<< Click to Display Table of Contents >> 1.1 Statutory Accounting |
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The NAIC Annual Statement is a financial tool used by regulators in monitoring the solvency of insurers operating within their jurisdictions. Solvency can be viewed as the adequacy of an insurer's net financial resources (capital and surplus) to support the nature and volume of business the insurer is writing. Solvency is monitored for the protection of policyholders to assure that insurers have adequate funds to pay claims. Financial reports filed with state insurance departments utilize Statutory accounting principles.
Statutory accounting provides a conservative accounting framework under which insurers report their financial condition on a quarterly basis. The emphasis of Statutory accounting is the balance sheet and a conservative measurement of an insurer's Statutory surplus.
Statutory accounting objectives differ from those of generally accepted accounting principles (GAAP) in several aspects. These are:
•Balance sheet orientation - Statutory accounting focuses on asset valuation and liability measurement while GAAP addresses performance measurement and the matching of revenues and expenses.
•Time measurement - Statutory accounting is designed to measure solvency at a point in time while GAAP evaluates financial condition under a going concern assumption.
•End users - Statutory financial statements are designed for use by regulators while GAAP financial statements are intended for investors and management.
There are three primary NAIC publications in which Statutory accounting regulations are documented. These may be ordered from the NAIC (816-783-8300) and are as follows:
•NAIC Accounting Practices and Procedures Manual
•NAIC Annual Statement Instructions – Life, Accident and Health
•Purposes and Procedures Manual of the NAIC Investment Analysis Office.
The Accounting Practices and Procedures Manual may be purchased on a CD-ROM or as a three volume hard copy set. It is updated annually and published in March of each year with standards adopted through the end of the preceding year. Updates to the current manual may be obtained on the NAIC website after subscribing to the next year's manual.
Volume 1 includes a Preamble followed by Statements of Statutory Accounting Principles (SSAPs). Any updates to the guidance in the manual will take the form of new or revised SSAPs or formal Interpretations (INTs) adopted by the NAIC. Each SSAP addresses a specific subject such as SSAP 101 on income taxes, SSAP 30 on common stocks or SSAP 61R on reinsurance. The Preamble describes the purpose and general guiding concepts of Statutory accounting and states that the hierarchy of NAIC Statutory guidance is as follows (SSAPs being most important):
•SSAPs (including GAAP reference material specifically adopted by the NAIC)
•Interpretations (INTs) of the NAIC Emerging Accounting Issues Working Group
•NAIC Annual Statement Instructions and Purposes and Procedures Manual of the NAIC Investment Analysis Office
•Preamble Statement of Concepts.
Issue papers are the first step in developing an SSAP. Although they are not authoritative, they contain a discussion, a relevant literature section which includes excerpts of statutory and GAAP literature in place at the time the issue paper was adopted, and a recommended conclusion.
Following is a list of SSAPs 1 through 107 adopted through December 31, 2015 that appear in the March 2016 edition. (SSAPS that have been superseded or nullified are indicated by shading in the table below).
SSAP |
Description |
---|---|
1 |
Accounting Policies, Risks & Uncertainties, and Other Disclosures |
2 |
Cash, Drafts and Short-term Investments |
3 |
Accounting Changes and Corrections of Errors |
4 |
Assets and Nonadmitted Assets |
5R |
Liabilities, Contingencies and Impairments of Assets |
6 |
Uncollected Premium Balances, Bills Receivable for Premiums, and Amounts Due From Agents and Brokers |
7 |
Asset Valuation Reserve and Interest Maintenance Reserve |
8 |
Pensions (Superseded by SSAP 89, which was subsequently superseded by SSAP 102) |
9 |
Subsequent Events |
10R |
Income Taxes (Superseded by SSAP 101) |
11 |
Postemployment Benefits and Compensated Absences |
12 |
Employee Stock Ownership Plans |
13 |
Stock Options and Stock Purchase Plans (Superseded by SSAP 104) |
14 |
Postretirement Benefits Other Than Pensions (Superseded by SSAP 92) |
15 |
Debt and Holding Company Obligations |
16R |
Electronic Data Processing Equipment and Software |
17 |
Preoperating and Research and Development Costs |
18 |
Transfers and Servicing of Financial Assets and Extinguishments of Liabilities (Superseded by SSAP 91R, which was subsequently superseded by SSAP 103) |
19 |
Furniture, Fixtures, Equipment and Leasehold Improvements |
20 |
Nonadmitted Assets |
21 |
Other Admitted Assets |
22 |
Leases |
23 |
Foreign Currency Transactions and Translations |
24 |
Discontinued Operations and Extraordinary Items |
25 |
Affiliates and Other Related Parties |
26 |
Bonds |
27 |
Off-Balance-Sheet and Credit Risk |
28 |
Nonmonetary Transactions (Superseded by SSAP 95) |
29 |
Prepaid Expenses |
30 |
Unaffiliated Common Stock |
31 |
Derivative Instruments (Superseded by SSAP 86) |
32 |
Preferred Stock |
33 |
Securitization (Superseded by SSAP 91R, which was subsequently superseded by SSAP 103) |
34 |
Investment Income Due and Accrued |
35R |
Guaranty Fund and Other Assessments |
36 |
Troubled Debt Restructuring |
37 |
Mortgage Loans |
38 |
Acquisition, Development and Construction Arrangements |
39 |
Reverse Mortgages |
40R |
Real Estate Investments |
41 |
Surplus Notes |
42 |
Sale of Premium Receivables |
43R |
Loan-Backed and Structured Securities |
44 |
Capitalization of Interest |
45 |
Repurchase Agreements, Reverse Repurchase Agreements and Dollar Repurchase Agreements (Superseded by SSAP 91R, which was subsequently superseded by SSAP 103) |
46 |
Investments in Subsidiary, Controlled and Affiliated Entities (Superseded by SSAP 88, which was subsequently superseded by SSAP 97) |
47 |
Uninsured Plans |
48 |
Joint Ventures, Partnerships and Limited Liability Companies |
49 |
Policy Loans |
50 |
Classifications of Insurance or Managed Care Contracts |
51 |
Life Contracts |
52 |
Deposit-Type Contracts |
53 |
Property Casualty Contracts–Premiums |
54 |
Individual and Group Accident and Health Contracts |
55 |
Unpaid Claims, Losses and Loss Adjustment Expenses |
56 |
Separate Accounts |
57 |
Title Insurance |
58 |
Mortgage Guaranty Insurance |
59 |
Credit Life and Accident and Health Insurance Contracts |
60 |
Financial Guaranty Insurance |
61R |
Life, Deposit-Type and Accident and Health Reinsurance |
62R |
Property and Casualty Reinsurance |
63 |
Underwriting Pools |
64 |
Offsetting and Netting of Assets and Liabilities |
65 |
Property and Casualty Contracts |
66 |
Retrospectively Rated Contracts |
67 |
Other Liabilities |
68 |
Business Combinations and Goodwill |
69 |
Statement of Cash Flow |
70 |
Allocation of Expenses |
71 |
Policy Acquisition Costs and Commissions |
72 |
Surplus and Quasi-reorganizations |
73 |
Health Care Delivery Assets and Leasehold Improvements in Health Care Facilities |
74 |
Issuance of Insurance-Linked Securities Issued through a Protected Cell |
75 |
Reinsurance Deposit Accounting (Guidance incorporated into SSAP 62R) |
76 |
Start-Up Costs |
77 |
Real Estate Sales (Guidance incorporated into SSAP 40) |
78 |
Multiple Peril Crop Insurance |
79 |
Depreciation of Nonoperating System Software (Guidance incorporated into SSAP 16R) |
80 |
Life Contracts, Deposit-Type Contracts and Separate Accounts (Guidance incorporated into SSAPs 51,52 and 56) |
81 |
Software Revenue Recognition (Guidance incorporated into SSAP 16R) |
82 |
Accounting for the Costs of Computer Software Developed or Obtained for Internal Use and Web Site Development Costs (Guidance incorporated into SSAP 16R) |
83 |
Mezzanine Real Estate Loans |
84 |
Health Care and Government Insured Plan Receivables |
85 |
Claim Adjustment Expenses (Guidance incorporated into SSAP 55) |
86 |
Derivatives |
87 |
Capitalization Policy (Guidance incorporated into SSAPs 4, 19, 29 and 73) |
88 |
Investments in Subsidiary, Controlled, and Affiliated Entities (Superseded by SSAP 97) |
89 |
Accounting for Pensions (Superseded by SSAP 102) |
90 |
Impairment or Disposal of Real Estate Investments |
91R |
Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities (Superseded by SSAP 103) |
92 |
Postretirement Benefits Other Than Pensions |
93 |
Low Income Housing Tax Credit Property Investments |
94R |
Transferable and Non-Transferable State Tax Credits |
95 |
Nonmonetary Transactions) |
96 |
Settlement Requirements for Intercompany Transactions (Guidance incorporated into SSAP 25) |
97 |
Investments in Subsidiary, Controlled and Affiliated Entities |
98 |
Treatment of Cash Flows When Quantifying Changes in Valuation and Impairments (Superseded by SSAP 43R) |
99 |
Accounting for Certain Securities Subsequent to an Other-Than-Temporary Impairment (Guidance incorporated into SSAPs 26, 32 and 34) |
100 |
Fair Value |
101 |
Income Taxes |
102 |
Pensions |
103 |
Transfers and Servicing of Financial Assets and Extinguishments of Liabilities |
104R |
Share-Based Payment |
105 |
Working Capital Finance Investments |
106 |
Affordable Care Act Section 9010 Assessment |
107 |
Risk-Sharing Provisions of the Affordable Care Act |
Since the insurance industry is state regulated, a state can have laws, rules and regulations that require domiciled companies to use accounting policies that differ from the NAIC guidance. These state-to-state differences are referred to as being “prescribed or permitted” by the state of domicile. “Prescribed” generally means as written in the state laws, rules or regulations. “Permitted” generally means that special accounting has been allowed by a state that is not specifically “prescribed.” Material permitted practices most likely will be confirmed with the state of domicile by the independent CPA auditor. Significant prescribed or permitted practices should be disclosed in Notes to Financial Statements, Note 1, quantifying the impact of the practices on surplus and net income.
On the Jurat Page (signature section) and in Notes to Financial Statements, Note 1, the filing company must affirm that the Annual Statement has been completed in accordance with the Accounting Practices and Procedures Manual, except to the extent that the laws, rules and regulations of the state of domicile differ. The Jurat page also refers to the Annual Statement Instructions. The Purposes and Procedures Manual of the Investment Analysis Office, which deals mainly with the valuation of bonds and stocks, is incorporated by reference into the first two and is not mentioned on the Jurat Page or in Note 1. The insurer must be familiar with all three publications as well as the specific requirements of its state of domicile.
Investment Valuation - Investments in bonds, common stocks, and preferred stocks are to be valued in accordance with guidance in the SSAPs and, if relevant, rating designations and fair values obtained from the NAIC Securities Valuation Office (SVO). Additional SSAPs address the valuation of other types of investments. Generally, the Statutory admitted values of the various types of investments are as follows:
Type of Investment |
Statutory Valuation |
Bonds |
Amortized cost |
Preferred stocks |
Cost or amortized cost |
Common stocks |
Fair value, obtained from the SVO or other sources |
Mortgage loans |
Unpaid loan balance |
Company occupied real estate |
Depreciated cost less encumbrances |
Other real estate |
Depreciated cost or net realizable value |
Short-term investments |
Cost or amortized cost |
Other investments |
Cost or equity value |
Interest Maintenance Reserve (IMR) and Asset Valuation Reserve (AVR) – These two investment-related liabilities are unique to Statutory accounting for life insurance companies. Both relate to the long-term nature of the investment portfolios of many life insurance companies.
•The IMR defers interest-related capital gains and losses into a liability account, and then amortizes those gains back into income over the remaining period to maturity of the investments sold. This amortization supplements the diminished investment income experienced in the lower interest rate environment that created the interest-related gains in the first place, making it effectively as if the company had not sold the investment prior to maturity.
•The AVR is a provision for future default or equity losses on investments held at the statement date, recognizing that in a long-term investment portfolio, it would be unlikely that every investment held today would escape default and market losses before its value is ultimately realized.
Nonadmitted Assets - Certain assets, designated as nonadmitted assets, cannot be claimed as assets in the Statutory balance sheet. These assets are identified in the SSAPs and in state insurance codes and generally reflect the regulators' skepticism as to the availability of these assets for paying policyholder claims. This concept reduces the total assets reported and causes a corresponding reduction of the insurer's surplus. Common examples of nonadmitted assets are:
•Investments in unaudited subsidiary, controlled or affiliated companies
•Unsecured receivables
•A portion of EDP equipment and operating software (limit of 3% of adjusted capital and surplus)
•A portion of goodwill (limit of 10% of adjusted capital and surplus)
•A portion of net deferred income tax assets (complex limitation described in SSAP 101)
•Prepaid expenses
•Any asset not specifically identified as an admitted asset (SSAP 4).
Policyholder Premium Recognition – Premiums are recognized when due under Statutory accounting, similar to their recognition in U.S. GAAP. However, there are differences:
•Deferred premiums (fractional premiums due after the statement date but before the next anniversary) are also recognized on life contracts, when the mean reserve approximation is used to value the policy reserve liability.
•Premiums are recognized on universal life and deferred annuity contracts, which in GAAP would be accounted for as deposits. Statutory does apply deposit accounting to other deposit-type contracts such as annuities certain, premium deposit funds, and guaranteed interest contracts.
Policy Reserves – Statutory reserves are based on application of standard methods and conservative assumptions about future experience, as prescribed by the various states' implementation of the NAIC Standard Valuation Law. Statutory accounting also requires that the reserve held for any policy may not be less than the cash surrender value available to the policyholder. However, in many cases, the Statutory minimum reserve methodology (e.g., CRVM or CARVM) provides some relief relative to full net level premium reserve methods in building up reserves on long-duration contracts. Thus, for many policies, Statutory reserves differ in both underlying assumptions and in the method used compared to reserves under U.S. GAAP. In most cases, Statutory reserves are also subject to an asset adequacy test.
Policy Acquisition Costs – Commissions to agents, as well as issue and underwriting costs, are considered policy acquisition costs. In Statutory accounting such costs are expensed as incurred, in contrast to U.S. GAAP, where acquisition costs that meet certain specified criteria are deferred and amortized over the lifetime of the policy or the premium period if shorter.
Reinsurance – There are several very important differences between Statutory and U.S. GAAP accounting for reinsurance:
•Reinsurance accounting is applied to reinsurance of deferred annuities, which must apply deposit accounting under U.S. GAAP.
•A penalty liability is required when reinsurance is ceded to a company that is either certified or not authorized by the domiciliary insurance department, to the extent that the reinsurer does not put up security in the form of letters of credit, trust funds, or funds on deposit with the Company.
•Commissions received on the reinsurance of in force policies must be set aside in surplus, and recognized in income only as earnings emerge on the reinsured policies.
Surplus Notes – Under very specific conditions, certain debt issued by the Company can be recognized as a surplus contribution under Statutory accounting.
Capital and Surplus Account – Statutory accounting prescribes that a number of items be accounted for through surplus that would be taken through income or would not exist at all under U.S. GAAP, for example:
•All changes in deferred tax assets and liabilities, including items that would have gone through income in GAAP
•Increase in nonadmitted assets
•Change in liability for reinsurance in unauthorized and certified companies
•Change in reserve on account of change in valuation basis
•Change in asset valuation reserve
•Change in surplus notes
•Cumulative effect of changes in accounting policy
•Change in surplus as a result of reinsurance of in force policies
•Correction of errors in previously filed financial statements.