Regulators look to tighten the reins on reinsurance deals

Support is growing among some state insurance regulators to tighten the rules for life insurers entering into reinsurance agreements.

The goal is to better protect policyholders, said David Wolf, acting assistant commissioner for the New Jersey Department of Banking and Insurance. Regulators are becoming increasingly challenged by the size and sheer number of reinsurance deals, Wolf explained during a Thursday meeting of the Life Actuarial Task Force.

The task force is a regulatory body of the National Association of Insurance Commissioners.

"We've often communicated together and with each other as these transactions have come up," Wolf said. "In the conversations a common and shared concern that has continuously come up was the need to better understand the assets, the reserves, and the capital to support the business under the U.S. debt framework."

Wolf and Kevin Clark, chief accounting and reinsurance specialist with the Iowa Insurance Division, presented a proposal to require an "asset adequacy analysis to be performed using a cash flow testing methodology" for life and annuity reinsurance transactions.

"There is risk that domestic life insurers may enter into reinsurance transactions that materially lower the total asset requirement (the sum of reserves and required capital) in support of their asset-intensive business, and thereby facilitate releases of capital that prejudice the interests of their policyholders," the Wolf/Clark proposal reads.

A pair of recent deals illustrate the size of the reinsurance market. In November, Lincoln National Life Insurance Co. successfully closed a $28 billion reinsurance deal with Fortitude Re, a global multi-line reinsurer. That was followed by Manulife Financial Corp. reaching a deal to de-risk its long-term care business with a $13 billion agreement with KKR-backed Global Atlantic.

Reinsurance deals different

Standard asset adequacy analysis requires reserves to be held at a level that meets "moderately adverse conditions, or approximately one standard deviation beyond expected results," the Wolf/Clark proposal noted.

"When a reinsurance transaction lowers the ceding insurer’s reserves, the new reserves established by the reinsurer could be materially less than what would be needed to meet policyholder obligations under moderately adverse conditions in addition to providing an appropriate level of capital," the proposal continued.

The ceding company’s appointed actuary might not recognize this insufficiency, the proposal added, for at least three reasons:

1. Some actuaries believe that the requirements of AAA for reinsured business only require evaluation of the counterparty risk. So, if the counterparty is financially strong, no testing is done to assess whether the invested assets supporting the reserves are sufficient under
moderately adverse conditions.
2. Some actuaries may combine the reinsured business with other direct written business, so that the inadequacy in the reinsured business (and the associated shortfalls in the reinsurer’s assets supporting that business) are offset by margins in the cedent’s other lines of business.
3. Some actuaries may not be able to obtain sufficient information from their reinsurers in order to do the asset testing, and therefore place reliance on the reinsurer to do so.

Some insurers likely see reinsurance as a way to reduce their asset obligations, Wolf and Clark said.

"The ability of insurers to significantly lower the total asset requirement for long-duration blocks of business that rely heavily on asset returns appears to be one of the drivers of the significant increase in reinsurance transactions," the proposal states.

Brian Bayerle, chief life actuary at the American Council of Life Insurers, opposed the proposal, noting that the NAIC already has a regulatory framework to handle improvements to asset testing.

"Our concern is that this may be potentially overreach and really be introducing complications that may not be necessary," Bayerle said.

Objections raised

The task force meets weekly and plans to resume discussing the proposal on Thursday. An exposure draft to solicit comments could follow, said Rachel Hemphill, chief actuary at the Texas Department of Insurance and chair of LATF.

Vincent Tsang of the Illinois Department of Insurance questioned whether the assets can easily be identified and whether the Wolf/Clark proposal is practical in real-world application.

"Company B may not inform Company A about what kind of asset they actually use to support their block of business," Tsang explained. "And they may not disclose about their reinvestment strategy for their block anymore, because they assumed the block may be combined with the company B's existing business to be managed together. So Company A may not be able to get whatever is needed to perform the cash flow testing."

Wolf and Clark expressed confidence that the data will be available for asset testing.

"To the extent that becomes a requirement for a cedent to perform, they would obviously need to ensure they have the information to perform the analysis, which very well may require that to be written into the reinsurance agreements," Clark said.

InsuranceNewsNet Senior Editor John Hilton covered business and other beats in more than 20 years of daily journalism. John may be reached at [email protected]. Follow him on Twitter @INNJohnH.

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InsuranceNewsNet Senior Editor John Hilton has covered business and other beats in more than 20 years of daily journalism. John may be reached at [email protected]. Follow him on Twitter @INNJohnH.