The Federal Insurance Office Releases 2014 Annual Report on the Insurance Industry

On September 24, 2014, the Federal Insurance Office (“FIO”) released its 2014 Annual Report on the Insurance Industry (“Report”), as mandated by the Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Dodd-Frank Act”). The Report provides an overview of the financial performance and condition of the U.S. insurance industry and reviews a range of industry and regulatory developments from the past year – at the state, federal and international levels – that have implications for the U.S. insurance  industry.    Throughout  the  Report,  FIO  restates  numerous  recommendations  made  in  its “Modernization Report”1 issued in December 2013.2

OVERVIEW OF U.S. INSURANCE INDUSTRY

The Report found that U.S. insurers have shown “resilience” in the wake of the financial crisis with record year-end surplus levels in 2013 for both the property and casualty (“P/C”) and life and health (“L/H”) sectors. The Report summarizes various financial measures applicable to the L/H and P/C sectors as measured in 2013 and as compared to recent prior years, and reviews capital markets activities of insurers during 2013. FIO notes in the Report that historically lower interest rates have caused insurance firms to seek higher yields from increased investments in mortgage loans and alternative investments. In particular, FIO cautions in the Report that L/H insurers’ movement into longer duration and lower quality assets “may increase the vulnerability of L/H insurers to potential adverse effects of spikes in interest rates,” stating that such a scenario could result in contractholders surrendering their contracts to pursue higher yields elsewhere and in insurers having to fund surrenders with asset sales at reduced prices.

The Report also highlights “the continued importance” of international reinsurance markets to U.S. insurers, noting that in 2013 at least 62 percent of reinsurance premiums paid by U.S. insurers went to non-U.S. reinsurers (up from approximately 40 percent in 1997), and that approximately 92 percent went to reinsurers owned by groups headquartered or domiciled outside the United States. In addition, the Report reviews the growing interest of capital markets in alternative risk transfer capital (“ART”) and insurance-linked securities, such as sidecars and catastrophe bonds, indicating that capital in this market segment increased by nearly 30 percent in 2013 from year-end 2012 and constituted 9 percent of total reinsurance capital in 2013. FIO notes that the “long-term commitment of these non-traditional capital sources has not yet been tested.” 

REGULATORY DEVELOPMENTS

The Report reviews various regulatory developments in 2013 at the state, federal and international levels, the most significant of which are summarized below.

U.S. Regulatory Developments

  • Private Equity Acquisition of Annuity Writers: The Report reviews, without making any recommendations, the efforts by the National  Association  of  Insurance  Commissioners (“NAIC”) Private Equity Working Group, and actions by certain state insurance regulators in 2013, concerning the authorization of acquisitions by private equity firms of annuity writers.3 The Report states that the nature of the annuity business demands that annuity writers have a long-term view of risk management, which may be inconsistent with the relatively shorter investment horizons of private equity firms.
  • Captive Life Reinsurance: The Report reviews proposals and views of state insurance regulators and the NAIC, as well as other key stakeholders, regarding the use of captive reinsurance companies by life insurers. FIO repeats the recommendation it made in its Modernization Report that state insurance regulators “develop a uniform and transparent solvency oversight regime for the transfer of risk to reinsurance captives,” and states that it will continue to monitor and report on regulatory treatment of this issue.
  • Insurance Producers: The Report considers the licensing of insurance producers and related issues of access to insurance and retirement products. As in the Modernization Report, FIO endorses the adoption and implementation of the National  Association  of Registered Agents and Brokers Reform Act of 2013 (“NARAB II”). FIO also states that it will continue to monitor and assess whether policy measures beyond NARAB II are needed to increase access to life insurance and annuity products.

The Report further provides updates on developments in 2013 relating to the designation by the Financial Stability Oversight Council (“FSOC”) of two insurance-based nonbank financial companies and the supervision of such companies by the Federal Reserve, including establishing enhanced prudential standards (e.g., addressing liquidity, resolution planning and other factors). In addition, the Report reviews legislative and regulatory developments with respect to the Terrorism Risk Insurance Program and the National Flood Insurance Program.

International Regulatory Developments

  • EU-U.S. Insurance Project: The Report indicates that FIO and state insurance regulators continue active participation in the EU-U.S. Insurance Project, a project intended to enhance cooperation between the EU and the United States on insurance issues in order to promote business opportunity, consumer protection and effective supervision. The Report provides an overview of initiatives and developments in this project during 2013.
  • Reinsurance Collateral: The Report reviews current activities of state insurance regulators, led by the NAIC, to adopt reinsurance collateral reform for non-U.S. reinsurers that will allow reinsurers that are “certified” by a state regulator to post collateral equal to less than 100 percent of the ceded reinsurance liabilities. Notwithstanding such progress, however, the Report repeats the observation made in the Modernization Report that, “in the context of international prudential matters regarding the business of insurance, questions concerning reinsurance collateral should be uniformly addressed on the national level.” The Report states that the Treasury Department and the  U.S.  Trade  Representative  are  engaged internally regarding the Modernization Report’s recommendation to  reform  reinsurance collateral by entering into “covered agreements” with foreign insurance regulators  as authorized by the Dodd-Frank Act.

The Report also summarizes developments in 2013, as well as developments expected to occur in the future, by the Financial Stability Board (“FSB”) and the International Association of Insurance Supervisors (“IAIS”) with respect to international capital standards and group-wide supervision applicable to “global systemically important insurers” and “internationally active insurance groups” as well as international standards pertaining to resolution of insurers. FIO states in the Report that any decision to implement international standards developed under IAIS auspices “will be a function either of the relevant state authority or, for an insurer subject to its consolidated supervision, the Federal Reserve.”

Consumer Protection and Access to Insurance

  • Death Master File: The Report reviews developments involving the Death Master File (“DMF”) maintained by the Social Security Administration, which is a database L/H insurers have been required to access in order to comply with state unclaimed property laws. The Report reviews recent legislative and regulatory developments  that  limit  access  by L/H insurers to the DMF, and states that FIO is working to support stakeholder efforts to ensure appropriate access to the DMF and identify suitable alternative data sources.
  • Annuity Suitability: FIO urges, as it did in the Modernization Report, that all states adopt the NAIC Suitability in Annuity Transactions Model Regulation, in order to enhance and standardize consumer protection with respect to purchases of annuities.
  • Force-Placed Insurance: FIO reviews recent developments in state and federal law aimed at  addressing concerns  about  force-placed  insurance  (“FPI”)  by  mortgage  lenders  and servicers in the property insurance market, and notes that current state-by-state variations create uneven protections from abusive FPI practices. FIO will continue to monitor and report on activities of state insurance regulators with regard to FPI concerns.

The Report also reviews affordability and access concerns and developments relating to personal auto insurance.