§ 162.4. Accounting requirements.
(a) An insurer subject to this chapter may not, for reinsurance ceded, reduce liability or establish an asset in financial statements filed with the Department if, by the terms of the reinsurance agreement, in substance or effect, one or more of the following conditions exist:
(1) The reserve credit taken by the ceding insurer is greater than the underlying reserve of the ceding insurer supporting the policy obligations transferred under the reinsurance agreement.
(2) Renewal expense allowances provided or to be provided to the ceding insurer by the reinsurer in any accounting period, are not sufficient to cover anticipated allocable renewal expenses of the ceding insurer on the portion of the business reinsured, unless a liability is established for the present value of the shortfall using assumptions equal to the applicable statutory reserve basis on the business reinsured. Renewal expenses include commissions, premium taxes and direct expenses including billing, valuation, claims and maintenance expected by the ceding insurer at the time the business is reinsured.
(3) The ceding insurer can be deprived of surplus or assets at the reinsurer’s option or automatically upon the occurrence of some event, such as the insolvency of the ceding insurer. However, termination of the reinsurance agreement by the reinsurer for nonpayment of reinsurance premiums or other amounts due, such as modified coinsurance reserve adjustments, interest and adjustments on funds withheld, and tax reimbursements, will not be considered to be a deprivation of surplus or assets for purposes of this subsection.
(4) The ceding insurer is required to reimburse the reinsurer for negative experience under the reinsurance agreement. Neither offsetting experience refunds against current and prior years’ losses under the agreement nor payment by the ceding insurer of an amount equal to the current and prior years’ losses under the agreement upon voluntary termination of in force reinsurance by the ceding insurer will be considered a reimbursement to the reinsurer for negative experience for purposes of this subsection. In addition, voluntary termination does not include termination as a result of unreasonable provisions which allow the reinsurer to reduce its risk under the agreement. An example of an unreasonable provision is the right of the reinsurer to increase reinsurance premiums or risk and expense charges to excessive levels thereby forcing the ceding insurer to prematurely terminate the reinsurance treaty.
(5) The ceding insurer shall, at specific points in time scheduled in the agreement, terminate or automatically recapture all or part of the reinsurance ceded.
(6) The reinsurance agreement involves the possible payment by the ceding insurer to the reinsurer of amounts other than from income realized from the reinsured policies. For example, it is improper for a ceding insurer to pay reinsurance premiums, or other fees or charges, to the reinsurer which are greater than the direct premiums collected by the ceding insurer.
(7) The treaty does not transfer all of the significant risk inherent in the business being reinsured. The following table identifies for a representative sampling of products or type of business, the risks which are considered to be significant. For products not specifically included, the risks determined to be significant shall be consistent with the following table:
Risk Categories
(A) Morbidity.
(B) Mortality.
(C) Lapse—The risk that a policy will voluntarily terminate prior to the recoupment of a statutory surplus strain experienced at issue of the policy.
(D) Credit Quality—The risk that invested assets supporting the reinsured business will decrease in value. The main hazards are that assets will default or that there will be a decrease in earning power. This risk category excludes market value declines due to changes in interest rate.
(E) Reinvestment—The risk that interest rates will fall and funds reinvested (coupon payments or monies received upon asset maturity or call) will therefore earn less than expected. If asset durations are less than liability durations, the mismatch will increase.
(F) Disintermediation—The risk that interest rates rise and policy loans and surrenders increase or maturing contracts do not renew at anticipated rates of renewal. If asset durations are greater than the liability durations, the mismatch will increase. Policyholders will move their funds into new products offering higher rates. The insurer may have to sell assets at a loss to provide for these withdrawals.
Table of Risk Significance
+— Significant 0 — Insignificant
Risk Category A B C D E F Health Insurance Other than Long Term Care/Long Term Disability + 0 + 0 0 0 Health Insurance—Long Term Care/Long Term Disability + 0 + + + 0 Immediate Annuities 0 + 0 + + 0 Single Premium Deferred Annuities 0 0 + + + + Flexible Premium Deferred Annuities 0 0 + + + + Guaranteed Interest Contracts 0 0 0 + + + Other Annuity Deposit Business 0 0 + + + + Single Premium Whole Life 0 + + + + + Traditional Non-Par Permanent 0 + + + + + Traditional Non-Par Term 0 + + 0 0 0 Traditional Par Permanent 0 + + + + + Traditional Par Term 0 + + 0 0 0 Adjustable Premium Permanent 0 + + + + + Indeterminate Premium Permanent 0 + + + + + Universal Life Flexible Premium 0 + + + + + Universal Life Fixed Premium 0 + + + + + Universal Life Fixed Premium (dump-in premiums allowed) 0 + + + + +
(8) The credit quality, reinvestment or disintermediation risk is significant for the business reinsured and the ceding insurer does not, other than for the classes of business excepted in subparagraph (i), either transfer the underlying assets to the reinsurer or legally segregate the assets in a trust or escrow account or otherwise establish a mechanism satisfactory to the Commissioner which legally segregates, by contract or contract provision, the underlying assets.
(i) Notwithstanding the provisions of this paragraph, the assets supporting the reserves for the following classes of business and any classes of business which do not have a significant credit quality, reinvestment or disintermediation risk may be held by the ceding insurer without segregation of the assets: Health Insurance—Long Term Care/Long Term Disability Insurance Traditional Non-Par Permanent Traditional Par Permanent Adjustable Premium Permanent Indeterminate Premium Permanent Universal Life Fixed Premium (no dump-in premiums allowed)
(ii) If the ceding insurer elects to hold the assets supporting the reserves for the classes of business stated in subparagraph (i) or for classes of business which do not represent a significant risk as noted in subparagraph (i), the determination of the modified coinsurance reserve interest rate adjustment shall conform to a formula which reflects the ceding insurer’s investment earnings and incorporates all realized and unrealized gains and losses reflected in the statutory statement. The following is an acceptable formula: Rate = 2 (I +CG)
X +Y - I - CG
Where:…I = the net investment income CG = realized and unrealized capital gains less realized and unrealized capital losses X = the current year cash and invested assets plus investment income due and accrued less borrowed money Y = the same as X but for the prior year (9) Settlements are made less frequently than quarterly or payments due from the reinsurer are not made in cash within 90 days of the settlement date.
(10) The ceding insurer is required to make representations or warranties not reasonably related to the business being reinsured.
(11) The ceding insurer is required to make representations or warranties about future performance of the business being reinsured.
(12) The reinsurance agreement is entered into for the principal purpose of producing significant surplus aid for the ceding insurer, typically on a temporary basis, while not transferring all of the significant risks inherent in the business reinsured and, in substance or effect, the expected potential liability to the ceding insurer remains basically unchanged.
(b) Notwithstanding the provisions of subsection (a), an insurer subject to this chapter may, with the prior written approval of the Commissioner, take the reserve credit or establish the asset as the Commissioner may deem consistent with statutes, regulations, orders or rulings of the Commonwealth or the Department, including actuarial interpretations or standards adopted by the Department.
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