NAIC Discusses Considerations for Private Equity-Owned Insurers

Both the Financial Stability Task Force and the Macroprudential Working Group of the NAIC held a joint meeting on June 27 to consider sending referrals to various NAIC working groups with the regulator responses to a list of considerations applicable to private equity-owned insurers.  

This item was exposed on April 27 for 45 days with a comment deadline of June 13. There are 13 considerations in this item. The working group received five comment letters. They voted to send referrals with the interested parties’ comments that are viable and actionable to other NAIC working groups. 

Here are the highlights of some interested parties’ comments that will be included in the referrals to various working groups: 

1. For the acquisition of insurance companies, the acquiring parties are required to file Form A and adhere to the stipulations pursuant to the NAIC Financial Analysis Handbook (Examples of the limited time and continuing stipulations can be found here). Interested parties suggested including the following recommendations in the referrals to both the NAIC Group Solvency Issues Working Group (GSIWG) and the NAIC Risk-Focused Surveillance Working Group (RFSWG): 

• • • • Limited partnerships should not have a specific end date 
      • Parental guarantee or a capital maintenance agreement is needed 
      • Impose additional restrictions on the interest of the general partner 
      • Transfer of business to offshore entities requiring continued maintenance of capital levels similar to those in place prior to the transaction 

For the additional disclosure requirements for Form A applications, the interested parties recommend the GSIWG assess the need to provide regulatory certainty vis-a-vis when and on what basis additional disclosures could be required, and if the additional disclosures would extend approval timelines.   

2. Pursuant to Model Act#440, control is presumed to exist where ownership is larger than 10%, but control may exist with less than 10% ownership. For example, a party may exercise a controlling influence over an insurer through board and management representation or contractual agreements, e.g., non-customary minority shareholder rights or covenants, or an investment management agreement (IMA). The New York Department of Financial Services emphasized that the presumption of control, e.g., greater than 10% ownership, does not create a safe harbor from a control determination and the related regulatory requirements in its Insurance Circular Letter No. 5 (2022).  

The interested parties said the current definition of control provides a clear and predictable presumption and so, it needs to remain. The contractual terms contained in service agreements that are negotiated on an arm’s length basis are not sufficient to convey the power to direct or cause the direction of an insurer, so long as they are subject to the ultimate supervision and control by the insurer.  

3. The material terms of the IMA (e.g., amount and types of investment management fees paid by the insurer, the termination provisions, and the degree of discretion or control of the asset manager over investment guidelines, allocation, and decisions) are crucial in determining if the IMA are negotiated on an arm’s length. The interested parties recommend including the following considerations in the referral to the RFSWG:  

• • • • Include a thorough review of the agreement, e.g., if the agreement includes details and investment guidelines, if there is sufficient expertise at the insurer and on the insurer’s board to properly assess the performance and compliance of the investment manager, if the investment manager is registered under the Investment Advisers Act of 1940 and recognized as a fiduciary 
      • There should not be conflict of interest if the insurers retain full control over asset allocation.   
      • Any fees paid to the investment managers should be considered on a net basis despite certain investment products generally having higher fees than others.   
      • As the asset managers often dedicate extensive resources in managing the insurer’s investments, it is appropriate for the asset managers to seek contractual protections if an insurer decides to terminate the arrangement earlier than what was agreed upon. 

4. For additional disclosure requirements for assets created and managed by affiliates, e.g., collateralized loan obligations (CLOs), it may be solved by the new disclosure requirement from both the SAPWG and BWG that the use of code indicators to identify the role of the related party in the investment, e.g., direct credit exposure or relationships in securitizations or similar investments. The interested parties recommended including the following item in the referral to the NAIC Examination Oversight Task Force (EOTF), RFSWG and SAPWG: 

Investments in CLOs are subject to disclosure and conflicts of interest standards under various securities laws and regulations. However, some of the collateral loans and privately placed funds that are reported on Schedule BA, may include substantial management fees and potential for a conflict of interest that would not be captured by securities laws. 

 5. For the significant increases in investment on privately structured securities, this type of investment lacks transparency and increases traditional credit risk, including complexity and illiquidity risk. The Securities Valuation Office began receiving private rating rationale reports in 2022, and it is believed it will offer some transparency into these private securities.  

The Valuation of Securities Task Force has a proposal to add market data fields to Schedule D Part 1 for bonds that are within scope of SSAP No. 26R and 43R and will send a referral to the Blanks Working Group once it is adopted. It will allow a comparison with the NAIC Designation.  The Life Actuarial Task Force (LATF) exposed actuarial guidelines that include disclosure requirements for these risks and how the insurer is modeling the risks.   

The interested parties’ comments will be included in the referrals to EOTF, VOSTF, and the Risk-Based Capital Investment Risk Evaluation Working Group to consider adding the disclosure requirement for structured notes. The current work from the LATF will support improved capture of the increased risk associated with complex assets but reserving is not intended to capture tail risk. RBCIREWG is reviewing capital requirements for these complex assets to prevent the new insurance owners from shifting investments into complex asset structures with relatively low RBC charges. 

6. The interested parties agreed with the task force response that the considerations are activity based and apply beyond private equity-owned insurance companies, e.g., asset manager affiliates.  

Other NAIC Updates 

The Capital Adequacy Task Force held a meeting on June 30, where they adopted an instructional change for residual tranches and interests on LR008 Other Long-Term Assets, effective Dec. 31, 2022. 

This item was previously adopted by the Life Risk-Based Capital Working Group on June 3. The change adds the new instruction to clarify residual tranches should be reported in line 49.2 to facilitate the changes being made for this year-end for Schedule BA and the Asset Valuation Reserve (AVR) Equity Component Report.   

The task force chairman said they will consider adopting the following three items during the upcoming NAIC Summer National Meeting on Aug. 11: 

The Interest Maintenance Reserve (IMR) amortization schedule for 2022 was published at the beginning of July.