Negative IMR – Short-term proposal adopted to provide regulatory relief (Ref #2022-19)
Regulators have adopted revisions to the accounting rules for interest maintenance reserve (IMR) to provide relief from the negative accounting impacts of rising interest rates. The proposal will provide limited admittance of net negative IMR, which under current rules is disallowed and non-admitted.
The new guidance includes the following provisions:
- Allowance to admit up to 10% of adjusted capital and surplus – first in the general account (GA), and then, if all disallowed IMR in the GA is admitted and the percentage limit is not reached, to the separate account (SA) proportionately between insulated and non-insulated accounts.
- Requirement for RBC over 300% after an adjustment to exclude various soft assets (e.g. admitted positive goodwill, electronic data processing equipment and operating system software, DTAs and admitted IMR).
- There is no exclusion for derivatives losses included in negative IMR if the insurer can demonstrate historical practice in which realized gains from derivatives were also reversed to IMR (as liabilities) and amortized as part of IMR.
- Inclusion of a new reporting entity attestation.
- Application guidance for admitting/recognizing IMR in both the GA and SA.
The new guidance is officially listed as a temporary solution, with the effective date extending through December 31, 2025. The guidance automatically nullifies on January 1, 2026, but the effective date can be adjusted (nullified earlier or extended) based on regulator actions to establish permanent guidance.
Regulators adopt new accounting rules for Schedule D bonds; will also look to clarify guidance for bonds pushed to Schedule BA (Ref #2019-21)
After years of work on the principles-based project to revamp the accounting rules for Schedule D bonds, regulators have begun to finalize and adopt significant portions of the new guidance. SAPWG6 has adopted its new SSAP 26R (issuer obligations) and SSAP 43R (asset-backed securities), which will detail what’s allowable for Schedule D-1 access. The adoption will be effective as of January 1, 2025, to allow insurers time to analyze the resulting impact on their investment portfolios.
For bonds that no longer qualify as Schedule D bonds, regulators have incorporated a few clarifying edits:
- Debt securities that do not qualify as bonds for Schedule D-1 purposes, and for which the primary source of repayment is derived through rights to underlying collateral, qualify as admitted assets if the underlying collateral primarily qualifies as admitted invested assets. Any residual tranches or first loss positions held from the same securitization that did not qualify as a bond also only qualify to the extent the underlying collateral primarily qualifies as admitted invested assets. Furthermore, if a debt security from a securitization is (or would be) non-admitted, then any residual interests or first loss positions held from the same securitization would also be non-admitted.
- SAPWG will sponsor a blanks proposal to revise Schedule BA for bonds that do not qualify as Schedule D-1 securities, with an additional request that the SVO assess whether additional guidance is needed to clarify and/or permit the assignment of SVO-provided NAIC Designations for bonds that do not qualify as Schedule D-1 securities (clarity on the FE eligibility would also need to be addressed). SAPWG is also requesting that the CATF7 opine on the RBC impact of the split between non-Schedule D-1 bonds with SVO-assigned NAIC Designations versus securities without NAIC Designations. This is particularly important for life insurers, which have historically had the ability to reduce the capital charges on Schedule BA assets with NAIC Designations.
Reference Rate Reform (Ref #2023-05, INT 20-01)
To prepare for the transition away from the London Interbank Offered Rate (LIBOR) and other interbank offered rates, regulators previously adopted guidance that granted temporary (optional) waivers from derecognizing hedging transactions and provided some exceptions for assessing hedge effectiveness. The relief also included derivative instruments affected by changes to the rates used for discounting, margining or contract price alignment (regardless of whether they referenced LIBOR or another interbank rate that is expected to be discontinued). Regulators have adopted guidance to extend these temporary waivers to December 31, 2024, which will allow for the continuation of existing hedge relationships and thus not require hedge de-designation due to reference rate reform.
CLOs – Financial modeling added to statutory accounting rules (Ref #2023-02)
Regulators officially adopted a new amendment to add CLO modeling guidance to the statutory accounting guidance for ABS (SSAP 43R), while also clarifying that CLOs are not captured as legacy securities8.
Exposed Items, to be further considered
Residual tranches – Guidance amendment proposed to clarify definition and reporting requirements (Ref #2023-12)
Regulators have proposed revisions to accounting guidance to better clarify the definition and reporting requirements for investment structures that represent residual interests or a residual security tranche. When reviewing the 2022 annual statements, regulators concluded that residuals might have been underreported by insurers, possibly due to the various forms that residual investments can take. The structural design of a residual interest or residual security tranche can vary, but the overall concept is that they receive “residual” cash flows after all debt holders receive contractual interest and principal payments. Guidance is being added to SSAP 48 – Joint Ventures, Partnerships and Limited Liability Companies and SSAP 43R – Loan-Backed and Structured Securities that also specifies that:
- Residuals exist in structures that issue one or more classes of debt securities created for the primary purpose of raising debt capital backed by collateral assets.
- The primary source of debt repayment is derived through rights to the cash flows of a discrete pool of collateral assets.
- The collateral assets generate cash flows that provide interest and principal payments to debt holders through a contractually prescribed distribution methodology (e.g., waterfall dictating the order and application of all collateral cash flows).
- The residual holders in the structure continue to receive payments from the collateral so long as there are cash flows in excess of the debt obligations. The payments to the residual holder may vary significantly, both in timing and amount, based on the underlying collateral performance.
Following a short comment period ending September 12, the goal remains for this to be adopted and implemented in time for year-end 2023.
Asset Valuation Reserve (AVR) and Interest Maintenance Reserve (IMR) – A long-term project will better define the accounting guidance for AVR and IMR (Ref #2023-14)
Regulators are adding to the agenda a new, long-term project to better define the accounting rules for AVR and IMR in SSAP 7 – Asset Valuation Reserve and Interest Maintenance Reserve. Historically, SSAP 7 only provided a brief overview without instructions containing more detailed language. The aim is that the project would address a few disconnects between the statutory accounting principles and the annual statement instructions for AVR/IMR, while specifically addressing a few topical issues.
Future discussions are likely to be focused on:
- Absolutes in allocating between IMR and AVR – Clarity has been requested for situations where a sale occurred before an official downgrade, but the sale was clearly the result of a notable decline in credit quality (See the following section Allocating losses between IMR versus AVR).
- Bond IMR/AVR allocation – The guidance for IMR/AVR differs between issuer obligations and ABS. Also, since the current guidance was implemented before the expansion of NAIC Designations from 6 to 20, the guidance is no longer clear on what constitutes a designation change.
- Perpetual preferred stock allocation – The guidance hasn’t been reviewed since the accounting change requiring that all perpetual preferred stock be reported at fair value.
- Delineation of non-interest versus interest and realized versus unrealized – The proposal will focus on principles-based concepts to establish the division between interest and non-interest changes, as well as the reporting of unrealized and realized changes. This will help ensure consistent application across the industry.
- Derivative guidance – Guidance revisions will be needed to improve the reporting of interest rate derivatives held at fair value (i.e. derivatives that do not qualify for hedge accounting).
- Reinsurance ceded/assumed – While the annual statement instructions include guidance for removal of IMR for reinsurance ceded, and the acquisition of IMR for reinsurance assumed, the impact of reinsurance, particularly with the dissolution of reinsurance agreements when IMR had initially been transferred, is a common question on determining IMR and AVR for insurers.
- AVR/IMR cross checks – Better cross checks are needed to ensure that items are being mapped to AVR/IMR correctly between reporting schedules.
- Overall IMR and AVR reporting in GA and SA – The reporting of IMR and AVR, including how positive balances in one account impact negative balances in another account, as well as the treatment of net negative IMR, will be a long-term focus. This will lead to a need for guidance revisions in SSAP 7 and SSAP 56 (Separate Accounts).
Allocating losses between IMR versus AVR (Ref #2023-15)
SAPWG is proposing guidance revisions to remove the ability to allocate non-interest related losses to IMR. This was always the original intent of the current rules, but the guidance in the annual statement instructions created some unintended ambiguity.
The proposed guidance revisions clarify that, for issuer obligations and preferred stocks, IMR is only for realized gains and losses that are predominately related to interest-related changes. If the NAIC Designation at the end of the holding period, or within a reasonable amount of time after the insurer has sold/disposed of the instrument, is different from its NAIC Designation at the beginning of the holding period by more than one NAIC Designation or NAIC Designation category, the gains or losses from those instruments shall NOT be reported in IMR and shall be reported in AVR.
For mortgage loans, realized gains or losses from mortgages that meet any of the following criteria shall be reported in the AVR, and not IMR:
- Any mortgage loan sold/disposed of with an established valuation allowance under SSAP 37
- Interest is more than 90 days past due
- The loan is in process of foreclosure
- The loan is in course of voluntary conveyance
- The terms of the loan have been restructured during the prior two years
Schedule BA Reporting Categories (Ref #2023-16)
Guidance revisions are being proposed to incorporate more detailed definitions for Schedule BA investments that fall under SSAP 48 – Joint Ventures, Partnerships and Limited Liability Companies. Schedule BA investments have primary reporting categories (non-registered private funds, joint ventures, partnerships or limited liability companies, or residual interests) and subcategories (fixed-income instruments, common stocks, real estate, mortgage loans, other) that denote the underlying characteristics of the assets within the primary categories. Regulators will look to refine the instructions and examples for Schedule BA’s subcategories to better reflect market convention and improve consistency.
Short-Term Investments (Ref #2023-17)
Regulators have proposed revisions to the guidance in SSAP 2R – Cash, Cash Equivalents, Drafts and Short-Term investments to establish principal concepts for the types of investments that should be permitted for reporting as either cash equivalents or short-term investments. The review of short-term investments is in response to noted situations where certain types of investments, particularly collateral loans or other Schedule BA items, are being specifically designed to meet the parameters for short-term reporting. Regulators have become aware of short-term collateral loan investments where rules are being circumvented so that they can qualify as a short-term investment on Schedule DA and not Schedule BA, thereby receiving better regulatory treatment (e.g., reduced RBC charges, exclusions from state investment limitations).
The proposed guidance is likely to include a new revision that excludes an investment from being reported as a cash equivalent or short-term investment unless it would also qualify as an issuer credit obligation under SSAP 26R – Bonds. Such investments will then only qualify as a cash equivalent or short-term investment if it has a maturity date within 3 months (cash equivalents) or 12 months (short term) from the date of acquisition or meets the specific requirements for money market mutual funds or cash pooling arrangements. This would ensure that certain investment types are captured in the intended reporting schedule.
To align with the principles-based bond project adoption (see previous Regulators adopt new accounting rules for Schedule D bonds), the proposed effective date of this new guidance is January 1, 2025.
1 Valuation of Securities Task Force
2 Securities Valuation Office
3 Nationally Recognized Statistical Rating Organization
4 NAIC Fund Lists include the 1) NAIC U.S. Government Money Market Fund List, 2) SVO-Identified ETF Bond and Preferred Stock Lists, 3) NAIC Fixed Income-Like SEC Registered Funds List and 4) NAIC List of Schedule BA Non-Registered Private Funds With Underlying Assets Having Characteristics of Bonds or Preferred Stock. Funds on the NAIC U.S. Government Money Market Fund List are not permitted to use any derivatives transactions or instruments.
5 Non-payment risks under NAIC rules pertain to contractual agreements between the insurer and the issuer in which the issuer is given some measure of financial flexibility not to make payments. This also includes situations where the insurer agrees to be exposed to participatory risk.
6 Statutory Accounting Principles Working Group
7 Capital Adequacy Task Force
8 Legacy securities are financially modeled CMBS and non-agency RMBS issued prior to 2013. The NAIC Designation for legacy securities is determined by using CUSIP-specific modeled breakpoints and the security’s book-adjusted carrying value.