Sabrina Wilson, CPA, FLMI
Sabrina serves as a subject matter expert for regulatory filings at Clearwater. In this role, she works with internal teams for the ongoing enhancement of NAIC reports. Sabrina has over 20 years’ of statutory accounting and reporting experience and uses her background to communicate industry best practices and comment on regulatory guidance and procedures. She also handles complex statutory accounting and analytics questions posed by our user community.
Sabrina is a certified public accountant, has earned the designation of Fellow, Life Management Institute (FLMI), and has a master’s degree in accounting and taxation from Boise State University.
The NAIC held its 2020 Summer National meeting through a series of conference calls in July and August. This article highlights the top 10 investment accounting regulatory updates insurers should know about from the meetings.
For an in-depth look at updates from the Statutory Accounting Principles Working Group, Valuation of Securities Task Force, and more, download Clearwater’s market insight paper. You can also watch the recording of our recent NAIC Investment Updates: Summer 2020 National Meeting Overview NAIC Summer National Meeting Update webinar anytime on demand.
Ref #2019-04: SSAP No. 32 – Investment Classification Project
During a March 18 conference call, the SAPWG exposed an issue paper and substantial revisions to SSAP No. 32R – Preferred Stock. The revisions apply to the definitions, measurements, and impairment guidance for preferred stock pursuant to the investment classification project.
Interested parties support the revisions, as well as the January 1, 2021, effective date. They also suggest revised wording to the footnote regarding preferred units issued by SSAP 48 entities, as follows:
“Certain legal entities captured in SSAP No. 48 such as LLCs that are corporate-like do not issue preferred stock in legal form, but instead issue identical instruments labeled preferred units, interests, or shares. These instruments shall be captured in this statement provided they meet the structural characteristics as defined in paragraph 3.
Additionally, these instruments shall not be in-substance common stock in which the holder has risk and reward characteristics that are substantially similar to common stock.”
NAIC staff recommended the issue paper be adopted, along with the revised footnote.
The effective date is January 1, 2021.
Ref #2020-02: Accounting for Bond Tender Offers
On the March call, the SAPWG exposed revisions to SSAP No. 26R—Bonds to clarify that the guidance for called bonds can also be applied to tendered bonds, which differ only in that the bond holder must elect to accept the repurchase offer in a tender offer or the original terms of the bond are not modified.
Interested parties asked that the effective date be set to January 1, 2021. This will provide enough time for insurers to make the system changes necessary to account for the change.
NAIC staff recommended adopting the item. They also proposed edits that allow for the January 1, 2021, adoption date, with the option to apply early.
INT 20-09: Basis Swaps as a result of the LIBOR transition
Basis swaps are considered compulsory derivatives issued by Central Clearing Parties (CCP) in response to the market-wide transition away from LIBOR and toward the SOFR. They shall be reported as “Hedging – Other” and reported at fair value. Basis swaps cannot be reported as “effective” hedging derivatives unless they meet the criteria as a highly effective hedge pursuant to SSAP No. 86.
As part of a market-wide transition away from LIBOR and toward the SOFR, US Central Clearing Counterparties (CCPs) will shift their discounting rate from the Effective Federal Funds Rate (EFFR) to the SOFR using a one-time special valuation cycle on October 16, 2020. CCPs will revalue existing cleared swaps and issue basis swaps on a mandatory basis to all parties that clear swaps on the CCPs to restore a counterparty’s original risk profile. Financial Conditional (E) Committee issued a memorandum to indicate the Committee’s support for allowing insurers to hold such swaps as “permissible derivative investments” for up to one year. This is because the insurers have no control over the distribution of such basis swaps to them, and recognizing that insurers may incur loss if required to dispose of such basis swaps upon receipt.
INTs 20-04 and 20-05
INT 20-04: Mortgage Loan Impairment Assessment Due to COVID-19
This item provides temporary relief for the assessment of impairment for bank loans, mortgage loans, and investments which predominantly hold underlying mortgage loans, SEC-registered investments (e.g., mortgage-backed mutual funds); loan-backed and structured securities (e.g., residential and commercial mortgage-backed securities, credit risk transfers issued through government- sponsored enterprises); and joint ventures, partnerships, and limited liabilities companies (e.g., private equity mortgage loan funds) if the loans are impacted by forbearance or modifications due to COVID-19 and the borrowers were current as of December 31, 2019. It would not delay the recognition of other-than-temporary impairments (OTTI) if the entity decided to sell the investment or there is evidence that it would not recover the reported carrying value of the investment (e.g., the debtor filed for bankruptcy).
INT 20-05: Investment Income Due and Accrued
This provides a limited-time collectability assessment and admittance exceptions for SSAP No. 34—Investment Income Due and Accrued. It stipulates that:
1. The interpretation would continue with existing guidance for the recognition of investment income
2. The interpretation would continue with requirements to assess collectability of investment income, with a presumption that mortgage loans, bank loans and investment products with underlying mortgage loans impacted by forbearance or modifications that were current as of Dec. 31, 2019, were not experiencing financial difficulties at the time of the loan modification. For these items, further evaluation of collectability would not be required for the first and second quarter financial statements unless other indicators that interest would not be collected are known (e.g., entity has filed bankruptcy).
3. The interpretation provides an exception for the nonadmittance of recorded investment income due and accrued deemed collectible and over 90 days past due. With the exception, reported investment income that becomes over 90 days past due in the first or second quarter may continue to be admitted in the second quarter financial statements.
The above interpretations (INT 20-04 and INT 20-05) have been extended to December 30, 2020 (they will not be applicable for year-end 2020).
NAIC received informal comments regarding possible extension to 2020 Annual, especially for INT 20-04. The Chair of the Working Group will discuss that recommendation during the fall meeting.
Ref #2020-24: Accounting and Reporting of Credit Tenant Loans
During a spring conference call, the VOSTF sent a referral to the SAPWG to permit non-conforming CTLs that receive an NAIC designation from the SVO to be considered in scope of SSAP No 43R Loan-Backed and Structured Securities. This item intends to clarify the reporting of CTLs outside of the SSAP No. 43R project, which may extend past when CTL clarity is needed.
The NAIC recently identified that some insurers include CTLs that did not qualify under the SVO’s structural and legal analysis, or were not filed with the SVO, in Schedule D with filing exempt designations under SSAP No. 43R.
NAIC staff noted that once CTLs have been considered, other variations of similar investments should be named or addressed in the AP&P Manual, including ground lease financings and other lease-backed (non-ABS) securities.
This item would determine whether conforming CTLs should be captured by SSAP No. 43R or SSAP No. 21R— Other Admitted Assets. NAIC staff recommended the item be exposed for comment, with two general options:
1. “Option 1: SSAP No. 43R for Conforming CTLs (this includes CTLs with SVO-identified bond characteristics acquired prior to Jan. 1, 2020, as detailed in the P&P Manual) and SSAP No. 37 or SSAP No. 21 for Non-Conforming CTLs”
2. “Option 2: SSAP No. 21 for All CTLs”
Option 1 allows conforming CTLs to be reported as other Loan-Backed and Structured Security on Schedule D, and non-conforming CTLs be reported as Mortgage Loans on Schedule B or Other Invested Asset on Schedule BA. This option is inconsistent with SSAP No. 37 which explicitly excludes “securities” from the scope. To be eligible for conforming CTLs, SVO parameters permit a slight amount of residual real estate risk (e.g., 5%) or additional mitigation elements must be included in the structure. Non-conforming CTLs have higher residual risk which means the investor might receive ownership of the property in lieu of the remaining principal amount owed which is deemed unacceptable for bond reporting under the SVO parameters.
Option 2 removes CTLs from the scope of SSAP No. 43R. It allows all CTLs to be reported and the regulators to be able to see all CTLs in the same schedule (i.e., Schedule BA).
Current RBC charges for CTLs reported on Schedule BA are 30% for life filers and 20% for non-life filers. Life filers will be able to get RBC benefits if CTLs on Schedule BA can have NAIC designation. There would be no RBC benefit for non-life filers under the current RBC formula.
NAIC staff said this option seems consistent with the decision made for structured settlements in 2018. CTLs are similar to structured settlements because both are not bonds but reflect an investment in a cash flow stream that is subject to the underlying credit quality of the payer.
Industry requested guidance on the application of 2020 RBC commercial mortgage reporting instruction on four items:
• Net Operating Income
• Contemporaneous Property Values
• Construction Loans
• Origination Date, Valuation Date, Property Value, and 90 days past due
The working group adopted three of these items during the previous call meetings and deferred one item.
They will resume the conversation once 2020 Annual RBC data is available.
Adopted on June 30, 2020
• Construction loans
• Origination and valuation date, property values and 90 days past due
The working group is comfortable extending the guidance provided by the Financial Condition (E) Committee until December 31, 2020. These requests are consistent with the intent of the guidance, which is to encourage insurers to make prudent loan modifications or forbearance for borrowers who are temporarily unable to meet their contractual payment obligations due to COVID-19.
A loan with “construction loan issues” would be required to have a CM5 rating and the filer would be required to update the origination and valuation date, property values when the loan is restructured, extended, re-written, or refinanced and specify if a loan is 90 days past due according to current RBC rules because a loan is traditionally treated as restructured when a loan is modified or forbearance occurs.
Adopted on July 10, 2020
Contemporaneous property values: This refers to the property value at origination or at revaluation, adjusted by applying the average of the 2019 and 2020 NCREIF price index.
RBC loan-to-value (LTV) is calculated as Total Loan Value divided by the Contemporaneous Property Value and it is used to determine the risk category (CM1 to CM5) for a loan that is not 90 days or more overdue. An interested party said using the 2020 NCREIF price index per existing RBC instruction would distort the market value of commercial properties because that index is based on appraisals that could create a prejudice that all properties have lost value as of the end of 2020 and cause the life insurers to show a corresponding prejudiced increase in credit risk for 2020.
Incorporating those lowered property values into the RBC LTV calculation would result in higher capital requirement and would be against the intent of RBC Temporary Relief Guidance from Financial Condition (E) Committee.
2020 Net Operating Income (NOI) will be used in the RBC calculations for 2021, 2022, and 2023, and also used when new loans were created for 2020. Interested parties asked the working group to consider adopting the revised proposed formula (i.e., the greater of 2020 NOI or 85% of 2019 NOI). The working group has concerns with this proposal, which ignores the credit risk impact of temporary business shutdowns resulting from the COVID-19 pandemic, and they said they need 2020 annual data in order to make decisions.
Consider Adoption of a Proposed Amendment to the Purposes and Procedures Manual of the NAIC Investment Analysis Office (P&P Manual) to Map Short-term CRP Ratings to NAIC Designation Categories
Following a request by NASVA, the SVO drafted an update to the general mapping table so that Credit Rating Provider (CRP) ratings for short-term instruments are mapped to NAIC Designation Categories. In creating these updates, NAIC staff applied a mid-point approach to short-term mapping, because short-term ratings do not have a direct one-to-one set of ratings symbols that map to every NAIC Designation Category.
Staff recommended mapping the NAIC Designation Category to the mid-point of the range of long-term ratings covered by each short-term rating. The description of the mappings for both long-term and short-term rating symbols were also updated to indicate they are generic rating symbols, and staff recommended adding a footnote that describes where to locate on the SVO webpage the master list of credit ratings eligible for translation to NAIC Designations.
The task force did not receive any comments during the public comment period.
Consider a Proposed Amendment to the P&P Manual to Add Instructions for ETFs that Contain a Combination of Preferred Stocks and Bonds
Current guidance in the P&P Manual restricts the SVO from reviewing ETFs with both bonds and preferred stock when determining if a fund’s cash flow can be appropriately characterized as fixed income for regulatory purposes, assigning an NAIC Designation to reflect the credit risk associated with the fund’s cash flow, and including the name of the fund on the appropriate NAIC list. There has been no ETF on the SVO Identified List – Preferred Stock ETF since April 2020. With this proposed amendment, the SVO will be authorized to review these types of ETFs that contain both bonds and preferred stock for possible inclusion on the preferred stock ETF list.