose of expressing an opinion on whether the loss reserve estimate computed by mr tures and adopted by acuity’s management without change was reasonable he did not compute a range for the purpose of entering it on petitioner’s federal_income_tax return or acuity’s annual_statement furthermore we find that mr kryczka’s range was reasonable he computed a range with a width of approximately as a percentage of the lower bound respondent attacks the reasonableness of mr kryczka’s range and the ranges computed by petitioner’s two actuarial experts which had widths of and either or as discussed infra in the same section of his brief and argues that a range with a spread that exceeds of the lower bound is unwarranted in this case and is simply provided by petitioner’s actuaries to encompass its carried reserve respondent offers no explanation as to how he arrived at a seemingly arbitrary cap and he cites no authority in support of that figure furthermore mr kryczka’s range with a width of would in fact be reasonable under respondent’s cap mr kryczka computed a range from dollar_figure to dollar_figure dollar_figure - dollar_figure dollar_figure petitioner argues that mr kryczka’s range as well as the ranges of its two actuarial experts are reasonable under our caselaw in utah med the taxpayer’s actuary at tillinghast computed ranges with widths of approximately and for the two years in issue see utah med slip op pincite we characterized the ranges as large but found that they were reasonable because the high amount of uncertainty in the taxpayer’s business made projecting losses difficult see id pincite in contrast in minn lawyers the taxpayer’s actuary at kpmg computed ranges with widths of approximately and for the second the actuary computed a range from dollar_figure to dollar_figure dollar_figure - dollar_figure dollar_figure for the first year in issue and a range from dollar_figure to dollar_figure dollar_figure - dollar_figure dollar_figure for the second year in issue see utah med slip op pincite we found that the taxpayer was a relatively modestly capitalized single-line insurer serving a limited geographic area the taxpayer had claims with a relatively low frequency and high severity and the taxpayer issued policies in a highly risky and longer-tailed line of insurance see utah med slip op pincite and third years in issue see minn lawyers slip op pincite n we stated that r elative to the recommended range s of the taxpayer’s actuary in utah medical the kpmg actuary’s recommended ranges are very large the evidence in the record is insufficient for us to evaluate adequately whether the recommended ranges are so large as to be unreasonable or whether every point in each recommended range would satisfy the requirement that the determination of unpaid_losses ‘represent actual unpaid_losses as nearly as it is possible to ascertain them ’ fn ref omitted id pincite mr kryczka’s range as well as the ranges of petitioner’s two actuarial experts are narrower than the ranges that we found to be reasonable in utah med and significantly narrower than the ranges that we did not approve of in minn lawyers and while acuity was a more diversified insurance_company than the taxpayer in utah med there was still a significant degree of uncertainty in estimating acuity’s loss_reserves for ssap no makes clear that loss_reserves are inherently uncertain moreover sources of uncertainty particular to acuity’s business in included for the first year in issue the taxpayer’s actuary at milliman did not compute a range see minn lawyers slip op pincite the taxpayer’s actuary at kpmg computed a range from dollar_figure to dollar_figure dollar_figure - dollar_figure dollar_figure for the second year in issue and a range from dollar_figure to dollar_figure dollar_figure - dollar_figure dollar_figure for the third year in issue see id pincite acuity’s rapid growth acuity’s expansion into new states acuity’s dramatic shift towards riskier long tail coverage lines of insurance the decreasing frequency and increasing severity of claims in workers compensation acuity’s largest line of insurance and the rising litigation costs in illinois acuity’s second-largest state by written premiums asop sec_3_6 states that an actuary should consider the implications of uncertainty in loss and loss adjustment expense reserve estimates in determining a range of reasonable reserve estimates we find that mr kryczka as well as petitioner’s two actuarial experts properly considered the uncertainties in acuity’s business and computed reasonable ranges of reserve estimates e respondent’s other arguments respondent argues that mr kryczka’s actuarial analysis was flawed and biased respondent takes issue with a number of the assumptions and selections in mr kryczka’s analysis in much the same fashion as he did with mr tures’ analysis for example respondent asserts that mr kryczka selected loss development factors and loss ratios in excess of acuity’s historical experience however ssap no specifically provides that a loss reserve estimate shall be computed using past experience adjusted for current trends and any other factors that would modify past experience likewise asop sec_3_5 provides that an actuary should consider the likely effect of changing conditions on the subject loss and loss adjustment expense reserves mr kryczka credibly testified that a mechanical approach would just be to select one of the historical averages but we were incorporating judgment as well he and his team met with acuity’s management and its actuarial team he learned of the changes taking place in acuity’s business including the increasing severity in the workers compensation line of insurance the double digit growth and the expansion into new states then using his best professional judgment he adjusted acuity’s historical data to account for these changes in making his selections we find that his selections were appropriate and reasonable respondent argues that acuity did not provide pwc with a copy of the best letter this argument is a red herring the best letter contains financial information on acuity much of which is not related to the computation of loss_reserves ms schuler wrote the best letter to assist mr altonji and his team with their financial review of acuity for acuity provided mr kryczka with its actual data--the same data that mr tures used in his actuarial analysis furthermore mr kryczka and his team personally met with acuity’s management to understand what is going on with the company in order to make the proper actuarial judgments f conclusion on mr kryczka’s actuarial analysis and determination mr kryczka performed his actuarial analysis in accordance with the asops he computed a range of reasonable reserve estimates from dollar_figure to dollar_figure acuity’s carried loss_reserves fell within his range his range was reasonable--respondent’s arguments to the contrary are all unconvincing we find the foregoing to be substantial evidence that acuity’s carried loss_reserves for are fair and reasonable see supra pp v financial audit petitioner argues that pwc’s unqualified statutory and gaap audit opinions give the court an additional level of support specifically from an accounting perspective for the conclusion that acuity’s loss reserve of dollar_figure million was a fair and reasonable estimate respondent argues that petitioner misconstrues the scope of financial and statutory audits respondent further argues that tom brown and his team tested data controls and the accuracy of claim recording and not the reasonableness of acuity’s carried loss_reserves tom brown did not perform an independent actuarial analysis he relied on mr kryczka to opine on the reasonableness of acuity’s loss_reserves we have already concluded that mr kryczka’s actuarial analysis and determination is entitled to substantial weight additional weight given to pwc’s unqualified opinions would be duplicative while respondent does not seem to question the integrity of acuity’s actual data we note that pwc’s unqualified opinions affirm that the actuaries in this case could reasonably rely on acuity’s actual data where appropriate in their actuarial methodologies vi subsequent loss reserve development respondent argues that a lthough hindsight certainly does not decide the valuation question herein acuity’s subsequent reduction of the carried reserve by over dollar_figure million is relevant to acuity’s pattern of continued over-reserving in spite of repeated confirmation that its actuarial assumptions are biased high respondent further argues that h indsight may also show a continued pattern of ignoring repeated overstatements we reject respondent’s characterization of acuity’s favorable development as a pattern of continued over-reserving and the implication that acuity’s carried loss_reserves for are thus unreasonable mr altonji credibly testified from a financial analyst’s perspective that a long history of favorable development is not an indication that an insurance company’s loss_reserves were excessive or unreasonable when originally established he further credibly testified that e very single actuary is always wrong because no one knows for sure with percent certainty that a loss reserve is adequate until the time passes anthony grippa one of respondent’s actuarial experts discussed infra credibly testified that the end result when all the claims are finally paid out the chance that the end result will be exactly the same as my number for the loss_reserves is infinitesimally small an insurance_company will virtually always experience some measure of favorable or unfavorable development on its loss_reserves as new information comes to light federal tax law thus requires loss_reserves to be the best possible --it does not require that an insurance_company guess its loss_reserves exactly right see physicians ins slip op pincite respondent has not cited a single authority nor can we find any for the proposition that unfavorable development in consecutive years or favorable and unfavorable development in alternating years is reasonable whereas favorable development in consecutive years indicates a pattern of continued over-reserving and is somehow unreasonable respondent essentially reads into the federal tax law a requirement that does not exist that is a requirement that an insurance_company record its best in fact for purposes of the bcar analysis best determined that acuity’s carried loss_reserves for might be deficient by or dollar_figure estimate of its loss_reserves without going over the amount that in hindsight turns out to be the correct amount petitioner argues that favorable reserve development considered in ‘hindsight’ does not make a loss reserve estimate unreasonable if the taxpayer shows that it was reasonable when established we agree see id pincite utah med slip op pincite petitioner also argues that the development of acuity’s carried loss_reserves for closely matches reserve development in the property and casualty insurance industry petitioner asserts that to the extent post-2006 reserve development is considered by the court at all it is a factor that confirms acuity’s loss reserve as a fair and reasonable estimate petitioner introduced expert testimony and other evidence on loss reserve development in the property and casualty insurance industry as a whole and the segment of the industry reporting net earned premiums between dollar_figure million and dollar_figure billion in respondent challenges the evidence upon which petitioner relies arguing that the evidence does not provide a valid basis of comparison to acuity and that the evidence is contradicted by other evidence in the record respondent further argues that it is a logical fallacy to presume that because everyone else is doing it therefore it must be reasonable in utah med slip op pincite we found that the medical malpractice insurance industry overstated reserves to virtually the same extent as the taxpayer which suggested that the taxpayer’s loss_reserves were fair and reasonable however the taxpayer in that case wrote policies primarily in a single line of insurance medical malpractice and primarily in a single state utah during the years in issue see id pincite acuity is a larger and more diversified insurance_company in acuity wrote policies in fifteen lines of insurance as reported on its annual_statement and in fifteen different states there is insufficient evidence in the record for us to determine whether acuity was similarly situated to the property and casualty industry as a whole or to the segment of the industry reporting net earned premiums between dollar_figure million and dollar_figure billion for cf minn lawyers slip op pincite the taxpayer’s expert witness’s report and testimony provide little basis for assessing whether his peer-group ratio comparisons account for possible differences in reserving claim management and underwriting philosophies among the eight companies that he selected for comparison or whether those eight companies are in fact the appropriate peer group in sum we find that the subsequent development of acuity’s carried loss_reserves has little probative value one way or the other in determining whether the reserves were fair and reasonable when originally established vii expert witnesses both parties called expert witnesses to offer their opinions regarding the reasonableness of acuity’s carried loss_reserves we evaluate expert opinions in light of all the evidence in the record and we may accept or reject the expert testimony in whole or in part according to our independent evaluation of the evidence in the record see 304_us_282 268_f3d_497 7th cir aff’g tcmemo_1999_182 110_tc_530 petitioner offered expert testimony of two qualified and credentialed actuaries--katharine barnes fcas maaa and brian z brown fcas maaa mr brown respondent likewise offered expert testimony of two qualified and credentialed actuaries--matthew p merlino fcas maaa and anthony j grippa fcas maaa a ms barnes’ actuarial analysis ms barnes is a consulting actuary and director at towers watson she received a bachelor’s degree in mathematics from wellesley college in and a master’s degree in mathematics from brandeis university in she ha sec_28 years of actuarial experience in loss reserving and pricing for property and casualty insurance_companies ms barnes performed an independent actuarial analysis in accordance with asop and the revised edition of asop both of which had become effective by that time she computed estimated ultimate losses using nine accepted actuarial methodologies paid loss development method unadjusted adjusted paid loss development method reported loss development method unadjusted adjusted reported loss development method paid bf method unadjusted adjusted paid bf method reported bf method unadjusted adjusted reported bf method and frequency times severity method in her best professional judgment she ultimately decided to rely upon the results of the four adjusted methods and the frequency times severity method tillinghast was a predecessor firm to towers watson ms barnes used other accepted actuarial methodologies in computing estimated ultimate alae ulae and s s ms barnes persuasively explains in her expert report why she rejected the unadjusted methods as being unreliable acuity mutual experienced significant growth between approximately and for example the company’s earned premium volume for was more than three times the earned premium for workers compensation and general liability insurance similar and even greater growth was experienced in other lines of business much of the growth was in states other than the historical wisconsin base i have observed that the non- wisconsin business exhibits different characteristics than the historic wisconsin business eg loss development claim severity as a result the historical development patterns that are based predominantly on wisconsin experience are not representative of the future development of losses to be expected for acuity mutual as of year-end my analysis shows that the company experienced significant changes in the frequency of claims number of claims per insured exposure unit or policy and in the severity of claims average loss per claim in recent accident years as of year-end i have noted that the frequency of claims dropped significantly while the average cost of reported claims ie severity increased these types of changes lower frequency and higher severity occurring simultaneously cause a low bias to occur with the traditional unadjusted actuarial development techniques since the lower frequency phenomenon will likely be reflected in the actuarial data sooner than the higher severity in the adjusted methods ms barnes adjusted acuity’s loss and lae data to account for these and other substantial changes in the company’s operation and business her adjustments are supported by asop sec_3_6 which states that an actuary should consider whether there have been significant changes in conditions particularly with regard to claims losses or exposures that are likely to be insufficiently reflected in the experience data or in the assumptions used to estimate the unpaid claims in her expert report ms barnes computed a range of reasonable reserve estimates from dollar_figure to dollar_figure the revised edition of asop sec_3_7 states that an actuary should consider a reserve to be reasonable if it is within a range of estimates that could be produced by an unpaid claim estimate analysis that is in the actuary’s professional judgment consistent with both asop no property casualty unpaid claim estimates and the identified stated basis of reserve presentation ms barnes determined that acuity’s carried loss_reserves fell within her range and concluded that the reserves represent a fair and reasonable estimate of amounts the company will be required to pay after to settle claims incurred as of year-end mr merlino found a technical error in ms barnes’ analysis relating to the conversion of loss_reserves on a gross basis to a net_basis in his rebuttal report he proposed corrections to fix the error using alternative net-to-gross ratios his under asop sec_3_7 a range of estimates is an appropriate stated basis of reserve presentation proposed corrections result in a downward adjustment to ms barnes’ range of dollar_figure on the low end and dollar_figure on the high end after applying his corrections he computed ms barnes’ range to be dollar_figure to dollar_figure ms barnes admits that she made a technical error in her expert report in applying her selected net-to-gross ratios which resulted in an inconsistency between her gross and net paid losses to correct the error she produced at trial a revised report in which she applied her net-to-gross ratios to the gross unpaid_losses instead of the gross ultimate losses her corrections result in a downward adjustment to the range she computed of dollar_figure on the low end and dollar_figure on the high end after applying her corrections she computed a revised range of reasonable reserve estimates from dollar_figure to dollar_figure she credibly testified at trial that acuity’s carried loss_reserves for fall within her revised range and thus her opinion that acuity’s reserves are reasonable has not changed mr merlino notes in his rebuttal report that a dditonal adjustment to alae may be necessary but he does not offer any further explanation or propose any additional adjustments ms barnes described the error as a spreadsheet error respondent argues that ms barnes attempted to fix the problem that mr merlino found but failed to correct the problem doing so properly would have meant that the carried reserve exceeded her high estimate respondent asserts that mr merlino’s proposed corrections resulted in a reduction of ms barnes’ range by over dollar_figure million at the low end and dollar_figure million at the high end the change to the high end reduces it to dollar_figure million meaning that the carried reserve is higher than the corrected range respondent has not shown any computation nor offered any explanation as to how he arrived at dollar_figure million for the high end of ms barnes’ range respondent cites pages and exhibit of mr merlino’s rebuttal report however these show mr merlino’s computation of his proposed corrections and not ms barnes’ range after applying the proposed corrections in exhibit of his rebuttal report mr merlino compiled comparisons of reserves by component and by reserving segment he states in my comparisons for barnes i used adjusted net reserves by line consistent with the corrections discussed previously he shows the low end of ms barnes’ range to be dollar_figure and the high end to be dollar_figure we arrive at the same these amounts are also consistent with the percentages mr merlino computed for ms barnes’ range in table of his rebuttal report amounts when rounding to the nearest thousand low end dollar_figure - dollar_figure dollar_figure high end dollar_figure - dollar_figure dollar_figure moreover regardless of whether we accept mr merlino’s proposed corrections or ms barnes’ proposed corrections acuity’s carried loss_reserves for fall within ms barnes’ range of reasonable reserve estimates as corrected respondent makes a number of additional arguments as to why ms barnes’ range is unreasonable we find these arguments to be unpersuasive respondent argues that ms barnes’ assumptions and selections were biased high however as described supra p ms barnes explains in her expert report the factors she considered and the judgment she employed in making her selections we find them to be reasonable respondent also argues that ms barnes’ range was too wide she explains in her expert report that the internal and environmental changes in acuity’s business create additional uncertainty in the estimation of the liabilities and therefore cause the range of estimates considered to be reasonable to be wider than it would be with more stable conditions we compute the width of her range to be in applying her corrections dollar_figure - dollar_figure dollar_figure or in applying mr merlino’s corrections dollar_figure - dollar_figure dollar_figure either way her range as corrected is narrower than the ranges we found to be reasonable in utah med and as described supra pp we find it to be reasonable in this case in sum we find that ms barnes’ actuarial analysis supports petitioner’s position that acuity’s carried loss_reserves for are fair and reasonable b mr brown’s actuarial analysis mr brown is a consulting actuary and principal at milliman he received a bachelor’s degree in economics from illinois state university in he has over years of actuarial experience in loss reserving and pricing for property and casualty insurance_companies he served on the board_of directors of the cas from to mr brown performed an independent actuarial analysis in accordance with asop and the revised edition of asop before performing his mr brown did not review acuity’s homeowners commercial auto physical damage or personal auto physical damage lines of insurance these lines are all short tail coverage lines of insurance with a far lower degree of uncertainty than acuity’s other lines the portion of acuity’s carried loss_reserves for attributable to these lines is dollar_figure million he also did not review acuity’s ulae of dollar_figure million he accepted acuity’s estimates for the three lines and ulae without review in his expert report he states that it is professionally appropriate to review -95 of the reserves for a client and rely on the client’s estimate for a small percentage of the reserves he relies on asop sec_3_4 which states in pertinent part that an actuary may choose to disregard items that in the continued analysis he met with members of acuity’s management its claims and underwriting departments and its actuarial team he then used his best professional judgment in selecting loss development factors expected loss ratios frequency and severity trends and other inputs he used six accepted actuarial methods to compute estimated ultimate losses paid loss development method incurred loss development method frequency and severity method loss ratio method paid bf method and incurred bf method he used three additional accepted actuarial methods to compute estimated ultimate alae and s s he arrived at a range of reasonable reserve estimates from dollar_figure to dollar_figure he determined that acuity’s carried loss_reserves fell within his range and concluded that the reserves were reasonable he credibly testified that in continued actuary’s professional judgment are not material to the unpaid claim estimate given the intended purpose and use on brief respondent does not challenge mr brown’s judgment in accepting acuity’s estimates for the three lines and the ulae we treat respondent’s silence as a concession that mr brown’s judgment on this matter was appropriate and reasonable see rule e and 92_tc_661 his professional opinion any loss reserve estimate that falls within the range he computed is reasonabledollar_figure respondent argues that mr brown’s assumptions and selections are biased so high that his estimate does not represent actual unpaid_losses nor does it represent unpaid_losses as nearly as possible to ascertain them given the size of his range we disagree mr brown’s assumptions were informed by his meetings with key personnel at acuity and his selections were the product of those assumptions and his best professional judgment we find them to be reasonable he credibly testified that to the best of his knowledge the term fair and reasonable is not used in the actuarial literature one selection that respondent questions in particular is mr brown’s asbestos and environmental a e reserve segment of dollar_figure to dollar_figure acuity’s claims department did not establish a case reserve for asbestos liability it established a case reserve of dollar_figure for environmental liabilities mr brown determined in his best professional judgment that acuity faces potential exposure to a e liabilities in excess of acuity’s case reserves he stated in his expert report that a sbestos claims and pollution claims are significantly different from the rest of acuity’s claims the payments in and beyond are due to events from older accident years asbestos disease typically takes or or more years to manifest and pollution at a site may take decades to discover he used three industry-based methods to compute the a e reserve segment a m best survival ratio method exposure-adjusted survival ratio method and market share method on the basis of the foregoing we cannot say that mr brown’s judgment in including an a e reserve segment was unreasonable furthermore even assuming arguendo that an a e reserve segment was unnecessary and that segment was removed from mr brown’s range acuity’s carried loss_reserves for would still fall within mr brown’s range as recomputed we compute the width of mr brown’s range to be dollar_figure - dollar_figure dollar_figure his range is narrower than the ranges we found to be reasonable in utah med and as described supra pp we find it to be reasonable in this case separately from his actuarial analysis mr brown reviewed mr tures’ workpapers he determined that mr tures’ analysis consisted of professionally recognized and commonly utilized actuarial methods applied appropriately to the data at hand he determined that mr tures’ analysis was well documented and can be followed by another actuary qualified to perform reserve analyses he did not observe any kind of hidden margin within mr tures’ actuarial analysis while he did not agree with every one of mr tures’ selections he determined that the selections were reasonable in totaldollar_figure he found that mr tures’ best estimates for acuity’s commercial auto liability and property reserve segments exceeded the upper bound of his range for those segments he opined that in his experience an insurance company’s loss mr brown noted in his expert report and credibly testified at trial that he would have selected higher values for some of mr tures’ selections and lower values for others in his rebuttal report mr grippa points out that there are literally thousands of individual selections judgments made by each actuary in arriving at his her estimates of loss_reserves common sense dictates that one would not expect two actuaries to arrive at identical values for every one of the thousands of individual selections reserves for a particular segment commonly fell outside of his range even though the company’s total_reserves fell within his range he determined that mr tures’ expected loss_reserves ie mr tures’ total_reserves for all segments including lae fell within his range and thus concluded that the reserves were reasonable his conclusion is consistent with our caselaw under which the aggregate unpaid loss_reserves for all lines of business for the applicable_year and not the individual reserves for each line_of_business must meet the fair and reasonable test hanover ins co v commissioner t c pincite western casualty surety co v commissioner t c pincite hosp corp of am v commissioner tcmemo_1997_482 slip op pincite in sum we find that mr brown’s actuarial analysis and his review of mr tures’ workpapers support petitioner’s position that acuity’s carried loss_reserves for are fair and reasonable c mr merlino’s and mr grippa’s actuarial analyses mr merlino is a consulting actuary at merlinos associates inc he received a bachelor’s degree in applied mathematics from brown university in he ha sec_30 years of experience as an actuarial consultant a substantial portion of which is in the field of loss reserving for property and casualty insurance_companies mr grippa is a principal at strategic actuarial risk consultants llc he received a bachelor’s degree in economics from tulane university he has over years of actuarial and insurance management experience including years at the national council on compensation insurance mr merlino and mr grippa each performed an independent actuarial analysis like ms barnes they each made technical errors in their analysis that they later corrected mr merlino computed a range from dollar_figure to dollar_figure around a central estimate of dollar_figure mr grippa did not compute a range he computed a central estimate of dollar_figure and an estimate at the 75th percentile confidence level of dollar_figure mr merlino and mr grippa determined that acuity’s carried loss_reserves for exceeded the upper bound of their range and estimate at the 75th percentile confidence level respectively respondent argues that mr grippa determined a central estimate for acuity that is fair and reasonable and that represents actual unpaid_losses of acuity his estimate is supported by respondent’s other expert actuary matthew merlino on the other hand petitioner argues that mr grippa’s selections were aggressively low and that his estimate at the 75th percentile confidence level is inconsistent with standard actuarial practice petitioner further argues that mr merlino evidenced a low bias in his selections failed to take into account the changes in acuity’s business and computed an unreasonably narrow range we perceive no need to address these arguments because neither mr merlino’s nor mr grippa’s actuarial analysis convinces us that acuity’s carried loss_reserves for were anything other than fair and reasonable the applicable regulations require the taxpayer to show that its loss_reserves are fair and reasonable and represent only actual unpaid_losses where as here the taxpayer has made such a showing our inquiry ends utah med slip op pincite the applicable regulations do not require a taxpayer to show that the amount espoused by the commissioner as a fair and reasonable loss reserve estimate is in fact not fair or reasonable thus we need not and do not decide whether mr merlino’s or mr grippa’s loss reserve estimate would also be fair and reasonable viii conclusion petitioner introduced substantial evidence in support of its position that acuity’s carried loss_reserves for are fair and reasonable and represent only actual unpaid_losses mr tures’ actuarial computation of his expected loss_reserves in accordance with the naic rules and asops and acuity’s adoption of that amount without change as its carried loss_reserves strongly support petitioner’s position mr kryczka’s determination that acuity’s carried loss reserves fell within his range of reasonable reserve estimates actuarially computed in accordance with the asops strongly supports petitioner’s position ms barnes’ and mr brown’s actuarial analyses and expert opinions that acuity’s carried loss_reserves are reasonable further support petitioner’s position respondent has not introduced any persuasive evidence to the contrary on the basis of the foregoing we hold that acuity’s carried loss_reserves of dollar_figure for are fair and reasonable and represent only actual unpaid_losses within the meaning of the applicable regulations because the parties settled some issues before trial decision will be entered under rule