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Hearing Agenda

© 2019 National Association of Insurance Commissioners 1

Statutory Accounting Principles (E) Working Group Hearing Agenda

April 6, 2019

ROLL CALL

Dale Bruggeman, Chair Ohio Judy Weaver Michigan Jim Armstrong, Vice Chair Iowa Doug Bartlett New Hampshire Richard Ford Alabama Stephen Wiest New York Kim Hudson California Joe DiMemmo Pennsylvania Kathy Belfi Connecticut Doug Slape / Jamie Walker Texas Dave Lonchar Delaware Doug Stolte / David Smith Virginia Eric Moser Illinois Amy Malm Wisconsin Caroline Brock / Stewart Guerin Louisiana NAIC Support Staff: Julie Gann, Robin Marcotte, Fatima Sediqzad, Jake Stultz

REVIEW AND ADOPTION OF MINUTES

1. Statutory Accounting Principles (E) Working Group – Feb. 6, 2019, Evote Exposure (Attachment 1A) 2. Statutory Accounting Principles (E) Working Group – Jan. 17, 2019, Evote Exposure (Attachment 1B) 3. Statutory Accounting Principles (E) Working Group – Dec. 12, 2018, Evote Exposures (Attachment 1C) 4. Statutory Accounting Principles (E) Working Group – 2018 Fall National Meeting Minutes (Attachment 2)

REVIEW AND ADOPTION of NON-CONTESTED POSITIONS – SSAP REVISIONS

The Working Group may elect to discuss the following items, or may consider adoption in a single motion: 1. Ref #2018-17: Structured Settlements 2. Ref #2018-35: ASU 2018-07, Improvements to Share-Based Payment Accounting 3. Ref #2018-36: ASU 2018-13, Changes to the Disclosure Requirements for Fair Value Measurement 4. Ref #2018-40: ASU 2018-15, Customer’s Accounting for Implementation Costs Incurred in a Cloud

Computing Arrangement That is a Service Contract 5. Ref #2018-46: SSAP No. 86 – Benchmark Interest Rates 6. Ref #2018-47EP: NAIC Accounting Practices and Procedures Manual Editorial and Maintenance Update

Ref # Title Attachment # Agreement

with Exposed Document?

Comment Letter Page Number

2018-17 Issue Paper 160

(Julie) Structured Settlements 3 No Comment N/A

Summary: During the Fall National Meeting, the Working Group exposed Issue Paper No. 160—Structured Settlements, which documents the adopted substantive revisions to SSAP No. 21R–Other Admitted Assets. (The revisions to SSAP No. 21 were adopted during the 2018 Fall National Meeting and were effective for year-end 2018.) Interested Parties’ Comments: Interested parties have no comment on this item. (Comments confirmed via email on Feb. 22, 2019.) Recommended Action: NAIC staff recommends adopting the exposed Issue Paper to document for historical purposes the substantive revisions to SSAP No. 21R.

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2018-35 SSAP No. 95

SSAP No. 104R (Julie)

ASU 2018-07, Improvements to Nonemployee Share-Based

Payment Accounting 4 & 5 No Comment IP - 11

Summary: During the Fall National Meeting, the Working Group exposed nonsubstantive revisions to SSAP No. 95–Nonmonetary Transactions and SSAP No. 104R—Share-Based Payments to adopt with modification ASU 2018-07, Improvements to Nonemployee Share-Based Payment Accounting. The revisions to SSAP No. 104R (detailed in a separate attachment) eliminate the specific section for nonemployee awards and include guidance for nonemployees with the share-based payment guidance for employees. The revisions to SSAP No. 95 update previously adopted U.S. GAAP guidance to reflect the revisions from ASU 2018-07. Interested Parties’ Comments: Interested parties have no comment on this item. Recommended Action: NAIC staff recommends adopting the exposed nonsubstantive revisions to SSAP No. 95 and SSAP No. 104R as final. The revisions, although extensive to SSAP No. 104R, eliminate the section for nonemployee awards and include guidance for nonemployees with the share-based payment guidance for employees, resulting with substantial alignment of the accounting for share-based awards regardless of the recipient. The revisions will adopt with modification U.S GAAP guidance, which is consistent with prior actions for share-based payment accounting. NAIC staff notes that three questions were asked as part of the exposure and no responses were received. These questions inquired: 1) whether the adoption of ASU 2018-07 should be considered a substantive change, 2) whether Exhibit B should be retained and 3) whether the original transition guidance to apply SSAP No. 13 is still applicable. As no comments were received, NAIC staff confirmed with interested parties that the changes would be considered nonsubstantive, Exhibit B would be deleted (as detailed in the exposure), and the old transition would be retained (as detailed in the exposure).

Ref # Title Attachment #

Agreement with Exposed Document?


2018-36 SSAP No. 100R

(Julie)

ASU 2018-13, Changes to the Disclosure Requirements for Fair

Value Measurement 6 Support

Revisions IP - 11

Summary: During the Fall National Meeting, the Working Group exposed nonsubstantive revisions to SSAP No. 100R—Fair Value to adopt with modification the disclosure amendments in ASU 2018-13, Changes to the Disclosure Requirements for Fair Value Measurement. The exposed revisions also clarify prior actions by the Working Group on related U.S. GAAP pronouncements. The following ASU 2018-13 amendments were exposed in SSAP No. 100R:

1. Revisions to describe the disclosure objective. (The revisions to paragraph 47 of SSAP No. 100R reflect the guidance / intent from the FASB changes made to ASC 820-10-50-1 through 820-10-50-1D.)

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2. Revisions to eliminate information on transfers between hierarchy level 1 and level 2 for items measured and reported at fair value. (The deletion of paragraph 48c reflects the deletion of ASC 820-10-50-2bb.)

3. Revisions to paragraph 48.d.vi and 48.e. incorporate changes made to ASC 820-10-50-2c3 and 820-10-50-2C, eliminating the disclosure of the reporting entity’s policy for determining when transfers between levels have occurred.

4. Revisions to paragraphs 52, 52b and 52e to reflect the GAAP disclosure changes related to the calculation of net asset value from ASC 820-10-50-6A, including subparagraphs 6Ab and 6Ae.

(As detailed in the agenda item, other aspects of ASU 2018-13 were not proposed to be reflected.) In addition to the revisions from the ASU, a clean-up provision has been incorporated to remove the reference of ASU 2009-12 in paragraph 59. Interested Parties’ Comments: Interested parties support the revisions in this item. Recommended Action: NAIC staff recommends adopting the exposed nonsubstantive revisions to SSAP No. 100R—Fair Value. As a nonsubstantive change, the revisions will be effective when adopted. As such, the deleted disclosures would not be required in the 2019 statutory financial statements. Technically, this may be earlier than U.S. GAAP, but U.S. GAAP allows all entities to early-adopt any removed disclosures upon issuance of the ASU, and delay adoption of any revised disclosures until Jan. 1, 2020. As such, NAIC staff sees no concern with removing the deleted disclosures in 2019, as it is expected as most companies would no longer be capturing them for GAAP purposes. A blanks proposal has been sponsored to reflect the disclosure changes.




2018-40 SSAP No. 16R

(Julie)

ASU 2018-15, Customer’s Accounting for Implementation

Costs Incurred in a Cloud Computing Arrangement That is a

Service Contract

7 No Comment IP - 14

Summary: During the Fall National Meeting, the Working Group moved this item to the active listing, categorized as nonsubstantive, and directed NAIC staff to draft proposed revisions to adopt with modification ASU 2018-15, Customer’s Accounting for Implementation Costs Incurred in a Cloud Computing Arrangement That is a Service Contract, allowing for capitalization and amortization of the implementation costs as nonoperating system software for interim exposure consideration. In December 2018, the Working Group exposed proposed revisions to SSAP No. 16R—Electronic Data Processing Equipment and Leasehold Improvements via e-vote. With these proposed revisions, NAIC staff confirmed that the implementation costs of the hosting arrangement pursuant to ASU 2018-15 are being treated similarly to internally developed software costs, but do not result in software assets. As such, there would be no need to bifurcate implementation costs between operating and non-operating software. The proposed treatment, allowing capitalization of implementation costs as nonoperating system software, does not imply that these capitalization costs reflect software assets. Rather, this distinction stipulates that these capitalized implementation costs are nonadmitted in statutory financial statements. The proposed capitalization allows amortization of these

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costs through the income statement, rather than as an immediate expense. As the costs capitalized under ASU 2018-15 are implementation costs for a hosting arrangement, they do not represent assets available for policyholder claims and shall be nonadmitted. (Pursuant to the ASU, the provisions of ASU 2018-15 only apply when there is no contractual right to take possession of the software and it is not feasible for the reporting entity to run the software on its own or with another party.) NAIC staff notes that the ASU 2018-15 dissention includes the position of two FASB members who noted that the costs permitted to be capitalized under ASU 2018-15 do not meet the definition of an asset. These comments disagreed with recognition of these costs as assets on a standalone basis, noting that the incurred costs do not provide any future economic benefits for the entity independent of the cloud computing hosting arrangement. Although NAIC staff recommends capitalization of the implementation costs to allow for amortization over the term of the hosting contract, not to exceed 5 years, the proposed revisions also recommend that these capitalized assets shall be nonadmitted in statutory financial statements as they cannot be used for policyholder claims. NAIC staff notes that the items being addressed in this agenda item / ASU refer to the implementation costs of a hosting arrangement. This item has no impact on the accounting of software. Regardless if software is acquired as part of a hosting arrangement, the acquisition of software continues to be captured under SSAP No. 16R. NAIC staff also noted that the proposed revisions clarify the prior review of ASU 2015-05. Interested Parties’ Comments: Interested parties have no comment on this item. Recommended Action: NAIC staff recommends adopting the exposed revisions to SSAP No. 16R to adopt with modification ASU 2018-15 and clarify the prior review of ASU 2015-05. With the proposed revisions, the accounting for hosting arrangements will depend on whether the contract is a service contract:

• Reporting Entities with Hosting Arrangements That Are Service Contracts - The reporting entity shall capitalize implementation costs of the hosting arrangement (the costs incurred to implement the cloud hosting service contract), as nonoperating system software. The capitalized costs shall be consistent with the costs which are permitted to be capitalized for internal use software and shall be reported as a nonadmitted asset. These implementation costs shall be recognized as each module or component of the hosting arrangement is ready for its intended use. The implementation costs shall be amortized over the lesser of the term of the hosting arrangement, or five years.

• Reporting Entities with Hosting Arrangements That Are Not Service Contracts - The reporting entity shall recognize an operating or non-operating system software asset for the costs incurred for the software license in accordance with paragraph 3 of SSAP No. 16R. If the reporting entity has a hosting arrangement that includes both the acquisition of a software asset (pursuant to paragraph 12.a.) and an ongoing hosting arrangement, the reporting entity shall allocate the costs of the arrangement to the different elements. Costs for the ongoing hosting arrangement shall be accounted for in accordance with SSAP No. 22—Leases.

No comments were provided on the exposure, including the exposure questions regarding effective date and retrospective or prospective application. As such, with adoption, the guidance will follow a similar approach to U.S. GAAP, with early adoption permitted. The following effective date guidance was part of the exposure:

25. The adoption with modification of ASU 2018-15, Customer’s Accounting for Implementation Costs Incurred in a Cloud Computing Arrangement That Is a Service Contract is effective January 1, 2020, with early adoption permitted. The adoption shall occur either prospectively to all implementation costs incurred after the date of adoption, or as a change in accounting principle under SSAP No. 3—Accounting Changes and Corrections of Errors.

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2018-46 SSAP No. 86

(Julie) Benchmark Interest Rates 8 No Comment IP - 16

Summary: On Dec. 12, 2018, the Working Group exposed revisions that add the Securities Industry and Financial Markets (SIFMA) Municipal Swap Rate and the Secured Overnight Financing Rate (SOFR) Overnight Index Swap (OIS) Rate as U.S. benchmark interest rates for hedge accounting. With adoption of the exposed revisions, all of the following will be considered U.S. benchmark interest rates for hedge accounting:

Interest rates on direct Treasury obligations of the U.S. government,

London Interbank Offered Rate (LIBOR) swap rate

Fed Funds Effective Rate Overnight Index Swap Rate

Securities Industry and Financial Markets Association (SIFMA) Municipal Swap Rate

Secured Overnight Financing Rate (SOFR) Overnight Index Swap Rate

Interested Parties’ Comments: Interested parties have no comment on this item. Recommended Action: NAIC staff recommends adopting the exposed revisions to SSAP No. 86—Derivatives.




2018-47EP SSAP No. 97

(Julie) Editorial and Maintenance Update 9 No Comment IP - 16

Summary: On Dec. 12, 2018, the Working Group exposed revisions to clarify that investments in scope of SSAP No. 48 are not required to complete SSAP No. 97 disclosures unless directed under SSAP No. 48. These revisions are necessary as during the 2018 Fall National Meeting, the Working Group adopted revisions to SSAP No. 48—Joint Ventures, Partnerships and Limited Liability Companies to direct reporting entities with investments in scope of SSAP No. 48 to complete the disclosure in SSAP No. 97 if their share of losses in the SSAP No. 48 entity exceeds its investment. This direction is in conflict with guidance in SSAP No. 97 that currently identifies that investments in scope of SSAP No. 48 are not subject to the disclosures in SSAP No. 97. Interested Parties’ Comments: Interested parties have no comment on this item. Recommended Action: NAIC staff recommends adopting the exposed revisions to SSAP No. 97—Subsidiary, Controlled and Affiliated Entities.

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REVIEW AND ADOPTION of EXPOSED INTERPRETATIONS The proposed interpretations would override specific elements of existing statutory accounting principles. As such, the policy statement in Appendix F (see authoritative literature) requires 2/3rd (two-thirds) of the Working Group members to be present and voting and a supermajority of the Working Group members present to vote in support of the interpretation before the interpretations can be finalized.

1. Ref #2019-01: Extension of Ninety-Day Rule for the Impact of CA Camp Fire, Hill Fire and Woolsey Fire 2. Ref #2019-02: Single Security Initiative




2019-01 INT 19-01

(Robin)

Extension of Ninety-Day Rule for the Impact of California Camp Fire, Hill Fire and Woolsey Fire

10 & 11 Support INT IP - 1

Summary: On Jan. 17, 2019 the Working Group exposed, via evote, an agenda item and tentative interpretation (INT) to provide a 60-day extension from the ninety-day rule for uncollected premium balances, bills receivable and amounts due from agents and policyholders for policies impacted by California fires. The interpretation provides a temporary extension of the nonadmission guidance for premium receivables of directly impacted policies or agents by sixty days for a total of 150 days, not to extend past April 24, 2019. The temporary extension of the 90-day rule is similar to the extensions that have been granted for other major national disasters in prior interpretations. Interested Parties’ Comments: Interested parties support the proposed extension of the ninety-day rule. Recommended Action: NAIC staff recommends adoption of the exposed INT. Due to the short-term nature of the applicability of this extension, which expires April 24, 2019, this interpretation will be publicly posted on the Statutory Accounting Principles (E) Working Group’s website. This interpretation will be automatically nullified on April 24, 2019 and will be included as a nullified INT in Appendix H – Superseded SSAPs and Nullified Interpretations in the “as of March 2019” Accounting Practices and Procedures Manual. Note that the proposed extension temporarily overrides SSAP No. 6—Uncollected Premium Balances, Bills Receivable for Premiums, and Amounts Due From Agents and Brokers, paragraph 9 for affected policies, therefore the policy statement in Appendix F (see authoritative literature) requires 2/3rd (two-thirds) of the Working Group members to be present and vote, as well as a supermajority of the Working Group members present to vote in support of the interpretation, before it can be finalized.

Ref # Title Attachment # Agreement with

Exposed Document?

Comment Letter Page

Number 2019-02

INT 19-02 (Julie)

Single Security Initiative 12 & 13 Yes - with SSAP No. 43R IP - 17

Summary: On Feb. 6, 2019, the Working Group exposed, via evote, an agenda item and tentative interpretation (INT) to incorporate a limited-scope exception to SSAP No. 26R—Bonds specific to securities exchanged as part of the Freddie Mac Single Security Initiative. This limited-scope exception requires continuation of the amortized cost basis of the security surrendered to the new security received in the exchange. This is an exception to the guidance in SSAP No. 26R that requires fair value of the surrendered security to become the cost basis for the received security, unless the fair value of the security received is more clearly evident. By continuing the amortized cost basis, the reporting entity shall not recognize any gains or losses (from comparison of fair value to the amortized

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cost basis) as a result of the exchange. This is considered appropriate as most of the elements of the security held after the exchange will exactly match the security surrendered, including unpaid principal balance, pool factors and weighted average coupon. Furthermore, the cash flows of the new securities will be ultimately backed by the same loans as the original security. The exposed interpretation also permits reporting entities to adjust the security’s basis (decrease) for the float compensation received. This treatment is consistent with how Freddie Mac will treat the compensation payment. This treatment was determined by Freddie Mac after receiving confirmation from the Securities Exchange Commission (SEC) that the SEC does not object to the treatment of the exchange as a minor modification of an existing security. Freddie Mac has also identified that it does not intend to report the float compensation as taxable income to the investor or the IRS but has identified that the holders of the securities must rely on their own tax and accounting advisors in determining the best course of action. Interested Parties’ Comments: Interested parties support the exchange and conversion guidance detailed in INT 19-02. Interested parties note that although Freddie Mac securities are mortgage-backed securities and are accounted for under SSAP No. 43R— Loan Backed and Structured Securities (“SSAP No. 43R”), SSAP No. 43R does not include specific guidance on modifications and conversions. We believe it is reasonable that INT 19-02 refers to SSAP No. 26R, which includes specific guidance on modifications and conversions in paragraph 22 to draw the exception. Interested parties understand from subsequent discussions that NAIC staff intend to modify INT 19-02 to prescribe the guidance for SSAP No. 43R securities exchanged as part of the Freddie Mac Single Security Initiative. Interested parties support NAIC staff’s proposed changes. Recommended Action: NAIC staff recommends adoption of the exposed INT with minor revisions to also refer to SSAP No. 43R. The exposed interpretation provides an explicit exception to SSAP No. 26R—Bonds, which has specific guidance for exchanges. As these instruments will likely be captured within scope of SSAP No. 43R, which does not have specific guidance for exchanges, reference has been included to prescribe guidance for these transactions. NAIC staff highlights that although there is not explicit guidance for exchanges in SSAP No. 43R, an entity referring to other statutory accounting standards for application guidance would infer a fair value measurement, rather than a continuation of the amortized cost basis. The modifications to the interpretation are shown in paragraph 1 and paragraph 3:

1. This interpretation has been issued to provide a limited-scope exception to the exchange and conversion guidance in SSAP No. 26R—Bonds as well as prescribe guidance in SSAP No. 43R—Loan-backed and Structured Securities for instruments converted in accordance with the Freddie Mac Single Security Initiative. Under this initiative, reporting entities will be permitted to exchange “45-day securities” for “55-day securities” without any material change to the securities, or to the loans that back the securities. (With the exchange, there would be a 10-day delay in payment cycle.)

3. The Working Group reached a tentative consensus to incorporate a limited-scope exception to SSAP No. 26R—Bonds and prescribe guidance for SSAP No. 43R—Loan-backed and Structured Securities specific to securities exchanged as part of the Freddie Mac Single Security Initiative. This limited-scope exception requires continuation of the amortized cost basis of the security surrendered to the new security received in the exchange. This is an exception to the guidance in SSAP No. 26R that requires fair value of the surrendered security to become the cost basis for the received security, unless the fair value of the security received is more clearly evident. Although there is not explicit guidance for exchanges in SSAP No. 43R, an entity referring to other statutory accounting standards for application guidance would infer a fair value measurement, rather than a continuation of the amortized cost basis.

The proposed extension temporarily overrides SSAP No. 26R, paragraph 22 for securities exchanged as part of the Freddie Mac Single Security Initiative, therefore the policy statement in Appendix F (see authoritative literature) requires 2/3rd (two-thirds) of the Working Group members to be present and voting and a supermajority of the Working Group members present to vote in support of the interpretation before it can be finalized.

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REVIEW AND ADOPTION of NON-CONTESTED POSITIONS – NONAPPLICABLE GAAP The Working Group may elect to discuss the following items, or may consider adoption in a single motion: 1. Ref #2018-41: ASU 2017-13, Amendments to SEC Paragraphs 2. Ref #2018-42: ASU 2018-02, Reclassification of Certain Tax Effects from AOCI 3. Ref #2018-43: ASU 2018-04, Debt Securities and Regulated Operations 4. Ref #2018-44: ASU 2018-05, Amendments Pursuant to SEC Staff Accounting Bulletin No. 118 5. Ref #2018-45: ASU 2018-06, Financial Services – Depository and Lending




2018-41 Appendix D

(Jake)

ASU 2017-13, Amendments to SEC Paragraphs 14 No Comment IP - 15

Summary: During the Fall National Meeting, Working Group moved this item to the active listing, categorized as nonsubstantive, and exposed revisions to Appendix D—Nonapplicable GAAP Pronouncements to reject ASU 2017-13, Amendments to SEC Paragraphs Pursuant to the Staff Announcement at the July 20, 2017 EITF Meeting and Rescission of Prior SEC Staff Announcements and Observer Comments as not applicable to statutory accounting. Interested Parties’ Comments: Interested parties have no comment on this item. Recommended Action: NAIC staff recommends adopting the exposed revisions to Appendix D—Nonapplicable GAAP Pronouncements to reject ASU 2017-13 as not applicable to statutory accounting.




2018-42 Appendix D

(Julie)

ASU 2018-02, Reclassification of Certain Tax Effects from

Accumulated Other Comprehensive Income (AOCI)

15 No Comment IP - 15

Summary: During the Fall National Meeting, the Working Group moved this item to the active listing, categorized as nonsubstantive, and exposed revisions to Appendix D—Nonapplicable GAAP Pronouncements to reject ASU 2018-02, Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income as not applicable to statutory accounting. Agenda item 2018-01 considered the impact of the TCJA on SSAP No. 101—Income Taxes. As part of this review, revisions were adopted to paragraph 8 to clarify how changes in tax rates should be reflected for statutory accounting. These revisions resulted in a footnote to detail the reporting lines that could be impacted by the change. With the review of SSAP No. 101, the GAAP exposure (prior to the issuance of ASU 2018-02) was reviewed and a conclusion was reached that statutory accounting does not result with “stranded tax effects,” therefore, guidance similar to what was proposed for U.S. GAAP was not needed in statutory accounting. Although the issued ASU 2018-02 does vary from the original U.S. GAAP exposure (e.g., ASU provides an

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election, not a requirement for reclassification), these changes do not alter the original assessment of “stranded tax effects” under SAP. Interested Parties’ Comments: Interested parties have no comment on this item. Recommended Action: NAIC staff recommends adopting the exposed revisions to Appendix D—Nonapplicable GAAP Pronouncements to reject ASU 2018-02 as not applicable to statutory accounting.




2018-43 Appendix D

(Jake)

ASU 2018-04, Debt Securities and Regulated Operations 16 No Comment IP - 15

Summary: During the Fall National Meeting, the Working Group moved this item to the active listing, categorized as nonsubstantive, and exposed revisions to Appendix D—Nonapplicable GAAP Pronouncements to reject ASU 2018-04, Investments—Debt Securities (Topic 320) and Regulated Operations (Topic 980), Amendments to SEC Paragraphs as not applicable to statutory accounting. Interested Parties’ Comments: Interested parties have no comment on this item. Recommended Action: NAIC staff recommends adopting the exposed revisions to Appendix D—Nonapplicable GAAP Pronouncements to reject ASU 2018-04 as not applicable to statutory accounting.




2018-44 Appendix D

(Jake)

ASU 2018-05, Amendments to SEC Paragraphs Pursuant to SEC Staff

Accounting Bulletin No. 118 17 No Comment IP - 15

Summary: During the Fall National Meeting, the Working Group moved this item to the active listing, categorized as nonsubstantive, and exposed revisions to Appendix D—Nonapplicable GAAP Pronouncements to reject ASU 2018-05, Income Taxes (Topic 740), Amendments to SEC Paragraphs Pursuant to SEC Staff Accounting Bulletin No. 118 as not applicable to statutory accounting. Interested Parties’ Comments: Interested parties have no comment on this item. Recommended Action: NAIC staff recommends adopting the exposed revisions to Appendix D—Nonapplicable GAAP Pronouncements to reject ASU 2018-05 as not applicable to statutory accounting.

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2018-45 Appendix D

(Jake)

ASU 2018-06, Depository and Lending 18 No Comment IP - 16

Summary: During the Fall National Meeting, the Working Group moved this item to the active listing, categorized as nonsubstantive, and exposed revisions to Appendix D—Nonapplicable GAAP Pronouncements to reject ASU 2018-06, Codification Improvements to Topic 942, Financial Services—Depository and Lending as not applicable to statutory accounting. Interested Parties’ Comments: Interested parties have no comment on this item. Recommended Action: NAIC staff recommends adopting the exposed revisions to Appendix D—Nonapplicable GAAP Pronouncements to reject ASU 2018-06 as not applicable to statutory accounting.

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REVIEW of COMMENTS on EXPOSED ITEMS The Working Group will consider each of the following items separately. 1. Ref #2018-18: Structured Notes 2. Ref #2018-22: SSAP No. 37 – Participation Agreement in a Mortgage Loan 3. Ref #2018-32: SSAP No. 26R – Prepayment Penalties 4. Ref #2018-33: SSAP No. 30R – Pledges to FHLBs 5. Ref #2018-34: SSAP No. 30R – Foreign Mutual Funds 6. Ref #2018-37: ASU 2018-14, Changes to the Disclosure Requirements for Defined Benefit Plans 7. Ref #2018-38: Prepayments to Service and Claims Adjusting Providers 8. Ref #2018-39: Interest on Claims 9. Ref #2018-06: Regulatory Transactions – Referral from Reinsurance (E) Task Force



Comment Letter Page

Number 2018-18

SSAP No. 2 SSAP No. 26R SSAP No. 43R SSAP No. 86

(Julie)

Structured Notes 19 & 20 Comments Received IP - 2

Summary: During the Fall National Meeting, the Working Group re-exposed revisions to require structured notes, except for mortgage-referenced securities, for which the contractual principal amount to be paid at maturity is at risk for other than failure of the borrower to pay the contractual amount due, to be reported as derivatives under SSAP No. 86. (Mortgage-referenced securities are proposed to be in scope of SSAP No. 43R.) For structured notes not captured in SSAP No. 43R, comments were requested on the classification of structured notes as derivatives or as mandatory convertible bonds within scope of SSAP No. 26R. With the re-exposure of the agenda item, a comparison of reporting structured notes as derivatives or as mandatory convertible bonds has also been exposed. Interested Parties’ Comments: Interested parties agree with NAIC staff that the accounting for such structured notes, where the investor assumes risk of principal loss based on an underlying component unrelated to the credit risk of the issuer, warrants scrutiny given today’s amortized cost treatment currently afforded under SSAP No. 26R. Such scrutiny is also warranted because, unlike US GAAP, embedded derivatives are not bifurcated from the host investment under statutory accounting. Fair value measurement of such securities may be appropriate under statutory accounting. First, we would like to point out that our previous response on this topic did not suggest these notes should be accounted for as convertible bonds; rather, our response offered three examples of bonds (including convertible bonds) being reported at fair value under SSAP No. 26R merely to highlight that fair value reporting under SSAP No. 26R is not unprecedented. We understand that the NAIC staff still believes structured notes should not only be reported at fair value but be reported as derivatives under SSAP No. 86 rather than as bonds under SSAP No. 26R. Interested parties are sympathetic to NAIC staff rationale to report structured notes, as defined, as derivatives and our reluctance really stems from fear of unintended consequences, not the intent of the proposal. This a complicated area and insurance companies are bound by the letter of any new rule changes (as enforced by the auditing firms) and not the intent of proposed changes. To help address these concerns, we offer the following proposed changes to the definition of structured notes to ensure unintended consequences are minimized. Further, we would like assurance that this issue can be revisited again in the future if further unintended consequences

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materialize as the cliff effect and penalty of reporting as derivatives is severe. We believe the following clarifications are in the spirit of the NAIC staff proposal and only clarify that certain transactions not intended to be in scope, are not in scope, of the new structured note definition. Proposed changes are underlined and the footnote (FN) was eliminated as aggregation within a continuous definition was viewed as more cohesive:

Securities that meet the definition in paragraph 3, but for which the contractual amount of the instrument to be paid at maturity (or the original investment) is at risk for other than failure of the borrower to pay the contractual amount due. These investments, although in the form of a debt instrument, incorporate risk of an underlying variable in the terms of the agreement, and the issuer obligation to return the full principal is contingent on the performance of the underlying variable FN. These investments are addressed in SSAP No. 86 – Derivatives, unless the investment is a mortgage-referenced security addressed in SSAP No. 43R. New Footnote: This exclusion is specific to instruments in which the terms of the agreement make it possible that the reporting entity could lose all or a portion of its principal amount due / original investment (for other than failure of the issuer to pay the contractual amounts due). These instruments incorporate both the credit risk of the issuer, as well as the risk of an underlying variable (such as the performance of an equity index or the performance of an unrelated security). Securities that are labeled “principal-protected notes” are captured within this exclusion if the “principal protection” involves only a portion of the principal / original investment amount and/or if the protection requires the reporting entity to meet qualifying conditions in order to be safeguarded from the risk of loss from the underlying linked variable. Securities that may have changing positive interest rates in response to a linked underlying variable or the passage of time, or that have the potential for increased principal repayments in response to a linked variable (such as U.S. Treasury Inflation-Indexed Securities) that do not incorporate risk of original investment / principal loss (outside of default risk) are not captured in this exclusion. Securities within the scope of SSAP No. 43R, foreign denominated bonds (if only by virtue of their denomination in a foreign currency) and securities comprising elements of risk consistent with Approved RSATs, as defined in Purposes and Procedures Manual of the NAIC Investment Analysis Office, are also not captured in this exclusion. This exclusion does not impact Replication (Synthetic Asset) Transactions as defined in SSAP No. 86.

Interested parties are also supportive of the NAIC staff’s proposed exception that would include mortgage-referenced securities within the scope of SSAP No. 43R as such securities are, in substance, similar to other SSAP No. 43R securities and where the credit risk can be assessed by existing methodologies of the NAIC Securities Valuation Office and/or the NAIC Structured Securities Group. However, interested parties would propose one small change (underlined) to the NAIC staff’s proposed changes to paragraph 33 of SSAP No. 43R to ensure consistency with other in substance similar securities:

(For mortgage-referenced securities, an OTTI is considered to have occurred when there has been a delinquency or other credit event in the reference pool of mortgages, such that the entity does not expect to recover the entire amortized cost basis of the security.)

Lastly, there are three needed administrative necessities for this proposal to be viable:

1) Interested parties do not believe structured notes will generally meet the requirements of a hedging transaction, income generation transaction, or replication transaction, as currently defined. Accordingly, SSAP No. 86 will need to be amended to either broaden the definition of income generation, to include structured notes, or a new category will need to be created.

2) The SSAP No. 86 structured note definition will need to be aligned with the definition above or, maybe more appropriately, just reference the above definition within SSAP No. 26R.

3) Future referrals to the Blanks and Investment RBC Working Groups will be necessary to establish the appropriate classification for these derivatives as well as any related impacts to AVR and RBC requirements. As this agenda item is currently perceived as a non-substantive change, which would be effective immediately upon adoption, these changes will all need to occur prior to adoption. Otherwise, the agenda item will need to be changed to substantive with an appropriate effective date.

Hearing Agenda


Recommended Action: After considering the interested parties’ comments, particularly the references to administrative items, NAIC staff recommends the following actions for this agenda item:

1) Adopt the exposed revisions with modifications to SSAP No. 26R, paragraph 2c and SSAP No. 86, paragraph 5g as recommended by interested parties. (The interested parties’ proposed revisions to SSAP No. 43R were reflected in the most recent exposure.) The revisions are proposed to be adopted as nonsubstantive changes, but with an explicit Dec. 31, 2019 effective date.

2) Direct NAIC referrals / blanks proposal to the Blanks (E) Working Group and the Capital Adequacy (E) Task Force to consider reporting AVR and RBC revisions for structured notes.

3) Direct an NAIC referral to the Valuation of Securities (E) Task Force to revise their definition of structured notes to mirror (or reference) the definition adopted for statutory accounting.

4) Direct NAIC staff to prepare a separate agenda item to consider whether additional guidance is needed within SSAP No. 86 for derivatives that are not hedging, income generation or replications. NAIC staff highlights that the annual statement instructions already capture “other” derivatives. NAIC staff would agree that such derivatives shall be reported at fair value. Although guidance to clarify the accounting for such items can be considered, the overall admittance of such investments may be contingent on state investment laws.

Recommended Action 1: Adopt the exposed revisions with modifications to SSAP No. 26R, paragraph 2c and SSAP No. 86, paragraph 5g as recommended by interested parties. (The interested parties’ proposed revisions to SSAP No. 43R were reflected in the most recent exposure.) The revisions are proposed to be adopted as nonsubstantive changes, but with an explicit Dec. 31, 2019 effective date. This action will result in the following overall changes to statutory accounting:

• SSAP No. 2—Cash, Cash Equivalents, Drafts and Short-Term Investments: Revisions clarify that

derivative instruments shall not be reported as cash equivalents or short-term instruments regardless of their maturity date and shall be reported as derivatives regardless of maturity.

• SSAP No. 26R—Bonds: Revisions remove securities from the bond definition when the contractual amount of the instrument to be paid at maturity is at risk for other than the failure of the borrower to pay the contractual amount due. This guidance identifies that the instrument may be in the form of a debt instrument, but the issuer obligation to return principal is contingent on the performance of an underlying variable (e.g., equity index or performance of an unrelated security.) The revisions also delete the structured note disclosure.

• SSAP No. 43R—Loan-backed and Structured Securities: Revisions explicitly capture mortgage-reference securities in scope. This is an explicit exception to the LBSS definition, as the items do not qualify as “loan-backed securities” as the pool of mortgages are not held in trust, and the amounts due under the investment are not backed by the referenced mortgages.

• SSAP No. 86—Derivatives: Revisions capture structured notes in scope when there is a risk of principal loss based on the terms of the agreement (in addition to default risk).

The paragraphs modified in response to interested parties’ comments and effective date language that will be incorporated for SSAP No. 26R, SSAP No. 43R and SSAP No. 86 are shown below. SSAP No. 26R, paragraph 2c. This paragraph is entirely new, but only the interested parties’ proposed revisions are shown as tracked changes.

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2. This statement excludes:

a. Loan-backed and structured securities addressed in SSAP No. 43R—Loan-Backed and Structured Securities.

b. Securities that meet the definition in paragraph 3 with a maturity date of one year or less from date of acquisition, which qualify as cash equivalents or short-term investments. These investments are addressed in SSAP No. 2R—Cash, Cash Equivalents, Drafts and Short-Term Investments.

c. Securities that meet the definition in paragraph 3, but for which the contractual amount of the instrument to be paid at maturity (or the original investment) is at risk for other than failure of the borrower to pay the contractual amount due. These investments, although in the form of a debt instrument, incorporate risk of an underlying variable in the terms of the agreement, and the issuer obligation to return the full principal is contingent on the performance of the underlying variableFN. These investments are addressed in SSAP No. 86—Derivatives, unless the investment is a mortgage-referenced security addressed in SSAP No. 43R. Thise exclusion in paragraph 2c is specific to instruments in which the terms of the agreement make it possible that the reporting entity could lose all or a portion of its principal amount due / original investment amount (for other than failure of the issuer to pay the contractual amounts due). These instruments incorporate both the credit risk of the issuer, as well as the risk of an underlying variable (such as the performance of an equity index or the performance of an unrelated security). Securities that are labeled “principal-protected notes” are captured within this exclusion if the “principal protection” involves only a portion of the principal / original investment amount and/or if the protection requires the reporting entity to meet qualifying conditions in order to be safeguarded from the risk of loss from the underlying linked variable. Securities that may have changing positive interest rates in response to a linked underlying variable or the passage of time, or that have the potential for increased principal repayments in response to a linked variable (such as U.S. Treasury Inflation-Indexed Securities) that do not incorporate risk of original investment / principal loss (outside of default risk) are not captured in this exclusion. Securities within the scope of SSAP No. 43R, foreign denominated bonds (if only by virtue of their denomination in a foreign currency) and securities comprising elements of risk consistent with Replication (Synthetic Assets) transactions (RSATs), as defined in the Purposes and Procedures Manual of the NAIC Investment Analysis Office, are also not captured in this exclusion. This exclusion does not impact RSATs as defined in SSAP No. 86.

SSAP No. 86, paragraph 5g This paragraph is entirely new, but only the interest parties’ proposed revisions are shown as tracked changes. (These revisions update the definition of a structured note to mirror the language in SSAP No. 26R.)

5.g “Structured Notes” in scope of this statement are instruments (often in the form of a debt instruments), in which the amount of principal repayment or return of original investment is contingent on an underlying variable/interestFN. Structured notes that are “mortgage referenced securities” are captured in SSAP No. 43R—Loan-backed and Structured Securities.

New Footnote: The “structured notes” captured within scope of this statement is specific to instruments in which the terms of the agreement make it possible that the reporting entity could lose all or a portion of its original investment amount (for other than failure of the issuer to pay the contractual amounts due). These instruments incorporate both the credit risk of the issuer, as well as the risk of an underlying variable/interest (such as the performance of an equity index or the performance of an unrelated security). Securities that are labeled “principal-protected notes” are captured within scope of this statement if the “principal protection” involves only a portion of the principal and/or if the principal protection requires the reporting entity to meet qualifying conditions in order to be safeguarded from the risk of loss from the underlying linked variable. Securities that may have changing positive interest rates in response to a linked underlying variable or the passage of time, or that have the potential for increased principal repayments in response to a linked variable (such as U.S. Treasury Inflation-Indexed Securities) that do not

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incorporate risk of original investment / principal loss (outside of default risk) are not captured as structured notes in scope of this statement.

Proposed Effective Date paragraphs:

SSAP No. 26R, paragraph 36:

Revisions adopted April 2019, to explicitly exclude securities for which the contract amount of the instrument to be paid at maturity (or the original investment) is at risk for other than failure of the borrower to pay the contractual amount due, are effective December 31, 2019.

SSAP No. 43R, paragraph 55f:

Revisions adopted April 2019, to explicitly include mortgage referenced securities in scope of this statement are effective December 31, 2019.

SSAP No. 86, paragraph 66:

Revisions adopted April 2019, to explicitly exclude structured noted in scope of this statement are effective December 31, 2019.

Recommended Action 2: Direct NAIC referrals / blanks proposal to the Blanks (E) Working Group and the Capital Adequacy (E) Task Force to consider reporting AVR and RBC revisions for structured notes.

o For items in scope of SSAP No. 86: NAIC staff highlights that a structured note is generally a derivative

forward in the form of a debt instrument. (With a derivative forward, two parties commit to transact at a future specified date in accordance terms of the agreement established at acquisition.) With classification in scope of SSAP No. 86 as a derivative, if there is no explicit reporting guidance for structured notes, the reporting shall follow the substance of the derivative contract. Under existing reporting guidelines, open derivative forwards are captured on Schedule DB - Part A - Section 1. The Annual Statement Instructions include a category for “Other” when derivatives do not qualify as hedging, income generation or replications. (With the existing reporting instructions, there are no blanks changes proposed for the derivative schedules.)

o For items in scope of SSAP No. 43R: the blanks proposal will recommend that mortgage reference

securities shall be captured as a specific line in the “U.S. Special Revenue and Special Assessment Obligations and All Non-Guaranteed Obligations of Agencies and Authorities of Governments and Their Political Subdivisions” category. (As the MRS are only permitted from the designated government agencies, there should be no reporting of these securities in any of the other categories on Schedule D-1.)

Recommended Action 3: Direct an NAIC referral to the Valuation of Securities (E) Task Force to revise their definition of structured notes to mirror (or reference) the definition adopted for statutory accounting.

Recommended Action 4: Direct NAIC staff to prepare a separate agenda item to consider whether additional guidance is needed within SSAP No. 86 for derivatives that are not hedging, income generation or replications. NAIC staff highlights that the annual statement instructions already capture “other” derivatives. NAIC staff would agree that such derivatives shall be reported at fair value. Although guidance to clarify the accounting for such items can be considered, the overall admittance of such investments may be contingent on state investment laws.

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Comment Letter Page

Number 2018-22

SSAP No. 37 (Julie)

Participation Agreement in a Mortgage Loan 21 Comments

Received IP - 4

Summary: On August 4, 2018, the Working Group moved this item to the active listing, categorized as nonsubstantive, and exposed proposed revisions to SSAP No. 37—Mortgage Loans, as detailed above, to clarify that a mortgage loan acquired through a mortgage loan participation agreement is limited to a single mortgage loan agreement with a sole borrower. On November 15, 2018, the exposed new revisions to SSAP No. 37—Mortgage Loans, to clarify that mortgage loans acquired through a participation agreement are limited to single mortgage loan agreements and exclude “bundled” mortgage loans. These revisions intend to prevent inadvertent restrictions when there may be more than one lender / borrower but clarify that structures that reflect more than one mortgage loan agreement are not in scope of SSAP No. 37. Interested Parties’ Comments: Interested parties are appreciative that the Working Group addressed our comments on the earlier exposure that a mortgage loan agreement could include multiple borrowers, be secured by multiple properties and have more than one lender via a co-lending or participation agreement and the technical edits to the definition of a co-lending and participation agreement. The current exposure of SSAP No. 37 added bundled mortgage loans to the group of investments not considered in the scope of mortgage loans under SSAP 37. It is exposed as follows and adds footnote 3 to further clarify what is a single mortgage loan agreement and a bundled mortgage loan:

Exposed paragraph 2: A mortgage loan is defined as a debt obligation that is not a security, which is secured by a mortgage on real estate. In addition to mortgage loans directly originated, a mortgage loan also includes mortgages acquired through assignment, syndication or participation. Investments that reflect “participating mortgages,” “mortgage loan fund,” “bundled mortgage loans3,” or the “securitization of assets” are not considered mortgage loans within the scope of this SSAP. Exposed Footnote 3: The scope of this SSAP is limited to single mortgage loan agreements. Although single mortgage loan agreements can potentially have more than one lender (e.g., co-lenders / participations) and more than one borrower (such as in a tenancy-in-common arrangement), the concept of a “single mortgage loan” does not include arrangements in which a reporting entity acquires more than one mortgage in a sole transaction. (For example, if a reporting entity was to acquire an interest in a “bundle” of mortgage loans with various unrelated borrowers and collateral, this agreement would be outside of the scope of this SSAP.)

Interested parties first had a couple of minor technical edit suggestions:

• For the second sentence of paragraph 2 of SSAP No. 37, we suggest “… a mortgage loan also includes mortgage loans acquired or obtained through assignment, syndication or participation.”

• For footnote 3, we suggest that the word “loan” be added to the third line of the footnote as part of the phrase “one mortgage loan in a sole transaction”.

More importantly, while we agree with the spirit of the scope exclusions to exclude mortgage loans wrapped as an interest in a single investment such as legally organized pools or a loan fund, we believe that the concept of a bundle of mortgage loans as defined in footnote 3 is too broad with inadvertent consequences. For example, the statement in footnote 3 that “the concept of a “single mortgage loan” does not include arrangements in which a reporting entity acquires more than one mortgage loan in a sole transaction” could be interpreted to exclude the purchase of a group of commercial or individual mortgage loans in the secondary market from being reported as

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SSAP No. 37 mortgage loans. To correct that confusion, we would suggest adding the following clarifying sentence to the end of footnote 3; “However, a bundle of mortgage loans does not include a “bulk purchase” where the reporting entity’s interest in each mortgage loan is legally separate and divisible and the purchase just facilitates the acquisition of multiple single mortgage loan agreements”. After making those changes, interested parties suggest re-wording footnote 3 to read as follows:

3 The scope of this SSAP is limited to single mortgage loan agreements. Although single mortgage loan agreements can potentially have more than one lender (e.g., co-lenders / participations) and more than one borrower (such as in a tenancy-in-common arrangement), the concept of a “single mortgage loan” does not include arrangements in which a reporting entity acquires more than one mortgage loan in a sole transaction. (For example, if a reporting entity was to acquire an interest in a “bundle” of mortgage loans with various unrelated borrowers and collateral, this agreement would be outside of the scope of this SSAP. However, a bundle of mortgage loans does not include a “bulk purchase” where the reporting entity’s interest in each mortgage loan is legally separate and divisible and the purchase just facilitates the acquisition of multiple single mortgage loan agreements.

Regulator Comments: NAIC staff received informal regulator comments requesting additional clarity to ensure structures captured in SSAP No. 37 are compliant with the intent that acquisition through a participation agreement results in the same ownership and protections that a reporting entity would have if they had directly acquired a mortgage loan. The proposed revisions received intend to ensure the following characteristics:

• Reporting entity must have a signed participation agreement with the original lender. (Must be in privity of contract with the original lender(s).)

• The rights acquired under the participation agreement must be pari-passu with the original lender.

• Mortgage loan proceeds under the participation agreement include 1) mortgage loan principle and interest payments to be made under the single mortgage loan by the borrower under the single mortgage loan, and 2) proceeds and rights received in foreclosure of mortgage, deed of trust, deed of foreclosure or similar proceedings.

• Participation agreement must be properly and promptly recorded.

Suggested Wording for SSAP No. 37, footnote 1b: Reporting entity has entered into “participation agreement” to invest in a single mortgage loan. The reporting entity is not an original lender named as a payee of the mortgage loan, but the original lender sells a portion of the mortgage loan to the reporting entity through an assignment of a “participation interest” under the participation agreement. Under a participation agreement, the reporting entity acquires an undivided interest in the single mortgage loan proceeds to be received by the original lender. Under a participation agreement, single mortgage loan proceeds include the periodic mortgage loan principal and interest payments received by the original lender, and all rights and proceeds received in the foreclosure of a mortgage, deed of trust, deed in lieu of foreclosure or similar proceeding by the original lender. The amount of the proceeds to be received by the reporting entity is based on the ratio of its participation interest to the then-outstanding single mortgage loan balance. To qualify as a mortgage loan under the scope of this statement, the reporting entity must have a signed participation of agreement with the original lender named in the mortgage loan, the financial rights and obligations of reporting entity under the participation agreement are the same as the original lender under the mortgage loan, and its participation interest in the single mortgage loan proceeds must be in pari-passu with the original lender named on the original mortgage loan agreement, and said participation agreement must be properly and promptly recorded.

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Recommended Action: NAIC staff recommends exposing proposed revisions, modified from the prior exposure to incorporate both regulator and interested parties’ comments. These revisions: 1) Incorporate the minor technical edits and footnote 3 guidance recommended by interested parties. 2) Incorporate additional language to footnote 2 to clarify requirements of participating interests. NAIC

staff highlights that the revisions to footnote 2 appear extensive, but agrees that the language is consistent with the original intent permitting mortgage loans acquired through participation agreements to be in scope of SSAP No. 37.

The following details the proposed revisions to incorporate the suggested changes: SSAP No. 37–Mortgage Loans – Revisions from the prior exposure are shaded.

2. A mortgage loan is defined as a debt obligation that is not a security, which is secured by a mortgage on real estate. In addition to mortgage loans directly originated, a mortgage loan also includes mortgage loans acquired or obtained through assignment, syndication or participation2. Investments that reflect “participating mortgages,” “mortgage loan fund,” “bundled mortgage loans3,” or the “securitization of assets” are not considered mortgage loans within scope of this SSAP.

a. A security is a share, participation, or other interest in property or in an entity of the issuer or an obligation of the issuer that has all of the following characteristics:

i. It is either represented by an instrument issued in bearer or registered form, or if not represented by an instrument, is registered in books maintained to record transfers by or on behalf of the issuer.

ii. It is of a type commonly dealt in on securities exchanges or markets or, when

represented by an instrument, is commonly recognized in any area in which it is issued or dealt in as a medium for investment.

iii. It either is one of a class or series or by its terms is divisible into a class or series of

shares, participations, interests, or obligations.

2 Examples of agreements intended to be captured within this statement:

a. Reporting entity is a “co-lenderparticipant” in a single mortgage loan agreement that identifies more than one lender (which includes the reporting entity) providing funds to a sole borrower with the real estate collateral securing all lenders identified in the agreement. For these single mortgage loan agreements, each lender is incorporated directly into the loan documents. The key differentiating characteristic of a mortgage loan provided under a group “mortgage loan co-lending participation agreement” rather than a solely-owned mortgage loan is that no one lender of the lending group may unilaterally foreclose on the mortgage. With these agreements, the lenders must foreclose on the mortgage loan as a group.

b. Reporting entity has a “participation agreement” to invest in a single mortgage loan. agreement mortgages(sole

borrower) originally issued by another entityAlthough tThe reporting entity is not an original lender named as a payee on the original mortgage loanagreement, but the original lender issuer sells a portion of the mortgage loan to the reporting entity an incoming participant lender (co-lender) and the sale is documented by through an assignment of a participation interest under the participation agreement. or participation agreement between the selling lender and the co-lenderparticipant. With these agreements, the participantco-lender Under a participation agreement, the reporting entity acquires an undivided participation interest in the single mortgage loan proceeds to be received by the original lender. Under a participation agreement, single mortgage loan proceeds include the periodic mortgage loan principal and interest payments received by the original lender, and all rights and proceeds received in the foreclosure of a mortgage, deed of trust, deed in lieu of foreclosure, or other similar proceeding by the original lender. The amount of the proceeds to be received by the reporting entity is based on the ratio of its participation interest to the then-outstanding single mortgage loan balance. To qualify as a mortgage loan under the scope of this statement, the reporting entity must have a signed participation agreement with the original lender named in the mortgage loan, and will have rights related receive direct interest in the amount of their participation in the right to

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repayment of the loan based on its pro-rata share of the single mortgage loanand the collateral given to secure the loan. Tthe financial rights and obligations of the reporting entity under the participation agreement are the same as the original lender, the reporting entity’s participation interest in the single mortgage loan proceeds must be pari-passu with the original lender named on the mortgage loan agreement, and the participation agreement must be properly and promptly recorded. lenders participants in these agreements shall be similar to those in a direct loan.

Footnote 2b is also shown clean:

b. Reporting entity has a “participation agreement” to invest in a single mortgage loan. The reporting entity is not an original lender named as a payee on the mortgage loan, but the original lender sells a portion of the mortgage loan to the reporting entity through an assignment of a participation interest under the participation agreement. Under a participation agreement, the reporting entity acquires an undivided interest in the single mortgage loan proceeds to be received by the original lender. Under a participation agreement, single mortgage loan proceeds include the periodic mortgage loan principal and interest payments received by the original lender, and all rights and proceeds received in the foreclosure of a mortgage, deed of trust, deed in lieu of foreclosure, or other similar proceeding by the original lender. The amount of the proceeds to be received by the reporting entity is based on the ratio of its participation interest to the then-outstanding single mortgage loan balance. To qualify as a mortgage loan under the scope of this statement, the reporting entity must have a signed participation agreement with the original lender named in the mortgage loan, the financial rights and obligations of the reporting entity under the participation agreement are the same as the original lender, the reporting entity’s participation interest in the single mortgage loan proceeds must be pari-passu with the original lender named on the mortgage loan agreement, and the participation agreement must be properly and promptly recorded.

3 The scope of this SSAP is limited to single mortgage loan agreements. Although single mortgage loan agreements can potentially have more than one lender (e.g., co-lenders / participations) and more than one borrower (such as in a tenancy-in-common arrangement), the concept of a “single mortgage loan” does not include arrangements in which a reporting entity acquires more than one mortgage loan in a sole transaction. (For example, if a reporting entity was to acquire an interest in a “bundle” of mortgage loans with various unrelated borrowers and collateral, this agreement would be outside of the scope of this SSAP. However, a bundle of mortgage loans does not include a “bulk purchase” where the reporting entity’s interest in each mortgage loan is legally separate and divisible and the purchase just facilitates the acquisitions of multiple single mortgage loan agreements.)



Comment Letter Page

Number 2018-32


Prepayment Penalties 22 Comments Received IP - 7

Summary: During the Summer National Meeting, the Working Group exposed revisions to SSAP No. 26R—Bonds, to provide guidance to determine investment income for prepayment penalties or acceleration fees and realized gain/loss where bonds are prepaid for consideration less than par. Comments were requested on whether additional illustrations should be added to the SSAP, or if the existing illustrations should be eliminated or condensed. Interested Parties’ Comments: Interested parties support revisions to SSAP No. 26R to provide calculations to determine prepayment penalties or acceleration fees for bonds that are prepayable at less than par. However, we believe it is not necessary to require that each bond be reviewed individually. Individual bond review is not required where bonds are prepayable at par or greater, and system vendors have incorporated the functionality to facilitate proper measurement and reporting of these transactions. Requiring individual bond review for instruments prepayable at less than par would introduce additional manual processes which we believe would be unduly burdensome for such a limited circumstance. Interested parties also believe that calculations that reference fair value would be operationally burdensome because fair values are not determined daily and prepayments can occur any day. Interested parties propose the modifications below, which we believe correct the potential for misrepresenting investment income

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and realized gains while also offering a solution that is operationally simpler to implement. The modifications remove the proposed insertion of “or loss” from the introduction to paragraph 17 because a prepayment penalty or acceleration fee would not be negative (as such fees are intended to compensate the investor for the callability) and make other revisions to not refer to fair value and not require each bond be reviewed individually. Modifications are denoted with strikethroughs and double underline.

17. The amount of prepayment penalty and/or acceleration fees to be reported as investment income or loss shall be calculated as follows:

a. For called bonds in which the total proceeds (consideration) received exceeds par: i. The amount of investment income reported is equal to the total proceeds

(consideration) received less the par value of the investment; and

ii. Any difference between the book adjusted carrying value (BACV) and the par value at the time of disposal shall be reported as realized capital gains and losses, subject to the authoritative literature in SSAP No. 7.

b. For cCalled bonds in which the consideration received is less than par: i. To the extent an entity has in place a process to identify explicit Each bond shall be

reviewed individually, in accordance with the terms of the bond and call provisions, to determine the extent a prepayment penalty or acceleration fees, thesewhich should be reported as investment income, was received.

ii. After determining any explicit prepayment penalty or acceleration fees, the reporting entity shall calculate the resulting realized gain or loss. The following are examples to determine the acceleration fee / prepayment penalty when call price consideration is less than par: as the difference between the remaining consideration and the BACV which shall be reported as realized capital gains and losses, subject to the authoritative literature in SSAP No. 7.

a. If the call price is less than par, and the call terms specify prepayment amounts in excess of current fair value, the amount in excess of fair value shall be considered the prepayment penalty / acceleration fee.

b. Prepayments specifically identified in the contract terms as prepayment penalties or acceleration fees shall also be reported in investment income.

In response to the request for comments, interested parties support adding the illustrations to Exhibit C of SSAP No. 26R, as revised below, and retaining the existing illustrations. Interested parties offer that the paragraph reference in the footnote “*” to Examples 1, 2 and 3 in Exhibit C should be revised to indicate paragraph 17.

Call Price Less than Par Entity 1 Entity 2 Entity 3

Par 100 Par 100 Par 100 BACV 24 BACV 28 BACV 25 Consideration 26 Consideration 26 Consideration 26 Fair ValueExplicit fee

251 Fair ValueExplicit fee

251 Fair ValueExplicit fee 251

Remaining consideration

25 Remaining consideration


25

Gain (Loss) 1 Gain (Loss) (3) Gain (Loss) 0 Income* 1 Income* 1 Income* 1

* Entity has in place a process to identify explicit prepayment penalty or acceleration fees.

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Interested Parties’ Comment Letter Update – Feb. 26, 2019 There should not be situations in which consideration received for a callable bond is less than BACV because any premium would have been amortized to the call price through investment income using the yield-to-worst concept. We recommend the Entity 2 example be struck because it is not conceptually valid for bonds with a call provision (NAIC Staff Note – The updated comment was received in response to an inquiry on scenarios where consideration received would be less than BACV under the yield-to-worst concept.) Recommended Action: NAIC staff recommends exposing updated revisions with the modifications suggested by interested parties and NAIC staff. (This is proposed to have a May 10 comment deadline.) With the industry proposed revisions, for called bonds in which consideration received is less than par, only entities with processes in place to identify the prepayment penalty will have to recognize that component as investment income. (Entities without a process will recognize the entire difference between BACV and the consideration received as a gain or loss.) NAIC staff has proposed an addition to the interested parties’ revisions to require consistent treatment within a reporting entity and to require that once a process is in place, the reporting entity is required to maintain a process. Additionally, NAIC staff has proposed revisions to clarify that in instances where consideration received is less than BACV, the entire difference should be reported through investment income. This treatment is consistent with how the reporting would have occurred if the bond had been amortized under the yield-to-worst concept. NAIC staff highlights that with the industry proposed revisions, the guidance would result in different treatment between reporting entities, as recognition between investment income or gain/loss would be contingent on each entity’s established process. Despite the potential inconsistent treatment among reporting entities, NAIC staff does not oppose the suggested industry revisions as the ultimate impact is not expected to be significant to the financial statements. NAIC staff agrees that establishing new processes to identify prepayment penalties for called bonds when consideration received is less than par, may not be warranted due to the limited times these situations will occur and the impact to investment income any prepayment penalty would have. Proposed Revisions to SSAP No. 26R:


a. For called bonds in which the total proceeds (consideration) received exceeds par: i. The amount of investment income reported is equal to the total proceeds

(consideration) received less the par value of the investment; and


b. For cCalled bonds in which the consideration received is less than parFN: i. To the extent an entity has in place a process to identify explicit Each bond shall be

reviewed individually, in accordance with the terms of the bond and call provisions, to determine the extent a prepayment penalty or acceleration fees, thesewhich should be reported as investment income, was received. (An entity shall consistently apply their process. Once a process is in place, an entity is required to maintain a process to identify prepayment penalties for called bonds in which consideration received is less than par.)

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ii. After determining any explicit prepayment penalty or acceleration fees, the reporting entity shall calculate the resulting realized gain or loss. The following are examples to determine the acceleration fee / prepayment penalty when call price consideration is less than par: as the difference between the remaining consideration and the BACV which shall be reported as a realized capital gains and losses, subject to the authoritative literature in SSAP No. 7.


a. Prepayments specifically identified in the contract terms as prepayment penalties or acceleration fees shall also be reported in investment income.

New FN: This guidance applies to situations in which consideration received is less than par, but greater than the book adjusted carrying value (BACV). Pursuant to the yield-to-worst concept, bonds shall be amortized to the call or maturity date that produces the lowest asset value. In the event a bond has not been amortized to the lowest value prior to the call (BACV is lower than the consideration received), the entire difference between consideration received and the BACV shall be reported to investment income.

In response to the request for comments, interested parties support adding the illustrations to Exhibit C of SSAP No. 26R, as revised below, and retaining the existing illustrations. Interested parties offer that the paragraph reference in the footnote “*” to Examples 1, 2 and 3 in Exhibit C should be revised to indicate paragraph 17. Pursuant to the updated interested parties’ comments, the example for Entity 2 has been deleted.


Par 100 Par 100 Par 100 BACV 24 BACV 28 BACV 25 Consideration 26 Consideration 26 Consideration 26 Explicit feeFair Value

251 Explicit feeFair Value

251 Explicit feeFair Value 251




25





Comment Letter Page

Number 2018-33


Pledges to FHLBS 23 No Comments IP – 9 FHLB - 19

Summary: During the Fall National Meeting, the Working Group exposed revisions to SSAP No. 30R—Unaffiliated Common Stock, as shown above, to clarify that assets pledged to a Federal Home Loan Bank (FHLB) on behalf of an affiliate shall be nonadmitted pursuant to SSAP No. 4—Assets and Nonadmitted Assets. Comments are requested on activities that occur involving FHLBs, including the following:

• Ability for non-FHLB member to borrow funds based on affiliate FHLB membership.

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• “Group” FHLB Membership – Meaning the FHLB membership is determined / divided among more than one affiliate, in which all affiliated companies are considered FHLB members (with FHLB privileges), based on the “group” agreement.

• Prevalence of insurer assets being pledged to an FHLB for an affiliate FHLB member / borrower.

• Whether the existing guidance for FHLBs, which allows admitted asset treatment for FHLB stock

although the stock is significantly restricted and cannot be liquidated for policyholder claims, shall be retained if the reporting entity is utilizing their FHLB membership to obtain FHLB benefits for affiliates.

Interested Parties’ Comments: Interested parties have no comment on this item. Information Received from the FHLB’s: The following responses to the exposure questions were received from the FHLBs: • Ability for non-Federal Home Loan Bank (“FHLB” or “FHLBank”) member to borrow funds based on

affiliate FHLB membership.

In all instances – across all FHLBs – the FHLB will not provide borrowings/advances to any entity that is not an FHLB member. An FHLB member is not required to disclose the intent of borrowing (and the FHLB does not “approve” the use of advance proceeds), therefore FHLB members may borrow from the FHLB and provide the funds to an affiliate of the member. Consistent with the terms of the FHLBank Act and Federal Housing Finance Agency (FHFA) regulation, FHLBanks can permit members to borrow using assets pledged by the member’s affiliate to secure the member’s borrowing from the FHLBank. See 12 U.S.C. 1430(e) and 12 CFR 1266.7(g). Under FHFA regulation if a member’s affiliate pledges assets to secure the member’s borrowings from its FHLBank the pledge of assets has to be to secure either: (1) the member's obligation to repay advances or (2) a surety or other agreement under which the affiliate has assumed, along with the member, a primary obligation to repay advances made to the member. If this occurs, the insurer member continues to be responsible for ensuring that the member’s borrowings at all times are fully secured by eligible collateral pledged to the FHLBank. Additionally, the member (not the affiliate) is solely responsible for maintaining sufficient capital stock in the FHLBank, including maintaining the required amount of activity stock to support the member’s outstanding advances. Finally, the member is always primarily obligated to repay the advances from the FHLBank in either structure (1) or (2) above.

• “Group” FHLB Membership – Meaning the FHLB membership is determined/divided among more than one affiliate, in which all affiliated companies are considered FHLB members (with FHLB privileges), based on the “group” agreement.

In all instances – across all FHLBs – only separate reporting entities (those with an insurance charter) are permitted to join the FHLB. As such, it is not possible for reporting entities to join on a “group” basis. Additionally, only individual insurance reporting entities may join an FHLB. (Holding companies and captives (with the exception of Risk Retention Groups (RRGs) are not permitted to be FHLB members.) The state in which a company is “based” or has its “principal place of business (“PPOB” as defined in FHFA regulations) determines FHLB membership. As such, if there are two insurers in a group, and they are based in different FHLB districts, each insurer would be restricted in joining the FHLB that is determined based on their PPOB location. Where a company is “based” or has its PPOB per FHFA regulations may be impacted by other factors and may not necessarily be the state of domicile.

• Prevalence of insurer affiliate assets being pledged to an FHLB to support FHLB member/borrower

borrowings:

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o FHLBank Atlanta does accept affiliate collateral with proper documentation (with no restrictions on whether or not the affiliate is an insurance company). FHLB Atlanta does not, however, currently have any affiliate pledging arrangements in place with insurance company members.

o FHLBank Boston does not currently have any arrangements in place where a nonmember insurance company pledges collateral on behalf of a member.

o FHLB Chicago does allow affiliate pledges for insurance members on a case-by-case basis.

o FHLBank Cincinnati – Affiliate pledges are open to all FHLBank members – which includes both the

Bank’s depository institutions and insurers. Although banks may choose to have non-member affiliates pledges assets directly to the FHLB, there are no banks currently utilizing this option.

o FHLBank Dallas – Unknown.

o FHLBank Des Moines has no NAIC insurance companies utilizing affiliate pledge with another company, insurance or otherwise

o FHLBank Indianapolis – Unknown.

o FHLBank New York currently has no insurance company affiliates pledging assets to support member

borrowings.

o FHLBank Pittsburgh does not have any non-member insurance company pledging collateral on behalf of an insurance company member.

o FHLBank San Francisco does accept nonmember affiliate pledges to support member borrowings,

although do not have any nonmember affiliates providing collateral to support insurance company borrowings.

o FHLBank Topeka does not currently have any non-member insurance company pledging collateral on

behalf of another insurance company member. Recommended Action: NAIC staff recommends adopting the exposed revisions to SSAP No. 30R–Unaffiliated Common Stock to clarify that assets pledged to a FHLB on behalf of an affiliate shall be nonadmitted pursuant to SSAP No. 4. The exposed revisions also clarify that the FHLB guidance in SSAP No. 30 is restricted to reporting entities that are FHLB members. Lastly, the exposed revisions clarify that any transaction that is entered into on behalf of an affiliate, but is completed in a manner to exclude the affiliate involvement (e.g., pledging assets directly to the FHLB) shall be considered a related party transaction under SSAP No. 25—Affiliates and Other Related Parties. After reviewing the information received from the FHLBs, NAIC staff does not recommend further revisions to the FHLB guidance in SSAP No. 30R at this time.

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Comment Letter Page

Number 2018-34


Foreign Mutual Funds 24 Agree, With Comments IP - 9

Summary: During the Fall National Meeting, the Working Group exposed revisions to SSAP No. 30R—Unaffiliated Common Stock, as shown above, to include foreign mutual funds in scope. This agenda item was drafted to consider whether foreign mutual funds should be in scope of SSAP No. 30R in accordance with the request per the interested parties’ Oct. 5, 2018 comment letter. With exposure, comments were requested on the classification between domestic and foreign, as well as reporting as diversified securities, with specific referrals directed to the Capital Adequacy (E) Task Force and the Valuation of Securities (E) Task Force. Exposure Questions:

1) Should only certain jurisdictions be permitted for their mutual funds’ inclusion as common stock? (For example, UK, Hong Kong, Canadian, etc.)

2) Should Canadian mutual funds continue to be considered “domestic” in accordance with the current annual statement instructions as they are subject to different regulations from the U.S. SEC. Should a new code shall be established for Canadian mutual funds on Schedule D-2-2?

3) Should all foreign mutual funds (including or excluding Canadian mutual funds) be captured in the Supplemental Investment Risk Interrogatory as foreign investments?

4) Should there be clarification that only U.S. SEC registered mutual funds that qualify for diversification are excluded from the Asset Concentration Factor section of the risk-based capital filing? In staff view, only U.S. SEC registered mutual funds shall be reported in the general interrogatories 29.1 through 29.3.

Interested Parties’ Comments: Interested parties agree with the recommendation to include foreign open-funds in the scope of SSAP No. 30R and request that this be effective 1/1/2019. The following are interested parties’ responses to the four questions posed by the Working Group.

1) Should only certain jurisdictions be permitted for their mutual funds’ inclusion as common stock? (For example, UK, Hong Kong, Canadian, etc.) The interested parties do not recommend citing individual jurisdictions, as those jurisdictions would have to be subject to ongoing evaluation and periodic selection by the NAIC or the appropriate governing authority. Instead, the interested parties recommend that the NAIC limit this proposal to regulated foreign open-ended investment funds. Similar to SEC registered mutual funds, regulated foreign open-end investments will be carried at fair value with the change reported through surplus; thus, always reflecting changes in the fund’s net asset value (NAV) in surplus. Also, as noted below, interested parties believe these regulated foreign open-end funds should be reported as foreign and a new Schedule D code should be established so the regulators can easily isolate exposure to these funds. If the NAIC believes the proposal should be limited to certain jurisdictions, then interested parties offer to work with NAIC staff to develop workable criteria. Also, this response uses the term ‘foreign open-end investment funds’ because the term ‘mutual fund’ is not used universally throughout all foreign jurisdictions.

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Interested Parties’ Proposed revisions: 4e. Foreign open-end mutual investment funds governed and authorized in accordance with regulations established by the applicable foreign jurisdiction. Other foreign funds are excluded from the scope of the statement.

2) Should Canadian mutual funds continue to be considered “domestic” in accordance with the

current annual statement instructions as they are subject to different regulations from the U.S. SEC. Should a new code shall be established for Canadian mutual funds on Schedule D-2-2? Yes, Canadian mutual funds should continue to be considered domestic. Interested parties recommend a new code be established for Foreign mutual funds (other than Canadian). This would be consistent with Schedule D – Summary by Country, which shows United States, Canada, Other Countries.

3) Should all foreign mutual funds (including or excluding Canadian mutual funds) be captured in the Supplemental Investment Risk Interrogatory as foreign investments? Yes. Canadian mutual funds should be treated as domestic the same way Canadian bonds and stocks are currently reported. All other foreign mutual funds should be reported as foreign.

4) Should there be clarification that only U.S. SEC registered mutual funds that qualify for

diversification are excluded from the Asset Concentration Factor section of the risk-based capital filing? In staff view, only U.S. SEC registered mutual funds shall be reported in the general interrogatories 29.1 through 29.3. No. Interested parties do not believe that the exclusion noted above should be restricted to only U.S. SEC registered mutual funds qualifying for diversification. Interested parties believe that it is appropriate to exclude from the Asset Concentration Factor section of the risk-based capital filing all mutual funds, including other similar open end regulated foreign investment funds, that are diversified within the meaning of the Investment Company Act of 1940 {Section 5(b)(1)}. Note that, according to the annual statement instructions, General Interrogatory #29 states “This interrogatory is applicable to Property/Casualty and Health entities only.”

BlackRock Comments: On Thursday November 15, 2018, SAPWG exposed Ref. 2018-34, which aims to explicitly include Foreign Mutual Funds within the scope of SSAP No. 30R. Based on comments received during the subsequent exposure period, SAPWG may further propose to the Blanks Working Group that these revisions be incorporated to the related schedules and instructions, including RBC considerations within the Supplemental Investment Risks Interrogatories (SIRI). We believe that any amendments to the relevant portion of the SIRI should also merit a review of ETFs. Many ETFs are diversified within meaning of the Investment Company Act of 1940, and should therefore be excluded from Top 10 RBC considerations, given that they meet the definitional requirements, but are not explicitly listed. ETF Diversification Status The SIRI includes the following RBC stipulations around an insurer’s 10 largest issuers: “Exclude asset types that are investment companies (mutual funds) and common trust funds that are diversified within the meaning of the Investment Company Act of 1940.”1 While ETFs are not specifically mentioned, the majority are investment companies registered with the SEC under the Investment Company Act of 1940 (the “1940 Act”), and many are diversified. The SEC’s recently proposed “ETF Rule” (6c-11 under the 1940 Act)2 further clarifies that ETFs, like mutual funds, are registered open-end management investment companies. It stands to reason that diversified 1 SIRI 2017, page 565 2 Exchange-Traded Funds, Release Nos. 33–10515; IC–33140; 83 Fed. Reg. 37332 (July 31, 2018), available at https://www.gpo.gov/fdsys/pkg/FR-2018-07-31/pdf/2018-14370.pdf.

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ETFs registered under the 1940 Act be named, alongside mutual funds, as investments eligible for exclusion from the Top 10 Rule. Disclosure of an ETF’s diversification status under the 1940 Act can be found in the Statement of Additional Information (SAI)3, which is part of each ETF’s registration statement, filed with the SEC, and publicly available. Current NAIC Treatment Since 2003, various working groups within the NAIC have analyzed and evaluated ETFs on insurance balance sheets. Regulators have institutionalized a process by which fixed income ETFs can be submitted to a division of their Capital Markets Bureau, known as the Securities Valuation Office (SVO), for special designation. This designation equates the fixed income ETF exposure to an individual bond for purposes of filing schedule placement and risk-based capital treatment. Subsequently, on April 8, 2017, insurance regulators voted to adopt a bond-like accounting valuation for all NAIC-designated fixed income ETFs. As broad portfolios that produce periodic and relatively stable cash flows, insurers may now file bond ETFs at the new valuation methodology, “Systematic Value.” Benefits of ETFs We believe that insurers, particularly small ones, can often experience challenges accessing the equity and fixed income markets. ETFs continue to provide liquid exposure for those companies. At a high level, ETFs are portfolios of underlying securities that trade on exchange. The vast majority seek to track stated benchmarks according to defined rules. The typical ETF is registered with the SEC, and represents a portfolio that may hold hundreds, or even thousands of individual securities (e.g. stocks or bonds). ETFs trade on centralized exchanges, such as the NYSE, under a single ticker at one transparent price. Importantly, shares of an ETF may be exchanged for its underlying holdings in the appropriate size. ETFs transformed the way that many institutional investors access equity and fixed income markets. While institutions have used ETFs for years, particularly for efficient and low-cost equity beta exposure, broader insurance adoption did not begin to increase until the 2008 financial crisis. Challenging liquidity conditions made it difficult for institutional investors, like insurers, to value and manage their balance sheet positions and risk. Volumes in fixed income ETFs were especially amplified during this period. The average daily volume in the iShares Investment Grade Corporate Bond ETF (LQD), for instance, increased 10-fold during the week that Lehman Brothers declared bankruptcy. As OTC bond market liquidity grew more constrained due to post-crisis changes in the regulation of banks and greater capital requirements, fixed income ETF usage has steadily increased. A 2018 report from S&P found that ETFs in insurance general accounts have grown at a rate of 21% YOY over the past decade.4 Bond ETFs have enabled insurers to manage risk and liquidity in today’s fixed income markets. Summary As an industry participant, BlackRock recommends that SAPWG, CATF and BWG – as well as any other required parties – consider amending the SIRI to explicitly exclude ETFs that are diversified within meaning of the Investment Company Act of 1940 from Top 10 RBC considerations. We do not believe this is a material change, and that the clarification is both important and helpful to insurers holding eligible assets. The section in question can be found under the guidance for “Line 2” on page 565 of the 2017 SIRI Instructions (copy attached). Recommended Action: Summary – NAIC staff recommends the following actions as detailed below: 1) Adopting revisions to SSAP No. 30R to explicitly capture foreign open-end investments

3 Example SAI for the Working Group’s review: The iShares Investment Grade Corporate Bond ETF (LQD): https://www.ishares.com/us/library/stream-document?stream=reg&product=ISHINTOP&shareClass=NA&documentId=925919%7E925978%7E926213%7E925660%7E925574&iframeUrlOverride=%2Fus%2Fliterature%2Fsai%2Fsai-ishares-trust-2-28.pdf 4 “ETFs in Insurance General Accounts”; S&P 2018: https://us.spindices.com/documents/research/research-etfs-in-insurance-general-accounts-2018.pdf?force_download=true

https://www.ishares.com/us/library/stream-document?stream=reg&product=ISHINTOP&shareClass=NA&documentId=925919%7E925978%7E926213%7E925660%7E925574&iframeUrlOverride=%2Fus%2Fliterature%2Fsai%2Fsai-ishares-trust-2-28.pdf






https://urldefense.proofpoint.com/v2/url?u=https-3A__us.spindices.com_documents_research_research-2Detfs-2Din-2Dinsurance-2Dgeneral-2Daccounts-2D2018.pdf-3Fforce-5Fdownload-3Dtrue&d=DwMFAg&c=zUO0BtkCe66yJvAZ4cAvZg&r=3OWsnDKSHwlFOfty0i7lRh9uiCZXYI8OrEjhjOWXsxc&m=OobYKu1RVI8c_WKpx5adFFGN1wRKlYHGHvOcrGRDhvE&s=mtwFnLcInhS-x9HvcCQNjUz2dWNxM3XsMGbmXtjT56M&e=




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2) Blanks reporting revisions to identify foreign mutual funds on Schedule D-2-2 (new code)

3) Revisions to the Supplemental Investment Reporting Interrogatory (SIRI) to clarify what should be

captured in Line 2 (top 10 issuers) and incorporate new disclosure for investments with fund managers.

4) Direct new agenda item to consider revisions to Line 13 of SIRI (equity interests) Note – A response from the VOSTF on the referral request is expected by the Spring NM. From preliminary info received, their draft response does not object to including foreign mutual funds in scope of SSAP No. 30. Adoption of Revisions to SSAP No. 30 to Capture Foreign Open-End Investments: NAIC staff recommends adopting revisions to SSAP No. 30R—Unaffiliated Common Stocks to expressly permit foreign open-end investment funds in scope with a Jan. 1, 2019 effective date. NAIC staff recommends incorporating the revision suggested by interested parties and referring to investment funds instead of “mutual funds.”

4e. Foreign open-end mutual investment funds governed and authorized in accordance with regulations established by the applicable foreign jurisdiction. Other foreign funds are excluded from the scope of the statement. 20. This statement is effective for years beginning January 1, 2001. A change resulting from the adoption of this statement shall be accounted for as a change in accounting principle in accordance with SSAP No. 3—Accounting Changes and Corrections of Errors. Revisions adopted to this statement in October 2013 amending SSAP No. 15 and SSAP No. 52 to incorporate FHLB disclosure information are initially effective for interim and annual reporting periods after January 1, 2014. Revisions adopted to this statement in November 2018, incorporating closed-end funds and unit-investment trusts within scope, are initially effective January 1, 2019. Revisions adopted in April 2019 to explicitly include foreign registered open-end investment funds in scope are effective January 1, 2019.

NAIC staff highlights that foreign mutual funds were previously included in scope of SSAP No. 30 prior to the adoption of the substantive revisions reflected in agenda item 2017-32. Prior to the adoption of the substantive revisions, SSAP No. 30 referred to “mutual funds” – which would have included foreign registered mutual funds. With the substantive revisions, the edits specifically identify “shares of SEC registered investment companies” – which inadvertently excludes foreign registered open-end (mutual) funds. The substantive revisions to SSAP No. 30 were effective Jan. 1, 2019, therefore adopting the revisions to specifically include foreign open-end investment funds as of Jan. 1, 2019 prevents reporting entities from having reporting changes for these securities simply to move them back to Schedule D-2-2. Blanks Reporting Revisions to Identify Foreign Open-End Investments: NAIC staff recommends moving forward with interested parties’ recommendation that non-U.S. registered foreign (non-Canadian) open-end investments be coded as “foreign” on Schedule D-2-2 and the Supplemental Investment Risk Interrogatory (SIRI), and with a new code to identify these funds. A blanks proposal has been prepared to incorporate this change. (Canadian open-end investment funds will continue to be identified as domestic securities in SIRI.) Revisions to SIRI – Line 2 and New Disclosure for Investments in Funds: NAIC staff also recommends going forward with recommendations received from interested parties’ and Blackrock regarding the funds that should be excluded from the “10 largest exposures to a single issuer/borrower/investment” listing in Line 2 of the SIRI. NAIC SAPWG staff believe the focus of this disclosure is to identify concentration risk in actual investments (and issuers of those investments), and not in fund managers that provide mechanisms to invest in diversified funds. With the position that diversified funds

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should be excluded from the listing, NAIC staff also agrees that non-diversified funds should not provide a mechanism to concentrate in specific investments / issuers without those concentrations being identified. NAIC staff highlights that questions on completing the “10 largest exposures” detail are often received. NAIC staff recommends incorporating a new disclosure in SIRI to identify investments in fund managers and amount within diversified and non-diversified funds. As the SIRI is required by SSAP No. 1, which references Appendix A-001, the Working Group can direct these SIRI revisions through a proposal to the Blanks (E) Working Group. A blanks proposal has been drafted to incorporate these changes, which are planned for exposure at the Spring National Meeting. (If the Working Group does not agree with this change, the blanks proposal will be withdrawn from exposure.) The Working Group also recommends notification to the Capital Adequacy (E) Task Force as the information used in Line 2 is used for RBC asset concentration assessments.

1) Expand the exclusion for Line 2 for all SEC and foreign registered funds and common trust funds that are diversified within the meaning of the Investment Company Act of 1940. NAIC staff also recommends guidance to clarify that entities must look-through non-diversified funds to identify exposures. (Note – In order to quality as diversified for purposes of the Investment Company Act, - with respect to 75% of a fund’s portfolio, no more than 5% may be invested in any one issuer.)

Line 2 – Report the single 10 largest exposures to a single issuer / borrower / investment

o Exclude all SEC and foreign registered funds (open-end, closed-end, UIT and ETFs) and common

trust funds that are diversified within the meaning of the Investment Company Act of 1940.

o For funds that are not diversified within the meaning of the Investment Company Act of 1940, insurance reporting entities are required to identify actual exposures and aggregate those exposures with directly held investments to determine the 10 largest exposures. For example, if a reporting entity directly holds a significant number of investments in Exxon Mobil, and holds a non-diversified closed-end fund with a high concentration of Exxon Mobil, the reporting entity shall aggregate the direct investments with the investments in the closed-end funds to determine the aggregate investment risk to Exxon Mobile.

2) New disclosure in SIRI to identify the top 10 fund managers, the total amount invested, and the

portion of the amount invested that is in a diversified funds and a non-diversified fund. Example:

Fund Manager Total Invested Diversified Non-Diversified Blackrock $4,000,000 $3,000,000 $1,000,000 Vanguard $3,000,000 $3,000,000 - State Street $2,000,000 $1,500,000 $500,000 J.P. Morgan $1,000,000 - $1,000,000 PIMCO $500,000 $450,000 $500,000

Direct New Agenda Item to Consider SIRI – Line 13: 10 Largest Equity Interests: NAIC staff would recommend initial direction from the Working Group on one of the two options below to assist in preparing the separate agenda item.

NAIC staff has identified that Line 13: 10 Largest Equity Interests, currently requires a reporting entity to identify the largest equity interests – including investments in the shares of mutual funds, preferred stocks, publicly traded equity securities and BA equity interests. (Only money market mutual funds and SVO-Identified Bond funds are excluded.) Under the current instruction, reporting entities should be looking through mutual funds reported on Schedule D-2 and ETFs (regardless of reporting on Schedule D-1 and D-2-2) to identify their largest equity interests. Additionally, regardless of look-through, if a reporting entity owns an individual equity fund (e.g., ETF / Mutual fund) that would qualify as one of their 10 largest equity investments, it should be captured in the disclosure.

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As NAIC staff is uncertain whether reporting entities are actually looking through these funds to aggregate equity interests, clarification of the guidance is recommended with one of the following options: • Option One: Further expansion of the instruction to identify that reporting entities shall look-through all

funds (except for the money market mutual funds and SVO-Identified bond funds) to aggregate equity interests, with explicit identification of any equity fund that qualifies as one of the 10 largest interests. (This option would not be a change in guidance, but would explicitly clarify the existing requirement.)

Report the amounts and percentages of admitted assets held in the ten largest equity interests (including equity funds that qualify individually as one of the largest equity interests, and a look-through of investments in the shares of mutual funds, preferred stocks, publicly traded equity securities, and other security securities (including Schedule BA equity interests), and excluding money market and bond mutual funds listed in Part Six, Section 2(f) and (g) of the Purposes and Procedures Manual of the NAIC Investment Analysis Office as exempt or NAIC 1.

Determine the ten largest equity interested by first aggregating investments included in this line by issuer. For example, the reporting entity owns preferred stock of the XYZ Company of $600,000, and common stock of XYZ Company of $300,000 and $100,000 of XYZ identified through a look-through of a diversified stock mutual fund reported on Schedule D-2-2. The total is $91,000,000 (600,000+300,000+100,000). The reporting entity also owns bonds issued by XYZ Company of $500,000 that are excluded from this calculation because bonds are debt instruments. Other equity securities include partnerships and Limited Liability Companies (LLC) and any other investments reported in Schedule BA as equity.

• Option Two: Incorporate revisions to exclude aggregation of equity interests in diversified funds. With this

approach, an entity would only need to look-through funds that are not diversified in accordance with the Investment Company Act of 1940 to aggregate their ten largest equity interests. (This change would still require explicit identification of any equity funds that qualifies as one of the 10 largest interests.)

Report the amounts and percentages of admitted assets held in the ten largest equity interests (including equity funds that qualify individually as one of the largest equity interests, and a look-through of investments in the shares of non-diversified mutual funds and ETFs, preferred stocks, publicly traded equity securities, and other security securities (including Schedule BA equity interests), and excluding money market and bond mutual funds listed in Part Six, Section 2(f) and (g) of the Purposes and Procedures Manual of the NAIC Investment Analysis Office as exempt or NAIC 1. Equity interests in all funds that are diversified in accordance with the Investment Company Act of 1940 do not need to be individually assessed and aggregated to determine the ten largest equity interests. For funds that are not diversified within the meaning of the Investment Company Act of 1940, insurance reporting entities are required to identify actual equity interests within the fund and aggregate those equity interests to determine their ten largest equity interests. Determine the ten largest equity interested by first aggregating investments included in this line by issuer. For example, the reporting entity owns preferred stock of the XYZ Company of $600,000, and common stock of XYZ Company of $300,000 and $50,000 of XYZ identified through a look-through of a non-diversified stock closed-end fund reported on Schedule D-2-2. The total is $9050,000 (600,000+300,000+50,000). The reporting entity also owns bonds issued by XYZ Company of $500,000 that are excluded from this calculation because bonds are debt instruments. The reporting entity may also have exposure to equity interests in XYZ through mutual funds that are excluded from this calculation as the funds are diversified within the meaning of the Investment Company Act of 1940. Other equity securities include partnerships and Limited Liability Companies (LLC) and any other investments reported in Schedule BA as equity.

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2018-37 SSAP No. 92 SSAP No. 102

(Julie)

ASU 2018-14, Changes to the Disclosure Requirements for Defined

Benefit Plans 25 No Comment IP - 11

Summary: During the Fall National Meeting, the Working Group exposed nonsubstantive revisions to SSAP No. 92—Postretirement Benefits Other than Pensions and SSAP No. 102—Pensions to adopt with modification the disclosure amendments reflected in ASU 2018-14, Changes to the Disclosure Requirements for Defined Benefit Plans. Similar to past actions, the statutory modifications will not permit reduced disclosure provisions for nonpublic entities. Rather, the amendments to SSAP No. 92 and SSAP No. 102 will reflect the U.S. GAAP disclosure requirements for public entities. The proposed amendments reflect the following U.S. GAAP changes from ASU 2018-14:

• New U.S. GAAP disclosure for the interest crediting rates

• Deletion of disclosure on the effect of a 1% point increase or decrease

• Deletion of disclosure for the approximate amount of future annual benefits covered by insurance contracts

• New U.S. GAAP disclosures on the reasons for significant gains and losses related to changes in defined benefit obligations and any other significant change not otherwise apparent in the required disclosures

• Deletion of disclosure on the amounts in unassigned funds expected to be recognized as component of net periodic benefit cost over the fiscal years

• Deletion of disclosure of the amount and timing of any plan assets expected to be returned to the employer during the 12-month period that follows the most recent annual statement of financial position

• Matched update terms to GAAP terminology for disclosure of two or more plans

Interested Parties’ Comments: Interested parties have no comment on this item. Staff Note – Although this item is a non-contested position, a slight edit to the exposure is required. Recommended Action: NAIC staff recommends adopting the exposed nonsubstantive revisions, with a minor change noted below, to SSAP No. 92—Postretirement Benefits Other than Pensions and SSAP No. 102—Pensions to adopt with modification the disclosure amendments reflected in ASU 2018-14. A blanks proposal has been submitted to incorporate the disclosure changes. A minor change is needed to the exposed language, as the word “assets” should not be deleted in SSAP No. 92, paragraph 69a. (This is shaded below.)

69. The disclosures required by this statement shall be aggregated for all of an employer’s other defined benefit postretirement plans unless disaggregating in groups is considered to provide useful information or is otherwise required by this paragraph and paragraph 70 of this statement. Disclosures shall be as of the date of each statement of financial position presented. If aggregate disclosures are presented, an employer shall disclose, as of the date of each statement of financial position presented:

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a. The accumulated aggregate benefit obligation and aggregate fair value of plan assets for plans with accumulated benefit obligations in excess of plan assets assets as of the measurement date of each statement of financial position presented.

NAIC staff received clarification that the information reflected in the agenda item presented the incorrect effective date under U.S. GAAP. Under the ASU, the effective date for public entities is for fiscal years “ending” after Dec. 15, 2020 and for fiscal years “ending” after Dec. 15, 2021 for all other entities. In effect, this language makes the ASU changes effective for year-end 2020 for public entities (and not Jan. 1, 2021) and year-end 2021 for all other entities (and not Jan. 1, 2022). NAIC staff highlights that the proposed statutory accounting changes were proposed to be nonsubstantive changes, and effective immediately. Although the adoption for SAP could potentially result with the changes being incorporated for SAP filers earlier than U.S. GAAP filers, this is not anticipated to be an issue for filers as the ASU permits early adoption for all entities. As additional information, NAIC staff has received notice that most insurance companies have fully transitioned the surplus impact attributed to the adoption of SSAP No. 92 and SSAP No. 102. Although most insurers have fully transitioned, since there are still companies still following the guidance, there are no current plans to remove the implementation exhibits until the transition time has fully expired (2023).



Comment Letter Page

Number 2018-38

SSAP No.55 (Robin)

Prepayments to Service and Claims Adjusting Providers 26 Comments

Received IP - 12

Summary: During the Fall National Meeting, the Working Group exposed revisions to SSAP No. 55—Unpaid Claims, Losses and Loss Adjustment Expenses to provide guidance clarifying that prepayments to providers of claims and adjusting services shall be recognized as miscellaneous underwriting expenses, with guidance for reclassification as claims adjustment expense or claims expense, as applicable, as claims are paid. During the November 2018 Working Group discussion, it was highlighted that the proposed treatment is different than recognizing a nonadmitted prepaid asset, as the amounts are not expected to be material. Comments were requested on this difference and if the amounts are expected to be material. Interested Parties’ Comments: Interested parties note that the initial inquiry was within the context of roadside assistance carrier where a flat fee is prepaid for a minimum number of vehicles or polices regardless of claims incurred or sales. It should be noted that the prepaid expenses under consideration may include either a prepayment for claims administration (i.e., loss adjustment expense) or a prepayment for losses, or both. Interested parties note that the specific fact pattern provided may not necessarily be analogized to all situations where an insurer may prepay for a service. For each instance where there may be a prepaid expense made to a third-party provider, the accounting should reflect whether the insured coverage provides indemnification for a loss or a loss adjustment service. For example, in some instances the prepaid amount is to provide coverage and to indemnify the insured for an insured peril covered by the policy and is not a claims administration service. In any case, interested parties believe that it is not appropriate to classify prepaid expenses incurred for anticipated claims, losses, and loss/claim adjustment expenses as miscellaneous underwriting expenses. The insurer’s procurement of services to be used to satisfy future obligations of its policies is not part of its underwriting function but is rather a function of its incurred losses or the administration of its claims processing. It is recommended that these expenses be classified as a prepaid nonadmitted asset at the time the amount is paid to the provider, with a corresponding charge to claims, losses and loss/claim adjustment expenses at the time the benefit is provided to the claimant or to the policy holder. In order to address this fact and to address the potential differences in contracts, we believe the proposed guidance should be amended to allow for the appropriate

Hearing Agenda


reclassification of the miscellaneous underwriting expense to claims/losses or claim/loss adjustment expense, based upon the underlying policy coverage, and the exception for capitated payments to manage cared contracts noted in the paragraph should be further clarified to note that this guidance does not apply to health care receivables within the scope of SSAP No. 84, Health Care and Government Insured Plan Receivables. Interested parties also note that the proposed changes in paragraph 4a and 5b of SSAP No. 55 reflect the reclassification when the claim is paid, which may cause confusion as there is no additional payment made where the service is prepaid. Instead, the insurer’s obligation has been satisfied when the policyholder receives the benefit or the service. We recommend the following modifications to address these potential situations or questions related to the new guidance (new wording is highlighted): Proposed paragraph 4a of SSAP No. 55:

Prepayments to third party administrators, management companies or other entities for unpaid claims, losses and losses/claims adjustment expenses, except for capitated payments for manage care contracts or contracts within the scope of SSAP No. 84, Health Care and Government Insured Plan Receivables, shall not reduce losses/claims and shall be initially reported as a prepaid asset and nonadmitted in accordance with SSAP No. 29, Prepaid Expenses. miscellaneous underwriting expenses. When incurred the benefit has been provided to the policyholder or claimant losses/claims are paid, the claims prepayments to third party administrators, management companies or other entities (except for capitated payments for manage care contracts or contracts within the scope of SSAP No. 84, Health Care and Government Insured Plan Receivables,) are reclassified proportionately based on the losses/claims cost from the prepaid asset miscellaneous underwriting expenses to claims, losses or loss/claim expenses paid based on the amount of losses/claims cost incurred to provide the benefit. Flat fee minimum prepayments to third party administrators or management companies or other entities that do not relate to services or adjusting for the underlying direct policy benefits are reported as miscellaneous underwriting expenses and not reclassified to claims, losses or loss/claim adjusting expenses.

Proposed paragraph 5b of SSAP No. 55:

When the prepaid benefit has been provided to the policyholder or the claimant, incurred losses/claims adjusting expenses are paid, the associated prepayments to third party administrators, management companies or other entities (except for capitated payments for manage care contracts or contracts within the scope of SSAP No. 84, Health Care and Government Insured Plan Receivables) are reclassified proportionately based on the adjusting expenses from miscellaneous underwriting expenses the prepaid asset to paid loss /claim adjusting expenses based on the amount of losses/claims cost incurred to provide the benefit. Flat fee minimum prepayments to third party administrators or management companies or other entities that do not relate to services or adjusting for the underlying direct policy benefits are reported as miscellaneous underwriting expenses and not reclassified to loss/claim adjusting expenses.

Recommended Action: NAIC staff recommends exposure of modified proposed language, developed with interested parties’ input, as illustrated below and in the agenda item. The interested parties responded to the request for comments and noted a preference to “nonadmit a prepaid asset” for prepaid loss and LAE, which is consistent with existing guidance, instead of the previously exposed “expense and reclassify as amounts are paid” approach. NAIC staff has proposed a modification to the interested parties’ proposed language to exclude the reference to SSAP No. 84—Health Care and Government Insured Plan Receivables as that SSAP is not currently referenced in SSAP No. 55. In addition, NAIC staff has recommended guidance regarding flat fee bundled payments to require nonadmission of prepaid amounts for claims and loss adjusting expense and allocation to expense categories as benefits or services are rendered. Proposed paragraph 4a and b of SSAP No. 55:

4. Claims, losses, and loss/claim adjustment expenses shall be recognized as expenses when a covered or insured event occurs. In most instances, the covered or insured event is the occurrence of an incident which gives rise to a claim or the incurring of costs. For claims-made type policies, the covered or

Hearing Agenda


insured event is the reporting to the entity of the incident that gives rise to a claim. Claim payments and related expense payments are made subsequent to the occurrence of a covered or insured event, and in order to recognize the expense of a covered or insured event that has occurred, it is necessary to establish a liability. Liabilities shall be established for any unpaid claims and unpaid losses (loss reserves), unpaid loss/claim adjustment expenses (loss/claim adjustment expense reserves) and incurred costs, with a corresponding charge to income.

a. All prepayments (i.e., variable, fixed or bundled amounts) to third party administrators, management companies or other entities for unpaid claims, losses and losses/claims adjustment expenses, except for capitated payments for managed care contracts, shall not reduce losses/claims and shall be initially reported as a prepaid asset and nonadmitted in accordance with SSAP No. 29—Prepaid Expenses. When the benefit has been provided to the policyholder or claimant, the claims prepayments to third party administrators, management companies or other entities (except for capitated payments for managed care contracts), are reclassified proportionately from the prepaid nonadmitted asset to claims, losses or loss/claim expenses paid based on the amount of losses/claims cost incurred to provide the benefit.

b. Prepayments to third party administrators or management companies or other entities

that do not relate to services or adjusting for the underlying direct policy benefits are reported as miscellaneous underwriting expenses.

c. Claims related extra contractual obligations losses and bad-faith losses shall be included

in losses. See individual business types for the accounting treatment for adjustment expenses related

Proposed paragraph 5a of SSAP No. 55:

5. The liability for unpaid LAE shall be established regardless of any payments made to third-party administrators, management companies or other entities except for capitated payments under managed care contracts. The liability for claims adjustment expenses on non-capitated payments under managed care contracts shall be established in an amount necessary to adjust all unpaid claims irrespective of payments made to third-party administrators, etc. The liability for claims adjustment expenses on capitated payments under managed care contracts shall be established in an amount necessary to adjust all unpaid claims irrespective of payments to third parties with the exception that the liability is established net of capitated payments to providers.

a. When the prepaid benefit as described in paragraph 4 has been provided to the policyholder or the claimant, the associated prepayments to third party administrators, management companies or other entities (except for capitated payments for managed care contracts) are reclassified proportionately from the prepaid nonadmitted asset to paid loss /claim adjusting expenses based on the amount of losses/claims cost incurred to provide the benefit. Prepayments to third party administrators or management companies or other entities that do not relate to services or adjusting for the underlying direct policy benefits are reported as miscellaneous underwriting expenses.



Comment Letter Page

Number 2018-39

SSAP No. 55 (Robin)

Interest on Claims 27 Comments Received IP - 13

Summary: During the Fall National Meeting, the Working Group moved this item to the active listing, categorized as nonsubstantive, and exposed proposed revisions to SSAP No. 55—Unpaid Claims, Losses and Loss Adjustment

Hearing Agenda


Expenses to clarify the reporting of interest on accident and health claims. The revised accounting would record interest paid to claimants as Other Claim Adjustment Expenses and interest paid to regulatory authorities as Regulatory Fines and Fees. This proposal is to establish consistent accounting. Currently, health insurers are recording delayed claim interest in a variety of ways. Interested Parties’ Comments: Although industry is not opposed to the revised accounting, we are concerned about the timing. Interest paid on claims is embedded in health company claims processing systems and any changes must be done in a controlled fashion and will take some time to implement. We would suggest that the proposed accounting be effective January 1, 2020 to allow sufficient time for health insurers to make the necessary changes to their claims processing systems. Recommended Action: NAIC staff recommends adoption of the exposed nonsubstantive revision, with the addition of the January 1, 2020 effective date requested by interested parties, as illustrated in the agenda item. The effective date language would result in the following revisions to SSAP No. 55, paragraph 22:

22. This statement is effective for years beginning January 1, 2001. A change resulting from the adoption of this statement shall be accounted for as a change in accounting principle in accordance with SSAP No. 3. Guidance reflected in paragraphs 7.c., 8.b. and 9, incorporated from SSAP No. 85, is effective for years ending on and after December 31, 2003. The guidance incorporated into paragraphs 1, 3, 6.c.ii., 7.d. and 9.b.vi. was originally included in INT 03-17: Classification of Liabilities from Extra Contractual Obligation Lawsuits, and was initially effective March 10, 2004. The guidance in paragraph 5 was previously included in INT 02-21: Accounting for Prepaid Loss Adjustment Expenses and Claim Adjustment Expenses effective for reporting periods ending on or after December 31, 2002, for all contracts except for capitated managed care contracts and December 31, 2006, for capitated managed care contracts. The guidance in paragraph 12 related to conservatism and adverse deviation was originally contained in INT 01-28: Margin for Adverse Deviation in Claim Reserve and was effective October 16, 2001. The guidance in paragraph 14 related to coordination of benefits was originally contained within INT 00-31: Application of SSAP No. 55 Paragraph 12 to Health Entities and was effective December 4, 2000. The guidance reflected in footnote 1, incorporated from INT 06-14: Reporting of Litigation Costs Incurred for Lines of Business in which Legal Expenses Are the Only Insured Peril, was effective June 2, 2007. The guidance in paragraph 9.b.vii., regarding interest on managed care and accident and health claims, is effective January 1, 2020 and shall be applied prospectively.



Comment Letter Page

Number

2018-06 SSAP No. 4

(Julie)

Regulatory Transactions Referral from Reinsurance (E)

Task Force 28

Comments Received

(11/30/2018) IP - 26

Summary: This agenda item on regulatory transactions has been discussed since March 2018. In summary, the intent of the agenda item was to address the accounting and reporting of “regulatory transactions” – as defined in the Purposes and Procedures Manual of the NAIC Investment Analysis Office (P&P Manual). Pursuant to the guidance in the P&P Manual, regulatory transactions are not permitted to be reported as filing exempt, are not permitted to be assigned NAIC designations, and do not qualify for other NAIC designation reporting mechanisms (e.g., 5GI). As such, without any prescribed reporting, bond/LBSS instruments considered regulatory transactions, reported on Schedule D-1, do not have any current reporting options. Since investments are required to be reported with an NAIC designation on Schedule D-1, reporting entities that hold these instruments need prescribed guidance to prevent inadvertent reporting that is not permitted under the P&P Manual.

Hearing Agenda


Interested Parties’ Comments – Received Nov. 30, 2018: During the Spring National Meeting, the Working Group exposed revisions to SSAP No. 4—Assets and Nonadmitted Assets to indicate that items acquired as part of “regulatory transactions” as defined in the NAIC Accounting Practices and Procedures Manual (the AP&P Manual), that meet the definition of an asset, shall only be admitted with approval of the domestic state insurance departments as a permitted practice. It also identifies that regulatory transactions shall also be identified with a new administrative symbol (RT) in the investment schedules, with a request for comments on whether all “regulatory transactions” should be reported on Schedule BA – Other Long Term Invested Assets. This item was a referral from the Reinsurance Task Force (“RTF”). IPs commented quite extensively, in our May 18, 2018 letter, about the unintended consequences of the proposed changes. The recent August 4, 2018 exposure draft included additional clarification that the intent was only to include invested assets, thus narrowing the extent of such unintended consequences. While IPs acknowledge the narrowing of scope, our primary concerns still exist: 1) The definition of regulatory transaction in the P&P Manual is as follows:

Regulatory Transaction means a security or other instrument in a transaction submitted to one or more state insurance departments for review and approval under the regulatory framework of the state or states. As noted by the RTF, this definition is somewhat open to interpretation. The unintended consequences of such lack of clarity is the potential scoping in of thousands of transactions that might need permitted practices or risk non-admission. Examples, not all inclusive, include the following:

Working capital finance notes Reinsurance agreements that transfer material invested assets Purchases and sales of material investments between affiliates Non-cash dividends that transfer invested assets Non-cash contributions that transfer invested assets

IPs do not believe it appropriate nor desired (from both a regulatory and IP perspective) to require such transactions to be a permitted practice, and/or be subject to non-admission. Appropriate accounting guidance already exists for such transactions. Nor do we believe it appropriate for them to be recorded on Schedule BA.

2) IPs note that the RTF also had a referral to the Valuation of Securities Task Force (“VOSTF”) requesting help with their concerns. We note that the SVO’s response was essentially that the term used by the SVO is to identify transactions that are not filing exempt which is different from what the RTF is trying to achieve. While we continue to have questions about the SVO definition in their context (i.e., how items highlighted in bullets 2 – 5 above do not meet the definition of a regulatory transaction, it is our understanding the SVO believes those transactions are nonetheless filing exempt), this leads us to believe the term “regulatory transaction” should not be used in the accounting literature.

3) Because the definition of “regulatory transaction” as defined in the P&P Manual is different from what the RTF is trying to achieve (which is still unclear to IPs with any great specificity), and that definition provides significant potential for material unintended consequences, IPs do not believe it is appropriate to use in this context. Rather, IPs believe it is important to identify the problem that needs to be addressed.

• What specific types of transactions are trying to be addressed, that are not already covered by the

accounting guidance? For assets which are not already covered by the accounting guidance, insurers already need to request a permitted practice or treat the asset as nonadmitted. Accordingly, IPs wonder if this is a compliance issue rather than an accounting issue. IPs understand the “linked surplus note asset” included as an example in the exposure draft is just a subset of a much broader class of assets that are of concern. If true, the broader class of assets should be specifically identified.

Hearing Agenda


• Which invested assets schedules are impacted? Although we are not certain, it is our understanding

that the broader class of assets of concern only relate to Schedule D assets. If so, that would potentially narrow the scope of unintended consequences. If it is because companies are inappropriately self-rating schedule D assets that are not filing exempt or do not have an NAIC designation, it might be indicative of either 1) a compliance issue or 2) an issue with other definitions, whether in the accounting guidance, blanks guidance or P&P Manual, that need clarification.

• The identification of the problem should be in writing, with sufficient specificity, to achieve a

common understanding with the RTF, VOSTF, SVO, the Working Group, NAIC staff, regulators and IPs, so the concern can properly be addressed.

As acknowledged in the materials of the November 15, 2018 Meeting Agenda, NAIC staff is working directly with IPs to define the issues, and we stand ready to continue such efforts. We share the common goal of addressing concerns and preventing unintended consequences. Recommendation: NAIC staff recommends that the Working Group move this items to the disposed listing without statutory revisions and send a referral to the Valuation of Securities (E) Task Force to add the codes “RTS” and “RT” to the Purposes and Procedures Manual of the NAIC Investment Analysis Office, with a corresponding referral to the Blanks (E) Working Group to add these codes to the administrative list in the instructions once adopted by the VOSTF. With this recommendation, reporting entities that have regulatory transactions that are structured as bonds will be able to report the investment in accordance with the limitations prescribed by the Purposes and Procedures Manual of the NAIC Investment Analysis Office. (Under those limitations, the existing reporting categories (such as FE) should not be used for regulatory transactions.) As detailed in the proposed guidance, there are two codes to identify regulatory transactions in the financial statements. The first designation (RTS) will apply to a regulatory transaction in which a state insurance department requested assistance from the SVO in reviewing the security, and the SVO was able to review the security and provide an SVO analytical value. As restricted by the P&P Manual, regulatory transactions cannot be reviewed for NAIC designations for inclusion in the AVS+ program, but pursuant to a state request, the SVO can review the security and provide an analytic determination of a credit assessment (also NAIC 1-6). For these regulatory transactions, this is considered an “SVO Analytical Value” as it is not an official “NAIC designation.” For securities identified as “RTS” the reporting entity shall report the analytical value received from the SVO. (For example, 4RTS.) The second code for regulatory transactions will be “RT.” These securities have not received an “SVO Analytical Value” and shall always be reported as an NAIC 6. Pursuant to the limitation of the AP&P Manual, regulatory transactions are restricted from applying the 5GI assessment process. As such, these “RT” securities shall always be self-assigned as NAIC 6 securities. This designation of regulatory transactions is specific to Schedule D, Part 1 reporting as that schedules requires the reporting of a “designation” for all securities captured on the schedule. A reporting entity may identify regulatory transactions on other investment schedules, but other schedules do not require the reporting of “NAIC designations.” (For example, Schedule BA items are not required to be reported with an NAIC designation.) This recommendation is different from the prior exposure as it does not propose any statutory accounting revisions. Rather, determination of whether any assets resulting from a regulatory transaction (e.g., credit-linked note that is linked to a surplus note) should be nonadmitted will be based on existing statutory accounting guidance. Pursuant to SSAP No. 4, and the statutory statement of concepts, “assets having economic values other than those which can be used to fulfill policyholder obligations, or those assets which are unavailable due to encumbrances or other third-party interests should not be recognized on the balance sheet, and are therefore, considered nonadmitted. In addition, if desired by the Working Group, NAIC staff can plan to annually assess the reporting of regulatory transactions to determine whether further accounting revisions are necessary.

Hearing Agenda


Proposed guidance for the Annual Statement Instructions:

If a security is a “Regulatory Transaction” as defined in the Purposes and Procedures Manual (the Manual) and is reported on Schedule D, Part I, it must be reported with one of the following suffixes: Note: The Manual provides that a Regulatory Transaction: 1) Is not eligible for: a) the filing exemption process for publicly rated securities or the private letter rating component of filing exemption process and therefore cannot use the PLGI designation symbol); b) Is not eligible for assignment of an NAIC Designation by the SVO; c) Is not eligible for self-assignment by an insurer of the administrative symbol Z under the 120 rule in the Manual and d) ) Is not eligible for self-reporting by an insurer on the interrogatory for securities that are eligible for filing exemption but for which no NAIC CRP credit rating is available and can therefore not use the 5GI designation symbol.

• RTS – indicates that a state insurance department has asked for and the SVO and FRS have agreed to provide assistance in the review of the Investment Security (as defined in the Manual) component of the Regulatory Transaction and communicated an SVO Analytical Value and a view of relevant statutory accounting guidance (analytical values) to the state insurance department and thereafter the state insurance department has directed its insurer to report the analytical values determined by NAIC staff to that state. Note: SVO Analytical Value and views of relevant statutory accounting guidance communicated to any state by NAIC staff as part of the review of the Investment Security component of a Regulatory Transaction are advisory to that state and are not produced for use in routine NAIC operations – and may not be inserted in any system devoted to or that supports Valuation of Securities Task Force operations. Although these credit assessments may also reflect a 1-6 numerical value, these are not considered official “NAIC designations.”

• RT – Other Designation;

The symbol that will accompany this code will be: RTS – The designation reported shall be the SVO Analytical Value (1-6) provided by the SVO for the Investment Security component of the Regulatory Transaction as part of its reporting on the Regulatory Transaction to that state. (By reporting as an RTS, a state insurance department has instructed its domiciliary insurer to use this SVO Analytical Value.) RT – The designation shall be a 6.

The comment letters are included in Attachment 29 (36 pages). The interested party comments and revisions to SSAP No. 101 are included in Attachment 30 (72 pages).

g:\frs\data\stat acctg\3. national meetings\a. national meeting materials\2019\spring\04-2019 - hearing_agenda.doc

Attachment 1A Accounting Practices and Procedures (E) Task Force

4/--/19


Draft: 2/11/2019

Statutory Accounting Principles (E) Working Group E-Vote

February 6, 2019 The Statutory Accounting Principles (E) Working Group of the Accounting Practices and Procedures (E) Task Force conducted an e-vote that concluded Feb. 6, 2019. The following Working Group members participated: Dale Bruggeman, Chair (OH); Carrie Mears, Vice Chair (IA); Kim Hudson (CA); Eric Moser (IL); Stewart Guerin (LA); Judy Weaver (MI); Doug Bartlett (NH); Joe DiMemmo (PA); Jamie Walker (TX); David Smith (VA); and Amy Malm (WI). 1. Exposed Agenda Item 2019-02 and INT 19-02 The Working Group conducted an e-vote to consider exposure of agenda item 2019-02: Single Security Initiative and the related Interpretation (INT) 19-02: Single Security Initiative for a public comment period ending March 5. The interpretation proposes a limited-scope exception to the exchange and conversation guidance in paragraph 22 of Statement of Statutory Accounting Principles (SSAP) No. 26R—Bonds for instruments converted in accordance with the Freddie Mac Single Security Initiative. Under this initiative, Freddie Mac will exchange its “45-day securities” for “55-day securities.” Although there will be a new Committee on Uniform Security Identification Procedures (CUSIP) and issuance date, most elements of the new security will precisely mirror the terms of the original security. Under the proposed SSAP No. 26R exception, the new security received under the exchange would not be recognized at the fair value of the security surrendered (or received). Rather, as the new security does not reflect any material change from the previously held security, the exchanged security will continue the amortized cost basis of the prior security. Also, as detailed within the proposed interpretation, reporting entities will be permitted to adjust the security’s basis (decrease) for the 10-day float payment that will be received from Freddie Mac. (This float payment compensates the holder for the 10-day delay in cash flows.) This treatment was determined by Freddie Mac after receiving confirmation that the U.S. Securities and Exchange Commission (SEC) will not oppose this treatment as a minor modification to an existing security. Ms. Mears made a motion, seconded by Mr. Moser, to expose agenda item 2019-02 and the related INT 19-02. The motion passed without opposition, with 11 members voting. Having no further business, the Statutory Accounting Principles (E) Working Group adjourned. g:\frs\data\stat acctg\3. national meetings\a. national meeting materials\2019\spring\hearing\1a - e-vote 2.6.19tpr.docx

Attachment 1B Accounting Practices and Procedures (E) Task Force

4/--/19


Draft: 1/31/2019


January 17, 2019 The Statutory Accounting Principles (E) Working Group of the Accounting Practices and Procedures (E) Task Force conducted an e-vote that concluded Jan.17, 2019. The following Working Group members participated: Dale Bruggeman, Chair (OH); Kim Hudson (CA); Carrie Mears (IA); Eric Moser (IL); Stewart Guerin (LA); Judy A. Weaver (MI); Doug Bartlett (NH); Joe DiMemmo (PA); and Jamie Walker (TX). 1. Exposed Agenda Item 2019-01 and INT 19-01 The Working Group conducted an e-vote to consider exposure of agenda item 2019-01: Extension of Ninety-Day Rule for the Impact of California Camp Fire, Hill Fire and Woolsey Fire and the related Interpretation 19-01: Extension of Ninety-Day Rule for the Impact of California Camp Fire, Hill Fire and Woolsey Fire (INT 19-01) for a public comment period ending Feb. 15. The interpretation proposes an optional temporary 60-day extension of the existing 90-day rule in the Statement of Statutory Accounting Principles (SSAP) No. 6—Uncollected Premium Balances, Bills Receivable for Premiums, and Amounts Due from Agents and Brokers. This allows for a total of 150 days for policies impacted by the California fires before premium receivables are nonadmitted. This extension is consistent with previous extensions that have been granted for other major national catastrophes. Mr. Hudson made a motion, seconded by Ms. Walker, to expose agenda item 2019-01 and the related INT 19-01. The motion passed without opposition, with nine members voting. Having no further business, the Statutory Accounting Principles (E) Working Group adjourned. g:\frs\data\stat acctg\3. national meetings\a. national meeting materials\2019\spring\hearing\1b - e-vote 1.17.2019tpr.docx

Attachment 1C Accounting Practices and Procedures (E) Task Force

4/--/19


Draft: 3/11/19


December 12, 2018 The Statutory Accounting Principles (E) Working Group of the Accounting Practices and Procedures (E) Task Force conducted an e-vote that concluded Dec. 12, 2018. The following Working Group members participated: Dale Bruggeman, Chair (OH); Richard Ford (AL); Kim Hudson (CA); Eric Moser (IL); Stewart Guerin (LA); Doug Bartlett (NH); Stephen Wiest (NY); Joe DiMemmo (PA); David Smith (VA); and Amy Malm (WI). 1. Exposed Five Items for Public Comment The Working Group conducted an e-vote to consider exposing five items for a public comment period ending Feb. 15.

a. Agenda Item 2018-40

Agenda Item 2018-40: ASU 2018-15, Intangibles – Goodwill and Other – Internal-Use Software (Subtopic 350-40) – Customer’s Accounting for Implementation Costs Incurred in a Cloud Computing Arrangement That Is a Service Contract, was developed with revisions to Statement of Statutory Accounting Principles (SSAP) No. 16R—Electronic Data Processing Equipment and Software pursuant to direction provided by the Working Group during the 2018 Fall National Meeting. During that meeting, NAIC staff were directed to draft revisions to adopt with modification ASU 2018-15 with specification that the capitalized implementation costs shall be treated as nonoperating system software (nonadmitted and amortized not to exceed five years). The proposed revisions also differentiate accounting treatment for host contracts that are or are not service contracts.

b. Agenda Item 2018-17

Agenda Item 2018-17: Structured Settlements, was adopted with substantive revisions to SSAP No. 21R—Other Admitted Assets during the 2018 Fall National Meeting. With adoption of these substantive changes, the Working Group directed the development of an issue paper for historical documentation. This issue paper was prepared for Working Group consideration.

c. Agenda Item 2018-18

Agenda Item 2018-18: Structured Notes, was re-exposed during the 2018 Fall National Meeting, with proposed revisions to require structured notes to be in scope of SSAP No. 86—Derivatives. With this exposure, the Working Group requested additional information on the reporting if structured notes were reported as derivatives or as mandatory convertible bonds in scope of SSAP No. 26R—Bonds. Information comparing the two reporting options was prepared for Working Group consideration.

d. Agenda Item 2018-46 Agenda Item 2018-46: Benchmark Interest Rates, was drafted to consider nonsubstantive changes to SSAP No. 86 to reflect updated benchmark interest rates permitted under U.S. generally accepted accounting principles (GAAP). In ASU 2017-12, Targeted Improvements to Accounting for Hedging Activities, the Securities Industry and Financial Markets Association (SIFMA) Municipal Swap Rate was added. In ASU 2018-16, Inclusion of the Secured Overnight Financing Rate (SOFR) Overnight Index Swap (OIS) Rate as Benchmark Interest Rate for Hedge Accounting Purposes, the SOFR OIS rate was added. An interim exposure was recommended to ensure consistent application of benchmark interest rates between U.S. GAAP and statutory accounting principles.

e. Agenda Item 2018-47EP Agenda Item 2018-47EP: Editorial and Maintenance Update, was drafted to consider nonsubstantive changes to SSAP No. 97—Investments in Subsidiary, Controlled and Affiliated Entities to clarify that the SSAP No. 97 disclosures are not applicable to investments captured under SSAP No. 48—Joint Ventures, Partnerships and Limited Liability Companies unless specifically directed under SSAP No. 48. This revision removes a conflict of guidance, as revisions adopted under agenda item 2018-27 require the SSAP No. 97 loss-tracking disclosures for SSAP No. 48 entities.

Attachment 1C Accounting Practices and Procedures (E) Task Force

4/--/19


Mr. Guerin made a motion, seconded by Mr. Hudson, to expose the five noted items. The motion passed without opposition, with 10 members voting. Having no further business, the Statutory Accounting Principles (E) Working Group adjourned. g:\frs\data\stat acctg\3. national meetings\a. national meeting materials\2019\spring\hearing\1c - e-vote 12.12.18tpr.docx

Draft Pending Adoption Attachment 2

Accounting Practices and Procedures (E) Task Force 11/16/18


Draft: 11/29/18

Statutory Accounting Principles (E) Working Group San Francisco, California

November 15, 2018 The Statutory Accounting Principles (E) Working Group of the Accounting Practices and Procedures (E) Task Force met in San Francisco, CA, Nov. 15, 2018. The following Working Group members participated: Dale Bruggeman, Chair (OH); Jim Armstrong, Vice Chair, and Carrie Mears (IA); Richard Ford (AL); Kim Hudson (CA); Kathy Belfi and William Arfanis (CT); Rylynn Brown (DE); Eric Moser and Cindy Andersen (IL); Stewart Guerin and Caroline Brock (LA); Judy Weaver (MI); Patricia Gosselin and Doug Bartlett (NH); Stephen Wiest (NY); Joe DiMemmo (PA); Jamie Walker (TX); Doug Stolte and David Smith (VA); and Amy Malm (WI). Also participating was: Steve Kerner (NJ). 1. Adopted its Oct. 26, Aug. 15 and Summer National Meeting Minutes Ms. Malm made a motion, seconded by Mr. Moser, to adopt the Working Group’s Oct. 26 (Attachment One-A), Aug. 15 (Attachment One-B), and Aug. 4 (see NAIC Proceedings – Summer 2018, Accounting Practices and Procedures (E) Task Force, Attachment One) minutes. The motion passed unanimously. 2. Adopted Non-Contested Statutory Accounting Revisions During its Public Hearing The Working Group held a public hearing to review comments (Attachment One-C) on previously exposed items. Ms. Mears made a motion, seconded by Ms. Weaver, to adopt the statutory accounting revisions captured in the following non-contested items. The motion passed unanimously.

a. Agenda Item 2018-23 Mr. Bruggeman directed the Working Group to agenda item 2018-23: SSAP No. 68 Mergers. Julie Gann (NAIC) stated that this agenda item (Attachment One-D) clarifies that statutory mergers include scenarios in which the stock ownership of an owned entity is cancelled, with the parent entity incorporating the assets and liabilities directly on their financial statements. This clarification confirms that these transactions are subject to the statutory accounting restatement guidance. Ms. Gann stated that the interested parties’ comment letter noted support for these changes.

b. Agenda Item 2018-24EP

Mr. Bruggeman directed the Working Group to agenda item 2018-24EP: Editorial and Maintenance Update. Robin Marcotte (NAIC) stated that this agenda item (Attachment One-E) had been prepared to document editorial revisions to the Statement of Statutory Accounting Principles (SSAP) No. 86—Derivatives; SSAP No. 97—Investments in Subsidiary, Controlled and Affiliated Entities and Appendix A-010 – Minimum Reserve Standards for Individual and Group Health Insurance Contracts. Ms. Marcotte stated that the interested parties’ comment letter indicated that they had no comments on these editorial revisions.

c. Agenda Item 2018-25 Mr. Bruggeman directed the Working Group to agenda item 2018-25: ASU 2018-01, Leases – Land Easement Practical Expedient for Transition to Topic 842. Jake Stultz (NAIC) stated that this agenda item (Attachment One-F) rejects Accounting Standards Update (ASU) 2018-25 in SSAP No. 22—Leases. He stated that the rejection of this ASU would also be identified in the substantive revisions to SSAP No. 22 being developed as part of the review of ASU 2016-02, Leases. Mr. Stultz stated that the interested parties’ comment letter supported the rejection of ASU 2018-01.

d. Agenda Item 2018-28 Mr. Bruggeman directed the Working Group to agenda item 2018-28: Life and Annuity Liquidity Disclosures. Ms. Marcotte stated that this agenda item (Attachment One-G) adds life liquidity disclosures and expands variable annuity liquidity disclosures, as recommended by the Financial Stability (EX) Task Force, to SSAP No. 51—Life Contracts; SSAP No. 52—




Deposit-Type Contracts and SSAP No. 61R—Life, Deposit-Type and Accident and Health Reinsurance. She stated that the new and expanded disclosures are effective Dec. 31, 2019, and annual statement blanks revisions have already been adopted by the Blanks (E) Working Group; therefore, a blanks proposal is not needed. Ms. Marcotte stated that the interested parties’ comment letter noted support for these changes.

e. Agenda Item 2018-29 Mr. Bruggeman directed the Working Group to agenda item 2018-29: Consistency Revisions to A-820. Ms. Marcotte stated that this agenda item (Attachment One-H) removes the phrase “good and sufficient” from Appendix A-820—Minimum Life and Annuity Reserve Standards as it is not consistent with the related Standard Valuation Law (#820). Ms. Marcotte stated that the interested parties’ comment letter noted support for these changes.

f. Agenda Item 2018-30 Mr. Bruggeman directed the Working Group to agenda item 2018-30: Hedge Effectiveness Documentation. Ms. Gann stated that this agenda item (Attachment One-I) incorporates hedge effectiveness documentation provisions reflected in ASU 2017-12, Derivatives and Hedging. The revisions reflect a limited adoption with modification of ASU 2017-12 resulting in the following:

• Allowing companies to perform subsequent assessments of hedge effectiveness qualitatively if conditions are met. • Allowing companies more time to perform the initial quantitative hedge effectiveness assessment. • Clarifying that companies may apply the “critical terms match” method for a group of forecasted transactions if the

transactions occur and the derivatives mature within the same 31-day period or fiscal month, and the other requirements for applying the “critical terms match” method are satisfied.

Ms. Gann stated that the revisions are effective Jan. 1, 2019, with early adoption permitted for year-end 2018. U.S. generally accepted accounting principles (GAAP) filers can early adopt only if they have early adopted ASU 2017-12. Ms. Gann stated that the interested parties’ comment letter indicated that they had no comments on these revisions. 3. Adopted INT 18-04 Mr. Bruggeman directed the Working Group to agenda item 2018-31: Extension of Ninety-Day Rule for the Impact of Hurricane Florence and Hurricane Michael. Mr. Stultz stated that this agenda item and the corresponding Interpretation (INT) 18-04, Extension of Ninety-Day Rule for the Impact of Hurricane Florence and Hurricane Michael (Attachment One-J and Attachment One-K) provide a 60-day extension from the ninety-day rule captured in SSAP No. 6—Uncollected Premium Balances, Bills Receivable for Premiums, and Amounts Due from Agents and Brokers for policies directly impacted by Hurricane Florence, Hurricane Michael, tropical storm Florence and tropical storm Michael, or the related flooding. He stated that this interpretation is consistent with previous temporary extensions granted for other nationally significant catastrophes. Mr. Stultz stated that the agenda item and INT 18-04 were exposed Oct. 26 for a two-week period ending Nov. 9. He stated that comments received from interested parties’ noted support for the interpretation. Mr. Stultz stated that the interpretation will expire on March 6, 2019; therefore, it will be publicly posted on the Working Group’s website and automatically nullified on March 7, 2019. He stated that as the interpretation temporarily overrides SSAP No. 6, it must be supported by a two-thirds vote of the Working Group in order to be adopted. Mr. Hudson made a motion, seconded by Ms. Malm, to adopt INT 18-04. As no opposing votes received, the two-thirds voting requirement was met. The motion passed unanimously. 4. Reviewed Comments and Considered Action on Exposed Substantive Items The Working Group held a public hearing to review comments (Attachment One-C) on previously exposed items.

a. Agenda Item 2016-03 Mr. Bruggeman directed the Working Group to agenda item 2016-03: Derivatives Hedging Variable Annuity Guarantees. Ms. Gann stated that during the Summer National Meeting, the Working Group had exposed an issue paper and new SSAP to prescribe specific accounting and reporting guidance for derivatives that hedge interest rate risk of variable annuity guarantees.




She stated that the exposed new SSAP and issue paper contained a number of revisions recommended by the American Council of Life Insurers (ACLI) and state regulators from past discussions. Ms. Gann stated that the ACLI submitted comments in response to the current exposure. These comments focused on the effective date and transition with a few minor editorial comments. She stated that NAIC staff are recommending minor revisions to reflect a majority of the ACLI editorial comments. She stated that the only proposed revision not reflected was the deletion of the reference to “standard scenario.” Although the ACLI noted that this method will likely be replaced, revisions to this reference will not occur until those Valuation Manual revisions are incorporated. Ms. Gann summarized the revisions reflected from the ACLI to include:

1. Clarification that the domiciliary state’s approved transition approach to the new SSAP is not considered a permitted practice, as long as the reporting entity is fully compliant with the provisions of the SSAP after implementation.

2. Clarification that the calculation for establishing deferred assets should not exceed 100% or drop below zero.

3. Editorial updates of paragraph references and citations to the Valuation Manual. Ms. Gann stated that the issue paper and proposed new SSAP may be considered for adoption, but the Working Group needs to decide when the new guidance should be effective. She stated that the ACLI has proposed a Jan. 1, 2020, effective date, with early adoption permitted. The comments from the ACLI stated support for the new SSAP to be effective as early as possible, noting that the work from the Variable Annuities Issues (E) Working Group related to reserves is likely to be effective in 2020, with early adoption permitted. Ms. Gann also noted that the reporting schedule and templates to satisfy the SSAP disclosures are still being developed and the earliest they could be available is year-end 2019 reporting. If permitting early adoption prior to the disclosure tools being available, reporting entities would need to provide narrative information in the financial statements to satisfy the SSAP disclosure requirements. Additionally, Ms. Gann stated that if the provisions of the SSAP are permitted by a state prior to the date the SSAP is effective, or allowed for early adoption, reporting entities would need to report the permission as a permitted or prescribed practice. To assist with the discussion on an effective date, Ms. Gann proposed four options for Working Group consideration:

1. Option 1: Effective date Jan. 1, 2020, with early adoption permitted for year-end 2018.

2. Option 2: Effective date Jan. 1, 2020, with early adoption permitted in 2019.

3. Option 3: Effective date Jan. 1, 2020, without early adoption permitted.

4. Option 4: Specify that the effective date will correspond to the effective date of the Variable Annuity Issues (E) Working Group’s work on reserves.

Mike Monahan (ACLI) stated support for option 2, in which the new SSAP would be effective Jan. 1, 2020 with early adoption permitted as of Jan. 1, 2019. He agreed that permitted practices would continue for year-end 2018, but the Jan. 1, 2019, date provides the cleanest approach to allow for early adoption. He agreed with delaying the ACLI recommended revision to delete reference to the “standard scenario” until further action by the Variable Annuity Issues (E) Working Group to remove that approach. Joshua Bean (Transamerica Capital Strategy), representing the ACLI, agreed with the comments by Mr. Monahan, noting that the provision to allow Jan. 1, 2019 for early adoption allows companies to move towards the uniform NAIC standard as of the earliest possible date, which is a benefit to all reporting entities. Mr. Bruggeman stated the C-3 Phase II/AG 43 (E/A) Subgroup is working towards a Jan. 1, 2020, effective date for their revised reserving guidance, and he noted that the Subgroup is looking to complete their project by the 2019 Summer National Meeting. He stated that the formal Jan. 1, 2020, effective date for the accounting guidance aligns the effective date of the accounting provisions with the revised reserving standard. He stated that reporting entities with permitted or prescribed practices looking to early adopt the accounting provisions as of Jan. 1, 2019, should discuss with their domiciliary state regulator to determine what should be reported in the 2019 interim financial statements, or other individualized reporting, until the data-captured disclosures and templates for the new SSAP are available. He stated that data-captured disclosures under the new SSAP are expected for year-end 2019.




Mr. Armstrong made a motion, seconded by Mr. Bartlett, to adopt the new SSAP No. 108—Derivatives Hedging Variable Annuity Guarantees with an effective date of Jan. 1, 2020, with early adoption permitted as of Jan. 1, 2019, and the corresponding Issue Paper No. 159—Special Accounting for Limited Derivatives (Attachment One-L and Attachment One-M). The motion passed unanimously.

b. Agenda Item 2017-28

Mr. Bruggeman directed the Working Group to agenda item 2017-28: Reinsurance Credit. Ms. Marcotte stated that this project is to provide clarifications to assist in determining reinsurance credit and to address a request from the Financial Analysis (E) Working Group, which noted issues with trends identified in financial analysis and requested additional disclosures. She noted that the Statutory Accounting Principles (E) Working Group previously formed two informal drafting groups to provide recommendations. She stated that during the Summer National Meeting, the Statutory Accounting Principles (E) Working Group exposed the informal property and casualty reinsurance drafting group’s recommended substantive revisions to SSAP No. 62R—Property and Casualty Reinsurance to incorporate guidance from EITF 93-6, Accounting for Multiple Year Retrospectively Rated Contracts by Ceding and Assuming Enterprises and EITF D-035, FASB Staff Views on Issue No. 93-6. She stated that nonsubstantive revisions to SSAP No. 61R and proposed revisions to update the question-and-answer guidance in Appendix A-791 – Life and Health Reinsurance Agreements to clarify the applicability of A-791 were also exposed. She stated that the exposed revisions to SSAP No. 61R are an interim exposure to gain more input for the informal life and health drafting group’s continued work. She stated that the Financial Analysis (E) Working Group was notified of exposures. Ms. Marcotte stated that interested parties had no comments on the exposures, but comments regarding the SSAP No. 61R/A-791 exposure were received from the Connecticut Department of Insurance (DOI) and the New Jersey Department of Banking and Insurance. She noted that Connecticut proposed revisions to the exposed wording in SSAP No. 61R/A-791 and noted concerns with certain types of experience-rated yearly renewable term (YRT) reinsurance treaties that cede group term life risk with the primary purpose of achieving risk-based capital (RBC) relief for the cedant. She stated that the Connecticut letter noted that the concerning contracts include an experience-refund feature combined with “excessively high” YRT premiums, substantially mitigating and/or all but eliminating risk transfer to the assuming reinsurer. Ms. Marcotte stated that the Connecticut letter proposed modifying the exposed disclosures to capture treaties with loss ratio corridor or YRT premiums in excess of amounts collected on the ceded policies. She noted that Connecticut was concerned with an excessive level of reinsurance premiums that in practice limit the risk of loss to the reinsurer rather than having a concern with all experience rated treaties. She noted that Connecticut also proposed other revisions to SSAP No. 61R to address their concerns, which included a recommendation that the premium limitation in A-791, paragraph 2e apply to YRT contracts. Mr. Arfanis stated that Connecticut is not currently a member of the informal drafting group but is willing to volunteer. Ms. Marcotte noted that the New Jersey Department of Banking and Insurance letter also commented on group life YRT reinsurance arrangements that significantly reduce net amount at risk subject to RBC charges for ceding insurers when there is a limited transfer of business risk to the assuming reinsurers. She noted that the New Jersey letter stated that the companies are interpreting and treating the reinsurance arrangements as qualifying for reinsurance accounting under statutory accounting, but not under U.S. GAAP. She stated that the New Jersey comment letter provides details on the risk limiting features in the concerning contracts including: 1) ceding insurers may pay reinsurance premium well in excess of the proportionate direct YRT premiums; 2) ceding insurers may be subject to annual re-pricing by the assuming reinsurers that can be multiple times (3x-4x) of the proportionate direct YRT premiums; and 3) the arrangements may employ both a “loss carryforward account" and an "experience refund." Ms. Marcotte stated that the New Jersey comments noted that the contracts assume a remote ultimate risk of loss. However, the application of reinsurance accounting results with SSAP No. 61R using a less stringent standard than the U.S. GAAP counterpart reflected in Accounting Standards Codification (ASC) 944-20 – Financial Services. She noted that the New Jersey letter also provided reporting details indicating that the application of reinsurance accounting results in a proportionate reduction of the risk-based charge for the YRT reinsurance arrangements. She stated that the New Jersey letter recommended that as the accounting issues are reviewed, the applicable statutory reporting implications would also need to follow; i.e., treaties subject to deposit accounting should not receive a reduction in RBC.




Ms. Marcotte stated that the New Jersey comment letter noted concerns that were similar to the original Financial Analysis (E) Working Group referral, in which reinsurance contracts with these types of risk-limiting features will continue to mask the true financial performance and position of insurers, as well as the risks they are exposed to. She noted that the New Jersey letter recommended that the Statutory Accounting Principles (E) Working Group’s project be expanded to take on the YRT concerns identified in their letter. Mr. Kerner noted that the DOI understands several of the largest group term life writers, as well as many small group term life writers are taking advantage of these types of reinsurance contracts to avoid RBC charges. He noted that smaller firms that are on the cusp of RBC minimum ratios may be at greater risk. He noted concerns with contracts that do not meet the U.S. GAAP risk transfer requirements and are being asserted as passing the statutory accounting requirements for risk-transfer. He stated that New Jersey recommends that the Connecticut proposed revisions be incorporated with as early of an effective date as possible. He noted that New Jersey does not believe that the current accounting guidance was intended to allow reinsurance credit for these types of aggressive interpretations. He stated that New Jersey also recommends that no grandfathering of such treaties be allowed. Mr. Bruggeman noted agreement with New Jersey regarding concerns with reinsurance treaties that do not pass U.S. GAAP risk transfer requirements but receive statutory accounting reinsurance credit. He noted that part of the issue that the drafting group and NAIC staff have been struggling with is the interaction of Life and Health Reinsurance Agreements Model Regulation (#791) with the accounting guidance in SSAP No. 61R. He noted that Model #791 has a preamble section that describes the principles-based approach. He also noted that Model #791 contains examples, and companies have taken an approach of trying to grant credit to reinsurance contracts based on the examples even if the contracts do not meet the core principles noted in Model #791. He recommended that companies reflect on the principles in Model #791 rather than working on finding loopholes. He noted that he was also concerned when statutory accounting is viewed as granting reinsurance credit when U.S. GAAP does not. He stated that there may be a need to have the Life Risk-Based Capital (E) Working Group review the appropriateness of the RBC charges. Mr. Hudson made a motion, seconded by Ms. Walker, to adopt the exposed revisions to SSAP No. 62R with a Jan. 1, 2019, effective date (Attachment One-N), and direct NAIC staff to draft an issue paper documenting the substantive revisions. The motion passed unanimously. The Working Group also directed that the comments from Connecticut and New Jersey on SSAP No. 61R and A-791 be forwarded to the informal life and health reinsurance drafting group and that the informal drafting group’s work be expanded to address the YRT concerns.

c. Agenda Item 2017-32

Mr. Bruggeman directed the Working Group to agenda item 2017-32: SSAP No. 30 – Investment Classification Project. Ms. Gann stated that during the Summer National Meeting, the Working Group exposed an issue paper and substantively revised SSAP No. 30—Unaffiliated Common Stock. She stated that the key revisions in the proposed guidance improve the common stock definition and include in scope U.S. Securities and Exchange Commission (SEC) registered closed-end funds and unit-investment trusts. She stated that comments received from interested parties support the substantively revised SSAP No. 30 and issue paper with a Jan. 1, 2019, effective date; however, the interested parties’ comments identified that the proposed language revises the existing mutual fund reference from “shares of mutual funds” to “SEC registered mutual funds.” She stated that these comments identify that with the SEC reference, foreign mutual funds will no longer be in scope. She stated that the interested parties’ have requested that the Working Group consider revisions to include registered foreign mutual funds as a separate project in 2019. Ms. Gann stated that an agenda item to begin considering the issue of foreign mutual funds has been drafted and is included for Working Group consideration as an initial exposure under the meeting portion of the agenda. Mike Reiss (Northwestern Mutual), on behalf of interested parties, stated support for proceeding with the adoption of the substantively revised SSAP No. 30 and issue paper as presented by Ms. Gann, and the timely drafting of an agenda item to address the issue of foreign mutual funds. Ms. Walker made a motion, seconded by Ms. Mears, to adopt the substantively revised SSAP No. 30 (resulting in SSAP No. 30R) and the corresponding Issue Paper No. 158—Unaffiliated Common Stock (Attachment One-O and Attachment One-P) with an effective date of Jan. 1, 2019. The motion passed unanimously. Ms. Gann stated that an annual statement blanks proposal is being sponsored to separately capture closed-end funds and unit investment trusts on Schedule D, Part 2, Section 2 (Common Stock).




d. Agenda Item 2018-17 Mr. Bruggeman directed the Working Group to agenda item 2018-17: Structured Settlements. Ms. Gann stated that during the Summer National Meeting, the Working Group exposed nonsubstantive revisions to SSAP No. 21—Other Admitted Assets proposing accounting and reporting guidance for structured settlement income streams acquired by insurers as investments. The proposed guidance would allow for period-certain structured settlement streams acquired by insurance reporting entities in accordance with all state and federal laws, when the reporting entity is not the owner or payee of a corresponding annuity, as admitted other long-term investments. The guidance would require nonadmittance if the period-certain structured settlement has not been legally acquired, as well as nonadmittance for all life-contingent structured settlements. Ms. Gann stated that comments received from interested parties’ indicated support for the proposed accounting and reporting guidance. Ms. Gann stated that with the exposure, comments were requested on whether the proposed changes should be considered substantive or nonsubstantive. She stated that no formal comments were received from the exposure, however, informal comments during the meeting have noted support for the inclusion of an issue paper for historical documentation. She stated that if the revisions are considered substantive, the revisions would have a stated effective date and an issue paper would be developed for subsequent consideration by the Working Group. Mr. Reiss stated interested parties’ support for an issue paper to be subsequently developed that documents the revisions and discussion for historical purposes, with the SSAP No. 21 revisions to be effective for year-end 2018. Mr. Hudson made a motion, seconded by Ms. Malm, to adopt the exposed SSAP No. 21 revisions as substantive changes, with a Dec. 31, 2018, effective date (Attachment One-Q), and to direct NAIC staff to proceed with developing the issue paper for historical purposes. The motion passed unanimously.

e. Agenda Item 2018-18 Mr. Bruggeman directed the Working Group to agenda item 2018-18: Structured Notes. Ms. Gann stated that during the Summer National Meeting, the Working Group exposed nonsubstantive revisions to revise guidance for structured notes when the reporting entity holder assumes a risk of principal loss based on an underlying component unrelated to the credit risk of the issuer. She summarized the revisions as follows:

• SSAP No. 2—Cash, Cash Equivalents, Drafts and Short-Term Investments: Revisions clarify that derivative

instruments shall not be reported as cash equivalents or short-term instruments regardless of their maturity date and shall be reported as derivatives regardless of maturity.


• SSAP No. 43R—Loan-backed and Structured Securities: Revisions explicitly capture mortgage-reference securities in scope. This is an explicit exception to the securities currently captured in scope, as the items do not qualify as “loan-backed securities,” as the pool of mortgages are not held in trust and the amounts due under the investment are not directly backed by the referenced mortgages.

• SSAP No. 86: Revisions capture structured notes in scope, excluding mortgage reference securities captured in SSAP No. 43R, when there is a risk of principal loss based on the terms of the agreement that is in addition to default risk.

Ms. Gann stated interested parties suggested a minor clarification to SSAP No. 43R, and generally agreed with the proposed revisions, except for the issue of reclassifying structured notes from bonds in scope SSAP No. 26R to derivatives in scope of SSAP No. 86. She stated that the interested parties’ comments suggested that instead of classifying as derivatives, structured notes should receive treatment similar to mandatory convertible bonds in scope of SSAP No. 26R with a fair value measurement method. She stated that mandatory convertible securities are reported as bonds on Schedule D, Part 1 without an NAIC designation and are required to be reported at the lower of amortized cost or fair value.




In response to the interested parties’ comments, Ms. Gann provided additional discussion points for Working Group consideration:

• It is correct that the form of a structured note is a debt instrument. However, the debt instrument is a “wrapper” around an underlying derivative component. It is the derivative component that impacts the amount of principal, or original investment amount, that will be returned at maturity.

• The amount of principal repayment for structured notes is determined based on the underlying component as of the date of maturity. As such, even if the underlying component appears to be on the upside on prior reporting dates, if on the date of maturity, the underlying component drops below the downside threshold, any principal repayment will be calculated based on that maturity date (resulting in principal loss). Additionally, there is an extremely limited secondary market, and if attempting to sell the security in advance of the maturity date, the holder should expect to sell at a significant discount to its value. Although fair value is likely still the most appropriate reporting value, any reported “fair value” will likely be a level 3 measurement (determined without observable inputs), and any fair value amount reported on a financial statement reporting date should not be presumed to represent the principal repayment that would be calculated as of the date of maturity.

• If structured notes are captured in scope of SSAP No. 26R, the guidance for mandatory convertibles is likely most appropriate; however, the differences between structured notes and mandatory convertibles are significant. With a mandatory convertible, the instrument will convert to an equity instrument on a specific date, or in response to a specific trigger, but the reporting entity is not required to liquidate the equity instrument at the time of conversion. As such, the reporting entity could continue to hold the equity instrument and benefit from potential future increases in value. With a structured note, the instrument terminates on the date of maturity and the holder receives the principal repayment based on the underlying trigger (e.g., equity performance) as of that point in time. As such, there is no potential for a reporting entity to continue holding the instrument to regain value. This structure is in substance a derivative forward, in which two parties commit to transact at a future specified date in accordance with terms of the agreement established at acquisition.

• NAIC staff do not agree with the interested parties’ stated objective to prevent these instruments from being considered speculative derivatives and limited under state investment limitations. It is NAIC staff’s opinion that these instruments are speculative derivatives. NAIC staff believe the structure of these items has occurred to allow classification as a debt instrument (based on form), when the instrument is in substance a derivative instrument. As such, NAIC staff believe these instruments should be captured in state derivative investment limitations.

• The reporting for cash equivalents and short-term investments is designed for situations in which the investment is so near maturity that there is limited expected change in the credit quality of the instrument. This is why such investments are not reported with NAIC designations and the RBC charge is minimal. For structured notes, regardless of the timeframe until maturity, the creditworthiness of the issuer has no bearing on the formula that determines the amount of principal repayment, or return of original investment, on the maturity date. Although actually receiving the funds from the issuer could be impacted by the credit quality of the issuer, the key issue with structured notes is the uncertainty of the actual principal repayment that will be owed based on the underlying derivative component. As such, based on the design and underlying derivative components, these instruments should never be reported as short-term or cash equivalents.

Ms. Gann stated that NAIC staff have prepared three options for Working Group consideration. The first option is to adopt the agenda item as exposed with a Jan. 1, 2019, effective date. The second option is to re-expose the agenda item with the same concepts as the prior exposure as well as the comments from interested parties’ and NAIC staff to allow for further review on the distinction between mandatory convertibles or derivatives. The third option is to direct staff to prepare guidance that would capture structured notes in scope of SSAP No. 26R as suggested by the interested parties. Mr. Hudson and Ms. Mears stated support for the second option and re-exposure of the agenda item to allow more time to consider the different reporting options. Ms. Mears requested that additional information and examples be made available during the exposure period, detailing the differences in the two reporting options. Mr. Bruggeman stated that the additional information and examples would be provided subsequent to the exposure posting, but he agreed that this information would be beneficial during the exposure period. Mr. Reiss, representing interested parties, agreed with the overall agenda item, noting that the concept of structured notes needs to be addressed for statutory accounting. As a clarification, he stated that the interested parties’ proposal would require structured notes to be reported at fair value under SSAP No. 26R, which is slightly different from the lower of amortized cost




or fair value measurement method that is followed by mandatory convertibles. He stated support for the reporting of mortgage-referenced securities in scope of SSAP No. 43R and agreed with the treatment presented for the egregious examples noted in the agenda item. He agreed with the second option to re-expose, noting that interested parties would like the additional time to ensure that there are no unintended consequences and that the definition of a structured note does not inadvertently scope in an instrument that should be retained as a bond under SSAP No. 26R. Mr. Hudson made a motion, seconded by Ms. Mears, to re-expose the agenda item as a nonsubstantive change, reflecting the interested parties’ minor modification to SSAP No. 43R, but with the same concepts as the original exposure. As such, the exposure proposes to classify structured notes as defined in the agenda item, excluding mortgage-reference securities, as derivatives in scope of SSAP No. 86. The intent of this re-exposure is to allow more time for further review of the comments and additional discussion points on the classification of these structured notes as either bonds or derivatives. The motion passed unanimously. Mr. Bruggeman stated that reporting examples will be provided subsequent to the initial exposure posting, but directed NAIC staff to develop and provide this information during the exposure period.

f. Agenda Item 2018-19 Mr. Bruggeman directed the Working Group to agenda item 2018-19: Elimination of Modified Filing Exempt (MFE) – Referral from the Valuation of Securities (E) Task Force. Ms. Gann stated that during the Summer National Meeting, the Working Group exposed revisions to SSAP No. 43R to eliminate the MFE process in determining NAIC designations. She stated that the Task Force adopted revisions to eliminate the MFE process on Oct. 11. She stated that comments received from interested parties stated support for the proposal with a March 31, 2019, effective date with early adoption permitted. She stated that the proposal for early adoption would require a reporting entity to incorporate an all or nothing approach. As such, if electing to early adopt for year-end 2018, the reporting entity shall not use the MFE process for any applicable SSAP No. 43R securities. If electing not to early adopt, the reporting entity shall use the MFE process for all applicable securities in the year-end 2018 financial statements. Reporting entities not electing early adoption must eliminate use of the MFE process for all securities beginning with the first quarter 2019 financial statements. John Iwanicki (MetLife), representing interested parties, stated support for adopting the revisions to eliminate the MFE process, with a March 31, 2019, effective date with early adoption permitted as presented by Ms. Gann. Mr. Guerin made a motion, seconded by Mr. Smith, to adopt the exposed revisions to SSAP No. 43R, eliminating use of the MFE approach for determining NAIC designations, with an effective date of March 31, 2019, with early adoption permitted as an all or nothing approach as discussed (Attachment One-R). The motion passed unanimously. Ms. Gann stated that an annual statement blanks proposal will eliminate the MFE concept from annual statement reporting instructions.

g. Agenda Item 2018-20 Mr. Bruggeman directed the Working Group to agenda item 2018-20: Debt Forgiveness Between Related Parties. Ms. Gann stated that during the Summer National Meeting, the Working Group exposed proposed revisions to SSAP No. 15—Debt and Holding Company Obligations and SSAP No. 25—Affiliates and Other Related Parties to reference existing guidance in SSAP No. 72—Surplus and Quasi-Reorganizations when there has been a forgiveness of debt owed between related parties. She stated that with the exposure of the agenda item, comments were requested on whether uncollectibility of an amount loaned or advanced to a parent should be considered a dividend, instead of a write-off to income. She stated that comments were also requested on whether additional guidance for the recording of related party service transactions should be included. She stated that the interested parties’ comments focused on responding to the two exposure questions, ultimately indicating that further changes or additional guidance is not necessary in statutory accounting. She stated that the interested parties confirmed to NAIC staff in a follow-up inquiry that interested parties were okay with the exposed revisions. Mr. Hudson made a motion, seconded by Mr. Ford, to adopt the exposed revisions to SSAP No. 15 and SSAP No. 25 to reference existing guidance in SSAP No. 72 (Attachment One-S). The motion passed unanimously. The Working Group agreed that additional guidance or revisions in response to the exposure questions is not necessary at this time.




h. Agenda Item 2018-21 Mr. Bruggeman directed the Working Group to agenda item 2018-21: SSAP No. 72 Distributions. Ms. Gann stated that during the Summer National Meeting, the Working Group exposed revisions to SSAP No. 72 to provide guidance for when a reporting entity provides a distribution that is a return of capital. She stated that this guidance indicated that distributions that reflect a return of capital shall be charged directly to gross paid in and contributed surplus, which would reduce the cost basis in the reporting entity. Ms. Gann stated that the interested parties’ comments noted concern with the exposed guidance requiring reporting entities to receive domiciliary state approval before providing a return of capital to a parent or stockholder. She stated that the interested parties’ comments noted that if the holding company laws and regulations permit a dividend or return of capital without regulatory approval, the statutory accounting guidance should not override these laws or regulations. She stated that NAIC staff agreed with these comments and would recommend that this provision be deleted. Keith Bell (Travelers), representing interested parties, agreed with the comments made by NAIC staff and the deletion of the first sentence that would have required domiciliary state approval before providing a return of capital. Ms. Brown made a motion, seconded by Mr. Bartlett, to adopt the nonsubstantive revisions to SSAP No. 72, modified to eliminate the requirement to receive domiciliary state approval before providing a return of capital (Attachment One-T). The motion passed unanimously.

i. Agenda Item 2018-22 Mr. Bruggeman directed the Working Group to agenda item 2018-22: Participation Agreement in a Mortgage Loan. Ms. Gann stated that during the Summer National Meeting, the Working Group exposed revisions to SSAP No. 37—Mortgage Loans to clarify that a mortgage loan acquired through a participation agreement is limited to a single mortgage loan agreement with a sole borrower. She stated that the proposed revisions intend to further clarify that investments that reflect ownership in a mortgage loan fund, or other such bundled mortgage loan packages, regardless if acquired in a participation agreement, are not in scope of SSAP No. 37. Ms. Gann stated that the interested parties’ comment letter indicates understanding that “pools of mortgages” and “loan funds” shall not be accounted for as mortgages under SSAP No. 37, but the comments identify that there are situations when a mortgage loan has multiple borrowers that are related parties, such as “Tenant-in-Common” loans. She stated that the interested parties’ comments indicate that it is not necessary to specify that a mortgage loan is to a “sole borrower” to preclude pools of mortgages and loan funds from being in scope of SSAP No. 37, as that restriction to funds and pool of mortgages is noted in paragraph 2. She stated that the interested parties’ comments recommend revisions to indicate that the mortgage loan agreement could include “one or more borrowers” to preserve situations where related party borrowers on a loan agreement, secured by multiple mortgage real estate properties can be accounted for as a mortgage loan. In addition, the interested parties’ comments suggested revisions to the existing SSAP No. 37 footnotes to clarify the distinction between co-lending agreements and participation agreements. Ms. Gann stated that the intent of the agenda item is to clarify that mortgage loan funds or other pools of mortgages are not in scope of SSAP No. 37. She stated that although explicit information is in the scope section, information has been shared with NAIC staff in which reporting entities are using the footnote description of a “participating mortgage” as support for including “pools of mortgages” in scope of SSAP No. 37. She stated that if the suggested interested parties’ language was incorporated, it may be inadvertently interpreted to specifically allow groups of mortgages in scope of SSAP No. 37. She stated that the reporting schedule (Schedule B – Mortgage Loans), and the related RBC charges, are designed for single-mortgage loan reporting. Although each single mortgage loan agreement could have more than one lender, and potentially more than one borrower (as in the “tenant-in-common” scenario), the proposed language offered by the interested parties does not limit the “more than one borrower” to these limited situations. In order to clarify the language to address the interested parties’ comments, and further clarify what is intended to be captured as a mortgage loan acquired under a “participation agreement,” Ms. Gann stated that new revisions had been drafted to SSAP No. 37. Richard Barnhart (MassMutual), representing interested parties, agreed that mortgage loan funds are outside the scope of SSAP No. 37. He noted that a single mortgage, regardless of the number of lenders or borrowers, should be captured as a mortgage loan in SSAP No. 37. He stated that from the reporting entity standpoint, it is beneficial when there is more than one




borrower legally responsible for the mortgage loan. He agreed with the intent of the revisions presented by NAIC staff and noted that they would give a close review to the terminology used during the exposure period. In response to a comment from Mr. Bruggeman, Mr. Barnhart clarified that a single mortgage loan may have more than one property captured, such as a group of warehouses. Mr. Bruggeman agreed with these comments, noting that the intent is not to revisit the determination of whether there is more than one property within a single mortgage loan, but to clarify that SSAP No. 37 is for single mortgage loan agreements, and not mortgage loan funds or “bundled” mortgage loan agreements. Mr. Barnhart agreed with the intent of the clarifications under this agenda item and noted that the interested parties’ comments would focus on clarifying nuances. Mr. Hudson made a motion, seconded by Ms. Malm, to expose nonsubstantive revisions to SSAP No. 37, revised from the prior exposure, to clarify that “bundled” mortgage loans are excluded from the scope of SSAP No. 37, and the focus of SSAP No. 37 is single-mortgage loan agreements. The motion passed unanimously.

g. Agenda Item 2018-26 Mr. Bruggeman directed the Working Group to agenda item 2018-26: SCA Loss Tracking – Accounting Guidance. Ms. Gann stated that during the Summer National Meeting, the Working Group exposed revisions to SSAP No. 97 to clarify the existing requirements when a reporting entity has a negative equity valuation in a subsidiary, controlled or affiliated (SCA) investment. Specifically, under existing guidance in SSAP No. 97, a reporting entity shall report a negative value for the SCA: 1) in all instances in which the limited statutory adjustments required by paragraph 9 results in a negative equity valuation of investments; and 2) when the reporting entity has guaranteed obligations or committed further financial support to an SCA. If these conditions are not present, under the existing guidance in SSAP No. 97, the reporting entity would not report a negative value for the SCA, but would report a zero value. Ms. Gann stated that comments received from interested parties disagreed with the revisions to SSAP No. 97. These comments noted that the paragraph 9 adjustments are not related to operational losses; therefore, they do not belong in the “equity method” reporting paragraph. She stated that the comments from interested parties additionally identified that reporting a negative value for the SCA, when the guarantee liability is also required to be reported under SSAP No. 5R—Liabilities, Contingencies and Impairment of Assets, would be punitive as it would result in double counting the impact of the guarantee or commitment for the SCA obligations. Ms. Gann reiterated that the exposed revisions were intended to clarify the existing guidance in SSAP No. 97; therefore, the provisions to report a negative value as a result of SCA adjustments is currently required in paragraph 9, and the requirement to report a negative SCA value and the guarantee liability is currently required in paragraph 13. However, Ms. Gann did note that there could be concern with the existing guidance, particularly if there is double-counting of the guarantee liability, she and recommended that the Working Group direct NAIC staff to work with interested parties to consider revisions to the existing SSAP No. 97 guidance. With no objection noted by the Working Group, Mr. Bruggeman directed NAIC staff to continue exposure of this agenda item to allow for the solicitation of additional comments, and to work with interested parties and research the applicable U.S. GAAP guidance to determine whether changes should occur to SSAP No. 97 regarding when a negative value for SCA investments shall be reported. With the continued exposure, comments were requested on various situations that may exist. In addition to situations that result in double counting, Mr. Bruggeman requested comments on situations in which reporting the negative value in response to a guarantee or financial commitment would not result with double-counting under the existing guidance.

h. Agenda Item 2018-27 Mr. Bruggeman directed the Working Group to agenda item 2018-27: SSAP No. 48 Entities’ Loss Tracking. Ms. Gann stated that during the Summer National Meeting, the Working Group exposed revisions to SSAP No. 48—Joint Ventures, Partnerships and Limited Liability Companies to incorporate guidance and disclosures when a reporting entity’s share of losses in an SSAP No. 48 entity exceeds its investment in the SSAP No. 48 entity. She stated that the proposed disclosure is similar to what is currently required under SSAP No. 97, and the proposed revisions are similar to what was proposed under agenda item 2018-26. Ms. Gann stated that the interested parties’ comments indicated that the revisions to SSAP No. 48 are not necessary, as the existing guidance in SSAP No. 48 indicates that reporting entities with a more than minor ownership interest are subject to the equity method requirements of SSAP No. 97. She stated that the interested parties’ comment letter also reiterated the comments




they made for agenda item 2018-26 and concerns that reporting a negative value for the SSAP No. 48 investment would result in a double surplus hit when the guaranteed obligations are also reported. She stated that the interested parties’ comments recognized that the SSAP No. 97 disclosures for loss tracking may be applicable, and they provided suggested language for inclusion in SSAP No. 48 to ensure compliance with this disclosure. Mr. Ford made a motion, seconded by Ms. Weaver, to adopt revisions to SSAP No. 48, as recommended by interested parties to ensure disclosure when a reporting entity’s share of losses in an SSAP No. 48 entity exceeds its investment in the SSAP No. 48 entity (Attachment One-U). The motion passed unanimously. The Working Group identified that further discussion or revisions to SSAP No. 48 may be considered in accordance with agenda item 2018-26. 5. Considered Maintenance Agenda—Pending Listing—Exposures Mr. Hudson made a motion, seconded by Mr. Wiest, to move agenda items 2018-32 through 2018-39 and agenda items 2018-41 through 2018-45 to the active listing, and expose all items for comment, with distinction of each item as either substantive or nonsubstantive, and with corresponding referrals as recommended by NAIC staff. The motion passed unanimously.

a. Agenda Item 2018-32 Mr. Bruggeman directed the Working Group to agenda item 2018-32: SSAP No. 26R – Prepayment Penalties. Ms. Gann stated that this agenda item is prepared as a nonsubstantive issue to clarify the determination of investment income for prepayment penalties and/or acceleration fees for bonds liquidated prior to scheduled termination. She stated that the calculation included in SSAP No. 26R is appropriate for bonds with call prices greater than par, but the calculation misrepresents realized gains or losses and investment income on a gross basis when the call price is less than par. She stated that the proposed revisions, for situations when call price is less than par, directs reporting entities to allocate the consideration received between investment income and realized gains/losses in accordance with the terms of the called bond. She noted that examples are included in the agenda item, and comments are requested on whether the examples should be included in the existing SSAP No. 26R appendix, and/or whether the entire appendix for prepayment penalties should be eliminated from SSAP No. 26R. In response to an inquiry from Mr. Bruggeman, there was no objection to exposure.

b. Agenda Item 2018-33 Mr. Bruggeman directed the Working Group to agenda item 2018-33: Pledges to FHLBs. Ms. Gann stated that this agenda item has been drafted as a nonsubstantive issue to clarify the accounting guidance if an insurance reporting entity pledges assets to a Federal Home Loan Bank (FHLB) on behalf of an affiliate. She stated that the agenda item proposes revisions to SSAP No. 30R to refer to existing guidance in SSAP No. 4—Assets and Nonadmitted Assets, that explicitly states that if assets of an insurance entity are pledged or otherwise restricted by the actions of a related party, the assets are not under the exclusive control of the insurance entity and are not available to satisfy policyholder obligations. She stated that the existing SSAP No. 4R guidance is explicit that these assets shall not be recognized as admitted assets. She stated that the revisions also identify that any transaction that is entered into on behalf of an affiliate, but is completed in a manner to exclude affiliate involvement (e.g., pledging assets to the FHLB instead of to the affiliate), shall be captured as a related party transaction under SSAP No. 25. She stated that with exposure, the agenda item requests comment on the following:

• The ability for a non-FHLB member to borrow funds based on affiliate FHLB membership.

• The ability for “Group” FHLB Membership—Meaning the FHLB membership is determined/divided among more than one affiliate, in which all affiliated companies are considered FHLB members (with FHLB privileges), based on the “group” agreement.

• The prevalence of insurer assets being pledged to an FHLB for an affiliate FHLB member/borrower.

• Whether the existing guidance for FHLBs, which allows admitted asset treatment for FHLB stock, although the stock is significantly restricted and cannot be liquidated for policyholder claims, shall be retained if the reporting entity is utilizing their FHLB membership to obtain FHLB benefits for affiliates.

In response to an inquiry from Mr. Bruggeman, there was no objection to exposure.




c. Agenda Item 2018-34 Mr. Bruggeman directed the Working Group to agenda item 2018-34: Foreign Mutual Funds. Ms. Gann stated that this agenda item was drafted as a nonsubstantive change in response to the interested parties’ Oct. 5 comment letter that requested consideration of foreign mutual funds in scope of SSAP No. 30R. She stated that when drafting SSAP No. 30R, NAIC staff had the impression that the phrase “mutual funds” was intended to reflect an investment in an SEC registered open-end investment company, as U.S. retail investors can only buy funds that are registered with the SEC. However, as noted in the interested parties’ comment letter, insurance entities may acquire foreign mutual funds. Ms. Gann stated agreement that foreign mutual funds should be treated similarly to foreign common stock, and revisions have been proposed to SSAP No. 30R to capture registered foreign mutual funds in scope. However, she noted that the current distinctions between foreign and domestic investments may not properly identify non-SEC registered mutual funds as Canadian investments are considered domestic investments under existing reporting instructions. Ms. Gann stated that with exposure of the proposed revisions to include foreign open-end funds (mutual funds) in scope of SSAP No. 30R, information is requested on whether these foreign investments should be restricted to certain jurisdictions, the classification of these items as either foreign or domestic, the reporting of these items in the Supplemental Risk Interrogatory, and whether foreign mutual funds and exchange traded funds should be eligible to be identified as diversified investments in the general interrogatory, if complying with the SEC 1940 Act diversification requirements. In response to an inquiry from Mr. Bruggeman, there was no objection to exposure.

d. Agenda Item 2018-35 Mr. Bruggeman directed the Working Group to agenda item 2018-35: ASU 2018-07, Improvements to Share-Based Payment Accounting. Ms. Gann stated that this agenda item was drafted as a nonsubstantive issue to consider ASU 2018-07 for statutory accounting. She stated that this ASU was issued as part of the Financial Accounting Standards Board (FASB) simplification initiative and intends to reduce cost and complexity for the financial reporting of share-based payments issued to nonemployees. She stated that the proposed revisions expand the scope of ASC Topic 718 – Stock Compensation to include share-based payments issued to nonemployees for goods and services. She stated that the revisions result in the alignment of accounting guidance for share-based payments to employees and nonemployees and ASC Subtopic 505-50 – Equity-Based Payments to Nonemployees being superseded. Ms. Gann stated that proposed revisions have been prepared to adopt with modification the guidance from ASU 2018-07 in SSAP No. 104R—Share-Based Payments. She stated that the revisions appear extensive, but NAIC staff are proposing that the revisions be considered nonsubstantive as it is not anticipated that the revisions will have a significant impact on statutory accounting. She stated that with the exposure of revisions to SSAP No. 104R, comments are requested on retaining the exhibit detailing the annual audited financial statement disclosures, and continued reference to guidance originally adopted within SSAP No. 13—Stock Options and Stock Purchase Plans (Superseded). Ms. Gann stated that in addition to the proposed revisions to SSAP No. 104R, the agenda item also details revisions to SSAP No. 95—Nonmonetary Transactions, reflecting revisions from ASU 2018-07, as well as updates to Appendix D, GAAP Cross-Reference to SSAP and Issue Paper No. 146—Shared-Based Payments with Non-Employees in response to the ASU. In response to an inquiry from Mr. Bruggeman, there was no objection to exposure.

e. Agenda Item 2018-36

Mr. Bruggeman directed the Working Group to agenda item 2018-36: ASU 2018-13, Changes to the Disclosure Requirements for Fair Value Measurement. Ms. Gann stated that this agenda item had been drafted as a nonsubstantive issue to consider ASU 2018-13 for statutory accounting. She stated that this ASU was issued to improve the effectiveness of fair value disclosures in the notes to the financial statements. She stated that the ASU modifies the U.S. GAAP disclosure requirements and noted that the ASU deletes, modifies and incorporates new disclosures related to fair value. Ms. Gann stated that the agenda item proposes revisions to SSAP No. 100R—Fair Value to adopt with modification the disclosure revisions from ASU 2018-13. She stated that U.S. GAAP revisions to the disclosure objective, the elimination of




disclosure for transfers between level 1 and level 2, the elimination of the policy disclosure for when transfers have occurred, and revisions to the net asset value disclosure are proposed to be reflected in statutory accounting. She stated that the other changes from U.S. GAAP, including the new disclosures, are not proposed to be adopted for statutory accounting. She stated that NAIC staff do not believe the new U.S. GAAP disclosures would be necessary for statutory accounting, but requested comments during the exposure period if these additional disclosures would be beneficial to state insurance regulators. In response to an inquiry from Mr. Bruggeman, there was no objection to exposure.

f. Agenda Item 2018-37

Mr. Bruggeman directed the Working Group to agenda item 2018-37: ASU 2018-14, Changes to the Disclosure Requirements for Defined Benefit Plans. Ms. Gann stated that this agenda item had been drafted as a nonsubstantive issue to consider ASU 2018-14 for statutory accounting. She stated that this ASU was issued to improve the effectiveness of defined benefit plan disclosures in the notes to the financial statements. She stated that the ASU modifies the U.S. GAAP disclosure requirements and that the ASU deletes, modifies and incorporates new disclosures related to defined benefit plans. Ms. Gann stated that the agenda item proposes revisions to SSAP No 92—Postretirement Benefits Other Than Pensions and SSAP No. 102—Pensions to adopt with modification the disclosure revisions from ASU 2018-14. The proposed revisions predominantly delete existing disclosures, but do incorporate a few new elements from U.S. GAAP. These additions include interest crediting rates and reasons for significant gains and losses related to changes in defined benefit obligations. She stated that these new additions would be captured in narrative disclosures only and no revisions to existing data-captured templates are expected. In response to an inquiry from Mr. Bruggeman, there was no objection to exposure.

g. Agenda Item 2018-38 Mr. Bruggeman directed the Working Group to agenda item 2018-38: Prepayments to Service and Claims Adjusting Providers. Ms. Marcotte stated that this agenda item had been prepared as a nonsubstantive issue to address a regulator inquiry that originated from a mid-sized property and casualty company regarding prepayments to providers of claims and adjusting services in which the service provider is prepaid by the insurer. She stated that the initial inquiry for this agenda item was a prepaid roadside assistance provider; however, the accounting issues are relevant to other providers of claims and adjusting services. She noted that the underlying statutory accounting issue is how the direct writer accounts for and reports the prepaid claims and adjusting expenses. She noted that the existing statutory accounting guidance indicates that paying a third-party in advance to adjust claims in the future does not decrease the claims adjustment liability. She stated that the claim adjustment liability is only reduced when the claim has been adjusted, not when it is prepaid. She stated that the agenda item proposes revisions to SSAP No. 55—Unpaid Claims, Losses and Loss Adjustment Expenses to specify that an initial prepayment for providers shall be recognized as a miscellaneous underwriting expense. She noted that if subsequent losses are incurred, the prepayment amounts for policies that purchased the coverage shall be reclassified from miscellaneous underwriting expense to claims adjusting expense or claims expense, as applicable. Ms. Marcotte stated that if the prepaid services were not utilized or relate to policies that did not purchase services, the prepayment expenses would remain in miscellaneous expenses. She stated that subsequent to the development of guidance there may be a need to add additional annual statement instructions. Mr. Bruggeman noted that the described payments would be akin to third party administrator type of prepayments. He noted that this accounting treatment is different than recognizing a nonadmitted prepaid asset. He noted that the proposed revisions simplify the concept to be direct expensing, as the amounts are not expected to be material. However, if the amounts are expected to be material, consideration of that should be brought up to the Working Group or noted in comment responses. In response to an inquiry from Mr. Bruggeman, there was no objection to exposure.

h. Agenda Item 2018-39 Mr. Bruggeman directed the Working Group to agenda item 2018-39: Interest on Claims. Ms. Marcotte stated that this agenda item was drafted as a nonsubstantive issue to clarify the reporting of interest payable on claims, particularly if the payment is in response to a regulatory penalty. She noted that most states and jurisdictions have a law regarding prompt payment of claims, particularly for accident and health policies. These laws encourage the payment of claims in a timely manner and ensure that




if the claims are not paid in a timely manner, the claimant is made whole for the delay in payment. Although there are variations in legal details, the laws typically require payment of “clean claims” within a specified number of days (e.g., 30–60 days) and require the payment of interest to the claimant/provider etc. if the claim is not paid within the specified required time. The rate of interest and time periods varies by jurisdiction. A “clean claim” is typically a claim not in dispute for which sufficient documentation is provided. Ms. Marcotte stated that the agenda item proposes revisions to SSAP No. 55 for interest payments on accident and health claims based on to whom the interest is paid. She noted that the revisions clarify that interest paid to claimants shall be reported as claims adjustment expenses. She stated that the proposed revisions indicate that interest paid to regulatory authorities shall be reported as regulatory fines and fees. Ms. Marcotte stated that with exposure, notification would be provided to the Health Actuarial (B) Task Force with a request for comments. Additionally, she stated that comments are requested on the effective date of the proposed revisions, as well as how these interest payments should be reported by other lines of business. She stated that it is anticipated that such payments for life products would be considered claims, noting that this assessment is based on discussions with internal NAIC staff regarding current practices and because timeliness is not typically an issue. She noted that the preliminary assessment is that such payments for property and casualty products would be reported similarly to health products. In response to an inquiry from Mr. Bruggeman, there was no objection to exposure.

i. Agenda Item 2018-41 Mr. Bruggeman directed the Working Group to agenda item 2018-41: ASU 2017-13, Amendments to SEC Paragraphs. Mr. Stultz stated that this agenda item has been drafted as a nonsubstantive issue to consider ASU 2017-13 for statutory accounting. He stated that the ASU provides updated transition guidance for public reporting entities on the application of recent U.S. GAAP issuances related to revenue recognition and leases. He stated that the U.S. GAAP transition date for these elements has not been incorporated for statutory accounting, noting that the U.S. GAAP guidance for revenue recognition has predominantly been rejected for statutory accounting. He stated that the agenda item proposes to reject ASU 2017-13 as not applicable to statutory accounting in Appendix D—Nonapplicable GAAP Pronouncements.

j. Agenda Item 2018-42 Mr. Bruggeman directed the Working Group to agenda item 2018-42: ASU 2018-02, Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income. Mr. Stultz stated that this agenda item has been drafted as a nonsubstantive issue to consider ASU 2018-02 for statutory accounting. He stated that this ASU allows a reclassification from accumulated other comprehensive income to retained earnings for stranded tax effects resulting from the federal Tax Cuts and Jobs Act of 2017 (TCJA). He stated that the ASU does not affect the underlying GAAP guidance on the recognition of changes in tax laws or rates. He stated that statutory accounting does not result in “stranded tax effects;” therefore, guidance similar to U.S. GAAP is not needed for statutory accounting. He stated that the agenda item proposes to reject 2018-02 as not applicable to statutory accounting in Appendix D—Nonapplicable GAAP Pronouncements.

k. Agenda Item 2018-43 Mr. Bruggeman directed the Working Group to agenda item 2018-43: ASU 2018-04, Investments – Debt Securities and Regulated Operations, Amendments to SEC Paragraphs. Mr. Stultz stated that this agenda item has been drafted as a nonsubstantive issue to consider ASU 2018-04 for statutory accounting. He stated that the ASU was issued to supersede guidance for SEC reporting entities for “other than temporary” and other factors to consider when evaluating impairment of individual available-for-sale and held-to-maturity securities. He stated that the revisions within the ASU are specific to the deletion of SEC paragraphs; therefore, the agenda item proposes to reject ASU 2018-04 as not applicable to statutory accounting in Appendix D—Nonapplicable GAAP Pronouncements.

l. Agenda Item 2018-44

Mr. Bruggeman directed the Working Group to agenda item 2018-44: ASU 2018-05, Income Taxes – Amendments to SEC Paragraphs Pursuant to SEC Staff Accounting Bulletin No. 118. Mr. Stultz stated that this agenda item has been drafted as a nonsubstantive issue to consider ASU 2018-05 for statutory accounting. He stated that the ASU includes SEC staff views on the income tax accounting implications of the TCJA, which come from SEC Staff Accounting Bulletin No. 118. As the provisions within the ASU are specific to SEC registrants, and applicable guidance in response to the TCJA was issued in INT




18-01, Updated Tax Estimates Under the Tax Cuts and Jobs Act, the agenda item proposes to reject ASU 2018-05 as not applicable to statutory accounting in Appendix D—Nonapplicable GAAP Pronouncements.

m. Agenda Item 2018-45

Mr. Bruggeman directed the Working Group to agenda item 2018-45: ASU 2018-06, Codification Improvements to Topic 942, Financial Services – Depository and Lending. Mr. Stultz stated that this agenda item has been drafted as a nonsubstantive issue to consider ASU 2018-06 for statutory accounting. He stated that the ASU was issued to supersede outdated guidance from the Office of the Comptroller of the Currency’s Banking Circular 202, Accounting for Net Deferred Tax Charges that was included in the FASB Codification. He stated that the ASU relates to tax consequences of bad debt reserves for savings and loans institutions that arose in tax years before 1987. With the specific focus on savings and loans, the agenda item proposes to reject ASU 2018-06 as not applicable to statutory accounting in Appendix D—Nonapplicable GAAP Pronouncements. 6. Considered Maintenance Agenda—Pending Listing—Agenda Item 2018-40 Mr. Bruggeman directed the Working Group to agenda item 2018-40: ASU 2018-15, Customer’s Accounting for Implementation Costs Incurred in a Cloud Computing Arrangement That is a Service Agreement. Ms. Gann stated that this ASU was issued to align the requirements for the capitalization of implementation costs from obtaining a cloud computing license, which are incurred in a hosting arrangement that is a service contract. She stated that the ASU allows companies to capitalize certain costs of acquiring a cloud computing license. She stated that the agenda item has been drafted as a nonsubstantive item and details existing guidance under statutory accounting. She stated that the provisions in the ASU are similar to SSAP No. 16R—Electronic Data Processing Equipment where costs for software developed or obtained for internal use are allowed to be capitalized and depreciated over a three- to five-year time frame. However, she stated that existing guidance in SSAP No. 16R currently requires entities that license internal-use computer software to follow the guidance in SSAP No. 22. Under SSAP No. 22, all leases are generally reported as operating leases, with costs expensed when incurred. Ms. Gann stated that the agenda item originally proposed an exposure requesting comments on two options for the accounting and reporting of the implementation costs for acquiring a cloud computing license. However, with informal comments received, NAIC staff would propose revising the recommendation to receive a direction from the Working Group during the meeting so that NAIC staff could prepare proposed revisions for exposure consideration subsequent to the Fall National Meeting.

• Option One: Treat the implementation cost of acquiring a cloud computing license as part of the lease cost and expense the cost when incurred. This would be consistent with the existing provisions of SSAP No. 16R directing the use of SSAP No. 22 for licensed insurer-use computer software.

• Option Two: Treat the implementation cost of acquiring a cloud computing license similar to a nonoperating system software development cost and capitalize the cost as a nonadmitted asset, with amortization not to exceed five years. This would adopt the concepts in the ASU with modification for treatment as nonoperating system software under SSAP No. 16R.

Ms. Gann stated that NAIC staff would recommend moving towards option two, in which the implementation costs of a cloud computing license would be treated as nonoperating system software, with nonadmittance and amortization not to exceed five years. Mr. Bell stated that it could be possible for the costs to be considered operating software, and SSAP No. 16R would permit those costs to be admitted assets. He stated that the ASU permits early adoption, which is why companies are looking for action on this item. Ms. Gann stated that the ASU definition of “implementation costs” identifies training costs and other elements that would represent nonoperating system software and nonadmitted under existing concepts in SSAP No. 16R. She requested that examples of cloud computing implementation costs that could be considered operating system software be provided during the exposure period. Mr. Bruggeman requested information on whether any operating system costs could be identified and bifurcated from nonoperating system software costs captured as “implementation costs.” Ms. Mears made a motion, seconded by Ms. Weaver, to direct NAIC staff to draft language reflecting the adoption with modification of ASU 2018-15, specifying treatment of implementation costs from the acquisition of a cloud computing license similar to a nonoperating system software development cost under SSAP No. 16R. With this approach, the reporting entity would be permitted to capitalize the cost as a nonadmitted asset, with amortization not to exceed five years. The motion passed unanimously.




Ms. Gann stated that the proposed guidance would be distributed to the Working Group for an email exposure vote once drafted. She stated that the exposure will request information on the distinction between operating and nonoperating system software as discussed during the meeting. 7. Discussed Other Matters

a. Update on FASB Long-Duration Insurance Contracts Project

Ms. Gann stated that the FASB finalized its discussion on its Long-Term Insurance Contracts project and issued ASU 2018-12, Targeted Improvements to the Accounting for Long-Duration Contracts in August 2018. She stated that NAIC staff have completed a preliminary review of the agenda item with a tentative recommendation to reject ASU 2018-12 for statutory accounting. She stated that this rejection is consistent with previous consideration of similar U.S. GAAP insurance standards, as insurance entities shall follow statutory provisions to account and report for insurance contracts. Although NAIC staff’s initial assessment is to reject the ASU, consideration will occur on whether any new disclosures from ASU 2018-12 should be incorporated for statutory accounting. Ms. Gann stated that after corresponding with industry, it was noted that discussions are still occurring with the FASB on the ASU’s implementation and transition date. As such, it was requested that NAIC staff delay presenting the agenda item to the Working Group for initial exposure. NAIC staff will continue to work with industry to receive updates on the FASB discussions and whether any disclosures should be incorporated for statutory purposes. Ms. Gann stated that it is anticipated that the agenda item will be exposed in 2019. Mr. Monahan stated that on Nov. 12, the ACLI provided a comment letter to the International Accounting Standards Board (IASB) regarding the effective date of IFRS 17, Insurance Contracts. On Nov. 14, the IASB voted to allow an additional year for implementation for both IFRS 17 and IFRS 9, Financial Instruments. He stated that the two IFRS standards are intended to coincide; therefore, the effective dates of both standards were extended. He then stated that the ACLI met with the FASB in October to discuss an effective date extension for ASU 2018-12. At that time, it was noted that the FASB was not considering an extension, but if the IASB extended the effective date of IFRS 17, the FASB would need to consider the impact to the ASU, as it was not intended for the ASU to get in front of IFRS 17. Mr. Monahan stated that with the recent action of the IASB, the ACLI is planning to meet with the FASB to revisit the effective date discussion. He stated that it is important for reporting entities to know this year, or in early January 2019, whether the ASU would be extended as companies must begin needed system changes to reflect the ASU guidance. He stated that the ACLI has met with an American Institute of Certified Public Accountants (AICPA) panel of insurance experts to discuss implementation challenges identified by the auditors so that these can also be addressed as part of the discussions with the FASB.

b. Update on Exposures with Nov. 30 Comment Letter Deadline

Ms. Gann provided an update on the items with extended comment deadlines ending Nov. 30. She stated that for each of these items, NAIC staff are continuing to work with industry in the interim to identify issues and transactions that would be captured within the proposed revisions. She stated that once comments are received, the Working Group will consider an interim call to continue discussion. Items with Nov. 30 comment deadlines include:

• Agenda item 2016-02: ASU 2016-02, Leases • Agenda item 2018-06: Regulatory Transactions – Referral from the Reinsurance (E) Task Force • Agenda item 2018-07: Surplus Note Accounting – Referral from the Reinsurance (E) Task Force

c. Disclosure Requirement from Agenda Item 2018-08—Owner and Beneficiary of Life Insurance

Ms. Gann stated that during the Summer National Meeting, the Working Group adopted revisions to paragraph 6 of SSAP No. 21 to clarify the guidance for when a reporting entity is the owner and beneficiary of a life insurance policy. She noted that with the adoption of the guidance, a new disclosure was adopted requiring the amount of cash surrender value that is within an investment vehicle by investment category. She stated that this disclosure is required in the narrative for year-end 2018 and consideration is planned for data-capturing the disclosure in subsequent years.




Ms. Gann stated that when there are narrative disclosures adopted for year-end, NAIC staff will generally provide a memo to the Blanks (E) Working Group to identify the new required disclosures, provide an example on how the narrative disclosure should be reflected, and identify which note it should be captured in. She stated that the ACLI provided a proposal for the new SSAP No. 21 disclosure to capture percentage information, rather than the amount of cash surrender value by investment vehicle. She inquired whether the ACLI proposed disclosure illustration, modified to include the total cash surrender value in investment vehicles and to mirror the investment categories of the annual statement, should be submitted to the Blanks (E) Working Group as an example for completing the year-end 2018 disclosure. She stated that if no example is provided to the Blanks (E) Working Group, then the narrative disclosure is still required, but each reporting entity would use the format they believe satisfies the requirement in the SSAP. Mr. Bruggeman stated that the intent of the disclosure is not to require a deep-dive into the holdings of funds. Rather, the intent of the disclosure is to identify the primary nature of the investment where the cash surrender value is invested. As an example, if the cash surrender value was invested in an SEC registered fund, the investment shall be classified as a “common stock” investment in the disclosure. Mr. Iwanicki, on behalf of interested parties, stated overall support for the proposed disclosure, noting that the interested parties’ key concern was whether the disclosure was going to require a deep-dive into specific funds in order to allocate investments. Mr. Bruggeman stated support for continued reference to “investment vehicle” using the annual statement reporting categories, but to specify that the investment classification shall be based on the primary underlying investment characteristics. With the discussion, Ms. Gann suggested that the disclosure example be reflected as follows:

The Company is the owner and beneficiary of life insurance policies included in [name of Assets line] at their cash surrender values pursuant to SSAP No. 21, paragraph 6. At December 31, 2018, the cash surrender value in an investment vehicle is $_____, and is allocated into the following categories based on primary underlying investment characteristics: x% bonds, x% stocks, x% mortgage loans, x% real estate, x% cash and short-investments, x% derivatives and x% other invested assets. (Investments in private funds / hedge funds shall be reported as other invested assets.)

Mr. Bruggeman stated that this example disclosure will be included in a memo to the Blanks (E) Working Group, with recommendation that this disclosure be captured as a narrative disclosure in Note 21—Other Items for year-end 2018. He stated that by providing this information to the Blanks (E) Working Group, reporting entities can follow a consistent process for reporting the information. He stated that a subsequent blanks proposal to consider data-capturing of the information will be sponsored in the 2019 Spring National Meeting. In response to an inquiry from Mr. Bruggeman, none of the Working Group members noted objection to including the disclosure example, as presented by Ms. Gann, to the Blanks (E) Working Group.

d. Update on Agenda Item 2018-04: VOSTF – Bank Loan Referral Ms. Gann stated that NAIC staff have been researching different types of “bank loans” and has been discussing with industry on the types of bank loans that are held by insurers. She stated that NAIC staff are still evaluating the information received and anticipates re-exposure of this agenda item in the interim or during the 2019 Spring National Meeting. She requested reporting entities that report bank loans in scope of SSAP No. 26R to contact NAIC staff to provide information on the bank loans they hold.

e. Update on Agenda Item 2016-20: ASU 2016-13, Credit Losses

Ms. Gann stated that during the interim, NAIC staff confirmed the intent of the discussion document for expected credit losses was to utilize an approach similar to the available-for-sale U.S. GAAP guidance, with the inclusion of a fair value floor. She stated that interested party comments were recently received and subsequent discussion will occur once the comments are reviewed by NAIC staff. She also stated that revisions to the ASU were recently issued by the FASB and NAIC staff will be reviewing the ASU to determine the impact of those revisions.




f. Working Capital Finance Investments

Ms. Marcotte stated that the Working Group has received a referral from the Valuation of Securities (E) Task Force regarding their discussions on Working Capital Finance Investments (WCFI) (Attachment One-V). She stated that the referral indicates that the items noted by the Task Force would likely require revisions to SSAP No. 105—Working Capital Finance Investments, and a subsequent proposal of industry suggested revisions will likely be submitted by the Task Force or the ACLI for consideration. She stated that the main areas noted for possible consideration in the Task Force referral are as follows: 1) whether to maintain annual statement Schedule BA (Other Long-Term Invested Assets) reporting as originally recommended by the Task Force and supported by industry; 2) the SSAP No. 105 requirement to obtain prior approval from their domestic regulators before investing in WCFI; 3) mixed comments regarding the possibility of allowing the Securities Valuation Office (SVO) to apply analytical discretion to designate WCFI programs with unrated obligors by using information from a rated or designated parent; and 4) commingling issues regarding the flow of funds. Ms. Marcotte stated that NAIC staff’s understanding is that industry is working to develop a recommendation which will first be submitted to the Task Force. Mr. Monahan stated that the ACLI is supportive of making this investment classification workable for reporting entities, noting that this is a secure investment. He stated support for eliminating the regulator approval requirement, the classification of these investments on Schedule DA (Short-Term Investments) and not Schedule BA (Other Long-Term Invested Assets), as well as the removal of the requirements for officers to certify compliance. Mr. Bruggeman requested that the ACLI provide these comments to the Valuation of Securities (E) Task Force as that Task Force would be taking the lead on proposing revisions before they are sent to the Working Group.

g. VitalSource/Bookshelf – Electronic Access to the NAIC AP&P Manual Ms. Gann stated that the NAIC is moving forward with use of the VitalSource/Bookshelf product as the mechanism for electronic access to the Accounting Practices and Procedures Manual (AP&P Manual) for 2019. She stated that the VitalSource/Bookshelf product is an online and downloadable product. With the design of the product, customers can download it to a limited number of devices in order to access the content without an internet connection, but also retain the ability to use their ID and password to access the content online. She stated that the NAIC is working to make the product available as early as possible for 2019, but the NAIC is currently working out contractual and logistical provisions. She stated that the goal is to have the hardcopy and electronic version released around the same time. Ms. Gann stated that the NAIC is also moving forward with the “pre-reserving” process for hardcopy versions of the AP&P Manual. She stated that this approach is intended to ensure that the number of hardcopy manuals acquired are sufficient to meet the need, without an excessive number of extra copies. She stated that the demand of the hardcopy has decreased over time, with more users preferring the electronic access. With the process that is being considered, all regulators and non-regulators that desire a hardcopy would “pre-reserve” their copy, with a limited number of extras available. For anyone that does not pre-reserve a copy, requests would be filled so long as hardcopies remain. Once there are no hardcopies remaining, the customer would be limited to the electronic version. Ms. Gann stated that the pre-reserving process is in place for 2019, but the number of printed copies obtained will not be determined by the number of reserved copies until 2020. Beginning in 2020, anyone who does not pre-reserve a hardcopy will only be able to acquire one to the extent that there are extra copies available.

h. U.S. GAAP Exposures Mr. Stultz stated that NAIC staff haves reviewed four U.S. GAAP exposures and noted that one item had recently been exposed related to the film industry, and it will be reviewed in accordance with the statutory maintenance process. Ms. Bruggeman stated that Feb. 15, 2019, is the public comment deadline for exposures and the submission of new items. Having no further business, the Statutory Accounting Principles (E) Working Group adjourned. G:\FRS\DATA\Stat Acctg\3. National Meetings\A. National Meeting Materials\2019\Spring\Hearing\2 - 11 2018 StatAcctWGmin.docx

Attachment 3 Ref #2018-17

© 2019 National Association of Insurance Commissioners IP 160 -1

Statutory Issue Paper No. 160

Structured Settlements Acquired as Investments

STATUS Exposure Draft – December 2018

Original SSAP: 21R; Current Authoritative Guidance: SSAP No. 21R

Type of Issue: Common Area

SUMMARY OF ISSUE

1. This issue paper introduces substantive revisions to SSAP No. 21—Other Admitted Assets to explicitly include accounting guidance for an insurance reporting entity that acquires (directly or indirectly) structured settlement payment rights as a result of a structured settlement factoring transaction. This item is specific for transactions that only provide a reporting entity the right to receive payments under a structured settlement and does not address situations in which the reporting entity has acquired an insurance product (e.g., life settlement, annuity, etc).

2. The substantive revisions to SSAP No. 21 (illustrated in Exhibit A), reflect the following elements:

a. Period-certain (non-life contingent) structured settlement income streams are admitted assets if the rights to the future payments have been legally acquired in accordance with all state and federal requirements.

b. Life-contingent structured settlement income streams shall be nonadmitted regardless if legally acquired.

DISCUSSION

3. This issue paper intends to provide historical information on the consideration of revisions for structured settlements acquired as investments, as well as the initially adopted revisions.

Overview of Structured Settlements

4. Generally, structured settlements are settlements of tort claims involving physical injuries or physical sickness and workers’ compensation claims, under which settlement proceeds take the form of periodic payments, including scheduled lump sum payments. Structured settlements are often funded by single-premium annuity contracts purchased by the obligor / defendant contractually obligated to make the future settlement payments. In these situations, the original recipient of the structured settlement payments does not own the insurance product (annuity); rather the recipient only has the contractual right to the future cash streams. Structured settlement cash flow streams, by design, include the time value of money, therefore the interest rate is embedded in the payment stream - (they do not pay separate interest). Structured settlement payments to the original recipient are tax-free, and may have tax advantages to subsequent holders.

5. Structured settlement payments are designed in accordance with the financial needs of the original recipient. As such, the amounts and timing of structured settlement income streams are situation specific, and can vary significantly from other structured settlements. As basic examples, cash flow streams can result with monthly payments for a set period of time, or can be designed to provide large cash payments every few years to match anticipated predetermined costs for the injured person. Once the terms of the


IP. No. 160 Issue Paper


structured settlement are set, original recipients do not have the ability to renegotiate the settlement terms. Although they have different payment terms, structured settlements are broadly classified in two buckets:

a. Period Certain / Guaranteed Payments – These structured settlement payments are owed regardless whether the recipient is living at the time the payment is owed. As such, any subsequent purchaser of the income stream can expect to receive a set amount of future cash flow payments.

b. Life Contingent Payments – These structured settlement payments are owed only if the original recipient is living at the time the payment is owed. As such, the extent to which future cash payments will be required under the terms of the structured settlement is uncertain.

6. Original recipients of structured settlements may decide to sell their legal rights to future cash flows in exchange for lump sum payments on the secondary market through factoring companies. (These elections can include the entire future cash flows of the structured settlement, or partial amounts of future cash flows. As an example, if an original beneficiary had legal rights to 36 monthly structured settlement payments, they could elect to only sell one year of their cash flow payments (12 months) to the secondary market and retain the remaining 24 payments.) 7. Factoring companies sell the rights to future cash flows as “investment” products to unrelated third parties, either as individual items or as an interest in a securitized pool of structured settlements. As the original recipient receives a discounted lump sum payment from the acquiring factoring company, the ultimate holder of the future income stream may receive an attractive yield. For period certain structured settlements, the income streams are often considered low risk as they are generally backed by single-premium annuity products purchased by the original obligor from well-capitalized insurance companies that fund / administer the future income stream. (When the original obligor purchases an annuity to fund the payments, the obligor is released from future obligation, and the annuity insurer, which makes the payments as set forth in the structured settlement arrangement, assumes the liability to the beneficiary.) Structured Settlement Transfer Requirements:

8. In order to protect the original recipients of structured settlements from exploitation, state and federal laws have strict requirements on the transfer of structured settlement cash flows and provide tax penalties if the provisions are not followed. Although states have varying additional restrictions (e.g., some prohibit the factoring of worker’s compensation structured settlement benefits), all transfers are subject to the following provisions under the federal Structured Settlement Protection Act (SSPA) and IRS code:

a. All structured settlements must comply with the specific state’s SSPA version, including the rule that the transfer had to be in the seller’s best interest and the best interest of that person’s family or dependents.

b. A 40% excise tax is to be applied to any transfer that was not court-approved. Absent an appropriate court or administrative authoritative order, a party acquiring structured settlement payment rights must pay, up front, a tax equal to 40% of its expected gross profit on the transaction. (This is the difference between the total undiscounted amount of future payments and the amount paid to acquire the cash flow stream.)

9. Risks to acquirers of structured settlement income streams include:


Structured Settlements IP No. 160


a. Future structured settlement income streams are illiquid and may be difficult to sell. If a subsequent holder needs to sell, it may be difficult to do so, and may result with the holder incurring a loss.

b. Acquirers of income streams that are not court approved and properly assigned may not be legal, and the acquirer may not be able to legally obtain the future income streams.

Existing Statutory Accounting Guidance:

10. Existing statutory accounting guidance for structured settlements is not intended to address insurer acquirers of structured settlement income streams as investments. Rather, existing SAP guidance addresses situations in which the insurer is the holder of an annuity that provides future structured settlement payments to the designated recipients. The existing SAP guidance, as it pertains to the use of annuities to fund structured settlements satisfying claim liabilities of the insurer, is adopted from U.S. GAAP. Under the existing statutory accounting guidance, these annuities are reported as “other than invested assets” outside of the investment schedules. As these items are reported as “other than invested assets,” they are excluded from RBC charges and may be outside of state investment limitations. 11. Existing guidance in SSAP No. 21—Other Admitted Assets

Cash Value of Structured Settlements

5. The reporting of the present value of structured settlement annuities where the reporting entity is the owner and payee as described in SSAP No. 65, paragraph 17.a. shall account for the annuity an admitted asset at its net present realizable value. The annuity described is reported as an other-than-invested asset. Income from the annuities shall be recorded as miscellaneous income. The present value of the annuity and the related amortization schedule shall be obtained from the issuing life insurance company at the time the annuity is purchased. When the reporting entity is the owner and payee, no reduction shall be made to loss reserves.

12. Existing guidance in SSAP No. 65—Property and Casualty Contracts

Structured Settlements

17. Structured settlements are periodic fixed payments to a claimant for a determinable period, or for life, for the settlement of a claim. Frequently a reporting entity will purchase an annuity to fund the future payments. Reporting entities may purchase an annuity in which the entity is the owner and payee, or an annuity in which the claimant is the payee. When annuities are purchased to fund periodic fixed payments, they shall be accounted for as follows:

a. When the reporting entity is the owner and payee, no reduction shall be made to loss reserves. The annuity shall be recorded at its present value and reported as an other-than-invested asset. Income from the annuities shall be recorded as miscellaneous income. The present value of the annuity and the related amortization schedule shall be obtained from the issuing life insurance company at the time the annuity is purchased; and

b. When the claimant is the payee, loss reserves shall be reduced to the extent that the annuity provides for funding of future payments. The cost of the annuities shall be recorded as paid losses.

18. Statutory accounting and Generally Accepted Accounting Principles (GAAP) are consistent for the accounting of structured settlement annuities where the reporting entity is the owner and payee, and where the claimant is the owner and payee and the reporting entity has been released from its obligation. GAAP distinguishes structured settlement annuities where the owner is the




claimant and a legally enforceable release from the reporting entity’s liability is obtained from those where the claimant is the owner and payee but the reporting entity has not been released from its obligation. GAAP requires the deferral of any gain resulting from the purchase of a structured settlement annuity where the claimant is the owner and payee yet the reporting entity has not been released from its obligation. Statutory accounting treats these settlements as completed transactions and considers the earnings process complete, thereby allowing for immediate gain recognition.

19. The following information regarding structured settlements shall be disclosed in the financial statements:

a. The amount of reserves no longer carried by the reporting entity because it has purchased annuities with the claimant as payee, and the extent to which the reporting entity is contingently liable for such amounts should the issuers of the annuities fail to perform under the terms of the annuities; and

b. The name, location, and aggregate statement value of annuities due from any life insurer to the extent that the aggregate value of those annuities equal or exceed 1% of policyholders’ surplus. This disclosure shall only include those annuities for which the reporting entity has not obtained a release of liability from the claimant as a result of the purchase of an annuity. The reporting entity shall also disclose whether the life insurers are licensed in the reporting entity’s state of domicile.

20. Refer to the Preamble for further discussion regarding disclosure requirements.

Development of Statutory Accounting Guidance:

13. During the 2018 Summer National Meeting, the Statutory Accounting Principles (E) Working Group exposed proposed revisions to SSAP No. 21 to incorporate accounting guidance for structured settlement income streams acquired by insurers as investments. Elements in this exposure included the following concepts:

a. Structured settlement income streams acquired by insurance reporting entities, when the reporting entity is not the owner or payee of a corresponding annuity, through acquisition of an interest in a securitized pool that meets the scope requirements of SSAP No. 43R—Loan-backed and Structured Securities shall follow the accounting and reporting guidance of that SSAP. (This is not a change from existing guidance.)

b. Period certain (non-life contingent) structured settlement income streams acquired by insurance reporting entities, when the reporting entity is not the owner or payee of a corresponding annuity, as individual investments (not as securitizations), are considered other long-term investments, captured on Schedule BA, and permitted as admitted assets when the structured settlement income stream has been legally acquired in accordance with all state and federal requirements. These acquisition requirements include court-approval of the income stream transfer from the original beneficiary. If a structured settlement income stream has not been legally transferred from the original beneficiary to the insurer acquirer, the structured settlement shall be fully nonadmitted by the insurance reporting entity. (Unless there is legal transfer, nonadmittance is required as the acquirer may not be entitled to receive the future income streams.) In addition to nonadmittance, the insurer acquirer must also appropriately report the excise tax required under the IRS code.

c. Life contingent structured settlement income streams acquired by insurance reporting entities, when the reporting entity is not the owner or payee of a corresponding annuity, as




individual investments (not as securitizations), are considered other long-term investments, captured on Schedule BA, and shall be fully nonadmitted. (With life contingent income streams, nonadmittance is required as it is uncertain whether any future income streams will be received. As such, these items should not be considered admitted assets available for policyholder claims under SSAP No. 4—Assets and Nonadmitted Assets.)

d. The proposed guidance should not be inferred to “life settlement” acquisitions. Life settlements are not structured settlements. A life settlement transaction is when an investor purchases an insurance policy from an insured and continues to pay the premium payments so that when the insured event occurs (e.g., death of the insured), the investor receives the death benefit. In life settlements, the investor often pays the insured an amount greater than the cash surrender value of the insurance policy, with an expectation that the insured event will occur in a timeframe that the death benefit received is greater than the cost of the purchase price and the future premium payments to keep the policy active. As detailed in this agenda item, a structured settlement is the legal right to future cash flows, and does not reflect the acquisition of an insurance policy. Unlike life settlements, there is no cash surrender value to structured settlements, and payments under the structured settlement are not renegotiable once set.

14. With the noted elements for structured settlements, the following provisions for reporting structured settlement income streams as other long-term invested assets, were also exposed:

a. Structured settlement income streams shall be separately reported on Schedule BA, unless

they can be aggregated with other structured settlements with similar terms and payout streams.

b. Structured settlement income streams may be submitted for a credit analysis to the SVO and reported on Schedule BA with an NAIC designation as a “fixed or variable interest rate investment that has the underlying characteristics of a bond, mortgage loans or other fixed income instrument.” (These individual structured settlement income streams may not be reported with a CRP rating as filing exempt.)

c. Structured settlement income streams shall be initially reported at cost. This cost generally reflects the net present value of the future payment streams with an embedded fixed-rate yield. As the structured settlement income streams are received, reporting entities shall reduce the book adjusted carrying value to reflect the receipt of the income stream (partial payment on Schedule BA, Part 3) as well as corresponding investment income for the fixed rate spread.

15. In response to the exposure, comments from interested parties’ were received stating support for the proposed accounting and reporting guidance. Additionally, the Valuation of Securities (E) Task Force and NAIC Investment Analysis Office (IAO) indicated support for the proposal to establish statutory accounting guidance for structured settlements. The information received from the NAIC IAO identified that purchases of cash streams by assignment of the right to payments due under structured settlements are already filed with, and designated for credit quality, by the SVO. 16. During the 2018 Fall National Meeting, after considering the interested parties’ comments and the information from the Task Force and NAIC IAO, the Working Group adopted the exposed revisions to SSAP No. 21, incorporating explicit guidance for the accounting and reporting of structured settlements. As part of the adoption action, the Working Group identified the revisions as a substantive change, and designated a December 31, 2018 effective date for the revisions. With the substantive classification, the Working Group directed NAIC staff to prepare an issue paper for historical documentation. With the




effective date in the SSAP, the substantive revisions will be effective prior to the availability of this issue paper. 17. As issue papers are not represented in the Statutory Hierarchy (see Section IV of the Preamble), the subsequent consideration and adoption of this issue paper will not have any impact of the effective date of the substantive revisions adopted to SSAP No. 21 during the 2018 Fall National Meeting.

EXHIBIT A – Substantive Revisions to SSAP No. 21—Other Admitted Assets. Note: These substantive revisions to SSAP No. 21 were adopted during the Fall National Meeting with an effective date of Dec. 31, 2018. This issue paper has been prepared strictly for historical documentation. Only paragraphs with noted revisions are captured below. All remaining paragraphs will be renumbered accordingly.

Cash Value of Structured Settlements – Reporting Entity Owner and Payee of Annuity

5. The reporting of the present value of structured settlement annuities where the reporting entity is the owner and payee as described in SSAP No. 65, paragraph 17.a. shall account for the annuity an admitted asset at its net present realizable value. The annuity described is reported as an other-than-invested asset. Income from the annuities shall be recorded as miscellaneous income. The present value of the annuity and the related amortization schedule shall be obtained from the issuing life insurance company at the time the annuity is purchased. When the reporting entity is the owner and payee, no reduction shall be made to loss reserves. Structured Settlements – Reporting Entity Acquires Legal Right to Receive Payments

6. A reporting entity that acquires (directly or indirectly) structured settlement payment rightsFN1 through a factoring company, excluding securitizations captured in SSAP No. 43R, shall report the acquisition as follows:

a. Period-certain (non-life contingent) structured settlement income streams shall be reported as other long-term invested assetsFN2, and are admitted assets if the rights to the future payments from a structured settlement has been legally acquired in accordance with all state and federal requirements. If the structured settlement has not met all legal requirements, including the court-approved transfer from the original recipient, then the reporting entity shall recognize the appropriate excise tax obligation and the structured settlement shall be nonadmitted.

b. Life contingent structured settlement income streams shall be reported as other long-term invested assets on Schedule BA and shall be nonadmitted. (Nonadmittance is required regardless if the right to future payments has been legally transferred.)

New Footnote 1: This guidance is specific to acquired structured settlement income streams (legal right to receive future payments from a structured settlement) and does not capture accounting and reporting guidance for the acquisition of any insurance product (e.g., life settlement, annuities, etc.). New Footnote 2: Reporting entities that hold qualifying structured settlement payment rights shall report the security on Schedule BA either as an “any other class of asset” or as a “fixed or variable interest rate investment with underlying characteristics of other fixed income instruments” if the structured settlement payment right qualifies for reporting within that reporting line (e.g., NAIC designation).




7. Structured settlement income streams shall be initially reported at cost, including brokerage and other related fees. The cost generally reflects the net present value of the future payment streams with an embedded fixed-rate yield. Structured settlements income streams shall always be acquired at a discount, meaning the amount to be received shall be greater than the acquisition cost. As the structured settlement payments are earned, reporting entities shall reduce the book adjusted carrying value (BACV) to reflect the accrual of the income stream (proportionate payment of original cost on Schedule BA, Part 3) as well as corresponding investment income for the fixed rate spread. (For example, if a reporting entity acquires a structured settlement that equates to three payments, as each payment is received, the BACV would be decreased proportionately, with the pay-down recognized as a disposal.)

a. Impairment—Determination as to the impairment of a structured settlement income stream shall be based on current information and events. When a reporting entity does not expect to receive a structured settlement payment, the structured settlement shall be considered impaired. Once a structured settlement income stream is impaired, the entire amount of the reported structured settlement investment (including subsequent rights to cash flows related to the impaired structured settlement) shall be written off in accordance with SSAP No. 5R—Liabilities, Contingencies and Impairments of Assets. If the structured settlement payment is not expected to be received due to the credit quality of the issuer (e.g., the insurer / obligor making structured settlement payments), all structured settlement income streams expected from that obligor shall also be deemed impaired and written off in accordance with SSAP No. 5R. (For example, if a reporting entity acquired the rights to receive three structured settlement payments in a single brokerage transaction, when the first payment is not expected to be received, then all three structured settlement payments related to this acquisition shall be written off. If the reason for the impairment is due to the obligor, and the reporting entity had acquired other structured settlement income streams that are due from that obligor, all structured settlement income streams due from that obligor shall also be written off as impaired.)

b. Investment Income – The discount on acquired structured settlements shall be

recognized as an adjustment of yield over the period of time until the cash payments under the structured settlements are received to produce a constant effective yield each year.

Effective Date and Transition

2120. This statement is effective for years beginning January 1, 2001. A change resulting from the adoption of this statement shall be accounted for as a change in accounting principle in accordance with SSAP No. 3—Accounting Changes and Corrections of Errors. The guidance for structured settlements when the reporting entity acquires the legal right to receive payments is effective December 31, 2018.

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Statutory Accounting Principles (E) Working Group Maintenance Agenda Submission Form

Form A

Issue: ASU 2018-07, Improvements to Nonemployee Share-Based Payment Accounting Check (applicable entity): P/C Life Health

Modification of existing SSAP New Issue or SSAP Interpretation

Description of Issue: This agenda item has been drafted to consider ASU 2018-07: Improvements to Nonemployee Share-Based Payment Accounting (ASU 2018-07) for statutory accounting. This ASU was issued in June 2018 as part of the FASB simplification initiative and intends to reduce cost and complexity, with improvements for financial reporting for share-based payments issued to nonemployees. The ASU expands the scope of ASC Topic 718 – Stock Compensation, which previously only included share-based payments to employees, to include share-based payments issued to nonemployees for goods and services. This results with substantial alignment for share-based payments to employees and nonemployees, and results with ASC Subtopic 505-50 – Equity Payments to Nonemployees being superseded. Prior to the issuance of the ASU, the U.S. GAAP guidance for share-based payments was significantly different for employees and nonemployees. With the ASU, the U.S. GAAP guidance in ASC Topic 718 will be applicable to all share-based payments except for specific guidance on inputs to an option pricing model and the attribution of cost (that is, the period of time over which share-based payment awards vest and the pattern of cost recognition over that period). The amendments in the ASU are effective for public companies Jan. 1, 2019. For all other companies, the amendments are effective Dec. 31. 2020. At transition, reporting entities are required to measure their impacted nonemployee awards at fair value through a cumulative effect adjustment as of the beginning of the year. For statutory accounting assessments, prior U.S. GAAP guidance related to share-based payments has been predominantly adopted with modification in SSAP No. 104R—Share-Based Payments. This includes both the prior U.S. GAAP guidance for employee awards and the U.S. GAAP guidance for nonemployee awards. Statutory accounting modifications to the U.S. GAAP guidance have mostly pertained to statutory terms and concepts. (For example, statutory reporting lines, nonadmittance of prepaid assets, etc.) Existing Authoritative Literature:

• SSAP No. 104R—Share-Based Payments – This statement provides statutory accounting principles for transactions in which an entity exchanges equity instruments to employees and nonemployees in share-based payment transactions. The current guidance in SSAP No. 104R adopts with modification ASC Topic 718 – Stock Compensation and Subtopic 505-50 – Equity Payments to Non-Employees.

Activity to Date (issues previously addressed by the Working Group, Emerging Accounting Issues (E) Working Group, SEC, FASB, other State Departments of Insurance or other NAIC groups): In 2017, the Working Group adopted with modification ASU 2016-09, Improvements to Employee Share-Based Payment Accounting and incorporated the U.S. GAAP simplifications from that project into SAP. Information or issues (included in Description of Issue) not previously contemplated by the Working Group: None



Convergence with International Financial Reporting Standards (IFRS): IFRS 2 addresses share-based payments issued employees and other parties. For transactions with other parties, the share-based payment is measured at fair value of the goods or services unless that fair value is not reliably measurable, in which case the fair value of the award is used. The fair value is measured at the date the entity obtains the goods or the counterparty renders the service. For the remaining updates in the ASU, generally IFRS standards neither have comparable guidance, nor explicitly permit practical expedients. Staff Recommendation: NAIC staff recommends that the Working Group move this item to the active listing, categorized as nonsubstantive, and expose revisions to adopt with modification ASU 2018-07 in SSAP No. 104R. These revisions will eliminate the specific section for nonemployee awards from SSAP No. 104R, and include guidance for nonemployees with the share-based payment guidance for employees in the same manner as U.S. GAAP. With the revisions proposed to SSAP No. 104R, revisions are also proposed to SSAP No. 95—Nonmonetary Transactions to update previously adopted U.S. GAAP guidance, as well as to update references in Appendix D. With exposure, comments are also requested on three questions:

1. NAIC staff recommends that this item be categorized as nonsubstantive, as the resulting share-based payment concepts have previously been reflected within SSAP No. 104R, and it is not expected that the revisions for nonemployees will have a significant impact on insurance reporting entities. NAIC staff requests comments during the exposure period on whether the proposed revisions from ASU 2018-07 to SSAP No. 104R should be considered a substantive change.

2. NAIC staff recommends removal of Exhibit B, which detailed the minimum information to be disclosed. As the disclosures are in the annual audited financial statements only, NAIC staff believes that reference to the U.S. GAAP guidance for the detailed disclosures is all that is needed in the SSAP. NAIC staff requests comments on whether this disclosure detail should remain in the SSAP.

3. NAIC staff notes that the original adoption of SSAP No. 104 referenced continued application of SSAP No. 13 for awards outstanding that were originally accounted for under SSAP No. 13. Although this information has not been removed in the proposed revisions to adopt ASU 2018-07, NAIC staff requests comments on whether this guidance is still applicable, and if this transition guidance can be deleted.

Due to the extent of proposed changes to SSAP No. 104R, the revisions are detailed in a separate document. The proposed statutory modifications to ASU 2018-07 are consistent with prior modifications for share-based payment guidance:

a. GAAP references to “public and nonpublic” guidance have been eliminated. The revisions propose to require entities that report share-payment transactions under U.S. GAAP as “public” entities to report the same measurement amounts for SAP. (For example, if a reporting entity reports “fair value” under U.S. GAAP, that entity shall not utilize a “calculated or intrinsic” amount under statutory accounting.)

b. Prepaid assets are nonadmitted.

c. GAAP references are revised to reference applicable statutory accounting guidance.

d. GAAP reporting line items (either explicitly provided in the statement or adopted by reference – such as the GAAP implementation guidance) are replaced to reference applicable statutory annual statement line items. (For example, GAAP references to “other comprehensive income” shall be reflected within “Surplus - Unassigned Funds”).

e. GAAP guidance to calculate earnings per share is not applicable to statutory accounting and has not been included within the statement.



f. GAAP effective date and transition, and transition disclosures have not been incorporated. Reporting entities shall follow the effective date and transition elements provided within SSAP No. 104R.

g. Inclusion of guidance specific to statutory for consolidated/holding company plans.

To facilitate review, the revised SSAP No. 104R identifies the corresponding ASC reference for each paragraph (and each paragraph referenced). Additionally, areas where there are SAP modification are noted and shaded. (The ASC citations and staff notes are not proposed to be included in the final version.) With the intent to converge with U.S. GAAP, except when modified for SAP, revisions were also captured to reflect the U.S. GAAP guidance as presented in the ASC. This included the addition of guidance not previously captured in SSAP No. 104, or the rearrangement of guidance to be in the same location as it is found in the ASC. (In most situations in which paragraphs have been rearranged, only actual revisions to the guidance are noted as changes. The tracked change to the paragraph numbers shows the location of the guidance in SSAP No. 104R.) With the revisions reflected in SSAP No. 104R, the following references would also be required:

• Issue Paper No. 146—Share-Based Payments with Nonemployees will be revised with a notation that the guidance reflected within has been superseded with the adoption of ASU 2018-07, and is no longer reflected in SSAP No. 104R.

• Appendix D will identify the following pre-codification standards as superseded and no longer adopted in statutory accounting:

o FASB Emerging Issues Task Force 96-18: Accounting for Equity Instruments That are Issued to Other Than Employees for Acquiring, or in Conjunction with Selling Goods or Services;

o FASB Emerging Issues Task Force 00-08: Accounting by a Grantee for an Equity Instrument to Be Received in Conjunction with Providing Goods or Services;

o FASB Emerging Issues Task Force 00-18: Accounting Recognition for Certain Transactions Involving Equity Instruments Granted to Other Than Employees; and

• The Appendix D FASB Codification to Pre-Codification GAAP will remove ASC 505-50 as that Subtopic has been superseded.

Review of Other SSAPs: In addition to guidance impacting share-based payment transactions, ASU 2018-07 also incorporated revisions to other sections of the FASB ASC. In accordance with the NAIC staff review of these changes, revisions are proposed to SSAP No. 95—Nonmonetary Transactions, to reflect the changes to ASC 470-20, but are not considered necessary for the other impacted ASC sections. The guidance previously reflected in SSAP No. 95 was originally contained in EITF 01-01: Accounting for a Convertible Instrument Granted or Issued to a Nonemployee for Goods or Services or a Combination of Goods or Services and Cash with modifications to incorporate guidance regarding the measurement date from EITF 96-18: Accounting for Equity Instruments That Are Issued to Other Than Employees for Acquiring, or in Conjunction with Selling, Goods or Services. (The guidance from Issue 1 in EITF 96-18 was adopted in SSAP No. 95.) With the revisions from ASU 2018-07, the guidance in SSAP No. 95 is proposed to be revised to reflect the current U.S. GAAP guidance. This includes revisions to update the measurement date guidance previously adopted, as the provisions from EITF 96-18 were superseded with the issuance of ASU 2018-07. (The measurement date guidance in EITF 96-18 was reflected in ASC 505-50-30-11, and the entire ASC 505-50 was



superseded with the issuance of ASU 2018-07.) The revisions also reflect provisions from the EITF 01-01 and FSP EITF 00-19-2: Accounting for Registration Payment Arrangements adopted under SAP, but not previously reflected in SSAP No. 95. (FSP ETIF 00-19-2 was noted as adopted in SSAP No. 5R, but the guidance in ASC 470-20-30-23 reflects aspects of this guidance as well.) Proposed Revisions to SSAP No. 95:

Accounting for a Convertible Instrument Granted or Issued to a Nonemployee for Goods or Services or a Combination of Goods or Services and Cash

17. The guidance in paragraph 18 (470-20-25-18 and 470-20-25-19) addresses a convertible instrument that is issued or granted to a nonemployee in exchange for goods or services or a combination of goods or services and cash. The convertible instrument contains a nondetachable conversion option that permits the holder to convert the instrument into the issuer's stock. (470-20-25-17)

18. Once an instrument is considered "issued" for accounting purposes, pursuant to SSAP No. 104R, distributions paid or payable should be characterized as financing costs (that is, as interest or dividends). Prior toBefore that time, distributions paid or payable under the instrument should be characterized as a cost of the underlying goods or services. (470-20-25-18) the accretion of a discount on a convertible instrument resulting from a beneficial conversion option does not begin until the instrument is issued for accounting purposes. If the convertible instrument is issued for cash proceeds that indicate that the instrument includes a beneficial conversion feature and the purchaser of the instrument also provides (receives) goods or services to (from) the issuer that are the subject of a separate contract, the convertible instrument shall be recognized with a corresponding increase or decrease in the purchase or sales price of the goods or services. (470-20-25-19)

19. To determine the fair value of a convertible instrument granted as part of a share-based payment transaction to a nonemployee in exchange for goods or services that is equity in form or, if debt in form, that can be converted into equity instruments of the issuer, the entity shall first apply SSAP No. 104R. (470-20-30-22)

20. The requirements of this statement shall then be applied such that the fair value determined pursuant to SSAP No. 104R is considered the proceeds from issuing the instrument for purposes of determining whether a beneficial conversion option exists. The measurement of the intrinsic value, if any, of the conversion option (for separate recognition as additional paid-in capital – 470-20-25-5) shall then be computed by comparing the proceeds received for the instrument (the instrument's fair value under SSAP No. 104R) to the fair value of the common stock that the grantee would receive upon exercising the conversion option. For purposes of determining whether a convertible instrument contains a beneficial conversion feature for separate recognition as additional paid-in capital (470-20-25-5), an entity shall use the effective conversion price based on the proceeds allocated to the convertible instrument to compute the intrinsic value, if any, of the embedded conversion option. (470-20-30-23)

(Note – The US GAAP guidance references paragraph 470-20-25-5 as noted in this paragraph. Under that guidance, the embedded beneficial conversion feature presented in a convertible instrument shall be recognized at issuance by allocating a portion of the proceeds equal to the intrinsic value of that feature to additional paid in capital. Reference to this separate recognition has been included for statutory purposes.)

21. If a convertible instrument is issued in exchange for goods or services, the measurement dateSSAP No. 104R should shall be used both to measure the fair value of the convertible instrument and to measure the intrinsic value, if any, of the conversion option as of the date the convertible instrument granted as part of a share-based payment award becomes fully vested. That is, in measuring the intrinsic value of the conversion option for separate recognition as additional paid-in capital (470-20-25-5), the fair value of the issuer’s equity securities into which the instrument can be converted shall be determined as of the date the convertible instrument granted as part of a share-based payment award becomes fully vested, and not on the commitment date. (470-20-30-24)

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17. The measurement date is the earlier of either of the following:

a. The date at which a commitment for performance by the counter party to earn the convertible instrument is reached (a “performance commitment”)

a. The date at which the counter party’s performance is complete

18.22. If a convertible instrument is issued in exchange for goods or services (or a combination of goods or services and cash), Both of the following guidelines for determining the fair value of convertible instruments shall be used to measure the fair value of that instrument: (470-20-30-25)

a. Consistent with this SSAP, the fair value of an equity instrument shall be determined based on either the fair value of the consideration received or the fair value of the equity instruments issued, whichever is more reliably measurable. Accordingly, if the fair value of the goods or services received is reliably determinable, and the issuer has not recently issued similar convertible instruments, the fair value of the goods or services should be used to measure the transaction.

b.a. Recent issuances of similar convertible instruments for cash to parties that only have an investor relationship with the issuer may provide the best evidence of fair value of the convertible instrument.

c.b. If reliable information about (a) or (b), above, is not available, the fair value of the convertible instrument should be deemed to be no less than the fair value of the equity shares into which it can be converted.

19. Whether distributions paid or payable on a convertible instrument issued or granted in exchange for goods or services (or a combination of goods or services and cash) should be recognized as a financing cost (that is, interest expense or dividends) or as a cost of the goods or services received or receivable from the counterparty.

20.17. Once an instrument is considered "issued" for accounting purposes, distributions paid or payable should be characterized as financing costs. Prior to that time, distributions paid or payable under the instrument should be characterized as a cost of the underlying goods or services. the accretion of a discount on a convertible instrument resulting from a beneficial conversion option does not begin until the instrument is issued for accounting purposes.

21.23. In cases where a companya reporting entity issues a convertible instrument for cash proceeds that indicate that the instrument includes a beneficial conversion option, and the purchaser of the instrument provides (receives) goods or services to (from) the issuer that are the subject of a separate contract, the terms of both the agreement for goods or services and the convertible instrument should shall be evaluated to determine whether their separately stated pricing is equal to the fair value of the goods or services and convertible instrument. If that is not the casesituation, the terms of the respective transactions should be adjusted by measuring . Thethe convertible instrument initially should be recognized at its fair value with a corresponding increase or decrease in the purchase or sales price of the goods or services. It may be difficult to evaluate whether the separately stated pricing of a convertible instrument is equal to its fair value. If an instrument issued to a goods or services provider (or purchaser) is part of a larger issuance, a substantive investment in the issuance by unrelated investors (who are not also providers or purchasers of goods or services) may provide evidence that the price charged to the goods or services provider represents the fair value of the convertible instrument. (470-20-30-26)

Other Impacted ASC Guidance from ASU 2018-07. As noted, corresponding SAP revisions have not been deemed necessary for these updated ASC sections:

• ASC 230-10 – Cash Flows – The ASU revisions reflect minor wording revisions in presentation guidance not duplicated into statutory accounting.



• ASC 260-10 – Earnings Per Share – Guidance for EPS is not applicable to statutory accounting.

• ASC 323-10 – Equity Method and Joint Ventures – The ASU revisions update the references to the prior guidance, expanding references to employees and non-employees and using terminology for “share-based payment awards” in lieu of “stock based compensation.” These references are not captured in SSAP No. 48—Joint Ventures, Partnerships and Limited Lability Companies.

• ASC 480-10 – Distinguishing Liabilities from Equity – The ASU revisions remove reference to 505-50 and incorporate minor wording changes to guidance not reflected in statutory accounting.

• ASC 606-10 – Revenue from Contracts with Customers – The ASU revisions includes reference to equity instruments granted as consideration payable. The guidance in ASC 606 was rejected for statutory accounting.

• ASC 805-30 – Business Combinations – Goodwill or Gain from Bargain Purchase, Including Consideration Transferred – The revisions incorporate minor wording changes and update implementation illustrations. The GAAP guidance for business combinations was rejected (or still pending review) for statutory accounting.

• ASC 815-10 – Derivatives and Hedging – The revisions remove reference to ASC 505-50 and update presentation and implementation guidance not reflected in statutory accounting.

• ASC 820-10 – Fair Value Measurement – The ASU revisions remove reference to ASC 505-50. Staff Review Completed by: Julie Gann, NAIC Staff – August 2018 Status: On November 15, 2018, the Statutory Accounting Principles (E) Working Group moved this item to the active listing, categorized as nonsubstantive, and exposed proposed revisions to SSAP No. 95—Nonmonetary Transactions (as shown above) and SSAP No. 104R—Share-Based Payments (detailed in separate document), to adopt with modification ASU 2018-07, Improvements to Nonemployee Share-Based Payment Accounting. The revisions to SSAP No. 104R eliminate the specific section for nonemployee awards and include guidance for nonemployees with the share-based payment guidance for employees. The revisions to SSAP No. 95 update previously adopted U.S. GAAP guidance to reflect the revisions from ASU 2018-07.

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© 2019 National Association of Insurance Commissioners 104R-1

Statement of Statutory Accounting Principles No. 104 - Revised

Share-Based Payments

STATUS

Type of Issue ...................................... Common Area Issued .................................................. August 11, 2012; Substantively revised December 15, 2013 Effective Date ..................................... January 1, 2013; Substantive revisions detailed in Issue Paper No. 146

effective December 31, 2014 Affects ................................................ Supersedes SSAP No. 13; Nullifies and incorporates INT 99-17,

INT 00-06, INT 00-32 and INT 01-14 Affected by ......................................... No other pronouncements Interpreted by ..................................... No other pronouncements Relevant Appendix A Guidance ......... None

STATUS ....................................................................................................................................................................... 1

SCOPE OF STATEMENT ......................................................................................................................................... 3

SUMMARY OF ISSUE ............................................................................................................................................... 3 Scope and Scope Exceptions ......................................................................................................................................... 3 Initial Measurement – ASC 718-10-30........................................................................................................................ 10 Subsequent Measurement – ASC 718-10-35 ............................................................................................................... 16 Subsequent Measurement - Awards Classified as Equity (718-20) ............................................................................. 20 Subsequent Measurement - Awards Classified as Liabilities - (718-30) ..................................................................... 23 Accounting for Tax Effects of Share-Based Arrangements – (718-740) ..................................................................... 24 Employee Share Purchase Plans (718-50) ................................................................................................................... 27 Consolidated / Holding Company Plans ...................................................................................................................... 29 Relevant Literature ...................................................................................................................................................... 35 Effective Date and Transition ...................................................................................................................................... 38

REFERENCES .......................................................................................................................................................... 39 Other ............................................................................................................................................................................ 39 Relevant Issue Papers .................................................................................................................................................. 40

EXHIBIT A – CLASSIFICATION CRITERIA: LIABILITY OR EQUITY ...................................................... 41

Classification Criteria .................................................................................................................................................. 41 Distinguishing Liability from Equity – Scope and Scope Exclusions ......................................................................... 43


SSAP No. 104R Statement of Statutory Accounting Principles




Share-Based Payments SSAP No. 104R


SCOPE OF STATEMENT

1. This statement provides statutory accounting principles for transactions in which an entity exchanges its equity instruments to employees and non-employees1 in share-based payment transactions, including employee share purchase plans and deferred compensation obligations held in a rabbi trust. This statement does not provide statutory accounting principles for employee share ownership plans; those transactions are addressed in SSAP No. 12—Employee Stock Ownership Plans.

SUMMARY OF ISSUE

2. The objective of accounting for transactions under share-based payment arrangements with employees is to recognize in the financial statements the employee goods or services received in exchange for equity instruments issued granted or liabilities incurred and the related cost to the entity as those goods or services are consumedreceived. The objective of accounting for share-based payment transactions with non-employees is to recognize in the financial statements the most reliably measurable fair values of such transactions. This statement uses the terms compensation and payment in their broadest senses to refer to the consideration paid for employee goods or services and goods and services regardless of whether the supplier is an employee. (718-10-10-1)

3. The accounting for all share-based payment transactions shall reflect the rights conveyed to the holder of the instruments and the obligations imposed on the issuer of the instruments, regardless of how those transactions are structured. This statement requires that the cost resulting from all share-based payment transactions be recognized in the financial statements. This statement establishes fair value as the measurement objective in accounting for share-based payment arrangements and requires all entities to apply a fair-value-based measurement method2 in accounting for share-based payment transactions with employees except for equity instruments held by employee stock ownership plans. (718-10-10-2.) (SAP Modification – Deleted reference to ESOP as those items are not in scope of this SSAP.)

Scope and Scope Exceptions

4. Employees - This statement applies to all share-based payment transactions in which a grantor an entity acquires employee goods or services to be used or consumed in the grantor’s own operations by issuing (or offering to issue) its shares, share options, or other equity instruments or by incurring liabilities to an employee or nonemployee that meet either of the following conditions: (718-10-15-3)

1 Guidance referencing grantees is intended to be applicable to recipients of both employee and nonemployee awards, and guidance referencing employees or nonemployees is only applicable to those specific types of awards. 2 Accounting pronouncements that require fair value measurements but that are excluded from SSAP No. 100R—Fair Value is limited to this statement addressing share-based payment transactions. The fair value measurement objective in this statement is generally consistent with the fair value measurement objective in SSAP No. 100R. However, for certain share-based payment transactions with employees, the measurements at the grant date are fair-value-based measurements, not fair value measurements. Although some measurements in this statement are fair value measurements, for practical reasons this statement is excluded in its entirety from SSAP No. 100R. To be consistent with GAAP guidance on share-based payment transactions, the definition of fair value for use in this statement is: “the amount at which the asset (or liability) could be bought (or incurred) or sold (settled) in a current transaction between willing parties, that is, other than in a forced or liquidation sale.” Observable market prices of identical or similar equity or liability instruments in active markets are the best estimate of fair value and, if available, should be used as the basis for the measurement of equity and liability instruments awarded in a share-based payment transaction with employees.

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a. The amounts are based, at least in part3, on the price of the entity’s shares or other equity instruments.

b. The awards require or may require settlement by issuing the entity’s equity shares or other equity instruments.

5. Share-based payments awarded to a grantee an employee of the reporting entity by a related party or other holder of an economic interest in the entity as compensation for goods or services provided to the reporting entity are share-based payment transactions to be accounted for under this statement unless the transfer is clearly for a purpose other than compensation for goods or services to the reporting entity. The substance of such a transaction is that the economic interest holder makes a capital contribution to the reporting entity, and that entity makes a share-based payment to its employeethe grantee in exchange for services rendered or goods received. An example of a situation in which such a transfer is not compensation is a transfer to settle an obligation of the economic interest holder to the employee grantee that is unrelated to goods or services to be used or consumed in a grantor’s own operations. employment by the entity. (718-10-15-4)

6. Non-Employees - This statement applies to all share-based payment transactions in which an entity acquires goods or services by issuing (or offering to issue) its shares, share-options, or other equity instruments or by incurring liabilities to a goods or service provider that is not an employee in amounts based, at least in part4, on the price of the entity’s shares or other equity instruments or that require or may require settlement by issuing the entity’s equity shares or other equity instrument.

7.6. The guidance in this statement does not apply to: (718-10-15-5 and 718-10-15-5A.)

a. Eequity instruments held by an employee stock ownership plan. Such equity instruments shall follow the guidance in SSAP No. 12—Employee Stock Ownership Plans (SSAP No. 12).

b. The guidance in this statement does not apply to tTransactions involving equity instruments granted either issued to a lender or investor that provides financing to the issuer or issued in a business combination.

c. Transactions involving equity instruments granted in conjunction with selling goods or services to customers as part of a contract (for example, sales incentives). If consideration payable to a customer is payment for a distinct good or service from the customer, then the entity shall account for the purchase of the good or service in the same way it accounts for other purchases from suppliers. Therefore, share-based payment awards granted to a customer for a distinct good or service to be used or consumed in the grantor’s own operations are accounted for under this statement.

7. Paragraphs 115-122 applies to all entities that use employee share purchase plans. This is a separate and distinct scope from share-based payment transactions captured in paragraph 4. (718-50-15-1, 718-50-15-2)

8. The guidance for share-based payments to employees is contained in paragraphs 9-112115, and the guidance for share-based payments to non-employees is contained in paragraphs 113-140116-143. The guidance for employees is further divided as follows:

3 The phrase “at least in part” is used because an award of share-based compensation may be indexed to both the price of an entity’s shares and something else that is neither the price of the entity’s shares nor a market, performance, or service condition. 4 See Footnote 2










a. Compensatory Share-Based Payment Plans: Paragraphs 9-102105.

b. Noncompensatory Share-Based Payment Plans: Paragraphs 103-109106-112.

c. Consolidated/Holding Company Share-Based Payment Plans: Paragraphs 110-112113-115.

Employee Share-Based Payments - Compensatory

Recognition – ASC 718-10-25Principle for Share-Based Payment Transactions

9. Stock purchase and stock option plans that do not meet the criteria of a non-compensatory plan (paragraphs 103-109106-112) and are not otherwise excluded from the scope of this statement shall be classified as compensatory and follow the recognition, measurement and disclosure guidance in paragraphs 10-103105.

10.8. An entity shall recognize the goods acquired or services received in a share-based payment transaction with an employeewhen it obtains the goods or as services are received, as further described in paragraphs 9-10 (718-10-25-2A through 25-2B). Employee services themselves are not recognized before they are received. The entity shall recognize either a corresponding increase in equity or a liability, depending on whether the instruments granted satisfy the equity or liability classification criteria (see paragraphs 14-2715-29) (718-10-25-6 through 25-19A). As the services are consumed, the entity shall recognize the related cost. (718-10-25-2)

9. Employee services themselves are not recognized before they are received. As the services are consumed, the entity shall recognize the related cost. For example, as services are consumed, the cost usually is recognized in determining net income of that period, for example, as expenses incurred for employee services. In some circumstances, the cost of services may be initially capitalized as part of the cost to acquire or construct another asset, such as inventory, and later recognized in the income statement when that asset is disposed of or consumed. This statement refers to recognizing compensation cost rather than compensation expense because any compensation cost that is capitalized as part of the cost to acquire or construct an asset would not be recognized as compensation expense in the income statement. (718-10-25-2A)

10. Transactions with nonemployees in which share-based payment awards are granted in exchange for the receipt of goods or services may involve a contemporaneous exchange of the share-based payment awards for goods or services or may involve an exchange that spans several financial reporting periods. Furthermore, by virtue of the terms of the exchange with the grantee, the quantity and terms of the share-based payment awards to be granted may be known or not known when the transaction arrangement is established because of specific conditions dictated by the agreement (for example, performance conditions). Judgment is required in determining the period over which to recognize cost, otherwise known as the nonemployee’s vesting period. (718-10-25-2B)

11. This guidance does not address the period(s) or the manner (that is, capitalize versus expense) in which an entity granting the share-based payment award (the purchaser or grantor) to a nonemployee shall recognize the cost of the share-based payment award that will be issued, other than to require that a nonadmitted prepaid asset or expense be recognized (or previous recognition reversed) in the same period(s) and in the same manner as if the grantor had paid cash for the goods or services instead of paying with or using the share-based payment award. (718-10-25-2C) (SAP Modification – Incorporated reference to clarify that a recognized asset representing the cost of the share-based payment award would be a nonadmitted prepaid asset under SAP. This is consistent with the modification from ASC 505-50.)




11.12. The accounting for all share-based payment transactions shall reflect the rights conveyed to the holder of the instruments and the obligations imposed on the issuer of the instruments, regardless of how those transactions are structured. For example, the rights and obligations embodied in a transfer of equity shares to an employee for a note that provides no recourse to other assets of the employee grantee (that is, other than the shares) are substantially the same as those embodied in a grant of equity share options. Thus, that transaction shall be accounted for as a substantive grant of equity share options. (718-10-25-3)

12.13. Assessment of both the rights and obligations in a share-based payment award and any related arrangement and how those rights and obligations affect the fair value of an award requires the exercise of judgment in considering the relevant facts and circumstances. (718-10-25-4)

Determining the Grant Date

13.14. As a practical accommodation, in determining the grant date of an award subject to this statement, assuming all other criteria in the grant date definition have been met, a mutual understanding of the key terms and conditions of an award to an individual employee grantee shall be presumed to exist at the date the award is approved in accordance with the relevant corporate governance requirements (that is, by the Board or management with the relevant authority) if both of the following conditions are met: (718-10-25-5)

a. The award is a unilateral grant and, therefore, the recipient does not have the ability to negotiate the key terms and conditions of the award with the employergrantee.

b. The key terms and conditions of the award are expected to be communicated to an individual recipient within a relatively short time period from the date of approval. A relatively short time period is that period in which an entity could reasonably complete all actions necessary to communicate the awards to the recipients in accordance with the entity's customary human resource practices.

Determining Whether to Classify a Financial Instrument as a Liability or As Equity

14.15. Paragraphs 14-2715-29 (718-10-25-6 through 718-10-25-19A), provide guidance for determining whether certain financial instruments awarded in share-based payment transactions are liabilities. In determining whether an instrument not specifically discussed in those paragraphs shall be classified as a liability or as equity, an entity shall apply statutory accounting principles applicable to financial instruments issued in transactions not involving share-based payment. (718-10-25-6) (SAP Modification – Reference to SAP instead of GAAP.)

15.16. Unless paragraphs 16-2717-29 (718-10-25-8 through 25-19A) require otherwise, an entity shall apply the classification criteria in Exhibit A, as they are effective at the reporting date, in determining whether to classify as a liability a freestanding financial instrument given to an employeea grantee in a share-based payment transaction. Paragraphs 68-7276-81 (718-10-35-9 through 35-14) provide criteria for determining when instruments subject to this statement subsequently become subject to other applicable statutory accounting principles. (718-10-25-7) (SAP Modification – Reference to SAP instead of GAAP.)

16.17. In determining the classification of an instrument, an entity shall take into account the classification requirements that are effective for that specific entity at the reporting date as established by Exhibit A. In addition, a call option written on an instrument that is not classified as a liability under those classification requirements also shall be classified as equity so long as those equity classification requirements for the entity continue to be met, unless liability classification is required under the provisions of paragraphs 20-21 19 and 20(718-10-25-11 through 25-12). (718-10-25-8)








17.18. Exhibit A does not apply to outstanding shares embodying a conditional obligation to transfer assets, for example, shares that give the employee grantee the right to require the employer grantor to repurchase them for cash equal to their fair value (puttable shares). A put right may be granted to the employee grantee in a transaction that is related to a share-based compensation arrangement. If exercise of such a put right would require the entity to repurchase shares issued under the share-based compensation arrangement, the shares shall be accounted for as puttable shares. A puttable (or callable) share awarded to an employee grantee as compensation shall be classified as a liability if either of the following conditions is met: (718-10-25-9)

a. The repurchase feature permits the employee grantee to avoid bearing the risks and rewards normally associated with equity share ownership for a reasonable period of time from the date the good is delivered or the requisite service is rendered and the share is issued. An employeeA grantee begins to bear the risks and rewards normally associated with equity share ownership when all the goods are delivered or all the requisite service has been rendered and the share is issued. A repurchase feature that can be exercised only upon the occurrence of a contingent event that is outside the employee’s grantee’s control (such as an initial public offering) would not meet this condition until it becomes probable that the event will occur within the reasonable period of time.

b. It is probable that the employer grantor would prevent the employee grantee from bearing those risks and rewards for a reasonable period of time from the date the share is issued.

For this purpose, a period of six months or more is a reasonable period of time.

18.19. A puttable (or callable) share that does not meet either of those conditions shall be classified as equity. (718-10-25-10)

19.20. Options or similar instruments on shares shall be classified as liabilities if either of the following conditions is met: (718-10-25-11)

a. The underlying shares are classified as liabilities.

b. The entity can be required under any circumstances to settle the option or similar instrument by transferring cash or other assets. A cash settlement feature that can be exercised only upon the occurrence of a contingent event that is outside the employee’s grantee’s control (such as an initial public offering) would not meet this condition until it becomes probable that event will occur.

20.21. For example, a reporting entity that is a Securities and Exchange Commission (SEC) registrant may grant an option to an employeea grantee that, upon exercise, would be settled by issuing a mandatorily redeemable share. Because the mandatorily redeemable share would be classified as a liability under Exhibit A (as well as under SSAP No. 72—Surplus and Quasi-Reorganizations), the option also would be classified as a liability. (718-10-25-12) (SAP Modification – Reference to SAP guidance.)

21.22. An award may be indexed to a factor in addition to the entity’s share price. If that additional factor is not a market, performance, or service condition, the award shall be classified as a liability for purposes of this statement, and the additional factor shall be reflected in estimating the fair value of the award. (718-10-25-13)

22.23. For this purpose, an award of equity share options granted to an employeea grantee of an entity’s foreign operation that provides for a fixed exercise price denominated either in the foreign operation’s functional currency or in the currency in which the foreign operation’s employee’s pay is denominated shall not be considered to contain a condition that is not a market, performance, or service condition.







Therefore, such an award is not required to be classified as a liability if it otherwise qualifies as equity. For example, equity share options with an exercise price denominated in euros granted to employees or nonemployees of a U.S. entity’s foreign operation whose functional currency is the euro are not required to be classified as liabilities if those options otherwise qualify as equity. In addition, such options granted to employees and nonemployees are not required to be classified as liabilities even if the functional currency of the foreign operation is the U.S. dollar, provided that the foreign operation’s employees to whom the options are granted are paid in euros. (718-10-25-14)

24. For purposes of applying paragraph 22 (718-10-25-13), a share-based payment award with an exercise price denominated in the currency of a market in which a substantial portion of the entity’s equity securities trades shall not be considered to contain a condition that is not a market, performance, or service condition. Therefore, in accordance with that paragraph, such an award shall not be classified as a liability if it otherwise qualifies for equity classification. For example, a parent entity whose functional currency is the Canadian dollar grants equity share options with an exercise price denominated in U.S. dollars to grantees of a Canadian entity with the functional and payroll currency of the Canadian dollar. If a substantial portion of the parent entity’s equity securities trades on a U.S. dollar denominated exchange, the options are not precluded from equity classification. (718-10-25-14A)

23.25. The accounting for an award of a share-based payment shall reflect the substantive terms of the award and any related arrangement. Generally, the written terms provide the best evidence of the substantive terms of an award. However, an entity’s past practice may indicate that the substantive terms of an award differ from its written terms. For example, an entity that grants a tandem award under which a grantee an employee receives either a stock option or a cash-settled stock appreciation right is obligated to pay cash on demand if the choice is the grantee’semployee’s, and the entity thus incurs a liability to the employeegrantee. In contrast, if the choice is the entities, it can avoid transferring its assets by choosing to settle in stock, and the award qualifies as an equity instrument. However, if an entity that nominally has the choice of settling awards by issuing stock predominately settles in cash or if the entity usually settles in cash whenever a granteean employee asks for cash settlement, the entity is settling a substantive liability rather than repurchasing an equity instrument. In determining whether an entity that has the choice of settling an award by issuing equity shares has a substantive liability, the entity also shall consider whether: (718-10-25-15)

a. It has the ability to deliver the shares. (Federal securities law generally requires that transactions involving offerings of shares under employee share option arrangements be registered, unless there is an available exemption. For purposes of this statement, such rRequirements to deliver registered shares do not, by themselves, imply that an entity does not have the ability to deliver shares and thus do not require an award that otherwise qualifies as equity to be classified as a liability.)

b. It is required to pay cash if a contingent event occurs (see paragraphs 19-2020-21) (718-10-25-11 through 25-12).

24.26. A provision that permits grantees employees to effect a broker-assisted cashless exercise of part or all of an award of share options through a broker does not result in liability classification for instruments that otherwise would be classified as equity if both of the following criteria are satisfied: (718-10-25-16)

a. The cashless exercise requires a valid exercise of the share options.

b. The employee grantee is the legal owner of the shares subject to the option (even though the employee grantee has not paid the exercise price before the sale of the shares subject to the option).






25.27. A broker that is a related party of the entity must sell the shares in the open market within a normal settlement period, which generally is three days, for the award to qualify as equity. (718-10-25-17)

26.28. Similarly, a provision for either direct or indirect (through a net-settlement feature) repurchase of shares issued upon exercise of options (or the vesting of nonvested shares), with any payment due employees withheld to meet the employer’s statutory withholding requirements resulting from the exercise, does not, by itself, result in liability classification of instruments that otherwise would be classified as equity. However, if the amount that is withheld, or may be withheld at the employer’s discretion, is in excess of the maximum statutory tax rates in the employee’s applicable jurisdictions, the entire award shall be classified and accounted for as a liability. That is, to qualify for equity classification, the employer must have a statutory obligation to withhold taxes on the employee’s behalf, and the amount withheld cannot exceed the maximum statutory tax rates in the employees’ applicable jurisdictions. The maximum statutory tax rates are based on the applicable rates of the relevant tax authorities (for example, federal, state, and local), including the employee’s share of payroll or similar taxes, as provided in tax law, regulations, or the authority’s administrative practices, not to exceed the highest statutory rate in that jurisdiction, even if that rate exceeds the highest rate that may be applicable to the specific award grantee. (718-10-25-18)

27.29. Cash paid to a tax authority by an employer grantor when withholding shares from a grantee’san employee’s award for tax withholding purposes shall be considered cash flows from financing activities in the Statement of Cash Flows as it represents an outlay to reacquire the entity’s equity instruments. (230-10-45-15) (718-10-25-19A)

Modification of an Award (Note – Moved to paragraph 85)

28.1. An entity shall account for the effects of a modification as described in paragraphs 76-79, unless all of the following are met:

a. The fair value (or calculated value or intrinsic value, if such an alternative measurement method is used) of the modified award is the same as the fair value (or calculated value or intrinsic value, if such an alternative measurement method is used) of the original award immediately before the original award is modified. If the modification does not affect any of the inputs to the valuation technique that the entity uses to value the award, the entity is not required to estimate the value immediately before and after the modification.

b.a. The vesting conditions of the modified award are the same as the vesting conditions of the original award immediately before the original award is modified.

c.a. The classification of the modified award as an equity instrument or a liability instrument is the same as the classification of the original award immediately before the original award is modified.





Market, Performance, and Service Conditions

29.30. Accruals of compensation cost for an award with a performance condition shall be based on the probable outcome of that performance condition—compensation cost shall be accrued if it is probable that the performance condition will be achieved and shall not be accrued if it is not probable that the performance condition will be achieved. If an award has multiple performance conditions (for example, if the number of options or shares an employeea grantee earns varies depending on which, if any, of two or more performance conditions is satisfied), compensation cost shall be accrued if it is probable that a performance condition will be satisfied. In making that assessment, it may be necessary to take into account the interrelationship of those performance conditions. (718-10-25-20)

30.31. If an award requires satisfaction of one or more market, performance, or service conditions (or any combination thereof), compensation cost shall be recognized if the good is delivered or the requisite service is rendered, and no compensation cost shall be recognized if the good is not delivered or the requisite service is not rendered. (718-10-25-21)

Payroll Taxes

31.32. A liability for employee payroll taxes on employee stock compensation shall be recognized on the date of the event triggering the measurement and payment of the tax to the taxing authority (for a nonqualified option in the United States, generally the exercise date). Payroll taxes, even though directly related to the appreciation on stock options, are operating expenses and shall be reflected as such in the statement of operations. (718-10-25-22 & 718-10-25-23)

Initial Measurement – ASC 718-10-30

32.33. While some of the material in paragraphs 32-3533-62 (Section 718-10-30) was written in terms of awards classified as equity, it applies equally to awards classified as liabilities. The subparagraphs of paragraph 37 provide specific guidance for awards classified as liabilities. (718-10-30-1)

33.34. A share-based payment transaction with employees shall be measured based on the fair value (or in certain situations specified in this statement, a calculated value or intrinsic value) of the equity instruments issued. (718-10-30-2)

34.35. An entity shall account for the compensation cost from share-based payment transactions with employees in accordance with the fair-value-based method set forth in this statement. That is, the cost of goods obtained or services received from employees in exchange for awards of share-based compensation generally shall be measured based on the grant-date fair value of the equity instruments issued or on the fair value of the liabilities incurred. The cost of goods obtained or services received by an entity as consideration for equity instruments issued or liabilities incurred in share-based compensation transactions with employees shall be measured based on the fair value of the equity instruments issued or the liabilities settled. The portion of the fair value of an instrument attributed to employee service goods obtained or services received is net of any amount that a grantee an employee pays (or becomes obligated to pay) for that instrument when it is granted. For example, if a granteean employee pays $5 at the grant date for an option with a grant-date fair value of $50, the amount attributed to employee servicegoods or services provided by the grantee is $45. (718-10-30-3)

35.36. However, this statement provides certain exceptions (paragraph 5255) (718-10-30-21) to that measurement method if it is not possible to reasonably estimate the fair value of an award at the grant date. A reporting entity that is not able to reasonably estimate the fair value of its equity options and similar instruments may measure its liabilities under share-based payment arrangements at intrinsic value (see paragraphs 3738.b. and 5152)( 718-30-30-2 and 718-10-30-20). (718-10-30-4) (SAP Modification – Under GAAP this guidance is limited to nonpublic entities.)

















Terms of the Award Affect Fair Value

36.37. The terms of a share-based payment award and any related arrangement affect its value and, except for certain explicitly excluded features, such as a reload feature, shall be reflected in determining the fair value of the equity or liability instruments granted. For example, the fair value of a substantive option structured as the exchange of equity shares for a nonrecourse note will differ depending on whether the granteeemployee is required to pay nonrefundable interest on the note. (718-10-30-5)

Measurement Objective – Fair Value at Grant Date

37.38. The measurement objective for equity instruments awarded to granteesemployees is to estimate the fair value at the grant date of the equity instruments that the entity is obligated to issue when grantees have delivered the good or employees have rendered the requisite service and satisfied any other conditions necessary to earn the right to benefit from the instruments (for example, to exercise share options). That estimate is based on the share price and other pertinent factors, such as expected volatility, at the grant date. The following subparagraphs provide guidance regarding the measurement objective and measurement date for liability instruments:(718-10-30-6)

a. Measurement Objective and Measurement Date for Awards Classified as Liabilities: At the grant date, the measurement objective for liabilities incurred under share-based compensation arrangements is the same as the measurement objective for equity instruments awarded to employees grantees as described in paragraph 3738 (718-10-30-6). However, the measurement date for liability instruments is the date of settlement. (718-30-35-1)

b. Intrinsic Value Option Measurement Objective and Measurement Date for Awards Classified as Liabilities: of Entities Subject to Paragraph 51: An entity subject to paragraph 51A reporting entity shall make a policy decision of whether to measure all of its liabilities incurred under share-based payment arrangements at fair value or to measure all such liabilities at intrinsic value. Consistent with the guidance in paragraph 51, an entity that is not able to reasonably estimate the fair value of its equity share options and similar instruments because it is not practicable for it to estimate the expected volatility of its share price shall make a policy choice of whether to measure its liabilities under share-based payment arrangements at calculated value or at intrinsic value. An entity can make the accounting policy election in this paragraph, to change its measurement of all liability-classified awards from fair value to intrinsic value in accordance with the adoption of ASU 2016-09, Improvements to Employee Share-Based Payment Accounting (ASU 2016-09) in paragraph 143 of this statement. (718-30-30-2 & 2A – SAP Modification: Shaded guidance is deleted for SAP as it was a transition provision for application of ASU 2016-19. This guidance is also scheduled to be deleted from U.S. GAAP.)

38.39. The fair value of an equity share option or similar instrument shall be measured based on the observable market price of an option with the same or similar terms and conditions, if one is available. (718-10-30-7)

39.40. Such market prices for equity share options and similar instruments granted in share-based payment transactions to employees are frequently not available; however, they may become so in the future. As such, the fair value of an equity share option or similar instrument shall be estimated using a valuation technique such as an option-pricing model. For this purpose, a similar instrument is one whose fair value differs from its intrinsic value, that is, an instrument that has time value. For example, a share

















appreciation right that requires net settlement in equity shares has time value; an equity share does not. (718-10-30-8 and 718-10-30-9)

Factors or Restrictions that Impact the Determination of Fair Value at Grant Date

Vesting Versus Nontransferability

40.41. To satisfy the measurement objective in paragraph 3738 (718-10-30-6), the restrictions and conditions inherent in equity instruments awarded to employees are treated differently depending on whether they continue in effect after the requisite service period or the nonemployee’s vesting period. A restriction that continues in effect after an entity has issued awardsinstruments to employees, such as the inability to transfer vested equity share options to third parties or the inability to sell vested shares for a period of time, is considered in estimating the fair value of the instruments at the grant date. For equity share options and similar instruments, the effect of nontransferability (and nonhedgeability, which has a similar effect) is taken into account by reflecting the effects of grantees’ employees’ expected exercise and postvesting employment termination behavior in estimating fair value (referred to as an option’s expected term). (718-10-30-10)

42. On an award-by-award basis, an entity may elect to use the contractual term as the expected term when estimating the fair value of a nonemployee award to satisfy the measurement objective in paragraph 38 (718-10-30-6). Otherwise, an entity shall apply the guidance in this statement in estimating the expected term of a nonemployee award, which may result in a term less than the contractual term of the award. (718-10-30-10A)

43. When a reporting entity chooses to measure a nonemployee share-based payment award by estimating its expected term and applies the practical expedient in paragraph 53 (718-10-30-20A), it must apply the practical expedient to all nonemployee awards that meet the condition in paragraph 54 (718-10-30-20B). However, a reporting entity may still elect, on an award-by-award basis, to use the contractual term as the expected term as described in paragraph 42 (718-10-30-10A). (718-10-30-10B) (SAP Modification – Under U.S. GAAP this paragraph is limited to nonpublic entities.)

Forfeitability

41.44. A restriction that stems from the forfeitability of instruments to which employees grantees have not yet earned the right, such as the inability either to exercise a nonvested equity share option or to sell nonvested shares, is not reflected in estimating the fair value of the related instruments at the grant date. Instead, those restrictions are taken into account by recognizing compensation cost only for awards for which grantees deliver the good or employees render the requisite service. (718-10-30-11)

Performance of Service Conditions

42.45. Awards of share-based employee compensation ordinarily specify a performance condition or a service condition (or both) that must be satisfied for a grantee an employee to earn the right to benefit from the award. No compensation cost is recognized for instruments that employees forfeited because a service condition or a performance condition is not satisfied (that isfor example, instruments for which the good is not delivered or requisite service is not rendered). (718-10-30-12)

43.46. The fair-value-based method described in paragraphs 3738 and 40-4441-47 (718-10-30-6 and 718-10-30-10 through 30-14) uses fair value measurement techniques, and the grant-date share price and other pertinent factors are used in applying those techniques. However, the effects on the grant-date fair value of service and performance conditions that apply only during the employee’s requisite service period or a nonemployee’s vesting period are reflected based on the outcomes of those conditions. This statement refers to the required measure as fair value. (718-10-30-13)









Market Conditions

44.47. Some awards contain a market condition. The effect of a market condition is reflected in the grant-date fair value of an award. (Valuation techniques have been developed to value path-dependent options as well as other options with complex terms. Awards with market conditions, as defined in this statement, are path-dependent options.) Compensation cost thus is recognized for an award with a market condition provided that the good is delivered or the requisite service is rendered, regardless of when, if ever, the market condition is satisfied. (718-10-30-14)

Market, Performance, and Service Conditions That Affect Conditions Other than Vesting or Exercisability

45.48. Market, performance, and service conditions (or any combination thereof) may affect an award’s exercise price, contractual term, quantity, conversion ratio, or other factors that are considered in measuring an award’s grant-date fair value. A grant-date fair value shall be estimated for each possible outcome of such a performance or service condition, and the final measure of compensation cost shall be based on the amount estimated at the grant date for the condition or outcome that is actually satisfied. (718-10-30-15)

Nonvested or Restricted Shares

46.49. A nonvested equity share or nonvested equity share unit awarded to an employee shall be measured at its fair value as if it were vested and issued on the grant date. (718-10-30-17)

47.50. Nonvested shares granted in share-based payment transactions to employees usually are referred to as restricted shares, but this statement reserves that term for fully vested and outstanding shares whose sale is contractually or governmentally prohibited for a specified period of time. (718-10-30-18)

48.51. A restricted share awarded to a granteean employee, that is, a share that will be restricted after the employee grantee has a vested right to it, shall be measured at its fair value, which is the same amount for which a similarly restricted share would be issued to third parties. (718-10-30-19)

52. 51.An reporting entity may not be able to reasonably estimate the fair value of its equity share options, nonemployee awards and similar instruments because it is not practicable for the reporting entity it to estimate the expected volatility of its share price. In that situation, the entity shall account for its equity share options, nonemployee awards and similar instruments based on a value calculated using the historical volatility of an appropriate industry sector index instead of the expected volatility of the entity’s share price (the calculated value). A reporting entity’s use of calculated value shall be consistent between employee share-based payment transactions and nonemployee share-based payment transactions. Throughout the remainder of this statement, provisions that apply to accounting for share options, nonemployee awards and similar instruments at fair value also apply to calculated value. (718-10-30-19A and 20 combined) (SAP Modification – Under GAAP this guidance is for nonpublic entities.)

49.53. For an award that meets the conditions in paragraph 5054 (718-10-30-20B), an reporting entity may make an entity-wide accounting policy election to estimate the expected term using the following practical expedient: (718-10-30-20A) (SAP Modification – Under GAAP this guidance is for nonpublic entities.)

a. If vesting is only dependent upon a service condition, an reporting entity shall estimate the expected term as the midpoint between the employee’s requisite service period or the nonemployee’s vesting period and the contractual term of the award.







b. If vesting is dependent upon satisfying a performance condition, an entity first would determine whether the performance condition is probable of being achieved.

i. If the reporting entity concludes that the performance condition is probable of being achieved, the entity shall estimate the expected term as the midpoint between the employee’s requisite service period or the nonemployee’s vesting period and the contractual term.

ii. If the reporting entity concludes that the performance condition is not probable of being achieved, the reporting entity shall estimate the expected term as either:

(a) The contractual term if the service period is implied (that is, the requisite service period or the nonemployee’s vesting period is not explicitly stated but inferred based on the achievement of the performance condition at some undetermined point in the future).

(b) The midpoint between the employee’s requisite service period or the nonemployee’s vesting period and the contractual term if the requisite service period is stated explicitly.

50.54. An reporting entity that elects to apply the practical expedient in paragraph 4953 (718-10-30-20A) shall apply the practical expedient to a share option or similar award that has all of the following characteristics: (718-10-30-20B) (SAP Modification – Under GAAP this guidance is for nonpublic entities.)

a. The share option or similar award is granted at the money.

b. The employee grantee has only a limited time to exercise the award (typically 30-90 days) if the employee grantee no longer provides goods or terminates service after vesting.

c. The employee grantee can only exercise the award. The employee grantee cannot sell or hedge the award.

d. The award does not include a market condition.

A reporting entity that elects to apply the practical expedient in paragraph 53 (718-10-30-20A) may always elect to use the contractual term as the expected term when estimating the fair value of a nonemployee award as described in paragraph 43 (718-10-30-10A). However, a reporting entity must apply the practical expedient in paragraph 53 (718-10-30-20A) for all nonemployee awards that have all the characteristics listed in this paragraph if that reporting entity does not elect to use the contractual term as the expected term and that reporting entity elects the accounting policy election to apply the practical expedient in paragraph 53 (718-10-30-20A).

Calculated Value for Entities Not Reasonably Able to Estimate Fair Value

51. (SAP Note - Moved to paragraph 52)

Difficulty of Estimation

52.55. It should be possible to reasonably estimate the fair value of most equity share options and other equity instruments at the date they are granted. However, in rare circumstances, it may not be possible to




reasonably estimate the fair value of an equity share option or other equity instrument at the grant date because of the complexity of its terms. (718-10-30-21)

53.56. An equity instrument for which it is not possible to reasonably estimate fair value at the grant date shall be accounted for based on its intrinsic value (paragraph 7484) (718-20-35-1) for measurement after issue date. (718-10-30-22)

Reload and Contingent Features

54.57. The fair value of each award of equity instruments, including an award of options with a reload feature (reload options), shall be measured separately based on its terms and the share price and other pertinent factors at the grant date. The effect of a reload feature in the terms of an award shall not be included in estimating the grant-date fair value of the award. Rather, a subsequent grant of reload options pursuant to that provision shall be accounted for as a separate award when the reload options are granted. (718-10-30-23)

55.58. A contingent feature of an award that might cause a grantee an employee to return to the entity either equity instruments earned or realized gains from the sale of equity instruments earned for consideration that is less than fair value on the date of transfer (including no consideration), such as a clawback feature shall not be reflected in estimating the grant-date fair value of an equity instrument. (718-10-30-24)

Requisite Service Period

56.59. An entity shall make its initial best estimate of the requisite service period at the grant date (or at the service inception date, if that date precedes the grant date) and shall base accruals of compensation cost on that period. (718-10-30-25)

57.60. The initial best estimate and any subsequent adjustment to that estimate of the requisite service period for an award with a combination of market, performance, or service conditions shall be based on an analysis of all of the following: (718-10-30-26)

a. All vesting and exercisability conditions

b. All explicit, implicit, and derived service periods

c. The probability that performance or service conditions will be satisfied.

Market, Performance, and Service Conditions

58.61. Performance or service conditions that affect vesting are not reflected in estimating the fair value of an award at the grant date because those conditions are restrictions that stem from the forfeitability of instruments to which granteesemployees have not yet earned the right. However, the effect of a market condition is reflected in estimating the fair value of an award at the grant date (paragraph 4447) (718-10-30-14). For purposes of this statement, a market condition is not considered to be a vesting condition, and an award is not deemed to be forfeited solely because a market condition is not satisfied. (718-10-30-27)

59.62. In some cases, the terms of an award may provide that a performance target that affects vesting could be achieved after an employee completes the requisite service period or a nonemployee satisfies a vesting period. That is, the employee grantee would be eligible to vest in the award regardless of whether the employee grantee is rendering service or delivering goods on the date the performance target is achieved. A performance target that affects vesting and that could be achieved after an employee’s requisite service period or a nonemployee’s vesting period shall be accounted for as a performance





condition. As such, the performance target shall not be reflected in estimating the fair value of the award at the grant date. Compensation cost shall be recognized in the period in which it becomes probable that the performance target will be achieved and should represent the compensation cost attributable to the period(s) for which the requisite service or goods already haves been providedrendered. If the performance target becomes probable of being achieved before the end of the employee’s requisite service period or the nonemployee’s vesting period, the remaining unrecognized compensation cost for which requisite service or goods haves not yet been providedrendered shall be recognized prospectively over the remaining employee’s requisite service period or the nonemployee’s vesting period. The total amount of compensation cost recognized during and after the employee’s requisite service period or the nonemployee’s vesting period shall reflect the number of awards that are expected to vest based on the performance target and shall be adjusted to reflect those awards that ultimately vest. An entity that has an accounting policy to account for forfeitures when they occur in accordance with paragraph 6267 or paragraph 71 (718-10-35-1D or 718-10-35-3) shall reverse compensation cost previously recognized, in the period the award is forfeited, for an award that is forfeited before completion of the employee’s requisite service period or the nonemployee’s vesting period. The employee’s requisite service period and the nonemployee’s vesting period ends when the granteeemployee can cease rendering service or delivering goods and still be eligible to vest in the award if the performance target is achieved. The stated vesting period (which includes the period in which the performance target could be achieved) may differ from the employee’s requisite service period or the nonemployee’s vesting period. (718-10-30-28)

Subsequent Measurement – ASC 718-10-35

60.63. Guidance that equally applies to both liabilities and equity is generally found in paragraphs 61-7363-83 (ASC 718-10-35). Paragraphs 74-8384-94 (ASC 718-20-35) provide additional subsequent measurement guidance for awards classified as equity and paragraphs 84-8795-98 (ASC 718-30-35) provide additional subsequent measurement guidance for awards classified as liabilities.

Recognition of Nonemployee Compensation Costs

113.64. Reporting entities that grant share-based payments to non-employeesA grantor shall recognize the goods acquired or services received in a share-based payment transaction with nonemployees as part of the transaction when it obtains the goods or as services are received. A grantor may need to recognize a nonadmitted prepaid asset before it actually receives goods or services if it first exchanges a share-based payment for an enforceable right to receive those goods or services. Nonetheless, the goods or services shall not be recognized before they are received. (The nonadmitted asset recognized prior to the goods and services would be eliminated upon receipt of the goods and services that are recognized.) (718-10-35-1A – used to be 505-50-25-6 – Paragraph 113 of SSAP No. 104R.) (SAP Modification – Reference nonadmitted prepaid asset.)

114.65. If fully vested, nonforfeitable equity instruments are issued granted at the date the grantor and grantee nonemployee enter into an agreement for goods or services (no specific performance is required by the grantee nonemployee to retain those equity instruments), then, because of the elimination of any obligation on the part of the counterparty nonemployee to earn the equity instruments, a measurement date has been reached. A grantor shall recognize the equity instruments when they are grantedissued (in most cases, when the agreement is entered into). Whether the corresponding cost is an immediate expense or a nonadmitted prepaid asset depends on the specific facts and circumstances. A grantor may conclude that an asset (other than a note or a receivable) has been received in return for fully-vested, nonforfeitable nonemployee share-based payment awardsequity instruments that are issued at the date the grantor and grantee nonemployee enter into an agreement for goods or services (and no specific performance is required by the grantee nonemployee in order to retain those equity instruments). Such an asset shall not be displayed as contra-equity by the grantor of the equity instrument. The transferability (or lack thereof) of the awardsequity instruments shall not affect the balance sheet display of this nonadmitted prepaid




asset. This guidance is limited to transactions in which awardsequity instruments are transferred to nonemployeesother than employees in exchange for goods or services. (718-10-35-1B, moved from 505-50-25-7 and 718-10-45-3 – Paragraph 114 in SSAP No. 104R) (SAP Modification – Reference nonadmitted prepaid asset.)

115.66. An entity may grant fully vested, nonforfeitable equity instruments that are exercisable by the nonemployeegrantee only after a specified period of time if the terms of the agreement provide for earlier exercisability if the grantee nonemployee achieves specified performance conditions. Any measured cost of the transaction shall be recognized in the same period(s) and in the same manner as if the entity had paid cash for the goods or services or used cash rebates as a sales discount instead of paying with, or using, the share-based payment awardsequity instruments. (718-10-35-1C, moved from 505-50-25-8 – Paragraph 115 in SSAP No. 104R)

67. The total amount of compensation cost recognized for share-based payment awards to nonemployees shall be based on the number of instruments for which a good has been delivered or a service has been rendered. To determine the amount of compensation cost to be recognized in each period, an entity shall make an entity-wide accounting policy election for all nonemployee share-based payment awards to do either of the following: (New 718-10-35-1D)

a. Estimate the number of forfeitures expected to occur. The entity shall base initial accruals of compensation cost on the estimated number of nonemployee share-based payment awards for which a good is expected to be delivered or service is expected to be rendered. The entity shall revise that estimate if subsequent information indicates that the actual number of instruments is likely to differ from previous estimates. The cumulative effect on current and prior periods of a change in the estimates shall be recognized in compensation cost in the period of the change.

b. Recognize the effect of forfeitures in compensation cost when they occur. Previously recognized compensation cost for a nonemployee share-based payment award shall be reversed in the period that the award is forfeited.

116.68. A recognized nonadmitted prepaid asset or, expense, or sales discount shall not be reversed if a stock option that the nonemployeecounterparty has the right to exercise expires unexercised. As noted in paragraph 117, the goods and services shall not be recognized before they are received. (718-10-35-1E, moved from 505-50-25-9 - Paragraph 116 in SSAP No. 104R) (SAP Modification – Reference nonadmitted prepaid asset.)

117.69. A grantor shall recognize either a corresponding increase in equity or a liability, depending on whether the instruments granted satisfy the equity or liability classification criteria established in paragraphs 14-2715-29 (718-10-25-6 through 25-19A) for employee share-based payments. As the goods or services are disposed of or consumed, the grantor shall recognize the related cost, unless other statutory accounting principles require costs to be expensed when incurred. In these instances, when the goods or services are received, the grantor shall recognize the related cost. (718-10-35-1F, moved from 505-50-25-10 – Paragraph 117 of SSAP No. 104R)

Recognition of Employee Compensation Costs Over the Requisite Service

70. The compensation cost for an award of share-based employee compensation classified as equity shall be recognized over the requisite service period, with a corresponding credit to equity (generally, paid-in capital). The requisite service period is the period during which an employee is required to provide service in exchange for an award, which often is the vesting period. The requisite service period is estimated based on an analysis of the terms of the share-based payment award. (718-10-35-2)








71. The total amount of compensation cost recognized at the end of the requisite service period for an award of share-based compensation shall be based on the number of instruments for which the requisite service has been rendered (that is, for which the requisite service period has been completed). Previously recognized compensation cost shall not be reversed if an employee share option (or share unit) for which the requisite service has been rendered expires unexercised (or unconverted). To determine the amount of compensation cost to be recognized in each period, an entity shall make an entity-wide accounting policy election for all employee share-based payment awards to do either of the following: (718-10-35-3)

a. Estimate the number of awards for which the requisite service will not be rendered (that is, estimate the number of forfeitures expected to occur). The entity shall base initial accruals of compensation cost on the estimated number of instruments for which the requisite service is expected to be rendered. The entity shall revise that estimate if subsequent information indicates that the actual number of instruments is likely to differ from previous estimates. The cumulative effect on current and prior periods of a change in the estimated number of instruments for which the requisite service is expected to be or has been rendered shall be recognized in compensation cost in the period of the change.

b. Recognize the effect of awards for which the requisite service is not rendered when the award is forfeited (that is, recognize the effect of forfeitures in compensation cost when they occur). Previously recognized compensation cost for an award shall be reversed in the period that the award is forfeited.

72. An entity shall reverse previously recognized compensation cost for an award with a market condition only if the requisite service is not rendered. (718-10-35-4)

Estimating the Requisite Service Period

61.73. The requisite service period for employee awards may be explicit or it may be implicit, being inferred from an analysis of other terms in the award, including other explicit service or performance conditions. The requisite service period for an award that contains a market condition can be derived from certain valuation techniques that may be used to estimate grant-date fair value. An award may have one or more explicit, implicit, or derived service periods; however, an award may have only one requisite service period for accounting purposes unless it is accounted for as in-substance multiple awards. An award with a graded vesting schedule that is accounted for as in-substance multiple awards is an example of an award that has more than one requisite service period (paragraph 6776) (718-10-35-8). (718-10-35-5)

62.74. The service inception date is the beginning of the requisite service period. If the service inception date precedes the grant date, accrual of compensation cost for periods before the grant date shall be based on the fair value of the award at the reporting date. In the period in which the grant date occurs, cumulative compensation cost shall be adjusted to reflect the cumulative effect of measuring compensation cost based on fair value at the grant date rather than the fair value previously used at the service inception date (or any subsequent reporting date). (718-10-35-6)

63.75. An entity shall adjust that initial best estimate in light of changes in facts and circumstances. Whether and how the initial best estimate of the requisite service period is adjusted depends on both the nature of the conditions identified in paragraph 5760 (718-10-30-26) and the manner in which they are combined, for example, whether an award vests or becomes exercisable when either a market or a performance condition is satisfied or whether both conditions must be satisfied. (718-10-35-7)

Graded Vesting Awards












64.76. An entity shall make a policy decision about whether to recognize compensation cost for an employee award with only service conditions that has a graded vesting schedule in either of the following ways: (718-10-35-8)

a. On a straight-line basis over the requisite service period for each separately vesting portion of the award as if the award was, in-substance, multiple awards.

b. On a straight-line basis over the requisite service period for the entire award (that is, over the requisite service period of the last separately vesting portion of the award).

However, the amount of compensation cost recognized at any date must at least equal the portion of the grant-date value of the award that is vested at that date.

Awards May Become Subject to Other Guidance

65.77. Paragraphs 69-7279-82 (718-10-35-10 through 35-14) are intended to apply to those instruments issued in share-based payment transactions with employees and nonemployees accounted for under this statement, and to instruments exchanged in a business combination for share-based payment awards of the acquired business that were originally granted to employees grantees of the acquired business and are outstanding as of the date of the business combination. Instruments issued, in whole or in part, as consideration for goods or services other than employee service shall not be considered to have been issued in exchange for employee service when applying the guidance in those paragraphs, irrespective of the employment status of the recipient of the award on the grant date. (718-10-35-9)

78. A convertible instrument award granted to a nonemployee in exchange for goods or services to be used or consumed in a grantor’s own operations is subject to recognition and measurement guidance in this statement until the award is fully vested. Once vested, a convertible instrument award that is equity in form, or debt in form, that can be converted into equity instruments of the grantor, shall follow recognition and measurement through reference to other applicable statutory accounting guidance. (718-10-35-9A) (SAP Modification – Reference SAP instead of GAAP.)

66.79. A freestanding financial instrument issued to a granteean employee in exchange for goodspast or future employee services received (or to be received) that is subject to initial recognition and measurement guidance within this statement shall continue to be subject to the recognition and measurement provisions of this statement throughout the life of the instrument, unless its terms are modified when the holder after a nonemployee vests in the award and is no longer providing goods or services, or a grantee is no longer an employee. Only for purposes of this paragraph, a modification does not include a change to the terms of an award if that change is made solely to reflect an equity restructuring provided that both of the following conditions are met: (718-10-35-10)

a. There is no increase in fair value of the award (or the ratio of intrinsic value to the exercise price of the award is preserved, that is, the holder is made whole) or the antidilution provision is not added to the terms of the award in contemplation of an equity restructuring.

b. All holders of the same class of equity instruments (for example, stock options) are treated in the same manner.

67.80. Other modifications of that instrument that take place when the holder after a nonemployee vests in the award and is no longer providing goods or services, or a grantee is no longer an employee shall be subject to the modification guidance in paragraph 7282 (718-10-35-14). Following modification, recognition and measurement of the instrument shallshould be determined through reference to other










applicable statutory accounting principles. (718-10-35-11) (SAP Modification – Reference SAP instead of GAAP.)

68.81. Once the classification of an instrument is determined, the recognition and measurement provisions of this statement shall be applied until the instrument ceases to be subject to the requirements discussed in paragraph 6979 (718-10-35-10). Other applicable statutory accounting principles apply to a freestanding financial instrument that was issued under a share-based payment arrangement but that is no longer subject to this statement. This guidance is not intended to suggest that all freestanding financial instruments shall be accounted for as liabilities, but rather that freestanding financial instruments issued in share-based payment transactions may become subject to other applicable statutory accounting principles depending of their substantive characteristics and when certain criteria are met. (718-10-35-12 – Note the new language was not newly added, but wasn’t included in SSAP No. 104R.) SAP Modification – Reference SAP instead of GAAP.

69.82. An entity may modify (including cancel and replace) or settle a fully vested, freestanding financial instrument after it becomes subject to other applicable statutory accounting principles. Such a modification or settlement shall be accounted for under the provisions of this statement unless it applies equally to all financial instruments of the same class regardless of whether the holder of the financial instrumentis (or was) an employee (or an employee’s beneficiary). Following the modification, the instrument continues to be accounted for under other applicable statutory accounting principles. A modification or settlement of a class of financial instrument that is designed exclusively for and held only by grantees current or former employees (or their beneficiaries) may stem from the employment or vendor relationship depending on the terms of the modification or settlement. Thus, such a modification or settlement may be subject to the requirements of this statement. See paragraph 6979 (718-10-35-10) for a discussion of changes to awards made solely to reflect an equity restructuring. (718-10-35-14)

Change in Classification Due to Change in Probable Settlement Outcome

70.83. An option or similar instrument that is classified as equity, but subsequently becomes a liability because the contingent cash settlement event is probable of occurring, shall be accounted for similar to a modification from an equity to liability award. That is, on the date the contingent event becomes probable of occurring (and therefore the award must be recognized as a liability), the entity recognizes a share-based liability equal to the portion of the award attributed to past performanceservice (which reflects any provision for acceleration of vesting) multiplied by the award's fair value on that date. To the extent the liability equals or is less than the amount previously recognized in equity, the offsetting debit is a charge to equity. To the extent that the liability exceeds the amount previously recognized in equity, the excess is recognized as compensation cost. The total recognized compensation cost for an award with a contingent cash settlement feature shall at least equal the fair value of the award at the grant date. The guidance in this paragraph is applicable only for options or similar instruments issued as part of employee compensation arrangements. That is, the guidance included in this paragraph is not applicable, by analogy or otherwise, to instruments outside employee share-based payment arrangements. (718-10-35-15)

Subsequent Measurement - Awards Classified as Equity (718-20)

Fair Value Not Reasonably Estimable

71.84. An equity instrument for which it is not possible to reasonably estimate fair value at the grant date shall be remeasured at each reporting date through the date of exercise or other settlement. The final measure of compensation cost shall be the intrinsic value of the instrument at the date it is settled. Compensation cost for each period until settlement shall be based on the change (or a portion of the change, depending on the percentage of the requisite service that has been rendered for an employee award or the percentage that would have been recognized had the grantor paid cash for the goods or











services instead of paying with a nonemployee award at the reporting date) in the intrinsic value of the instrument in each reporting period. The entity shall continue to use the intrinsic value method for those instruments even if it subsequently concludes that it is possible to reasonably estimate their fair value. (718-20-35-1)

Contingent Features

72.85. A contingent feature of an award that might cause an employee a grantee to return to the entity either equity instruments earned or realized gains from the sale of equity instruments earned for consideration that is less than fair value on the date of transfer (including no consideration), such as a clawback feature, shall be accounted for if and when the contingent event occurs. (718-20-35-2)

Modification of An Award

86. An entity shall account for the effects of a modification as described in paragraphs 76-7987-94, (718-20-35-3 through 35-9) unless all of the following are met: (718-20-35-2A) (SAP Note – Moved from paragraph 28)

a. The fair value (or calculated value or intrinsic value, if such an alternative measurement method is used) of the modified award is the same as the fair value (or calculated value or intrinsic value, if such an alternative measurement method is used) of the original award immediately before the original award is modified. If the modification does not affect any of the inputs to the valuation technique that the entity uses to value the award, the entity is not required to estimate the value immediately before and after the modification.

b. The vesting conditions of the modified award are the same as the vesting conditions of the original award immediately before the original award is modified.

c. The classification of the modified award as an equity instrument or a liability instrument is the same as the classification of the original award immediately before the original award is modified.

The disclosure requirements in paragraph 113 (718-10-50-1 through 50-2A and 718-10-50-4) apply regardless of whether an entity is required to apply modification accounting.

73.87. Except as described in paragraph 86, (718-20-35-2A) Aa modification of the terms or conditions of an equity award shall be treated as an exchange of the original award for a new award. In substance, the entity repurchases the original instrument by issuing a new instrument of equal or greater value, incurring additional compensation cost for any incremental value. The effects of a modification shall be measured as follows: (718-20-35-3)

a. Incremental compensation cost shall be measured as the excess, if any, of the fair value of the modified award determined in accordance with the provisions of this statement over the fair value of the original award immediately before its terms are modified, measured based on the share price and other pertinent factors at that date. As indicated in paragraph 5152 (718-10-30-20), references to fair value throughout this statement shall be read also to encompass calculated value. The effect of the modification on the number of instruments expected to vest also shall be reflected in determining incremental compensation cost. The estimate at the modification date of the portion of the award expected to vest shall be subsequently adjusted, if necessary, in accordance with paragraph 6267 or 70 (718-10-35-1D or 718-10-35-3).








b. Total recognized compensation cost for an equity award shall at least equal the fair value of the award at the grant date unless at the date of the modification the performance or service conditions of the original award are not expected to be satisfied. Thus, the total compensation cost measured at the date of a modification shall be the sum of the following:

i. The portion of the grant-date fair value of the original award for which the promised good is expected to be delivered (or has already been delivered) or the requisite service is expected to be rendered (or has already been rendered) at that date, and

ii. The incremental cost resulting from the modification.

Compensation cost shall be subsequently adjusted, if necessary, in accordance with paragraph 6267 or 70 (718-10-35-1D or 718-10-35-3).

c. A change in compensation cost for an equity award measured at intrinsic value in accordance with paragraph 7484 (718-20-35-1) shall be measured by comparing the intrinsic value of the modified award, if any, with the intrinsic value of the original award, if any, immediately before the modification.

74.88. An entity that has an accounting policy to account for forfeitures when they occur in accordance with paragraph 6267 or 70 (718-10-35-1D or 718-10-35-3) shall assess at the date of the modification whether the performance or service conditions of the original award are expected to be satisfied when measuring the effects of the modification in accordance with paragraph 76. However, the entity shall apply its accounting policy to account for forfeitures when they occur when subsequently accounting for the modified award. (718-20-35-3A)

75.89. Paragraphs 68-72 77-82 (718-10-35-9 through 35-14) provide additional guidance on accounting for modifications of certain freestanding financial instruments that initially were subject to this statement but subsequently became subject to other applicable statutory accounting principles. (718-20-35-4)

Short-Term Inducements

76.90. Except as described in paragraph 2886 (718-20-35-2A), a short-term inducement shall be accounted for as a modification of the terms of only the awards of employees grantees who accept the inducement, and other inducements shall be accounted for as modifications of the terms of all awards subject to them. (718-20-35-5)

Equity Restructuring or Business Combination

77.91. Exchanges of share options or other equity instruments or changes to their terms in conjunction with an equity restructuring or a business combination are modifications for purposes of this statement. An entity shall apply the guidance in paragraph 28 86 (718-20-35-2A) to those exchanges or changes to determine whether it shall account for the effects of those modifications. See paragraph 69 79 (718-10-35-10) for an additional exception. (718-20-35-6)

Repurchase or Cancellation

78.92. The amount of cash or other assets transferred (or liabilities incurred) to repurchase an equity award shall be charged to equity, to the extent that the amount paid does not exceed the fair value of the equity instruments repurchased at the repurchase date. Any excess of the repurchase price over the fair






value of the instruments repurchased shall be recognized as additional compensation cost. An entity that repurchases an award for which the promised goods have not been delivered or the requisite service has not been rendered has, in effect, modified the employee’s requisite service period or nonemployee’s vesting period to the period for which goods have already been delivered or service already has been rendered, and thus the amount of compensation cost measured at the grant date but not yet recognized shall be recognized at the repurchase date. (718-20-35-7)

Cancellation and Replacement

79.93. Except as described in paragraph 2886 (718-20-35-2A), cancellation of an award accompanied by the concurrent grant of (or offer to grant) a replacement award or other valuable consideration shall be accounted for as a modification of the terms of the cancelled award. (The phrase offer to grant is intended to cover situations in which the service inception date precedes the grant date.) Therefore, incremental compensation cost shall be measured as the excess of the fair value of the replacement award or other valuable consideration over the fair value of the cancelled award at the cancellation date in accordance with paragraph 7687 (718-20-35-3). Thus, the total compensation cost measured at the date of a cancellation and replacement shall be the portion of the grant-date fair value of the original award for which the promised good is expected to be delivered (or has already been delivered) or the requisite service is expected to be rendered (or has already been rendered) at that date plus the incremental cost resulting from the cancellation and replacement. (718-30-35-8)

80.94. A cancellation of an award that is not accompanied by the concurrent grant of (or offer to grant) a replacement award or other valuable consideration shall be accounted for as a repurchase for no consideration. Accordingly, any previously unrecognized compensation cost shall be recognized at the cancellation date. (718-20-35-9)

Subsequent Measurement - Awards Classified as Liabilities - (718-30)

Measurement

81.95. The fair value of liabilities incurred in share-based payment transactions with employees shall be remeasured at the end of each reporting period through settlement. (718-30-35-1)

82.96. Changes in the fair value (or intrinsic value for an reporting entity that elects that method) of a liability incurred under a share-based payment arrangement that occur during the employee’s requisite service period or the nonemployee’s vesting period shall be recognized as compensation cost over that period. The percentage of the fair value (or intrinsic value) that is accrued as compensation cost at the end of each period shall equal the percentage of the requisite service that has been rendered for an employee award or the percentage that would have been recognized had the grantor paid cash for the goods or services instead of paying with a nonemployee award at that date. Changes in the fair value (or intrinsic value) of a liability that occur after the end of the employee’s requisite service period or the nonemployee’s vesting period are compensation costs of the period in which the changes occur. Any difference between the amount for which a liability award is settled and its fair value at the settlement date as estimated in accordance with the provisions of this statement is an adjustment of compensation cost in the period of settlement. (718-30-35-2) (SAP Modification – Under GAAP intrinsic value is for nonpublic entities)

83.97. Reporting entities shall measure a liability award under a share-based payment arrangement based on the award’s fair value (or calculated permitted value in accordance with paragraph 5251 (718-10-30-20)) remeasured at each reporting date until the date of settlement. Compensation costs for each period until settlement shall be based on the change (or a portion of the change, depending on the percentage of the requisite service that has been rendered for an employee award or the percentage that would have














been recognized had the grantor paid cash for the goods and services instead of paying with a nonemployee award at the reporting date) in the fair value of the instrument for each reporting period. (718-30-35-3 & 35-4 combined) (SAP Modification – Under GAAP the provisions of paragraph 52 are only permitted for nonpublic entities.)

Modification of an Award

84.98. A modification of a liability award is accounted for as the exchange of the original award for a new award. However, because liability awards are remeasured at their fair value (or calculated value for an entity subject to paragraph 5152 (718-10-30-20)) at each reporting date, no special guidance is necessary in accounting for a modification of a liability award that remains a liability after the modification. (718-30-35-5)

LOOK-BACK PLANS

85. The accounting guidance in this section addresses the accounting for certain employee stock purchase plans with a look-back option. An example of a look-back option is a provision that establishes the purchase price as an amount based on the lesser of the stock’s market price at the grant date or its market price at the exercise date (or purchase date).

86. As with all employee share purchase plans, the objective of the measurement process for employee share purchase plans with a look-back option is to reasonably measure fair value of the award at the grant date. Paragraph 74 provides guidance on the measurement requirements if it is not possible to reasonably estimate fair value at the grant date.

Accounting for Tax Effects of Share-Based Compensation AwardsArrangements – (718-740)

87.99. Income tax regulations specify allowable tax deductions for instruments issued under share-based payment arrangements in determining an entity’s income tax liability. For example, under tax law, allowable tax deductions may be measured as the intrinsic value of an instrument on a specified date. The time value component, if any, of the fair value of an instrument generally may not be tax deductible. Therefore, tax deductions may arise in different amounts and in different periods from compensation costs recognized in financial statements. Similarly, the amount of expense reported for an employee stock ownership plan during a period may differ from the amount of the related income tax deduction prescribed by income tax rules and regulations. (718-740-05-4)

88.100. This guidance addresses how temporary differences are recognized for share-based payment arrangement awards that are classified either as equity or as liabilities under the requirements of paragraphs 14-2716-29 (718-10-25-7 through 25-19A). Incremental guidance is also provided for issues related to employee stock ownership plans. (714-740-25-1)

Tax Effects for Instruments Classified as Equity

89.101. The cumulative amount of compensation cost recognized for instruments classified as equity that ordinarily would result in a future tax deduction under existing tax law shall be considered to be a deductible temporary difference in applying the requirements of SSAP No. 101—Income Taxes (SSAP No. 101). The deductible temporary difference shall be based on the compensation cost recognized for financial reporting purposes. Compensation cost that is capitalized as part of the cost of an asset, such as inventory, shall be considered to be part of the tax basis of that asset for financial reporting purposes. (718-740-25-2)

90.102. Recognition of compensation cost for instruments that ordinarily do not result in tax deductions under existing tax law shall not be considered to result in a deductible temporary difference. A future














event can give rise to a tax deduction for instruments that ordinarily do not result in a tax deduction. The tax effects of such an event shall be recognized only when it occurs. An example of a future event that would be recognized only when it occurs is an employee's sale of shares obtained from an award before meeting a tax law's holding period requirement, sometimes referred to as a disqualifying disposition, which results in a tax deduction not ordinarily available for such an award. (718-740-25-3)

Tax Effects for Instruments Classified as Liability

91.103. The cumulative amount of compensation cost recognized for instruments classified as liabilities that ordinarily would result in a future tax deduction under existing tax law also shall be considered to be a deductible temporary difference. The deductible temporary difference shall be based on the compensation costs recognized for financial reporting purposes. (718-740-25-4)

Accounting for Tax Effects

104. The deferred tax benefit (expense) that results from increases (or decreases) in the recognized share-based payment temporary difference, for example, an increase that results as additional service is rendered and the related cost is recognized or a decrease that results from forfeiture of an award, shall be recognized in the income statement. (718-740-30-1)

92.105. SSAP No. 101 requires a deferred tax asset to be evaluated for future realization and to be reduced by a statutory valuation allowance if, based on the weight of the available evidence, to the amount thatit is more likely than not that some portion or all of the deferred tax asset will not to be realized. Differences between the deductible temporary difference computed pursuant to paragraphs 101-10292-93 (718-740-25-2 through 25-3) and the tax deduction that would result based on the current fair value of the entity’s shares shall not be considered in measuring the gross deferred tax asset or determining the need for a valuation allowance for a deferred tax asset recognized under these requirements. (718-740-30-2) (SAP Note – Changes match SSAP No. 101 and GAAP)

93.106. The tax effect of the difference, if any, between the cumulative compensation cost of an award recognized for financial reporting purposes and the deduction for an award for tax purposes shall be recognized as income tax expense or benefit in the income statement. The tax effect shall be recognized in the period in which the amount of the deduction is determined, which is typically when an award is exercised, or expired, in the case of share options, or vests in the case of nonvested stock awards. tax deduction arises or, in the case of an expiration of an award, in the period in which the expiration occurs. The appropriate period depends on the type of award and the guidance in SSAP No. 101. (718-740-35-2)

Tax Benefits of Dividends on Share-Based Payment AwardsAwards to Employees

94.107. An income tax benefit from dividends or dividend equivalents that are charged to unassigned-funds (surplus) and are paid to employees for any of the following equity classified awards shall be recognized as an income tax expense or benefit in the income statement: (718-740-45-8)

a. Nonvested equity shares

b. Nonvested equity share units

c. Outstanding equity share options.

Accounting for Rabbi Trusts

108. This section addresses the accounting for deferred compensation arrangements where amounts earned by an employee are invested in the stock of the employer and placed in a rabbi trust. Certain of










these of those plans allow the employee to immediately diversify into nonemployer securities or to diversify after a holding period (for example, six months); other plans do not allow for diversification. The deferred compensation obligation of some plans may be settled in any of the following: (718-10-05-8 and 718-10-05-9)

a. Cash, by having the trust sell the employer stock (or the diversified assets) in the open market.

b. Shares of the employer’s stock

c. Diversified Assets

In other plans, the deferred compensation obligation may be settled only by the delivery of the shares of the employer stock.

109. The guidance in this section addresses the accounting for deferred compensation that have characteristics in paragraphs 109a or 109b. This section does not address the accounting for stock appreciation rights, even if they are funded through a rabbi trust. (718-10-15-8)

a. If amounts earned by an employee are invested in the stock of the employer and placed in a rabbi trust.

b. Where the employee elects to diversify the assets held by the rabbi trust into nonemployer securities.

95.110. Rabbi trusts are grantor trusts generally set up to fund compensation for a select group of management or highly paid executives. To qualify as a rabbi trust for income tax purposes, the terms of the trust agreement must explicitly state that the assets of the trust are available to satisfy the claims of general creditors in the event of bankruptcy of the employer. (GAAP Definition)

96.111. The following are the four types of deferred compensation arrangements involving rabbi trusts covered in this guidance: There are four potential scenarios for deferred compensation arrangements where amounts earned by an employee are invested in the stock of the employer and placed in a “rabbi trust.” (718-10-25-15)

Plan A: The plan does not permit diversification and must be settled by the delivery of a fixed number of shares of employer stock.

Plan B: The plan does not permit diversification and may be settled by the delivery of cash or shares of employer stock.

Plan C: The plan permits diversification; however, the employee has not diversified (the plan may be settled in cash, shares of employer stock, or diversified assets).

Plan D: The plan permits diversification and the employee has diversified (the plan may be settled in cash, shares of employer stock, or diversified assets).

97.112. The accounts of the rabbi trust should be consolidated with the accounts of the employer in the financial statements of the employer. (710-10-45-1)

a. For Plan A, employer stock held by the rabbi trust should be classified in equity in a manner similar to the manner in which treasury stock is accounted for. Subsequent changes in the fair value of the employer's stock should not be recognized. The deferred




compensation obligation should be classified as an equity instrument and changes in the fair value of the amount owed to the employee should not be recognized. (710-10-25-16 and 718-10-35-2)

b. For Plans B and C, employer stock held by the rabbi trust should be classified in equity in a manner similar to the manner in which treasury stock is accounted for. Subsequent changes in the fair value of the employer's stock should not be recognized. The deferred compensation obligation should be classified as a liability and adjusted with a corresponding charge (or credit) to compensation cost, to reflect the changes in the fair value of the amount owed to the employee. (710-10-25-17 and 718-10-35-3)

c. For Plan D, assets held by the rabbi trust should be accounted for in accordance with statutory accounting principles for the particular asset (for example, if the diversified asset is a marketablean unaffiliated common stockequity security, that security would be accounted for in accordance with SSAP No. 30). The deferred compensation obligation should be classified as a liability and adjusted, with a corresponding charge (or credit) to compensation cost, to reflect changes in the fair value of the amount owed to the employee. Changes in the fair value of the deferred compensation obligation should not be recorded in unrealized gains or losses, even if changes in the fair value of the assets held by the rabbi trust are recorded in surplus pursuant to SSAP No. 30—Unaffiliated Common Stock. (710-10-25-18, 710-10-35-4 and 710-10-45-2) SAP Mod on Common Stock and reporting lines.

Disclosures – Employee Share-Based Payments

98.113. An entity with one or more share-based payment arrangements shall disclose information that enables users of the financial statements to understand all of the following: (718-10-50-1)

a. The nature and terms of such arrangements that existed during the period and the potential effects of those arrangements on shareholders;

b. The effect of compensation costs arising from share-based payment arrangements on the income statement;

c. The method of estimating the fair value of the goods or services received, or the fair value of the equity instruments granted (or offered to grant), during the period; and

d. The cash flow effects resulting from share-based payment arrangements.

99.114. The disclosures in paragraph 101 113 are for annual audited statutory financial statements only. This statement adopts FASB Codification 718-10-50-2 for the minimum disclosure information needed to achieve the objective in paragraph 113, noting that a reporting entity may need to disclose additional information to achieve the objectives. Exhibit B illustrates the information needed to achieve the objectives in this paragraph. (Staff Note – NAIC staff proposes to remove Exhibit B and just refer to the GAAP guidance for these annual audited disclosures.)

Employee Share Purchase Plans (718-50)-Based Payments - Noncompensatory Plans

Overview and Background

100.115. This section provides guidance to all entities that use employee share purchase plans. The entity must first determine whether the plan is compensatory or noncompensatory. This is determined by the terms of the plan (paragraphs 104-105116-117) (718-20-25-1 through 25-2). A plan with an option







feature, for example a look-back feature, is considered compensatory. (This section on employee share purchase plans has its own discrete scope, which is separate and distinct from the pervasive scope.) (718-50-05-1, 718-50-15-1)

Recognition

101.116. An employee share purchase plan that satisfies all of the following criteria does not give rise to recognizable compensation costs (that is, the plan is noncompensatory): (718-50-25-1)

a. The plan satisfies either of the following conditions:

i. The terms of the plan are no more favorable than those available to all holders of the same class of shares. Note that a transaction subject to an employee share purchase plan that involves a class of equity shares designed exclusively for and held only by current or former employees or their beneficiaries may be compensatory depending on the terms of the arrangement.

ii. Any purchase discount from the market price does not exceed the per-share amount of share issuance costs that would have been incurred to raise a significant amount of capital by a public offering. A purchase discount of 5 percent or less from the market price shall be considered to comply with this condition without further justification. A purchase discount greater than 5 percent that cannot be justified under this condition results in compensation cost for the entire amount of the discount. Note that an entity that justifies a purchase discount in excess of 5 percent shall reassess at least annually, and no later than the first share purchase offer during the fiscal year, whether it can continue to justify that discount pursuant to this paragraph.

b. Substantially all employees that meet limited employment qualifications may participate on an equitable basis.

c. The plan incorporates no option features, other than the following:

i. Employees are permitted a short period of time—not exceeding 31 days—after the purchase price has been fixed to enroll in the plan.

ii. The purchase price is based solely on the market price of the shares at the date of purchase, and employees are permitted to cancel participation before the purchase date and obtain a refund of amounts previously paid (such as those paid by payroll withholdings).

102.117. A plan provision that establishes the purchase price as an amount based on the lesser of the equity share’s market price at date of grant or its market price at date of purchase, commonly called a look-back plan, is an example of an option feature that causes the plan to be compensatory. Similarly, a plan in which the purchase price is based on the share’s market price at date of grant and that permits a participating employee to cancel participation before the purchase date and obtain a refund of amounts previously paid contains an option feature that causes the plan to be compensatory. (718-50-25-2)

103.118. The requisite service period for any compensation cost resulting from an employee share purchase plan is the period over which the employee participates in the plan and pays for the shares. (718-50-25-3)

Initial Measurement





104.119. The objective in paragraph 37 also applies to the fair value measurements associated with grants under a compensatory employee share purchase plan. The objective in this paragraphParagraph 38 (718-10-30-6) states that the objective of the fair value measurement method is to estimate the fair value of the equity instruments, based on the share price and other measurement assumptions at the grant date, that are issued in exchange for providing goods or rendering services. Estimating the fair value of equity instruments at the grant date, which are issued in exchange for employee services also applies to the fair value measurements associated with grants under a compensatory employee share purchase plan. (718-50-30-1)

Look-Back Plans

120. Many employee share purchase plans with a look-back option have differing features. For example, some plans contain multiple purchase periods, other contain reset mechanisms, and still others allow changes in the withholding amounts or percentages after the grant date. In some circumstances, applying the measurement approaches described in this section may not be practicable for certain types of employee share purchase plans. Paragraph 56 (718-20-35-1) provides guidance on the measurement requirements if it is not possible to reasonable estimate fair value at the grant date. (718-50-30-2 and 30-3.) SAP Mod – Did not include example features from GAAP.

Subsequent Measurement

105.121. Changes in total employee withholdings during a purchase period that occur solely as a result of salary increases, commissions, or bonus payments are not plan modifications if they do not represent changes to the terms of the award that was offered by the employer and initially agreed to by the employee at the grant (or measurement) date. Under those circumstances, the only incremental compensation cost is that which results from the additional shares that may be purchased with the additional amounts withheld (using the fair value calculated at the grant date). For example, an employee may elect to participate in the plan on the grant date by requesting that 5 percent of the employee's annual salary be withheld for future purchases of stock. If the employee receives an increase in salary during the term of the award, the base salary on which the 5 percent withholding amount is applied will increase, thus increasing the total amount withheld for future share purchases. That increase in withholdings as a result of the salary increase is not considered a plan modification and thus only increases the total compensation cost associated with the award by the grant date fair value associated with the incremental number of shares that may be purchased with the additional withholdings during the period. The incremental number of shares that may be purchased is calculated by dividing the incremental amount withheld by the exercise price as of the grant date (for example, 85 percent of the grant date stock price). (718-50-35-1)

106.122. Any decreases in the withholding amounts (or percentages) shall be disregarded for purposes of recognizing compensation cost unless the employee services that were valued at the grant date will no longer be provided to the employer due to a termination. However, no compensation cost shall be recognized for awards that an employee forfeits because of failure to satisfy a service requirement for vesting. The accounting for decreases in withholdings is consistent with the requirement in paragraph 59 that the total amount of compensation cost that must be recognized for an award be based on the number of instruments for which the requisite service has been rendered (that is, for which the requisite service period has been completed). (718-50-35-2)

Employee Share-Based Payments - Consolidated / Holding Company Plans

107.123. Except for the disclosure requirement in paragraph 111124, the provisions of this statement do not apply to a reporting entity, as long as:









a. The reporting entity is not directly liable for obligations under the share-based payment plan.

b. Compensation costs associated with share-based payments provided by a related party or holder of an economic interest in the reporting entity, equal to the required contribution to the plan for the period, are included in allocated expenses to the reporting entity. A liability shall be established for any such contributions due and unpaid.

108.124. The reporting entity shall disclose in the financial statements that its employees participate in a plan sponsored by the holding company for which the reporting entity has no legal obligation. The amount of the expense incurred and the allocation methodology utilized by the provider of such benefits shall also be disclosed.

109.125. If the reporting entity is directly liable for the share-based payment plan, then the other provisions of this statement apply.

NON-EMPLOYEE SHARE-BASED PAYMENTS

110. Reporting entities that grant share-based payments to non-employees shall recognize the goods acquired or services received as part of the transaction when it obtains the goods or as services are received. A grantor may need to recognize a nonadmitted prepaid asset before it actually receives goods or services if it first exchanges share-based payment for an enforceable right to receive those goods or services. Nonetheless, the goods or services shall not be recognized before they are received. (The nonadmitted asset recognized prior to the goods and services would be eliminated upon receipt of the goods and services that are recognized.)

111. If fully vested, nonforfeitable equity instruments are issued at the date the grantor and grantee enter into an agreement for goods or services (no specific performance is required by the grantee to retain those equity instruments), then, because of the elimination of any obligation on the part of the counterparty to earn the equity instruments, a measurement date has been reached. A grantor shall recognize the equity instruments when they are issued (in most cases, when the agreement is entered into). Whether the corresponding cost is an immediate expense or a nonadmitted prepaid asset depends on the specific facts and circumstances. A grantor may conclude that an asset (other than a note or a receivable) has been received in return for fully-vested, nonforfeitable equity instruments that are issued at the date the grantor and grantee enter into an agreement for goods or services (and no specific performance is required by the grantee in order to retain those equity instruments). Such an asset shall not be displayed as contra-equity by the grantor of the equity instrument. The transferability (or lack thereof) of the equity instruments shall not affect the balance sheet display of this nonadmitted prepaid asset. This guidance is limited to transactions in which equity instruments are transferred to other than employees in exchange for goods or services.

112. An entity may grant fully vested, nonforfeitable equity instruments that are exercisable by the grantee only after a specified period of time if the terms of the agreement provide for earlier exercisability if the grantee achieves specified performance conditions. Any measured cost of the transaction shall be recognized in the same period(s) and in the same manner as if the entity had paid cash for the goods or services or used cash rebates as a sales discount instead of paying with, or using, the equity instruments.

113. A recognized nonadmitted prepaid asset, expense, or sales discount shall not be reversed if a stock option that the counterparty has the right to exercise expires unexercised. As noted in paragraph 117, the goods and services shall not be recognized before they are received.

114. A grantor shall recognize either a corresponding increase in equity or a liability, depending on whether the instruments granted satisfy the equity or liability classification criteria established in




paragraphs 14-27 for employee share-based payments. As the goods or services are disposed of or consumed, the grantor shall recognize the related cost, unless other statutory accounting principles require costs to be expensed when incurred. In these instances, when the goods or services are received, the grantor shall recognize the related cost.

Initial Measurement – Reporting Entity Grantor/Issuer

115. Share-based payment transactions with non-employees shall be measured at the fair value of the consideration received or the fair value of the equity instruments issued, whichever is more reliably measurable.

116. The accounting for all share-based payment transactions shall reflect the rights conveyed to the holder of the instruments and the obligations imposed on the issuer of the instruments, regardless of how those transactions are structured. The terms of a share-based payment award and any related arrangement affect its value and, except for certain explicitly excluded features, such as a reload feature, shall be reflected in determining the fair value of the equity or liability instruments granted. Assessment of both the rights and obligations in a share-based payment award and any related arrangement and how those rights and obligations affect the fair value of an award requires the exercise of judgment in considering the relevant facts and circumstances. The minimum value method (a method that reflects the time value of an option but ignores the volatility value) is not an acceptable method for determining the fair value of non-employee awards.

117. If the fair value of goods or services received in a share-based payment transaction with non-employees is more reliably measurable than the fair value of the equity instruments issued, the fair value of the goods or services received shall be used to measure the transaction. In contrast, if the fair value of the equity instruments issued in a share-based payment transaction with non-employees is more reliably measurable than the fair value of the consideration received, the transaction shall be measured based on the fair value of the equity instruments issued.

118. Sales incentives in the form of equity instruments shall be measured at the fair value of the sales incentive or the fair value of the equity instruments issued, whichever is more reliably measurable.

119. The issuer/grantor shall measure the fair value of the equity instruments provided in share-based payment transactions using the stock price and other measurement assumptions as of the earlier of the following dates, referred to as the measurement date:

a. The date at which a commitment for performance by the counterparty to earn the equity instruments is reached (a performance commitment5)

b. The date at which the counterparty's performance is complete.

120. The counterparty's performance is complete when the counterparty has delivered or, in the case of sales incentives, purchased the goods or services, despite the fact that at that date the quantity or all the terms of the equity instruments may yet depend on other events (this would occur, for example, if a target stock price requirement has not been met when the counterparty has delivered the goods or services).

5 A performance commitment is a commitment under which performance by the grantee to earn the equity instruments is probable because of sufficiently large disincentives for nonperformance. The disincentives must result from the relationship between the grantor and the grantee. Forfeiture of the equity instruments as the sole remedy in the event of the grantee's nonperformance is not considered a sufficiently large disincentive for purposes of applying the guidance. In addition, the ability to sue for nonperformance, in and of itself, does not represent a sufficiently large disincentive to ensure that performance is probable. (A granting entity may always be able to sue for nonperformance but it is not always clear whether any significant damages would result.)




121. Situations may arise in which counterparty performance may be required over a period of time but the equity award granted to the party performing the services is fully vested and nonforfeitable on the date the parties enter into the contract. While this type of arrangement may be rare, because, typically, vesting provisions do exist, the measurement date for an award that is nonforfeitable and that vests immediately could be the date the parties enter into the contract, even though services have not yet been performed.

122. If fully vested, nonforfeitable equity instruments are issued at the date the grantor and grantee enter into an agreement for goods or services (no specific performance is required by the grantee to retain those equity instruments), then, because of the elimination of any obligation on the part of the counterparty to earn the equity instruments, a measurement date has been reached.

123. If an entity grants fully vested, nonforfeitable equity instruments that are exercisable by the grantee only after a specified period of time and the terms of the agreement provide for earlier exercisability if the grantee achieves specified performance conditions, the grantor shall measure the fair value of the equity instruments at the date of grant and shall recognize that measured cost in the same period(s) and in the same manner as if the grantor had paid cash.

Initial Measurement – Reporting Entity Grantee/Provider

124. An entity (the grantee or provider) may enter into transactions to provide goods or services in exchange for equity instruments. The grantee shall measure the fair value of the equity instruments in these transactions using the stock price and other measurement assumptions as of the earlier of either of the following dates referred to as the measurement date:

The date the parties come to a mutual understanding of the terms of the equity-based compensation arrangement and a commitment for performance by the grantee to earn the equity instruments (a performance commitment6) is reached, or

The date at which the grantee's performance necessary to earn the equity instruments is complete (that is, the vesting date).Measurement

Before the Measurement Date

125. In accordance with other accounting guidance, it may be appropriate for an issuer to recognize costs related to share-based payment transactions with non-employees before a measurement date has occurred:

If the quantity and terms of the equity instruments are known up front, the equity instruments shall be measured at their then-current fair values at each interim financial reporting date.

If the quantity and terms of the equity instruments are not known up front, and the transaction is only impacted by market conditions, the equity instruments shall be measured at their then-current fair values at each interim financial reporting date.

If the quantity and terms of the equity instruments are not known up front, and the transaction is only impacted by counterparty performance conditions or both market conditions and counterparty performance conditions, the equity instruments shall be measured at their then-current best estimate of the possible outcomes. When no amount within a range can be deemed a better estimate, then the midpoint of the range shall be used.

6 See Footnote 4.




Measurement at the Measurement Date – Transactions Involve Only Market Conditions

126. The quantity or terms of an equity instrument may be dependent only on market conditions. If, on the measurement date, the quantity or any of the terms of the equity instruments are dependent on the achievement of market conditions, then the issuer shall use the fair value of the equity instruments for recognition purposes. That fair value shall be calculated as the fair value of the equity instruments without regard to the market condition plus the fair value of the issuer's commitment to change the quantity or terms of the equity instruments based on whether the market condition is met.

127. As it relates to a grantee, if on the measurement date the quantity or any of the terms of the equity instrument are dependent on the achievement of a market condition, then the grantee shall measure revenue based on the fair value of the equity instruments inclusive of the adjustment provisions. That fair value would be calculated as the fair value of the equity instruments without regard to the market condition plus the fair value of the commitment to change the quantity or terms of the equity instruments if the market condition is met. That is, the existence of a market condition that, if achieved, results in an adjustment to an equity instrument generally affects the value of the instrument. Pricing models have been adapted to value many of those path-dependent equity instruments.

128. The quantity or terms of an equity instrument may be dependent on counterparty performance conditions. If, on the measurement date, the quantity or any of the terms of the equity instruments are dependent on the achievement of counterparty performance conditions that, based on the different possible outcomes, result in a range of aggregate fair values for the equity instruments as of that date, then the issuer should utilize the best estimate (that is, the variable terms times the applicable number of equity instruments) amount within that range for recognition purposes. When no amount within the range can be deemed a better estimate, then the midpoint of the range shall be used. The amount may be zero only if zero is determined to be the best estimate. This guidance also applies if the quantity or terms of an equity instrument is dependent on both market conditions and counterparty performance conditions.

Subsequent Measurement

129. After the issuer measures the then-current fair value of the issuer's commitment related to the market condition as described in paragraph 129, the issuer shall, to the extent necessary, recognize and classify future changes in the fair value of this commitment in accordance with any relevant accounting guidance on financial instruments.

130. Paragraph 131 provides measurement date guidance on the measurement of transactions that involve counterparty performance conditions. As each quantity and term become known and until all the quantities and terms that stem from the counterparty's performance become known, the best estimate or midpoint aggregate fair value measured pursuant to the guidance in that paragraph shall be adjusted, to reflect additional cost of the transaction, using the modification accounting methodology described in paragraphs 76-78. That is, the adjustment shall be measured at the date of the revision of the quantity or terms of the equity instruments as the difference between the then-current fair value of the revised instruments utilizing the then-known quantity or term and the then-current fair value of the old equity instruments immediately before the quantity or term becomes known. The then-current fair value is calculated using the assumptions that result in the best estimate or midpoint aggregate fair value (in accordance with paragraph 131) if the quantity or any other terms remain unknown.

131. Paragraph 131 also provides measurement date guidance on the measurement of transactions that involve both market conditions and counterparty performance conditions. Through the date the last performance-related condition is resolved, the issuer shall apply modification accounting (paragraphs 76-78) for the resolution of both counterparty performance conditions and market conditions. If, at the time the last counterparty performance-related condition is resolved, any market conditions remain, then the




issuer shall measure the then-current fair value of the issuer's commitment to issue additional equity instruments or change the terms of the equity instruments based on whether the market condition is met. This measured amount is an additional cost of the transaction. After the issuer measures the then-current fair value of the issuer's commitment related to the market condition, the issuer shall, to the extent necessary, recognize and classify future changes in the fair value of this commitment in accordance with any relevant accounting literature on financial instruments.

132. Paragraph 126 addresses the situation in which an entity grants fully vested, nonforfeitable equity instruments with terms that provide for potential acceleration of exercisability and establishes that the grantor shall measure the fair value of the equity instruments at the date of grant and shall recognize that measured cost in the same period(s) and in the same manner as if the grantor had paid cash. For these situations, if, after the arrangement date, the grantee performs as specified and exercisability is accelerated, the grantor shall record incremental cost measured at the date of the revision of the terms of the equity instruments (that is, the acceleration date) as the difference between the then-current fair value of the revised instruments utilizing the accelerated exercisability date and the then-current fair value of the old equity instruments immediately before exercisability is accelerated. If the only change in the terms of the equity instruments is the acceleration of exercisability, the application of this methodology will only result in a significant additional charge if the expected dividend on the underlying instrument exceeds the sum of the effect of discounting the exercise price and the loss of time value (exclusive of the effect of discounting the exercise price) resulting from the early exercise of the equity instrument.

Subsequent Measurement – Grantee Accounting

133. A grantee may be party to an arrangement in which the terms of the equity instruments are subject to adjustment after the measurement date. Paragraphs 137-138 address transactions in which any of the terms of the equity instruments are subject to adjustment after the measurement date (that is, the terms of the equity instrument are subject to adjustment based on performance above the level committed to in a performance commitment, performance after the instrument is earned, or market conditions) and how the grantee shall account for an increase in fair value as a result of an adjustment (upon resolution of the contingency after the measurement date) as revenue.

134. If, on the measurement date, the quantity or any of the terms of the equity instruments are dependent on the achievement of grantee performance conditions (beyond those conditions for which a performance commitment exists), then changes in fair value of the equity instrument that result from an adjustment to the instrument upon the achievement of a performance condition shall be measured as additional revenue from the transaction using a methodology consistent with modification accounting described in paragraphs 76-78. That is, the adjustment shall be measured at the date of the revision of the quantity or terms of the equity instrument as the difference between the then-current fair value of the revised instruments utilizing the then-known quantity and terms and the then-current fair value of the old equity instruments immediately before the adjustment.

135. Changes in fair value of the equity instruments after the measurement date unrelated to the achievement of performance conditions shall be accounted for in accordance with any relevant guidance on the accounting and reporting for investments in equity instruments.

DISCLOSURES - NON-EMPLOYEE SHARE BASED PAYMENT

136. An entity (grantor) that acquires goods or services other than employee services in share-based payment transactions shall provide disclosures similar to those required by paragraphs 101-102 to the extent that those disclosures are important to an understanding of the effects of those transactions on the financial statements. These disclosures, if applicable, are for annual audited statutory financial statements only.




137. An entity (grantee) shall disclose, in each period's financial statements, the amount of gross operating revenue recognized as a result of nonmonetary transactions addressed within this statement. These disclosures, if applicable, are for annual audited statutory financial statements only.

Relevant Literature

126. This statement adopts with modification the U.S. GAAP guidance for share-based payment transactions reflected in FASB Accounting Standards Codification (ASC) Topic 718, Compensation – Stock Compensation, as modified by the ASUs listed in subparagraphs 126.a through 126.e, excluding the guidance in ASC Subtopic 718-40, Employee Stock Ownership Plans (ESOPs). Statutory accounting guidance for ESOPs is addressed in SSAP No. 12—Employee Stock Ownership Plans. This adoption with modification includes the related implementation guidance reflected within the FASB Codification Topic 718 not reflected within this standard. The U.S. GAAP guidance adopted with modification reflects the adoption with modification of the following ASUs:

a. ASU 2018-07, Improvements to Nonemployee Share-Based Payment Accounting. The revisions from ASU 2018-07 expand the scope of ASC 718 to include share based payment transactions for acquiring goods and services from nonemployees. With ASU 2018-17, ASC 505-50, Equity – Equity Payments to Nonemployees was superseded.

b. ASU 2017-09, Scope of Modification Accounting

c. ASU 2016-09, Improvements to Employee Share-Based Payment Accounting

d. ASU 2014-12, Accounting for Share-Based Payments When the Terms of an Award Provide That a Performance Target Could Be Achieved after the Requisite Service Period

e. ASU 2010-13, Effect of Denominating the Exercise Price of a Share-Based Payment Award in the Current of the Market in Which the Underlying Equity Security Trades

127. The statutory accounting guidance for share-based payments is intended to be consistent with U.S. GAAP. Adopted modifications to U.S. GAAP guidance are as follows:

a. GAAP references to “public and nonpublic” guidance have been eliminated. However, entities that report share-payment transactions under U.S. GAAP as “public” entities shall not report different amounts between U.S. GAAP and SAP. (For example, if a reporting entity reports “fair value” under U.S. GAAP, that entity shall not utilize a “calculated or intrinsic” amount under statutory accounting.)

b. Prepaid assets are nonadmitted.

a.c. GAAP references are revised to reference applicable statutory accounting guidance.

b.d. GAAP reporting line items (either explicitly provided in the statement or adopted by reference – such as the GAAP implementation guidance) shall be replaced to reference applicable statutory annual statement line items. (For example, GAAP references to “other comprehensive income” shall be reflected within “Surplus - Unassigned Funds”).

c.e. GAAP guidance to calculate earnings per share is not applicable to statutory accounting and has not been included within the statement.




d.f. GAAP effective date and transition, and transition disclosures have not been incorporated. Reporting entities shall follow the effective date and transition elements provided within this statement.

e.g. Inclusion of guidance specific to statutory for consolidated/holding company plans.

138. This statement adopts ASU 2017-09, Compensation – Stock Compensation – Scope of Modification Accounting (ASU 2017-09). The guidance from ASU 2017-09 will be effective for all entities for annual periods, including interim periods within those annual periods, beginning January 1, 2018. Early adoption is permitted, including adoption in any interim period, for all entities for reporting periods for which financial statements have not yet been issued. The guidance shall be applied prospectively to a modification that occurs on or after the effective date.

139. This statement adopts ASU 2014-12, Compensation – Stock Compensation, Accounting for Share-Based Payments When the Terms of an Award Provide That a Performance Target Could Be Achieved after the Requisite Service Period (ASU 2014-12) with an effective date of January 1, 2016, with early adoption permitted. ASU 2014-12 allows prospective or retrospective adoption based on the election of the reporting entity. This election is adopted for statutory financial statements; however, reporting entities shall follow the approach used when completing their GAAP financials (if applicable). The disclosures in SSAP No. 3—Accounting Changes and Corrections of Errors (SSAP No. 3) shall be completed in the first interim and annual reporting period of adoption.

140. This statement adopts with modification ASU 2016-09 with an effective date of December 31, 2017, with early adoption permitted. The modifications are consistent with those adopted for FASB Codification 718, as reflected in paragraph 144. This adoption with modification encompasses the entire ASU 2016-09, but only revisions to sections previously captured in this statement have been reflected. (For example, the adoption with modification includes the related implementation guidance but the implementation guidance is not reflected within this standard.) ASU 2016-09 provides transition guidance separate for each amendment, either prospective, retrospective, or modified retrospective basis. These transition provisions are not duplicated in this statement, as reporting entities shall follow the approach utilized when completing their U.S. GAAP financials. Consistent with the U.S. GAAP guidance, this involves, in some situations, allowing reporting entities an election of the transition method. The disclosures in SSAP No. 3 shall be completed in the first interim and annual reporting period of adoption.

141. This statement adopts with modification GAAP guidance regarding stock options and stock purchase plans reflected in Topic 718: Compensation – Stock Compensation, as amended by ASU 2010-13, Compensation – Stock Compensation (Topic 18): Effect of Denominating the Exercise Price of a Share-Based Payment Award in the Current of the Market in Which the Underlying Equity Security Trades, with the exception of FASB Codification Subtopic 718-40: Employee Stock Ownership Plans. Statutory guidance on employee stock ownership plans is provided in SSAP No. 12—Employee Stock Ownership Plans. This adoption with modification includes the related implementation guidance reflected within the FASB Codification Topic 718, not reflected within this standard.

Modifications to the adopted GAAP guidance are as follows:

GAAP references are revised to reference applicable statutory accounting guidance.

GAAP reporting line items (either explicitly provided in the statement or adopted by reference – such as the GAAP implementation guidance) shall be replaced to reference applicable statutory annual statement line items. (For example, GAAP references to “other comprehensive income” shall be reflected within “Surplus - Unassigned Funds”).




GAAP guidance to calculate earnings per share is not applicable to statutory accounting and has not been included within the statement.

GAAP effective date and transition, and transition disclosures have not been incorporated. Reporting entities shall follow the effective date and transition elements provided within this statement.

Inclusion of guidance specific to statutory for consolidated/holding company plans.

142. This statement adopts with modification GAAP guidance regarding the exchange of equity instruments for goods or services with non-employees as reflected in Subtopic 505-50 – Equity, Equity-Payments to Non-Employees. Modifications to this adopted GAAP guidance are as follows: Prepaid assets are nonadmitted. Costs for goods and services shall be recognized when the goods or services are received consistent with other statutory accounting principles. Minimum value method for determining fair value is rejected for all entities. Estimates of expected costs for the exchange of equity instruments dependent on market conditions or performance obligations shall be determined based on the best estimate of fair values. If a better estimate cannot be determined, then the midpoint (rather than the lowest amount) of aggregate fair values within the range shall be used. GAAP references are revised to reference applicable statutory accounting guidance.

143.128. The adoption with modification of FASB Codification Topic 718 and Subtopic 505-50 detailed in paragraphs 126144-145 of this statement also reflects adoption with modification of the following pre-codification GAAP standards: (SAP Note – Standards deleted reflect the pre-codification guidance for Subtopic 505-50, which have been superseded with ASU 2018-07.)

a. FAS 123R, Share-Based Payment (FAS 123R);

b. FAS 150, Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity (FAS 150) – (Adopted only to the extent referenced in FAS 123R for classifying instruments as equity or liability for application in this statement. Adopted guidance is reflected in Exhibit A);

c. FASB Staff Position FAS 123(R)-1: Classification and Measurement of Freestanding Financial Instruments Originally issued in Exchange for Employee Services under FASB Statement No. 123(R) (FAS 123R-1);

d. FASB Staff Position (FSP) FAS 123(R)-2: Practical Accommodation to the Application of Grant Date as Defined in FASB Statement No. 123(R) (FSP FAS 123R-2);

e. FASB Staff Position (FSP) FAS123(R)-4: Classification of Options and Similar Instruments Issued as Employee Compensation That Allow for Cash Settlement upon the Occurrence of a Contingent Event (FSP FAS 123R-4);

f. FASB Staff Position (FSP) FAS 123(R)-5: Amendment of FASB Staff Position FAS 123R-1 (FSP FAS 123R-5);

g. FASB Staff Position (FSP) FAS 123(R)-6: Technical Corrections of FASB Statement No. 123(R) (FSP FAS 123R-6);

h. FASB Emerging Issues Task Force 96-18: Accounting for Equity Instruments That are Issued to Other Than Employees for Acquiring, or in Conjunction with Selling Goods or Services;




i.h. FASB Emerging Issues Task Force 97-14: Accounting for Deferred Compensation Arrangements Where Amounts Earned Are Held in a Rabbi Trust and Invested (EITF 97-14);

j. FASB Emerging Issues Task Force 00-08: Accounting by a Grantee for an Equity Instrument to Be Received in Conjunction with Providing Goods or Services;

k.i. FASB Emerging Issues Task Force 00-16: Recognition and Measurement of Employer Payroll Taxes on Employee Stock-Based Compensation (EITF 00-16);

l. FASB Emerging Issues Task Force 00-18: Accounting Recognition for Certain Transactions Involving Equity Instruments Granted to Other Than Employees; and

m.j. FASB Technical Bulletin 97-01, Accounting under Statement 123 for Certain Employee Stock Purchase Plans with a Look-Back Option (TB 97-01)

144.129. The adoption with modification of FASB Codification Topic 718 in this statement reflects rejection of the following pre-codification GAAP standards:

a. FASB Staff Position (FSP) FAS 123(R)-3: Transition Election Related to Accounting for the Tax Effects of Share-Based Payment Awards (FSP FAS 123R-3); and

b. FASB Staff Position (FSP) EITF 03-6-1; Determining Whether Instruments Granted in Share-Based Payment Transactions Are Participating Securities (FSP EITF 03-6-1).


130. 148. This statement was shall be effective prospectively (paragraph 117) for years beginning January 1, 2013, with interim and annual financial reporting thereafter. The cumulative effect of initially applying this statement, if any, shall be recognized as of the required effective date as a change in accounting principle under SSAP No. 3. Early adoption wasis permitted for December 31, 2012, financial statements, with interim and annual reporting thereafter. At the time of initial adoption of this statement, reporting entities with existing share-based payment instruments that applied the guidance in SSAP No. 13—Stock Options and Stock Purchase Plans were to apply the requirements of SSAP No. 104 prospectively to new awards and to awards modified, repurchased, or cancelled after the required effective date. Those reporting entities were to continue to account for any portion of awards outstanding at the date of initial application using the statutory accounting principles originally applied to those awards (e.g., SSAP No. 13). (JMG Inquiry – Are there share-based payments still being accounted for under SSAP No. 13, or should this guidance be removed?)

131. Since the initial adoption of SSAP No. 104, subsequent revisions were effective as follows:

a. ASU 2018-07, Improvements to Nonemployee Share-Based Payment Accounting: Nonsubstantive revisions effective January 1, 2020, with early application permitted.

b. ASU 2017-09, Scope of Modification Accounting: Nonsubstantive revisions effective January 1, 2018, applicable to modifications that occur on or after the effective date, with early application permitted.

c. ASU 2016-09, Improvements to Employee Share-Based Payment Accounting: Nonsubstantive revisions effective December 31, 2017, with early adoption permitted. The adoption included the transition provisions from ASU 2016-19, although not duplicated within this statement.




d. ASU 2014-12, Accounting for Share-Based Payments When the Terms of an Award Provide That a Performance Target Could Be Achieved after the Requisite Service Period: Nonsubstantive revisions effective January 1, 2016, with early adoption permitted.

e. ASU 2010-13, Effect of Denominating the Exercise Price of a Share-Based Payment Award in the Current of the Market in Which the Underlying Equity Security Trades: Captured in the original adoption of SSAP No. 104, effective Jan. 1, 2013.

132. After initial adoption of SSAP No. 104, substantive revisions, detailed in Issue Paper No. 146, were adopted to incorporate guidance for share-based payment transaction with nonemployees. These substantive revisions adopted with modification U.S. GAAP guidance reflected in ASC 505-50, Equity Payments to Nonemployees. Pursuant to the adoption with modification of ASU 2018-07, statutory accounting guidance previously adopted from ASC 505-50 has been superseded. As such, the following pre-codification standards have also been superseded and are no longer considered adopted for statutory accounting:

a. FASB Emerging Issues Task Force 96-18: Accounting for Equity Instruments That are Issued to Other Than Employees for Acquiring, or in Conjunction with Selling Goods or Services;

b. FASB Emerging Issues Task Force 00-08: Accounting by a Grantee for an Equity Instrument to Be Received in Conjunction with Providing Goods or Services;

c. FASB Emerging Issues Task Force 00-18: Accounting Recognition for Certain Transactions Involving Equity Instruments Granted to Other Than Employees; and

149. Reporting entities with existing share-based payment instruments that applied the guidance contained in SSAP No. 13—Stock Options and Stock Purchase Plans (SSAP No. 13) shall apply the requirements of the adopted SSAP No. 104 prospectively to new awards and to awards modified, repurchased, or cancelled after the required effective date. Those reporting entities shall continue to account for any portion of awards outstanding at the date of initial application using the accounting principles originally applied to those awards (SSAP No. 13).

150. The substantive revisions to this statement to incorporate guidance for share-based payment transactions for non-employees, detailed in Issue Paper No. 146, are effective prospectively initially for years ending December 31, 2014. The cumulative effect of initially applying this statement, if any, shall be recognized as of the required effective date as a change in accounting principle under SSAP No. 3—Accounting Changes and Corrections of Errors (SSAP No. 3).

145. 151. The guidance in paragraph 59 is effective as of January 1, 2016, with early adoption permitted. Nonsubstantive revisions to adopt ASU 2017-09 are effective January 1, 2018, with early adoption permitted. The revised guidance shall be applied prospectively to modifications that occur on or after the effective date. Nonsubstantive revisions to adopt with modification ASU 2016-09 are effective December 31, 2017, with early adoption permitted, as detailed in paragraph 143 of this statement.

REFERENCES

Other

• SSAP No. 12—Employee Stock Ownership Plans




Relevant Issue Papers

• Issue Paper No. 129—Share-Based Payment, A Replacement of SSAP No. 13 • Issue Paper No. 146—Share-Based Payments With Non-Employees



104R-41

EXHIBIT A – CLASSIFICATION CRITERIA: LIABILITY OR EQUITY

Classification Criteria

A2. As detailed in paragraph 14 16 of the statement, unless paragraphs 17-29 require otherwise, an entity shall apply the classification criteria detailed in paragraphs 14-27 in the statement, as they are effective at the reporting date, in determining whether to classify as a liability a freestanding financial instrument given to an employee in a share-based payment transactionin this Exhibit in determining whether to classify a freestanding financial instruments given to a grantee as a liability.

A3. The guidance in this Section Exhibit shall be applied to a freestanding financial instrument in its entirety. Any nonsubstantive or minimal features shall be disregarded in applying the classification provisions of this SectionExhibit. Judgment, based on consideration of all the terms of an instrument and other relevant facts and circumstances, is necessary to distinguish substantive, nonminimal features from nonsubstantive or minimal features. (480-10-25-1)

Mandatorily Redeemable Financial Instruments

A4. A mandatorily redeemable financial instrument shall be classified as a liability unless the redemption is required to occur only upon the liquidation or termination of the reporting entity. (480-10-25-2)

A5. A financial instrument that embodies a conditional obligation to redeem the instrument by transferring assets upon an event not certain to occur becomes mandatorily redeemable if that event occurs, the condition is resolved, or the event becomes certain to occur. (480-10-25-3)

A6. In determining if an instrument is mandatorily redeemable, all terms within a redeemable instrument shall be considered. The following items do not affect the classification of a mandatorily redeemable financial instrument as a liability: (480-10-25-6)

a. A term extension option

b. A provision that defers redemption until a specified liquidity level is reached

c. A similar provision that may delay or accelerate the timing of a mandatory redemption.

A7. If a financial instrument will be redeemed only upon the occurrence of a conditional event, redemption of that instrument is conditional and, therefore, the instrument does not meet the definition of mandatorily redeemable financial instrument in this statement. However, that financial instrument would be assessed at each reporting period to determine whether circumstances have changed such that the instrument now meets the definition of a mandatorily redeemable instrument (that is, the event is no longer conditional). If the event has occurred, the condition is resolved, or the event has become certain to occur, the financial instrument is reclassified as a liability. (480-10-25-7)

Obligations to Repurchase Issuer’s Equity Shares by Transferring Assets

A8. An entity shall classify as a liability (or an asset in some circumstances) any financial instrument, other than an outstanding share, that, at inception, has both of the following characteristics: (480-10-25-8)

a. It embodies an obligation to repurchase the issuer’s equity shares, or is indexed to such an obligation, and

b. It requires or may require the issuer to settle the obligation by transferring assets.










A9. In this statement, “indexed to” is used interchangeably with “based on variations in the fair value of.” The phrase “requires or may require” encompasses instruments that either conditionally or unconditionally obligate the issuer to transfer assets. If the obligation is conditional, the number of conditions leading up to the transfer of assets is irrelevant. (480-10-25-9)

A10. Examples of financial instruments that meet the criteria in paragraph A7 of this exhibit include forward purchase contracts or written put options on the issuer’s equity shares that are to be physically settled or net cash settled.

A11. All obligations that permit the holder to require the issuer to transfer assets result in liabilities, regardless of whether the settlement alternatives have the potential to differ.

A12. Certain financial instruments that embody obligations that are liabilities within the scope of this statement also may contain characteristics of assets but be reported as single items. Some examples include the following:

a. Net-cash-settled or net-share-settled forward purchase contracts.

b. Certain combined options to repurchase the issuer’s shares.

Those instruments are classified as assets or liabilities initially or subsequently depending on the instrument’s fair value on the reporting date.

A13. An instrument that requires the issuer to settle its obligation by issuing another instrument (for example, a note payable in cash) ultimately requires settlement by a transfer of assets, accordingly:

a. When applying paragraphs A7-A11 of this exhibit, this also would apply for an instrument settled with another instrument that ultimately may require settlement by a transfer of assets (warrants for puttable shares).

b. It is clear that a warrant for mandatorily redeemable shares would be a liability under this statement.

Certain Obligations to Issue a Variable Number of Shares

A14. A financial instrument that embodies an unconditional obligation, or a financial instrument other than an outstanding share that embodies a conditional obligation, that the issuer must or may settle by issuing a variable number of its equity shares shall be classified as a liability (or an asset in some circumstances) if, at inception, the monetary value of the obligation is based solely or predominantly on any one of the following:

a. A fixed monetary amount known at inception (for example, a payable settleable with a variable number of the issuer’s equity shares),

b. Variations in something other than the fair value of the issuer’s equity shares (for example, a financial instrument indexed to the Standard and Poor's S&P 500 Index and settleable with a variable number of the issuer’s equity shares), or

c. Variations inversely related to changes in the fair value of the issuer’s equity shares (for example, a written put option that could be net share settled).

Prohibition on Combining Freestanding Financial Instruments









A15. A freestanding financial instrument that is within the scope of this statement shall not be combined with another freestanding financial instrument in applying paragraphs A3-A13 of this exhibit. For example, a freestanding written put option that is classified as a liability under this statement shall not be combined with an outstanding equity share.

Distinguishing Liability from Equity – Scope and Scope Exclusions

A16. The guidance in paragraphs 14-2717-29 of this statement applies to any freestanding financial instrument, including one that has any of the following attributes:

a. Comprises more than one option or forward contract, or

b. Has characteristics of both a liability and equity and, in some circumstances, also has characteristics of an asset (for example, a forward contract to purchase the issuer’s equity shares that is to be net cash settled). Accordingly, this statement does not address an instrument that has only characteristics of an asset.

A17. For example, an instrument that consists of a written put option for an issuer’s equity shares and a purchased call option and nothing else is a freestanding financial instrument. That freestanding financial instrument embodies an obligation to repurchase the issuer’s equity shares and is subject to the requirements of this statement.









EXHIBIT B – Disclosure Information

1. The following list indicates the minimum information needed to achieve the objectives in paragraphs 101 and 139 of this statement and illustrates how the disclosure requirements might be satisfied. In some circumstances, an entity may need to disclose information beyond the following to achieve the disclosure objectives:

a. A description of the share-based payment arrangement(s), including the general terms of awards under the arrangement(s), such as:

i. The requisite service period(s) and any other substantive conditions (including those related to vesting)

ii. The maximum contractual term of equity (or liability) share options or similar instruments

iii. The number of shares authorized for awards of equity share options or other equity instruments.

b. The method it uses for measuring compensation cost from share-based payment arrangements with employees.

c. For the most recent year for which an income statement is provided, both of the following:

i. The number and weighted-average exercise prices (or conversion ratios) for each of the following groups of share options (or share units):

(a) Those outstanding at the beginning of the year

(b) Those outstanding at the end of the year

(c) Those exercisable or convertible at the end of the year

(d) Those that during the year were:

(1) Granted

(2) Exercised or converted

(3) Forfeited

(4) Expired

ii. The number and weighted-average grant-date fair value (or calculated value for an entity that uses that method or intrinsic value for awards measured pursuant to paragraph 53 of this statement) of equity instruments not specified in (c)(1), for all of the following groups of equity instruments:




(a) Those nonvested at the beginning of the year

(b) Those nonvested at the end of the year

(c) Those that during the year were:

(1) Granted

(2) Vested

(3) Forfeited

d. For each year for which an income statement is provided, both of the following:

i. The weighted-average grant-date fair value (or calculated value for an entity that uses that method or intrinsic value for awards measured at that value pursuant to paragraphs 52-53 of this statement) of equity options or other equity instruments granted during the year, and

ii. The total intrinsic value of options exercised (or share units converted), share-based liabilities paid, and the total fair value of shares vested during the year.

e. For fully vested share options (or share units) and share options expected to vest (or unvested shares for which the requisite service period has not been rendered but that are expected to vest based on the achievement of a performance condition, if an entity accounts for forfeitures when they occur in accordance with paragraph 62) at the date of the latest statement of financial position, both of the following:

i. The number, weighted-average exercise price (or conversion ratio), aggregate intrinsic value, and weighted-average remaining contractual term of options (or share units) outstanding, and

ii. The number, weighted-average exercise price (or conversion ratio), aggregate intrinsic value, and weighted-average remaining contractual term of options (or share units) currently exercisable (or convertible).

f. For each year for which an income statement is presented, both of the following (An

entity that uses the intrinsic value method pursuant to paragraphs 52-53 of this statement is not required to disclose the following information for awards accounted for under that method):

i. A description of the method used during the year to estimate the fair value (or calculated value) of awards under share-based payment arrangements, and

ii. A description of the significant assumptions used during the year to estimate the fair value (or calculated value) of share-based compensation awards, including (if applicable):

(a) Expected term of share options and similar instruments, including a discussion of the method used to incorporate the contractual term of the instruments and employees’ expected exercise and postvesting




employment termination behavior into the fair value (or calculated value) of the instrument.

(b) Expected volatility of the entity’s shares and the method used to estimate it. An entity that uses a method that employs different volatilities during the contractual term shall disclose the range of expected volatilities used and the weighted-average expected volatility. An entity that uses the calculated value method shall disclose the reasons why it is not practicable for it to estimate the expected volatility of its share price, the appropriate industry sector index that it has selected, the reasons for selecting that particular index, and how it has calculated historical volatility using that index.

(c) Expected dividends. An entity that uses a method that employs different dividend rates during the contractual term shall disclose the range of expected dividends used and the weighted-average expected dividends.

(d) Risk-free rate(s). An entity that uses a method that employs different risk-free rates shall disclose the range of risk-free rates used.

(e) Discount for post-vesting restrictions and the method for estimating it.

g. An entity that grants equity or liability instruments under multiple share-based payment arrangements with employees shall provide the information specified in paragraph (a) through (f) separately for different types of awards to the extent that the differences in the characteristics of the awards make separate disclosure important to an understanding of the entity’s use of share-based compensation. For example, separate disclosure of weighted-average exercise prices (or conversion ratios) at the end of the year for options (or share units) with a fixed exercise price (or conversion ratio) and those with an indexed exercise price (or conversion ratio) could be important. It also could be important to segregate the number of options (or share units) not yet exercisable into those that will become exercisable (or convertible) based solely on fulfilling a service condition and those for which a performance condition must be met for the options (share units) to become exercisable (convertible). It could be equally important to provide separate disclosures for awards that are classified as equity and those classified as liabilities. In addition, an entity that has multiple share-based payment arrangements with employees shall disclose information separately for different types of awards under those arrangements to the extent that differences in the characteristics of the awards make separate disclosure important to an understanding of the entity’s use of share-based compensation.

h. For each year for which an income statement is presented, both of the following:

i. Total compensation cost for share-based payment arrangements

(a) Recognized in income as well as the total recognized tax benefit related thereto

(b) Capitalized as part of the cost of an asset.

ii. A description of significant modifications, including:




(a) The terms of the modifications,

(b) The number of employees affected,

(c) The total incremental compensation cost resulting from the modifications.

i. As of the latest balance sheet date presented, the total compensation cost related to nonvested awards not yet recognized and the weighted-average period over which it is expected to be recognized.

j. If not separately disclosed elsewhere, the amount of cash received from exercise of share options and similar instruments granted under share-based payment arrangements and the tax benefit from stock options exercised during the annual period.

k. If not separately disclosed elsewhere, the amount of cash used to settle equity instruments granted under share-based payment arrangements.

l. A description of the entity’s policy, if any, for issuing shares upon share option exercise (or share unit conversion), including the source of those shares (that is, new shares or treasury shares). If as a result of its policy, an entity expects to repurchase shares in the following annual period, the entity shall disclose an estimate of the amount (or a range, if more appropriate) of shares to be repurchased during that period.

m. If not separately disclosed elsewhere, the policy for estimating expected forfeitures or recognizing forfeitures as they occur.

2. In addition to the information required by this statement, an entity may disclose supplemental information that it believes would be useful to investors and creditors, such as a range of values calculated on the basis of different assumptions, provided that the supplemental information is reasonable and does not lessen the prominence and credibility of the information required by this statement. The alternative assumptions shall be described to enable users of the financial statements to understand the basis for the supplemental information.

G:\FRS\DATA\Stat Acctg\3. National Meetings\A. National Meeting Materials\2019\Spring\Hearing\5 - 18-35 - ASU 2018-07 - SSAP 104R.docx





Form A

Issue: ASU 2018-13, Changes to the Disclosure Requirements for Fair Value Measurement Check (applicable entity): P/C Life Health


Description of Issue: This agenda item has been drafted to consider ASU 2018-13, Changes to the Disclosure Requirements for Fair Value Measurement for statutory accounting. This ASU was issued in August 2018 as part of a FASB project to improve the effectiveness of disclosures in the notes to the financial statements. Additionally, in August 2018, the FASB finalized a proposed FASB Concepts Statement, Conceptual Framework for Financial Reporting – Chapter 8: Notes to Financial Statements. The intent of this Concept Statement is to identify a broad range of possible information for the Board’s consideration when deciding on the disclosure requirements for a particular topic. From that broad set, the Board will identify a narrower set of disclosures to be required on the basis of, among other considerations, an evaluation of whether the expected benefits of providing the information justify the expected costs. The amendments in ASU 2018-13 are the result of the Board’s final deliberations of the concepts in the Concepts Statement as they relate to fair value measurement disclosures. The ASU modifies the disclosure requirements in ASC Topic 820, Fair Value Measurement as follows: Removed Disclosures: The following disclosure requirements were removed:

1. Amount of and reasons for transfers between Level 1 and Level 2 of the fair value hierarchy - This disclosure was removed as it was deemed not useful because the fair value measurements for level 1 and level 2 are based on observable market prices, and users agreed that the removal would not result in eliminating decision-useful information about fair value measurements. (This disclosure was previously adopted for SAP, and reflected in paragraph 47b of SSAP No. 100R—Fair Value.)

2. Policy for timing of transfers between levels – This disclosure was removed as it was not deemed to provide cost-beneficial information. (This disclosure was previously adopted for SAP and reflected in paragraphs 47b and 47f of SSAP No. 100R.)

3. Valuation processes for Level 3 fair value measurements - This disclosure was removed as it was not deemed to provide cost-beneficial information. (This disclosure was not previously included in SSAP No. 100R—Fair Value.)

Modified Disclosures: The following disclosure requirements were modified:

1. Level 3 Rollforward – In lieu of a rollforward for Level 3 fair value measurements, a nonpublic entity is required to disclose transfers into and out of Level 3 of the fair value hierarchy and purchases and issues of Level 3 assets and liabilities. Although the FASB concluded that the level 3 rollforward is useful and should be retained as a required disclosure, the board concluded that nonpublic entities should have the same exemptions as private entities. Although the rollfoward is not required for nonpublic entities, information on the purchases, issues, and transfers in/out of Level 3 is required, because it is important for nonpublic entity users to be able to identify when the entity has either increased its Level 3 assets and liabilities or transferred assets or liabilities into/out of Level 3, which could signal an increase or decrease



in uncertainty of the fair value measurements. (The level 3 rollforward was previously adopted for SAP in paragraph 47e of SSAP No. 100R. The different format for nonpublic is new in ASU 2018-13.)

2. Liquidation Timing for Net Asset Value (NAV) – For investments in certain entities that calculate NAV, an entity is required to disclose the timing of liquidation of an investee’s assets and the date when restrictions from redemption might lapse only if the investee has communicated the timing to the entity or announced the timing publicly. This disclosure was modified as timing of a liquidation is irrelevant to the measurement of investments measured at NAV. However, since the timing is useful information to the users, the information is still required when it has been communicated to the entity. (This disclosure was previously adopted for SAP in paragraph 51b of SSAP No. 100R.)

3. Measurement Uncertainty Disclosure – The amendments clarify that the measurement uncertainty

disclosure is to communicate information about the uncertainty in measurement as of the reporting date. The FASB clarified this disclosure as the intent is to disclose uncertainty and not sensitivity. Reporting entities that previously disclosed uncertainty should be unaffected. Entities that had previously disclosed sensitivity to expected future changes would no longer disclose that forward-looking information. (This disclosure was not duplicated in SAP and there is no current reference to “sensitivity” in the existing disclosures.)

New Disclosures: The following disclosure requirements were added for public companies. (These are not required for nonpublic entities.)

1. Change in Unrealized Gains/Losses in OCI – The new disclosure requires information on the changes in unrealized gains and losses for the period included in other comprehensive income (OCI) for recurring Level 3 fair value measurements held at the end of the reporting period. (This disclosure was also considered for Level 1 and Level 2 measurements, but the Board concluded that the expected benefits did not justify the expected costs.) The Board decided that this disclosure for Level 3 fair value measurements will provide users additional information without significant cost as entities already perform additional analyses for Level 3 measurements.

2. Significant Unobservable Inputs – The new disclosure requires the range and weighted average of significant unobservable inputs used to develop Level 3 fair value measurements. In requiring this disclosure, the Board noted that many entities already disclose the range and weighted average, and users agreed that this information is useful to their analyses and is used to assess the reasonableness of the assumptions, inputs and techniques used by the entity to develop the significant unobservable inputs for Level 3 fair value measurements. The FASB noted that this disclosure helps users identify red flags and ask an entity’s management questions.

In addition to the revisions noted, the FASB also removed the phrase “at a minimum” from the disclosure requirements to promote the appropriate exercise of discretion by entities when considering fair value measurement disclosures and to clarify that materiality is an appropriate consideration of entities and their auditors when evaluating disclosure requirements. The amendments detailed in ASU 2018-13 are effective Jan. 1, 2020, with specific provisions as follows:

• The amendments on changes in unrealized gains and losses, the range and weighted average of significant unobservable inputs used to develop Level 3 fair value measurements, and the narrative description for measurement uncertainty should be applied prospectively for only the most recent interim or annual period presented at initial adoption.

• All other amendments should apply retrospectively to all periods presented upon their effective date.



• Early adoption is permitted upon issuance of the ASU. An entity is permitted to early adopt any removed or modified disclosure upon issuance of the ASU, and delay adoption of the additional disclosures until their effective date.

Existing Authoritative Literature: SSAP No. 100R—Fair Value: This SSAP defines fair value, establishes a framework for measuring fair value and establishes disclosure requirements about fair value. SSAP No. 100R consideration of U.S. GAAP standards is as follows:

• FAS 157, Fair Value Measurements; (FAS 157) – Adopted with Modification

• FSP FAS 157-1, Application of FASB Statement No. 157 to FASB Statement No. 13 and Other Accounting Pronouncements That Address Fair Value Measurements for Purposes of Lease Classification or Measurement Under Statement 13, (FSP FAS 157-1) – Adopted with Modification

• FSP FAS 157-4, Determining Fair Value When the Volume and Level of Activity for the Asset or Liability Have Significantly Decreased and Identifying Transactions That Are Not Orderly (FSP FAS 157-4) – Adopted with Modification

• ASU 2016-01, Financial Instruments – Rejected

• ASU 2015-07, Disclosures for Investments in Certain Entities that Calculate Net Asset Value per Share (or its equivalent) – Adopted

• ASU 2013-03, Clarifying the Scope and Applicability of a Particular Disclosure to Nonpublic Entities – Rejected

• ASU 2010-06, Fair Value Measurements and Disclosures – (Topic 820) – Improving Disclosures about Fair Value Measurements (ASU 2010-06) – Adopted with Modification

• ASU 2009-12, Investment in Certain Entities that Calculate Net Asset Value per Share (or its equivalent) - Adopted

• FAS 107, Disclosures about Fair Value of Financial Instruments as amended by FAS 119, Disclosure about Derivative Financial Instruments and Fair Value of Financial Instruments – Adopted with Modification. (Paragraph 15.c. of FAS 119 is rejected.)

• FASB Emerging Issues Task Force No. 85-20, Recognition of Fees for Guaranteeing a Loan – Adopted with Modification

• FSP FAS 107-1 and APB-1, Interim Disclosures about Fair Value of Financial Instruments – Adopted

• FSP FAS 157-2: Effective Date of FASB Statement No. 157 (FSP FAS 157-2) – Rejected

• FSP FAS 157-3: Determining the Fair Value of a Financial Asset When the Market for That Asset is Not

Active (FSP FAS 157-3) – Rejected

The following “Fair Value” related GAAP issuances are pending SAP review:

• ASU 2009-05, Fair Value Measurements and Disclosures, Measuring Liabilities at Fair Value



• ASU 2011-04, Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements in U.S. GAAP and IFRS

• ASU 2013-09, Fair Value Measurements: Deferral of the Effective Date of Certain Disclosures for Nonpublic Employee Benefit Plans in Update 2011-04.

SSAP No. 100R Disclosure Guidance:

Disclosures 47. A reporting entity shall disclose information that helps users of the financial statements to assess both of the following: (1) For assets and liabilities that are measured and reported1 at fair value or NAV in the statement of financial position after initial recognition, the valuation techniques and inputs used to develop those measurements; (2) For fair value measurements in the statement of financial position determined using significant unobservable inputs (Level 3), the effect of the measurements on earnings (or changes in net assets) for the period. To meet these objectives, the reporting entity shall disclose the information in paragraphs 47.a. through 47.f. for each class of assets and liabilities measured and reported2 at fair value or NAV in the statement of financial position after initial recognition. The reporting entity shall determine appropriate classes of assets and liabilities in accordance with the annual statement instructions.

a. The fair value/NAV measurements at the reporting date.

b. The level of the fair value hierarchy within which the fair value measurements are categorized in their entirety (Level 1, 2 or 3). (Investments reported at NAV shall not be captured within the fair value hierarchy, but shall be separately identified.)

c. For assets and liabilities held at the reporting date, the amounts of any transfers between Level 1 and Level 2 of the fair value hierarchy, the reasons for the transfers, and the reporting entity’s policy for determining when transfers between levels are recognized. Transfers into each level shall be disclosed and discussed separately from transfers out of each level.

d. For fair value measurements categorized within Level 2 and Level 3 of the fair value hierarchy, a description of the valuation technique(s) and the inputs used in the fair value measurement. If there has been a change in the valuation technique (for example, changing from a market approach to an income approach or the use of an additional valuation technique), the reporting entity shall disclose that change and the reason(s) for making it.

e. For fair value measurements categorized within Level 3 of the fair value hierarchy a reconciliation from the opening balances to the closing balances disclosing separately changes during the period attributable to the following:

i. Total gains or losses for the period recognized in income or surplus.

ii. Purchases, sales, issues, and settlements (each type disclosed separately)

1 The term “reported” is intended to reflect the measurement basis for which the asset or liability is classified within its underlying SSAP. For example, a bond with an NAIC designation of 2 is considered an amortized cost measurement and is not included within this disclosure even if the amortized cost and fair value measurement are the same. An example of when such a situation may occur includes a bond that is written down as other-then-temporarily impaired as of the date of financial position. The amortized cost of the bond after the recognition of the other-than-temporary impairment may agree to fair value, but under SSAP No. 26R this security is considered to still be reported at amortized cost.

2 See Footnote 1



iii. The amounts of any transfers into or out of Level 3, the reasons for those transfers, and the reporting entity’s policy for determining when transfers between levels are recognized. Transfers into Level 3 shall be disclosed and discussed separately from transfers out of Level 3.

f. A reporting entity shall disclose and consistently follow its policy for determining when transfers between levels are recognized. The policy about the timing of recognizing transfers shall be the same for transfers into Level 3 as that for transfers out of Level 3. Examples of policies for when to recognize the transfers are as follows:

i. The actual date of the event or change in circumstances that caused the transfer

ii. The beginning of the reporting period

iii. The end of the reporting period.

48. For derivative assets and liabilities, the reporting entity shall present both of the following:

a. The disclosures required by paragraph 47.a., 47.b. and 47.c. on a gross basis

b. The reconciliation disclosures required by paragraph 47.d., 47.e. and 47.f. on either a gross or net basis

49. The quantitative disclosures required in paragraphs 47-48 of this standard shall be presented using a tabular format.

50. The reporting entity shall disclose the fair value hierarchy and the method used to obtain the fair value measurement, or the use of NAV, for all items in which fair value is disclosed within the annual statement investment schedules. This disclosure is satisfied by the completion of the investment schedules in the Annual statement and is not required quarterly.

51. For investments measured using the NAV practical expedient pursuant to paragraph 39, a reporting entity shall disclose information that helps users of its financial statements to understand the nature and risks of the investments and whether the investments, if sold, are probable of being sold at amounts different from net asset value per share. To meet that objective, a reporting entity shall disclose, at a minimum, the following information for instances in which the investment may be sold below NAV, or if there are significant restrictions in the liquidation of an investment held at NAV:

a. The NAV along with a description of the investment/investment strategy of the investee.

b. If the investment that can never be redeemed with the investees, but the reporting entity receives distributions through the liquidation of the underlying assets of the investees, the reporting entity’s estimate of the period of time over which the underlying assets are expected to be liquidated by the investees.

c. The amount of the reporting entity’s unfunded commitments related to investments in the class.

d. A general description of the terms and conditions upon which the investor may redeem the investment.

e. The circumstances in which an otherwise redeemable investment in the class (or a portion thereof) might not be redeemable (for example, investments subject to a lockup or gate). Also, for those otherwise redeemable investments that are restricted from redemption as of the reporting entity’s measurement date, the reporting entity shall disclose its estimate of when the restriction from redemption might lapse. If an estimate cannot be made, the reporting entity shall disclose that fact and how long the restriction has been in effect.



f. Any other significant restriction on the ability to sell investments in the class at the measurement date.

g. If a group of investments would otherwise meet the criteria in paragraph 45 but the individual investments to be sold have not been identified (for example, if a reporting entity decides to sell 20 percent of its investments in private equity funds but the individual investments to be sold have not been identified), so the investments continue to qualify for the practical expedient in paragraph 39, the reporting entity shall disclose its plans to sell and any remaining actions required to complete the sale(s).

52. The reporting entity is encouraged, but not required, to combine the fair value information disclosed under this standard with the fair value information disclosed under other accounting pronouncements (for example, disclosures about fair value of financial instruments) in the periods in which those disclosures are required, if practicable. The reporting entity also is encouraged, but not required, to disclose information about other similar measurements, if practicable.

Disclosures about Fair Value of Financial Instruments

53. A reporting entity shall disclose in the notes to the financial statements, as of each date for which a statement of financial position is presented in the quarterly or annual financial statements, the aggregate fair value or NAV for all financial instruments and the level within the fair value hierarchy in which the fair value measurements in their entirety fall. This disclosure shall be summarized by type of financial instrument, for which it is practicable to estimate fair value, except for certain financial instruments identified in paragraph 54. Fair value disclosed in the notes shall be presented together with the related admitted values in a form that makes it clear whether the fair values and admitted values represent assets or liabilities and to which line items in the Statement of Assets, Liabilities, Surplus and Other Funds they relate. Unless specified otherwise in another SSAP, the disclosures may be made net of encumbrances, if the asset or liability is so reported. A reporting entity shall also disclose the method(s) and significant assumptions used to estimate the fair value of financial instruments. If it is not practicable for an entity to estimate the fair value of the financial instrument or a class of financial instruments, and the investment does not qualify for the NAV practical expedient, the aggregate carrying amount for those items shall be reported as “not practicable” with additional disclosure as required in paragraph 47.

54. The disclosures about fair value prescribed in paragraph 53 are not required for the following:

a. Employers' and plans' obligations for pension benefits, other postretirement benefits including health care and life insurance benefits, postemployment benefits, employee stock option and stock purchase plans, and other forms of deferred compensation arrangements, as defined in SSAP No. 12—Employee Stock Ownership Plans (SSAP No. 12), SSAP No. 92—Postretirement Benefits Other Than Pensions (SSAP No. 92), SSAP No. 102—Pensions (SSAP No. 102) and SSAP No. 104R—Share-Based Payments (SSAP No. 104R).

b. Substantively extinguished debt subject to the disclosure requirements of SSAP No. 103R—Transfer and Servicing of Financial Assets and Extinguishments of Liabilities (SSAP No. 103R)

c. Insurance contracts, other than financial guarantees and deposit-type contracts

d. Lease contracts as defined in SSAP No. 22—Leases (SSAP No. 22)

e. Warranty obligations and rights

f. Investments accounted for under the equity method

g. Equity instruments issued by the entity



h. Deposit liabilities with no defined or contractual maturities

55. If it is not practicable for an entity to estimate the fair value of a financial instrument or a class of financial instruments, and the investment does not qualify for the NAV practical expedient, the following shall be disclosed:

a. Information pertinent to estimating the fair value of that financial instrument or class of financial instruments, such as the carrying amount, effective interest rate, and maturity; and

b. The reasons why it is not practicable to estimate fair value.

56. In the context of this standard, practicable means that an estimate of fair value can be made without incurring excessive costs. It is a dynamic concept: what is practicable for one entity might not be for another; what is not practicable in one year might be in another. For example, it might not be practicable for an entity to estimate the fair value of a class of financial instruments for which a quoted market price is not available because it has not yet obtained or developed the valuation model necessary to make the estimate, and the cost of obtaining an independent valuation appears excessive considering the materiality of the instruments to the entity. Practicability, that is, cost considerations, also may affect the required precision of the estimate; for example, while in many cases it might seem impracticable to estimate fair value on an individual instrument basis, it may be practicable for a class of financial instruments in a portfolio or on a portfolio basis. In those cases, the fair value of that class or of the portfolio should be disclosed. Finally, it might be practicable for an entity to estimate the fair value only of a subset of a class of financial instruments; the fair value of that subset should be disclosed.

Activity to Date (issues previously addressed by the Working Group, Emerging Accounting Issues (E) Working Group, SEC, FASB, other State Departments of Insurance or other NAIC groups): Agenda item 2011-14 proposed substantive revisions to SSAP No. 100 to adopt with modification ASU 2011-04. Although staff proposed adopting ASU 2011-14, the vast majority of changes within the ASU did not alter the determination of fair value. Rather, ASU 2011-14 was issued to achieve wording consistency with the IFRS. Due to the extent of revisions required, with no material impact to actual application guidance, further progress on this ASU has been delayed to focus on higher priority projects. In addition to ASU 2011-04, ASU 2009-05, Fair Value Measurements and Disclosures, Measuring Liabilities at Fair Value and ASU 2013-09, Deferral of the Effective Date of Certain Disclosures for Nonpublic Employee Benefit Plans in ASU 2011-04 are still pending statutory accounting review.

Information or issues (included in Description of Issue) not previously contemplated by the Working Group: None Convergence with International Financial Reporting Standards (IFRS): The amendments in ASU 2018-13 do not change the guidance on measuring fair value, therefore the previous work of the IFRS and FASB to develop common measurement requirements remains effective. The ASU amendments do create disclosure differences based on the FASB’s and IASB’s differing assessments on financial statement users’ needs and the application of the concepts in the Concepts Statement to the disclosures required in Topic 820. Staff Recommendation: NAIC staff recommends that the Working Group move this item to the nonsubstantive active listing and expose revisions to SSAP No. 100R to adopt with modification the disclosure amendments reflected in ASU 2018-13. Additionally, revisions have been proposed to SSAP No. 100R to update and clarify the actions by the Working Group on related U.S. GAAP pronouncements. (The nonsubstantive revisions will be effective when adopted, as such, the deleted disclosures would not be required in the 2019 statutory financial statements. Technically, this may be earlier than U.S. GAAP, but U.S. GAAP allows all entities to early adopt any removed disclosures upon issuance of the ASU, and delay adoption of any revised disclosures until Jan. 1, 2020. As such, NAIC staff sees no concern with removing the deleted disclosures in 2019, as it is expected as most companies would no longer be capturing them for GAAP purposes.)



The following ASU 2018-13 amendments are proposed to be adopted in SSAP No. 100R:

1. Revisions to describe the disclosure objective. (The revisions to paragraph 47 of SSAP No. 100R reflect the guidance / intent from the FASB changes made to ASC 820-10-50-1 through 820-10-50-1D.)

2. Revisions to eliminate information on transfers between hierarchy level 1 and level 2 for items measured and reported at fair value. (The deletion of paragraph 48c reflects the deletion of ASC 820-10-50-2bb.)

3. Revisions to paragraph 48.d.vi and 48e incorporate changes made to ASC 820-10-50-2c3 and 820-10-50-2C, eliminating the disclosure of the reporting entity’s policy for determining when transfers between levels have occurred.

4. Revisions to paragraphs 52, 52b and 52e to reflect the GAAP disclosure changes related to the calculation of net asset value from ASC 820-10-50-6A, including subparagraphs 6Ab and 6Ae.

The following ASU 2018-13 amendments are not proposed to be reflected:

1. GAAP disclosures, and related revisions, for “nonrecurring” fair value measurements. The SAP disclosures are specific to assets and liabilities measured and reported at fair value or NAV. For statutory accounting, information on the fair value hierarchy and method used to obtain fair value is captured in the investment schedule for all reported assets. Additionally, information on the fair value hierarchy by class of assets is captured in a financial instrument disclosure.

2. GAAP disclosures identifying changes in unrealized gains and losses reported in OCI for level 3 assets still held at the end of the reporting period. This disclosure is not considered necessary for statutory accounting as fair value changes are reflected as unrealized while the asset is held, unless an OTTI is recognized. The investment schedules already identify unrealized gains or losses as well as OTTI on an individual asset basis.

3. New public entity disclosure to capture the range and weighted average (including the weighted average calculation) of significant unobservable inputs used to develop Level 3 fair value measurements and nonpublic entity quantitative disclosure on significant unobservable inputs. These disclosures were incorporated to replace a disclosure of the valuation processes in determining Level 3 measurements, which is still pending review for SAP. (The disclosure on the valuation process was incorporated from ASU 2011-04, which is still pending review for SAP.) (NAIC staff’s initial thoughts are that this disclosure is unnecessary for statutory accounting, but comments are requested if regulators would like this detail.)

4. GAAP revisions clarifying the requirements to provide a narrative disclosure of uncertainty of fair value Level 3 measurements, and how the inputs used to determine Level 3 inputs could have been different at the reporting date. These GAAP revisions modified an existing disclosure requiring disclosure of the “sensitivity” of the fair value measurement, which had yet to be incorporated into SAP. (The disclosure on the sensitivity and how changes in unobservable inputs was incorporated into GAAP from ASU 2011-04, which is still pending review for SAP.) (NAIC staff’s initial thoughts are that this disclosure is unnecessary for statutory accounting, but comments are requested if regulators would like this detail.)

(In addition to the revisions from the ASU, a clean-up provision has been incorporated to remove the reference of ASU 2009-12 in paragraph 59.)



Proposed Revisions to SSAP No. 100R—Fair Value:

Disclosures 47. The objective of the disclosure requirements is to provide information about assets and liabilities measured at fair value in the financial statements as well as fair value amounts disclosed in the notes to financial statements or reporting schedules. A reporting entity shall disclose information that helps users of the financial statements to assess both of the following: (1) For assets and liabilities that are measured and reported3 at fair value or NAV in the statement of financial position after initial recognition, the valuation techniques and inputs used to develop those measurements; (2) For fair value measurements in the statement of financial position determined using significant unobservable inputs (Level 3), the effect of the measurements on earnings (or changes in net assets) for the period. To meet these objectives, the reporting entity shall disclose the information in paragraphs 47.a48. through 5747.f.

47.48. Ffor each class of assets and liabilities measured and reported45 at fair value or NAV in the statement of financial position after initial recognition. The reporting entity shall determine appropriate classes of assets and liabilities in accordance with the annual statement instructions.

a. The fair value/NAV measurements at the reporting date.

b. The level of the fair value hierarchy within which the fair value measurements are categorized in their entirety (Level 1, 2 or 3). (Investments reported at NAV shall not be captured within the fair value hierarchy, but shall be separately identified.)

c. For assets and liabilities held at the reporting date, the amounts of any transfers between Level 1 and Level 2 of the fair value hierarchy, the reasons for the transfers, and the reporting entity’s policy for determining when transfers between levels are recognized. Transfers into each level shall be disclosed and discussed separately from transfers out of each level.

d.c. For fair value measurements categorized within Level 2 and Level 3 of the fair value hierarchy, a description of the valuation technique(s) and the inputs used in the fair value measurement. If there has been a change in the valuation technique (for example, changing from a market approach to an income approach or the use of an additional valuation technique), the reporting entity shall disclose that change and the reason(s) for making it.

e.d. For fair value measurements categorized within Level 3 of the fair value hierarchy a reconciliation from the opening balances to the closing balances disclosing separately changes during the period attributable to the following:

i. Total gains or losses for the period recognized in income or surplus.



5 See Footnote 1



ii. Purchases, sales, issues, and settlements (each type disclosed separately)

iii. The amounts of any transfers into or out of Level 3, and the reasons for those transfers, and the reporting entity’s policy for determining when transfers between levels are recognized. Transfers into Level 3 shall be disclosed and discussed separately from transfers out of Level 3.

f.e. A reporting entity shall disclose and consistently follow its policy for determining when transfers between levels are recognized. The policy about the timing of recognizing transfers shall be the same for transfers into Level 3 as that for transfers out of Level 3. Examples of policies for when to recognize the transfers are as follows:

i. The actual date of the event or change in circumstances that caused the transfer

ii. The beginning of the reporting period

iii. The end of the reporting period.

48.49. For derivative assets and liabilities, the reporting entity shall present both of the following:

a. The disclosures required by paragraph 487.a. and, 487.b. and 47.c. on a gross basis

b. The reconciliation disclosures required by paragraph 478.dc., 478.ed. and 487.fe. on either a gross or net basis

49.50. The quantitative disclosures required in paragraphs 487-498 of this standard shall be presented using a tabular format.

50.51. The reporting entity shall disclose the fair value hierarchy and the method used to obtain the fair value measurement, or the use of NAV, for all items in which fair value is disclosed within the annual statement investment schedules. This disclosure is satisfied by the completion of the investment schedules in the Annual statement and is not required quarterly.

51.52. For investments measured using the NAV practical expedient pursuant to paragraph 39, a reporting entity shall disclose information that helps users of its financial statements to understand the nature and risks of the investments and whether the investments, if sold, are probable of being sold at amounts different from net asset value per share. To meet that objective, aA reporting entity shall disclose, at a minimum, the following information for instances in which the investment may be sold below NAV, or if there are significant restrictions in the liquidation of an investment held at NAV:

a. The NAV along with a description of the investment/investment strategy of the investee.

b. If the investment that can never be redeemed with the investees, but the reporting entity receives distributions through the liquidation of the underlying assets of the investees, the reporting entity’s estimate of the period of time over which the underlying assets are expected to be liquidated by the investees if the investee has communicated the timing to the reporting entity or announced the timing publicly. If the timing is unknown, the reporting entity shall disclose that fact.

c. The amount of the reporting entity’s unfunded commitments related to investments in the class.

d. A general description of the terms and conditions upon which the investor may redeem the investment.

e. The circumstances in which an otherwise redeemable investment in the class (or a portion thereof) might not be redeemable (for example, investments subject to a lockup or gate). Also, for those otherwise redeemable investments that are restricted from



redemption as of the reporting entity’s measurement date, the reporting entity shall disclose its estimate of when the restriction from redemption might lapse if the investee has communicated that timing to the reporting entity or announced the timing publicly. If an estimate cannot be madethe timing is unknown, the reporting entity shall disclose that fact and how long the restriction has been in effect.

f. Any other significant restriction on the ability to sell investments in the class at the measurement date.

g. If a group of investments would otherwise meet the criteria in paragraph 45 but the individual investments to be sold have not been identified (for example, if a reporting entity decides to sell 20 percent of its investments in private equity funds but the individual investments to be sold have not been identified), so the investments continue to qualify for the practical expedient in paragraph 39, the reporting entity shall disclose its plans to sell and any remaining actions required to complete the sale(s).

52.53. The reporting entity is encouraged, but not required, to combine the fair value information disclosed under this standard with the fair value information disclosed under other accounting pronouncements (for example, disclosures about fair value of financial instruments) in the periods in which those disclosures are required, if practicable. The reporting entity also is encouraged, but not required, to disclose information about other similar measurements, if practicable.

Disclosures about Fair Value of Financial Instruments 53.54. A reporting entity shall disclose in the notes to the financial statements, as of each date for which a statement of financial position is presented in the quarterly or annual financial statements, the aggregate fair value or NAV for all financial instruments and the level within the fair value hierarchy in which the fair value measurements in their entirety fall. This disclosure shall be summarized by type of financial instrument, for which it is practicable to estimate fair value, except for certain financial instruments identified in paragraph 545. Fair value disclosed in the notes shall be presented together with the related admitted values in a form that makes it clear whether the fair values and admitted values represent assets or liabilities and to which line items in the Statement of Assets, Liabilities, Surplus and Other Funds they relate. Unless specified otherwise in another SSAP, the disclosures may be made net of encumbrances, if the asset or liability is so reported. A reporting entity shall also disclose the method(s) and significant assumptions used to estimate the fair value of financial instruments. If it is not practicable for an entity to estimate the fair value of the financial instrument or a class of financial instruments, and the investment does not qualify for the NAV practical expedient, the aggregate carrying amount for those items shall be reported as “not practicable” with additional disclosure as required in paragraph 487.

54.55. The disclosures about fair value prescribed in paragraph 543 are not required for the following:

a. Employers' and plans' obligations for pension benefits, other postretirement benefits including health care and life insurance benefits, postemployment benefits, employee stock option and stock purchase plans, and other forms of deferred compensation arrangements, as defined in SSAP No. 12—Employee Stock Ownership Plans (SSAP No. 12), SSAP No. 92—Postretirement Benefits Other Than Pensions (SSAP No. 92), SSAP No. 102—Pensions (SSAP No. 102) and SSAP No. 104R—Share-Based Payments (SSAP No. 104R).

b. Substantively extinguished debt subject to the disclosure requirements of SSAP No. 103R—Transfer and Servicing of Financial Assets and Extinguishments of Liabilities (SSAP No. 103R)

c. Insurance contracts, other than financial guarantees and deposit-type contracts

d. Lease contracts as defined in SSAP No. 22—Leases (SSAP No. 22)

e. Warranty obligations and rights



f. Investments accounted for under the equity method

g. Equity instruments issued by the entity

h. Deposit liabilities with no defined or contractual maturities

55.56. If it is not practicable for an entity to estimate the fair value of a financial instrument or a class of financial instruments, and the investment does not qualify for the NAV practical expedient, the following shall be disclosed:

a. Information pertinent to estimating the fair value of that financial instrument or class of financial instruments, such as the carrying amount, effective interest rate, and maturity; and

b. The reasons why it is not practicable to estimate fair value.

56.57. In the context of this standard, practicable means that an estimate of fair value can be made without incurring excessive costs. It is a dynamic concept: what is practicable for one entity might not be for another; what is not practicable in one year might be in another. For example, it might not be practicable for an entity to estimate the fair value of a class of financial instruments for which a quoted market price is not available because it has not yet obtained or developed the valuation model necessary to make the estimate, and the cost of obtaining an independent valuation appears excessive considering the materiality of the instruments to the entity. Practicability, that is, cost considerations, also may affect the required precision of the estimate; for example, while in many cases it might seem impracticable to estimate fair value on an individual instrument basis, it may be practicable for a class of financial instruments in a portfolio or on a portfolio basis. In those cases, the fair value of that class or of the portfolio should be disclosed. Finally, it might be practicable for an entity to estimate the fair value only of a subset of a class of financial instruments; the fair value of that subset should be disclosed.

Relevant Literature 57.58. This standard adopts with modification FAS 157, Fair Value Measurements; (FAS 157) FSP FAS 157-1, Application of FASB Statement No. 157 to FASB Statement No. 13 and Other Accounting Pronouncements That Address Fair Value Measurements for Purposes of Lease Classification or Measurement Under Statement 13, (FSP FAS 157-1) and FSP FAS 157-4, Determining Fair Value When the Volume and Level of Activity for the Asset or Liability Have Significantly Decreased and Identifying Transactions That Are Not Orderly (FSP FAS 157-4). Modifications from FAS 157, FSP FAS 157-1 and FSP FAS 157-4 include:

a. See revision to paragraph 3.b. from adoption of SSAP No. 104R—Share-Based Payments (SSAP No. 104R).

b.a. This standard does not adopt the scope exclusions within paragraph 3 of FAS 157 for accounting pronouncements that require or permit measurements that are similar to fair value but that are not intended to measure fair value, including (a) accounting pronouncements that permit measurements that are based on, or otherwise use, vendor-specific objective evidence of fair value and (b) inventory pricing. These items are excluded as they are not prevalent within statutory accounting.

c.b. This standard does not adopt guidance from FAS 157 regarding the consideration of non-performance risk (own credit risk) in determining the fair value measurement of liabilities. The consideration of own credit-risk in the measurement of fair value liabilities is inconsistent with the statutory accounting concept of conservatism and the assessment of financial solvency for insurers. The fair value determination for liabilities should follow the guidance adopted from FAS 157, with the exception of the consideration of own-performance risk.

d.c. This standard includes revisions to reference statutory standards or terms instead of GAAP standards or terms.



e.d. This standard incorporates the guidance from SSAP No. 27 regarding disclosures about fair value of financial instruments. This incorporated SSAP No. 27 guidance was adopted from FAS 107, Disclosures about Fair Value of Financial Instruments (FAS 107) and was revised to adopt FSP FAS 107-1 and APB-1, Interim Disclosures about Fair Value of Financial Instruments (FSP FAS 107-1 and APB-1). For statutory purposes, the incorporation of this guidance within one standard results in having one comprehensive standard addressing fair value measurements and disclosures.

58.59. In August 2010, this statement adopted with modification the new and revised disclosure requirements within ASU 2010-06, Fair Value Measurements and Disclosures – (Topic 820) – Improving Disclosures about Fair Value Measurements (ASU 2010-06). GAAP revisions within ASU 2010-06 that modify the FASB Codification on aspects originally added by ASU 2009-05, Fair Value Measurements and Disclosures, Measuring Liabilities at Fair Value (ASU 2009-05). and ASU 2009-12, Fair Value Measurements and Disclosures, Investment in Certain Entities that Calculate Net Asset Value per Share (or its equivalent) (ASU 2009-12) These revisions are not adopted, as the underlying GAAP guidance within ASU 2009-05 and ASU 2009-12 has not been considered for statutory accounting. When ASU 2009-05 and ASU 2009-12 areis reviewed for statutory accounting, the GAAP guidance considered will reflect the revisions from ASU 2010-06. Subsequent nonsubstantive revisions to the guidance adopted from ASU 2010-06 were incorporated within this Statement in November 2010 to clarify the disclosure requirements for statutory accounting. These revisions removed the distinction between recurring and non-recurring fair value measurements and clarified disclosure requirements for assets and liabilities measured and reported at fair value in the statement of financial position. In _______, this statement adopted with modification disclosure revisions from ASU 2018-13, Changes to the Disclosure Requirements for Fair Value Measurement. Modifications to ASU 2018-13 incorporate revisions to previously adopted GAAP disclosures, and do not incorporate revisions related to disclosures not previously reflected for statutory accounting.

59.60. In November 2017, substantive revisions, as detailed in Issue Paper No. 157, were incorporated to this statement to adopt ASU 2009-12: Investments in Certain Entities That Calculate Net Asset Value per Share (or Its Equivalent) and ASU 2015-07: Disclosures for Investments in Certain Entities that Calculate Net Asset Value per Share (or Its Equivalent). These substantive revisions incorporated new guidance allowing reporting entities to utilize net asset value per share as a practical expedient to fair value when certain conditions are met.

60.61. Paragraphs 53-56 adopt FAS 107 as amended by FASB Statement No. 119, Disclosure about Derivative Financial Instruments and Fair Value of Financial Instruments (FAS 119), except that paragraph 15(c) of FAS 119 relating to disclosure of financial instruments held or issued for trading is rejected and FASB Emerging Issues Task Force No. 85-20, Recognition of Fees for Guaranteeing a Loan. Financial instruments named within paragraph 8 of FAS 107 that are exempt from disclosure are adopted to the extent applicable for statutory accounting and are reflected in paragraph 54. This standard also adopts revisions to FAS 107 reflected in FSP FAS 107-1 and APB-1, Interim Disclosures about Fair Value of Financial Instruments (FSP FAS 107-1 and APB-1), and thus requires disclosure in both annual and quarterly financial statements. In addition, this standard rejects FASB Statement No. 126, Exemptions from Certain Required Disclosures about Financial Instruments for Certain Nonpublic Entities, an amendment of FAS 107. FAS 119 is addressed in SSAP No. 31.

61.62. This standard rejects ASU 2013-03, Financial Instruments – Clarifying the Scope and Applicability of a Particular Disclosure to Nonpublic Entities (ASU 2013-03), ASU 2016-01, Financial Instruments – Overall (ASU 2016-01), FSP FAS 157-2: Effective Date of FASB Statement No. 157 (FSP FAS 157-2) and FSP FAS 157-3: Determining the Fair Value of a Financial Asset When the Market for That Asset is Not Active (FSP FAS 157-3).

Staff Review Completed by: Julie Gann, NAIC Staff – September 2018 Status: On November 15, 2018, the Statutory Accounting Principles (E) Working Group moved this item to the active listing, categorized as nonsubstantive, and exposed revisions to SSAP No. 100R—Fair Value, as shown above, to adopt with modification the disclosure amendments in ASU 2018-13, Changes to the Disclosure Requirements for Fair Value Measurement. The exposed revisions also clarify prior actions by the Working Group on related U.S. GAAP pronouncements.



G:\FRS\DATA\Stat Acctg\3. National Meetings\A. National Meeting Materials\2019\Spring\Hearing\6 - 18-36 - ASU 2018-13 - Fair Value.docx




Form A

Issue: ASU 2018-15, Intangibles – Goodwill and Other – Internal-Use Software (Subtopic 350-40) – Customer’s Accounting for Implementation Costs Incurred in a Cloud Computing Arrangement That Is a Service Contract Check (applicable entity): P/C Life Health


Description of Issue: The FASB issued ASU 2018-15, Customer’s Accounting for Implementation Costs Incurred in a Cloud Computing Arrangement That Is a Service Contract in August 2018. This ASU was issued to align the requirements for capitalizing implementation costs, which are incurred in a hosting arrangement that’s a service contract, with the requirements for capitalizing implementation costs incurred to develop or obtain internal-use software (and hosting arrangements that include an internal use software license). It allows companies to capitalize the costs of implementing a cloud computing hosting arrangement, which is consistent with the treatment of internal-use software. The implementation costs would be capitalized and expensed over an amortization period based on the term of the service contract. Implementation costs that are capitalized are consistent with those included for internal use software. Costs for implementation activities in the application development stage are capitalized depending on the nature of the costs, while costs incurred during the preliminary project and postimplementation stages are expensed as the activities are performed. FASB describes a hosting arrangement as “that in which an end user of software does not take possession of the software; rather, the software application resides on a vendor’s or third party’s hardware, and the customer accesses and uses the software on an as-needed basis.” The amendments in ASU 2018-15 are effective for public companies for fiscal years beginning after December 15, 2019 and interim periods within those fiscal years. For all other entities, these amendments are effective for annual reporting periods beginning after December 15, 2020, and interim periods within annual periods beginning after December 15, 2021. Early adoption is permitted, but these amendments should be applied either retrospectively or prospectively to all implementation costs incurred after the date of adoption. Currently, SSAP No. 16R—Electronic Data Processing Equipment and Software provides guidance on whether costs shall be expensed or capitalized. The existing SAP guidance is twofold:

1) Existing guidance in SSAP No. 16R requires that entities that license internal-use computer software must follow the guidance in SSAP No. 22—Leases. SSAP No. 22 states that all leases should be considered operating leases, with the rent expense recognized over the lease term.

2) Existing guidance in SSAP No. 16R specifies that costs of operating system software developed or obtained for internal use and web site development shall be depreciated over a period not to exceed three years, and costs to develop or obtain nonoperating system software shall be depreciated over a period not to exceed five years.

With this ASU, FASB has noted that the costs to implement a cloud computing hosting arrangement (which is ultimately a leasing arrangement) shall be capitalized. This ASU is specific to the implementation cost, and not the ongoing lease expense. (However, under the revised U.S. GAAP lease standard, operating leases would be reported as “right to use assets” on the balance sheet. Currently, it is anticipated that this provision would be rejected for statutory accounting, with continued reporting of operating leases under SAP.)



NAIC staff notes that if the nonoperating system software implementation costs are capitalized, this would impact the income statement, as such capitalized assets would be nonadmitted on the balance sheet. Regardless, this is a surplus-neutral event. (NAIC staff notes that the above summary of the ASU was clarified in December 2018. These revisions are not shown in the agenda item as tracked changes.) Existing Authoritative Literature: SSAP No. 16R—Electronic Data Processing Equipment and Software

Costs of Computer Software Developed or Obtained for Internal Use and Web Site Development Costs

10. This Statement adopts with modification FASB Codification 350-40, Internal Use Software (ASC 350-40) for statutory accounting terms and concepts. This Statement also adopts FASB Codification 350-50, Website Development Costs (ASC 350-50) in its entirety.

11. The modifications to ASC 350-40 are as follows:

a. ASC 350-40-15-4 states that the accounting for costs of reengineering activities, which often are associated with new or upgraded software applications, is not included within scope. This guidance is expanded to require that such costs be expensed as incurred.

b. ASC 350-40-35-4 is amended to require entities to follow the amortization guidelines as established

in paragraph 10 of SSAP No. 19—Furniture, Fixtures, Equipment and Leasehold Improvements c. ASC 350-40-35-5 is amended to require that capitalized operating system software shall be

depreciated for a period not to exceed three years. Capitalized nonoperating system software shall be depreciated for a period not to exceed five years. This is consistent with paragraph 3 of this statement.

d. ASC 350-40-35-9 is amended to require that if during the development of internal use software, an

entity decided to market the software to others, the entity shall immediately expense any amounts previously capitalized.

e. ASC 350-40-50-1 is amended to require entities to follow the disclosure provisions provided in

paragraph 15 of this statement and paragraph 5 of SSAP No. 17. f. Any software costs capitalized in accordance with paragraphs 10 and 11 shall be deemed either

operating or nonoperating system software costs. Entities shall make this determination in accordance with the definitions of operating and nonoperating system software contained in the Glossary. As noted in paragraph 2, nonoperating system software is a nonadmitted asset.

12. Entities that license internal-use computer software are required to follow the statutory accounting guidance in SSAP No. 22—Leases.

SSAP No. 19—Furniture, Fixtures, Equipment and Leasehold Improvements

Leasehold Improvements Paid by the Reporting Entity as Lessee

4. Leasehold improvements shall be defined as lessee expenditures that are permanently attached to an asset that a reporting entity is leasing under an operating lease.

5. Leasehold improvements that increase the value and enhance the usefulness of the leased asset meet the definition of assets established in SSAP No. 4. Within that definition, such items also meet the criteria



defining nonadmitted assets. Accordingly, such assets shall be reported as nonadmitted assets and charged against surplus. These nonadmitted assets shall be amortized against net income over the shorter of their estimated useful life or the remaining life of the original lease excluding renewal or option periods. Leasehold improvements that do not meet the definition of assets shall be charged to expense when acquired.

6. In accordance with the reporting entity's written capitalization policy, amounts less than a predefined threshold of such assets shall be expensed when purchased. The reporting entity shall maintain a capitalization policy containing the predefined thresholds for each asset class to be made available for the department(s) of insurance.

Maintenance Costs Paid by Lessee

7. Maintenance costs incurred by the lessee for maintenance on the leased item that do not increase the value and enhance the usefulness of the leased asset shall be expensed when incurred. Reimbursable deposits shall be reflected as nonadmitted assets. Deposits paid to the lessor, reimbursable when the lessee incurs costs for lease maintenance activities, shall be recorded as nonadmitted assets. When the amount on deposit is less than probable of being returned, the deposit shall be recognized as an additional lease expense.

SSAP No. 22—Leases

2. A lease is defined as an agreement conveying the right to use property, plant, or equipment (land and/or depreciable assets) usually for a stated period of time. This definition does not include agreements that are contracts for services that do not transfer the right to use property, plant, or equipment from one contracting party to the other (i.e., employee lease contracts) or service concession arrangements1. On the other hand, agreements that do transfer the right to use property, plant, or equipment meet the definition of a lease even though substantial services by the contractor (lessor) may be called for in connection with the operation or maintenance of the assets.

3. Integral equipment subject to a lease shall be evaluated as real estate per SSAP No. 40R—Real Estate Investments. Integral equipment or property improvements for which no statutory title registration system exists, the criterion in this SSAP (that the lease transfers ownership of the property to the lessee by the end of the lease term) is met in lease agreements that provide that, upon the lessee's performance in accordance with the terms of the lease, the lessor shall execute and deliver to the lessee such documents (including, if applicable, a bill of sale for the equipment) as may be required to release the equipment from the lease and to transfer ownership thereto to the lessee. This criterion is also met in situations in which the lease agreement requires the payment by the lessee of a nominal amount (for example, the minimum fee required by statutory regulation to transfer ownership) in connection with the transfer of ownership. Notwithstanding the foregoing guidance, a provision in a lease agreement that ownership of the leased property is not transferred to the lessee if the lessee elects not to pay the specified fee (whether nominal or otherwise) to complete the transfer of ownership is a purchase option. Such a provision would not satisfy this SSAP.

Determining Whether an Arrangement Contains a Lease

4. Determining whether an arrangement contains a lease that is within the scope of this SSAP should be based on the substance of the arrangement. Separate contracts with the same entity or related parties that are entered into at or near the same time are presumed to have been negotiated as a package and should, therefore, be evaluated as a single arrangement in considering whether there are one or more units of accounting. That presumption may be overcome if there is sufficient evidence to the contrary.

Accounting and Reporting by Lessees

1 A service concession arrangement is an arrangement between a public sector entity grantor and an operating entity under which the operating entity operates the grantor’s infrastructure (for example, airports, roads, bridges, tunnels, prisons and hospitals) for a specified



12. All leases shall be considered operating leases. Rent on an operating lease shall be charged to expense over the lease term as it becomes payable, except as provided in paragraphs 13 and 14.

Maintenance Costs Incurred by Lessee

16. Maintenance costs incurred by the lessee for maintenance on the leased item that do not increase the value and enhance the usefulness of the leased asset shall be expensed when incurred pursuant to SSAP No. 19—Furniture, Fixtures, Equipment and Leasehold Improvements (SSAP No. 19). Reimbursable deposits shall be reflected as nonadmitted assets. Deposits paid to the lessor, reimbursable when the lessee incurs costs for lease maintenance activities, shall be recorded as nonadmitted assets. When the amount on deposit is less than probable of being returned, the deposit shall be recognized as an additional lease expense.

Activity to Date (issues previously addressed by the Working Group, Emerging Accounting Issues (E) Working Group, SEC, FASB, other State Departments of Insurance or other NAIC groups): Agenda item 2015-15 addresses the FASB issuance of ASU 2015-05, Customer’s Accounting for Fees Paid in a Cloud Computing Arrangement, which was issued to evaluate the accounting for fees paid by a customer in a cloud computing arrangement by providing guidance for determining when the arrangement includes a software license. The Statutory Accounting Principles (E) Working Group adopted revisions to clarify that entities with leases involving internal-use computer software shall follow the guidance in SSAP No. 22—Leases. Information or issues (included in Description of Issue) not previously contemplated by the Working Group: None Convergence with International Financial Reporting Standards (IFRS): None Staff Recommendation: Staff recommends that the Working Group move this item to the active listing, categorized as nonsubstantive and direct NAIC staff to expose this agenda item with comments requested on one of the two options provided below. NAIC staff is recommending that all of the cloud computing costs are nonoperating, but comments would be requested on whether any cloud computing costs should be considered operating system software.

• Option 1: Treat the implementation cost of acquiring a cloud computing license as part of lease cost, and expense when incurred. (This would be in line with the provision in SSAP No. 16R that entities that license internal-use computer software should follow SSAP No. 22.)

• Option 2: Treat the implementation cost of acquiring a cloud computing license similar to a software

development cost and capitalize the nonoperating system software costs as a nonadmitted asset, with amortization not to exceed 5 years, consistent with nonoperating system software. (This would adopt the concepts in the ASU.)

NAIC Staff Note – The options above were presented at the 2018 Fall National Meeting. With subsequent review of the ASU, there is no software developed or licensed. As such, the implementation costs shall only be treated as nonoperating system software and nonadmitted. Please see the December 2018 Update below. Scenario: A company is moving towards cloud-based software through a hosting arrangement. The implementation costs to move to the a cloud is $5 million, and the ongoing servicing cost for cloud hosting is $150K each month under a 10-year agreement. Option 1 – Expense Costs as Incurred If the implementation costs were considered part of the lease payments, SSAP No. 22 would require those costs to be expensed when incurred; if the costs are considered a leasehold improvement, they would be capitalized. This



treatment impacts the income statement immediately and does not spread the expense over the useful life of the software. Year 1 DR Lease Expense 5,000,000

CR Cash 5,000,000

Initial Implementation Cost – Expensed as Incurred

DR Lease Expense 150,000 CR Cash 150,000

Monthly Servicing Expense for Cloud hosting Option 2 – Capitalize Over the Life of the Asset If statutory accounting principles adopts ASU 2018-15, in a manner consistent with SSAP No. 16R, the implementation costs would be capitalized and expensed over the useful life of the asset, limited to 5 years as nonoperating system software. This spreads out the cost over five years, as opposed to hitting the income statement with a large expense each year. Year 1 DR Capitalized Cloud Implementation Costs 5,000,000 CR Cash 5,000,000 DR Unassigned Funds (Change in Nonadmitted) 5,000,000 CR Nonadmitted Cloud Costs 5,000,000 Initial Implementation Cost – Capitalized and Nonadmitted. The impact is surplus neutral.

DR Hosting Service Expense 150,000

CR Cash 150,000 Monthly Expense for Use of Cloud Year 2 DR Amortization Cap Implementation Costs 1,000,000 CR Capitalized Implementation Costs 1,000,000 DR Change in Nonadmitted 1,000,000 CR Unassigned Funds 1,000,000 Recognizes amortization of capitalized costs. The impact is surplus neutral. (This would occur over the course of five years.)

DR Hosting Service Expense 150,000

CR Cash 150,000 Monthly Expense for Use of Cloud Staff Review Completed by: Fatima Sediqzad – October 2018 Status: On November 15, 2018, the Statutory Accounting Principles (E) Working Group moved this item to the active listing, categorized as nonsubstantive, and directed NAIC staff to draft proposed revisions to adopt with modification ASU 2018-15, Customer’s Accounting for Implementation Costs Incurred in a Cloud Computing



Arrangement That is a Service Contract, allowing for capitalization and amortization of the implementation costs as nonoperating system software for interim exposure consideration. When subsequent exposure occurs, comments will be requested on whether any of the implementation costs would qualify as operating system software under existing concepts in SSAP No. 16R—Electronic Data Processing Equipment and Software, and if so, whether it would be possible to bifurcate the costs between operating and nonoperating system software. Update – December 2018: Despite comments made at the Fall National Meeting, NAIC staff confirms that the implementation costs of the hosting arrangement pursuant to ASU 2018-15 are being treated similarly to internally developed software costs, but do not result with software assets. As such, there would be no need to bifurcate implementation costs between operating and non-operating software. The proposed treatment, allowing capitalization of implementation costs as nonoperating system software, does not imply that these capitalization costs reflect software assets. Rather, this distinction stipulates that these capitalized implementation costs are nonadmitted in statutory financial statements. The proposed capitalization allows amortization of these costs through the income statement, rather than as an immediate expense. The costs capitalized under ASU 2018-15, as they are implementation costs for a hosting arrangement, do not represent assets available for policyholder claims and shall be nonadmitted. (Pursuant to the ASU, the provisions of ASU 2018-15 only apply when there is not the contractual right to take possession of the software and when it is not feasible for the reporting entity to run the software on its own or with another party.) NAIC staff notes that the ASU 2018-15 dissention includes the position of two FASB members who noted that the costs permitted to be capitalized under ASU 2018-15 do not meet the definition of an asset. These comments disagreed with recognition of these costs as assets on a standalone basis, noting that the incurred costs do not provide any future economic benefits for the entity independent of the cloud computing hosting arrangement. Although NAIC staff recommends capitalization of the implementation costs to allow for amortization over the term of the hosting contract, not to exceed 5 years, the proposed revisions also recommend that these capitalized assets shall be nonadmitted in statutory financial statements as they cannot be used for policyholder claims. NAIC staff notes that the items being addressed in this agenda item / ASU refer to the implementation costs of a hosting arrangement. This item has no impact on the accounting of software. Regardless if software is acquired as part of a hosting arrangement, the acquisition of software continues to be captured under SSAP No. 16R. The proposed revisions also propose to clarify the prior review of ASU 2015-05. With the proposed revisions, NAIC staff specifically requests comments on when the proposed guidance should be effective, particularly if the revisions should mirror the U.S. GAAP effective date provisions, and if the revisions should be permitted for retrospective (change in accounting principle) and prospective application consistent with U.S. GAAP. December 2018 – Proposed Revisions to SSAP No. 16R:

Costs of Computer Software Developed or Obtained for Internal Use and Web Site Development Costs

10. This Sstatement adopts with modification FASB Accounting Standards Codification (ASC) 350-40, Internal Use Software (ASC 350-40) as described in this statement for statutory accounting terms and concepts. (This adoption reflects adjustments to ASC 350-40 from ASU 2015-05, Customer’s Accounting for Fees Paid in a Cloud Computing Arrangement.) This Sstatement also adopts FASB Accounting Standards Codification 350-50, Website Development Costs (ASC 350-50) in its entirety.

11. This statement also adopts with modification the guidance reflected in ASC 350-40 for cloud computing arrangements as modified by ASU 2018-15, Customer’s Accounting for Implementation Costs Incurred in a Cloud Computing Arrangement That Is a Service Contract and this statement. Consistent with U.S. GAAP, the guidance in this statement for cloud computing hosting arrangements varies based on whether the cloud computing arrangement is a service contract:



a. An arrangement that is not a service contract applies to internal-use software if the 1) reporting entity has the contractual right to take possession of the software at any time during the hosting period without significant penalty; and 2) it is feasible for the reporting entity to either run the software on its own hardware or contract with another party unrelated to the vendor to host the software.

b. If both of the conditions in paragraph 12.a. are not met, then the arrangement for internal-use software is considered a service contract.

12. For hosting arrangements that are not service contracts, reporting entities shall account for any internal-use software as follows:

a. The reporting entity shall recognize an operating or non-operating system software asset for the costs incurred for the software license in accordance with paragraph 3 of this statement. This is a modification from U.S. GAAP in which the asset is recognized as an intangible asset. A liability shall also be recognized if payments for the software license are still required.

b. If the reporting entity has a hosting arrangement that includes both the acquisition of a software asset (pursuant to paragraph 12.a.) and an ongoing hosting arrangement, the reporting entity shall allocate the costs of the arrangement to the different elements. Costs for the ongoing hosting arrangement shall be accounted for in accordance with SSAP No. 22—Leases.

13. For hosting arrangements that are service contracts, reporting entities shall account for the contract as follows:

a. The reporting entity shall capitalize implementation costs of the hosting arrangement (the costs incurred to implement the cloud hosting service contract), as nonoperating system software. The capitalized costs shall be consistent with the costs which are permitted to be capitalized for internal use software and shall be reported as a nonadmitted asset. These implementation costs shall be recognized as each module or component of the hosting arrangement is ready for its intended use.

b. The implementation costs shall be amortized over the lesser of the term of the hosting arrangement, or five years. (This statement adopts the provisions in ASC 350-40-35-13 through ASC 350-40-35-17 for determining the term of the hosting arrangement and for when amortization shall begin.) The amortization cost shall be recognized as depreciation of the nonoperating system software. (This is a modification from U.S. GAAP as the amortization is not recognized in the same expense line as the service contract lease.)

c. The capitalized implementation costs shall be recognized as impaired, with immediate write-off to income when the hosting arrangement (or separate modules or components of the hosting arrangement) ceases to be used, and when events or changes in circumstances occurs indicating that the carrying amount of the related implementation costs may not be recoverable. Example events include:

i. The hosting arrangement is not expected to provide substantive service potential.

ii. A significant change occurs in the extent or manner in which the hosting arrangement is used or is expected to be used.

iii. A significant change is made or will be made to the hosting arrangement.

d. The service contract hosting arrangement shall be accounted for in accordance with SSAP No. 22—Leases. (The service contract hosting arrangement excludes implementation, set-up and other upfront costs (e.g., implementation costs) incurred in the hosting arrangement.)



11.14. The modifications to ASC 350-40 are as follows:

a. ASC 350-40-15-4 states that the accounting for costs of reengineering activities, which often are associated with new or upgraded software applications, is not included within scope. This guidance is expanded to require that such costs be expensed as incurred.

b. ASC 350-40-25-17 is amended to require software licenses acquired pursuant to paragraph

11.a. are captured within scope of this standard as software, and not as an intangible asset in scope of SSAP No. 20—Nonadmitted Assets.

b.c. ASC 350-40-35-4 is amended to require entities to follow the amortization guidelines as established in paragraph 10 of SSAP No. 19—Furniture, Fixtures, Equipment and Leasehold Improvements

c.d. ASC 350-40-35-5 is amended to require that capitalized operating system software shall be

depreciated for a period not to exceed three years. Capitalized nonoperating system software shall be depreciated for a period not to exceed five years. This is consistent with paragraph 3 of this statement.

d.e. ASC 350-40-35-9 is amended to require that if during the development of internal use software,

an entity decided to market the software to others, the entity shall immediately expense any amounts previously capitalized.

e.f. ASC 350-40-50-1 is amended to require entities to follow the disclosure provisions provided in

paragraph 15 of this statement and paragraph 5 of SSAP No. 17. f.g. Any software costs capitalized in accordance with paragraphs 10 and 11this statement shall

be deemed either operating or nonoperating system software costs with amortization not to exceed the timeframes stipulated in paragraph 3. Unless this statement explicitly classifies a cost as nonoperating, Eentities shall make this determination in accordance with the definitions of operating and nonoperating system software contained in the Glossary. As noted in paragraph 2, nonoperating system software is a nonadmitted asset.

12. Entities that license internal-use computer software are required to follow the statutory accounting guidance in SSAP No. 22—Leases.


213. This statement is effective for years beginning January 1, 2001. A change resulting from the adoption of this statement shall be accounted for as a change in accounting principle in accordance with SSAP No. 3—Accounting Changes and Corrections of Errors. The guidance in paragraph 13 was originally contained within INT 04-13: EITF No. 03-5: Applicability of AICPA Statement of Position 97-2 to Non-Software Deliverables in an Arrangement Containing More-Than-Incidental Software and was effective December 5, 2004.

224. EDP equipment and operating system software capitalized prior to January 1, 2001, shall be depreciated over the lesser of its remaining useful life or three years. Nonoperating system software capitalized prior to January 1, 2001, shall be depreciated over the lesser of its remaining useful life or five years.

25. The adoption with modification of ASU 2018-15, Customer’s Accounting for Implementation Costs Incurred in a Cloud Computing Arrangement That Is a Service Contract is effective January 1, 2020, with early adoption permitted. The adoption shall occur either prospectively to all implementation costs incurred after the date of adoption, or as a change in accounting principle under SSAP No. 3—Accounting Changes and Corrections of Errors.

G:\FRS\DATA\Stat Acctg\3. National Meetings\A. National Meeting Materials\2019\Spring\Hearing\7 - 18-40 - ASU 2018-15 - Cloud Computing - 12-4-18.docx




Form A

Issue: SSAP No. 86 – Benchmark Interest Rates Check (applicable entity): P/C Life Health


Description of Issue: This agenda item has been drafted to consider nonsubstantive changes to SSAP No. 86—Derivatives, to reflect updated benchmark interest rates permitted under U.S. GAAP. In ASU 2017-12, Targeted Improvements to Accounting for Hedging Activities, the Securities Industry and Financial Markets (SIFMA) Municipal Swap Rate was added. In ASU 2018-16, Inclusion of the Secured Overnight Financing Rate (SOFR) Overnight Index Swap (OIS) Rate as Benchmark Interest Rate for Hedge Accounting Purposes the SOFR OIS rate was added. Revisions to benchmark interest rates for hedge accounting purposes are being considered due to concerns about the sustainability of LIBOR. In ASU 2017-12, the FASB noted that stakeholders had identified the SIFMA Municipal Swap Rate as an interest rate that entities seek to hedge. The SIFMA is an average rate at which high-credit-quality U.S. municipalities may obtain short-term financing and currently is the predominant rate referenced in issuances of municipal bonds. In ASU 2018-16, the FASB identified that Federal Reserve Board and the Federal Reserve Bank of New York (Fed) requested that the SOFR OIS rate be considered eligible as a U.S. benchmark interest rate for purposes of applying hedge accounting. The SOFR is a volume-weighted median interest rate that is calculated daily based on overnight transactions from the prior day’s trading activity in specified segments of the U.S. Treasury repo market. The amendments from ASU 2018-16 should be adopted on a prospective basis for qualifying new or redesignated hedging relationships entered into on or after the date of adoption. The FASB noted that transition provisions from existing LIBOR-based instruments needs to be considered, but additional time is needed to fully consider all implications. (Under current guidance, a change in the benchmark interest rate would be considered a change in the critical terms of the hedging relationship, and a dedesignation would be required.) The FASB decided to limit the amendments to new designated hedging relationships. A new project has been added to the FASB agenda to consider relief provisions for existing hedging relationships. Effective Date:

• The amendments from ASU 2017-12 (inclusion of SIFMA) are effective Jan. 1, 2019 for public entities, and Dec. 31, 2020 for all other entities. The ASU allows for early application in any interim period after issuance of the ASU.

• The amendments from ASU 2018-16 (inclusion of SOFR OIS) are to be adopted concurrently with ASU 2017-12 for those entities that have not already adopted that ASU. For those that have already adopted ASU 2017-12, the amendments are effective Jan. 1, 2019 for public business entities and Jan. 1, 2020 for all other entities. Early adoption is permitted in any interim period upon issuance of the update if an entity has already adopted ASU 2017-12.



Existing Authoritative Literature: SSAP No. 86—Derivatives. SSAP No. 86 provides the statutory accounting principles for derivative instruments and hedging, income generation and replication transactions using selected concepts from prior GAAP guidance. As detailed in paragraph 12, the guidance on benchmark interest rates, including eligible U.S. benchmark rates have previously mirrored U.S. GAAP guidance.

12. “Benchmark Interest Rate” is a widely recognized and quoted rate in an active financial market that is broadly indicative of the overall level of interest rates attributable to high-credit-quality obligors in that market. It is a rate that is widely used in a given financial market as an underlying basis for determining the interest rates of individual financial instruments and commonly referenced in interest-rate-related transactions. In theory, the benchmark interest rate should be a risk-free rate (that is, has no risk of default). In some markets, government borrowing rates may serve as a benchmark. In other markets, the benchmark interest rate may be an interbank offered rate. In the United States, currently only the interest rates on direct Treasury obligations of the U.S. government and, for practical reasons, the London Interbank Offered Rate (LIBOR) swap rate and the Fed Funds Effective Swap Rate (also referred to as the Overnight Index Swap Rate) are considered to be benchmark interest rates.

Activity to Date (issues previously addressed by the Working Group, Emerging Accounting Issues (E) Working Group, SEC, FASB, other State Departments of Insurance or other NAIC groups): Agenda item 2017-33 was drafted to consider ASU 2017-12 for statutory accounting. On Aug. 4, 2018, the Statutory Accounting Principles (E) Working Group directed NAIC staff to bifurcate review of ASU 2017-12 to allow for immediate review of nonsubstantive changes from the ASU pertaining to hedge documentation. It was noted that the U.S. GAAP revisions would be effective Jan. 1, 2019, and the efficiencies gained under the revisions would be lost for insurers if corresponding revisions were not reflected in statutory accounting. These documentation efficiencies were adopted Nov. 15, 2018 in agenda item 2018-30. Consideration of substantive revisions from ASU 2017-12 will continue under agenda item 2017-33. Information or issues (included in Description of Issue) not previously contemplated by the Working Group: None Convergence with International Financial Reporting Standards (IFRS): Not applicable. Staff Recommendation: NAIC staff recommends that the Working Group move this item to the active listing, categorized as nonsubstantive, and expose revisions to SSAP No. 86 to incorporate revisions to add the Securities Industry and Financial Markets (SIFMA) Municipal Swap Rate and the Secured Overnight Financing Rate (SOFR) Overnight Index Swap (OIS) Rate as U.S. benchmark interest rates for hedge accounting. Proposed Revisions to SSAP No. 86—Derivatives:

12. “Benchmark Interest Rate” is a widely recognized and quoted rate in an active financial market that is broadly indicative of the overall level of interest rates attributable to high-credit-quality obligors in that market. It is a rate that is widely used in a given financial market as an underlying basis for determining the interest rates of individual financial instruments and commonly referenced in interest-rate-related transactions. In theory, the benchmark interest rate should be a risk-free rate (that is, has no risk of default). In some markets, government borrowing rates may serve as a benchmark. In other markets, the benchmark interest rate may be an interbank offered rate. In the United States, currently only the interest rates on direct Treasury obligations of the U.S. government, and, for practical reasons, the London Interbank Offered Rate (LIBOR) swap rate, and the Fed Funds Effective Rate Overnight Index Swap Rate, (also referred to as the Overnight Index Swap Rate) the Securities Industry and Financial Markets Association (SIFMA) Municipal Swap Rate, and the Secured Overnight Financing Rate (SOFR) Overnight Index Swap Rate are considered to be benchmark interest rates.



61. This statement adopts revisions to ASC 815-20 as reflected within ASU 2013-10, Derivatives and Hedging, Inclusion of the Fed Funds Effective Swap Rate (or Overnight Index Swap Rate) as a benchmark interest rate for Hedge Accounting Purposes. These revisions define a benchmark interest rate, clarify what can be used in the U.S. for a benchmark interest rate, and eliminate the prior restriction on using different benchmark rates for similar hedges. This statement adopts revisions to the benchmark interest rates as reflected in ASU 2017-12, Targeted Improvements to Accounting for Hedging Activities and ASU 2018-16, Inclusion of the Secured Overnight Financing Rate (SOFR) Overnight Index Swap (OIS) Rate as Benchmark Interest Rate for Hedge Accounting Purposes to incorporate the Securities Industry and Financial Markets Association (SIFMA) Municipal Swap Rate, and the Secured Overnight Financing Rate (SOFR) Overnight Index Swap Rate.

Staff Review Completed by: Julie Gann, NAIC Staff – October 31, 2018 G:\FRS\DATA\Stat Acctg\3. National Meetings\A. National Meeting Materials\2019\Spring\Hearing\8 - 18-46 - SSAP No. 86 - Benchmark Interest Rate.docx


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Attachment 10 INT 19-01T

19-01-1

Interpretation of the Statutory Accounting Principles Working Group

INT 19-01: Extension of Ninety-Day Rule for the Impact of California Camp Fire, Hill Fire and Woolsey Fire

INT 19-01 Dates Discussed

January 17, 2019

INT 19-01 References

SSAP No. 6—Uncollected Premium Balances, Bills Receivable for Premiums, and Amounts Due From Agents and Brokers (SSAP No. 6)

INT 19-01 Issue

1. On November 8, 2018, three California wildfires began which resulted in loss of lives and a substantial amount of property. The Camp Fire in northern California impacted Butte County and was contained on November 25, 2018. The Hill Fire in southern California impacted Ventura County and was contained on November 16, 2018. The Woolsey Fire in southern California impacted the counties of Ventura and Los Angeles and was contained on November 21, 2018. The three fires are collectively called “California fires” for this interpretation. 2. The Federal Emergency Management Agency (FEMA) lists Butte, Los Angeles and Ventura counties as having had major disaster declarations as a result of the California fires. This interpretation is intended to include policies or agents in areas in which these major disasters were declared. State regulators and insurers are acting to provide support to insurers and policyholders who have been affected by these disasters. 3. Should a sixty-day extension of the ninety-day rule for nonadmission of uncollected premiums be temporarily granted to insurers for policies which were affected by the California fires?

INT 19-01 Discussion

4. The Working Group reached a tentative consensus for a one-time optional extension of the ninety-day rule for nonadmission of uncollected premium balances, bills receivable for premiums, and amounts due from agents and policyholders directly impacted by the California fires, as follows:

a. For policies in effect as of the declaration of a major disaster or a state of emergency by either the state or federal government, as described in paragraph 1 and 2, insurers with policyholders or agents in areas impacted by the California fires may wait for a total of one hundred and fifty days (90 days per existing guidance, plus a 60-day extension = 150 days), before nonadmitting premiums receivable from those directly impacted policyholders or agents as required per SSAP No. 6, paragraph 9. This option and temporary extension for affected policies and agents is not to extend past April 24, 2019.

b. Existing impairment analysis remains in effect for these affected policies.

Attachment 10 INT 19-01T

19-01-1

5. The Working Group noted that a sixty-day extension is consistent with previous temporary extensions that were granted for other nationally significant catastrophes.

6. Due to the short-term nature of the applicability of this extension which expires April 25, 2019, this interpretation will be publicly posted on the Statutory Accounting Principles (E) Working Group web page. This interpretation will be automatically nullified on April 25, 2019, and it will be included as a nullified INT in Appendix H – Superseded SSAPs and Nullified Interpretations in the As of March 2020, Accounting Practices and Procedures Manual.

INT 19-01 Status

7. Further discussion is planned.

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Attachment 11

Ref #2019-01



Form A

Issue: Extension of Ninety-Day Rule for the Impact of California Camp Fire, Hill Fire and Woolsey Fire

Check (applicable entity): P/C Life Health


Description of Issue: On November 8, 2018, three California wildfires began which resulted in loss of lives and a substantial amount of property. The Camp Fire in northern California impacted Butte County and was contained on November 25, 2018. The Hill Fire in southern California impacted Ventura County and was contained on November 16, 2018. The Woolsey Fire in southern California impacted the counties of Ventura and Los Angeles and was contained on November 21, 2018. The three fires are collectively called “California fires” for this agenda item.

This agenda item recommends an interpretation to temporarily extend the ninety-day rule for nonadmission of uncollected premiums to insurers for policies which were affected by the California fires. The proposed extension is for an additional sixty days so that the total number of days to nonadmission is one hundred and fifty days (90+60= 150).

Existing Authoritative Literature: SSAP No. 6—Uncollected Premium Balances, Bills Receivable for Premiums, and Amounts Due From Agents and Brokers, paragraph 9 provides for nonadmission of premium and agents balances amounts in excess of 90 days overdue. Paragraphs 10 and 11 provide impairment guidance:

Impairment 9. Nonadmitted amounts are determined as follows:

a. Uncollected Premium–To the extent that there is no related unearned premium, any

uncollected premium balances which are over ninety days due shall be nonadmitted. If an installment premium is over ninety days due, the amount over ninety days due plus all future installments that have been recorded on that policy shall be nonadmitted2;

b. Bills Receivable–Bills receivable shall be nonadmitted if either of the following conditions

are present:

i. If any installment is past due, the entire bills receivable balance from that policy is nonadmitted; or

ii. If the bills receivable balance due exceeds the unearned premium on the policy for which the note was accepted, the amount in excess of the unearned premium is nonadmitted.

c. Agents' Balances–The uncollected agent's receivable on a policy by policy basis which is

over ninety days due shall be nonadmitted regardless of any unearned premium;

i. If amounts are both payable to and receivable from an agent on the same underlying policy, and the contractual agreements between the agent and the



reporting entity permit offsetting, the nonadmitted portion of amounts due from that agent shall not be greater than the net balance due, by agent;

ii. If reconciling items between a reporting entity's account and an agent's account are over ninety days due, the amounts shall be nonadmitted.

10. After calculation of nonadmitted amounts, an evaluation shall be made of the remaining admitted assets in accordance with SSAP No. 5R–Liabilities, Contingencies and Impairments of Assets (SSAP No. 5R), to determine if there is impairment. If, in accordance with SSAP No. 5R, it is probable the balance is uncollectible, any uncollectible receivable shall be written off and charged to income in the period the determination is made. If it is reasonably possible a portion of the balance is uncollectible and is therefore not written off, disclosure requirements outlined in SSAP No. 5R shall be followed. 11. Amounts classified as nonadmitted assets collected subsequent to the date of the statutory financial statements shall not be used to adjust the nonadmitted asset otherwise calculated.

The policy statement on Maintenance of Statutory Accounting Principles requires:

11. In rare circumstances, the Working Group may adopt an interpretation which creates new SAP or conflicts with existing SSAPs. Historically, these interpretations temporarily modified statutory accounting principles and/or specific disclosures were developed in response to nationally significant events (e.g., Hurricane Sandy, September 11, 2001). In order to adopt an interpretation that creates new SAP or conflicts with existing SSAPs, the Working Group must have 67% of its members voting (10 out of 15 members) with a super majority (7 out of 10, 8 out of 11 or 12, 9 out of 13, 10 out of 14, or 11 out of 15) supporting adoption. These interpretations can be adopted, overturned, amended or deferred only by a two-thirds majority of the Task Force membership.

Activity to Date (issues previously addressed by the Working Group, Emerging Accounting Issues (E) Working Group, SEC, FASB, other State Departments of Insurance or other NAIC groups): This recommendation is consistent with prior extensions for nationally significant catastrophic events such as in:

• INT 18-04: Extension of Ninety-Day Rule for the Impact of Hurricane Florence and Hurricane Michael; • INT 17-01: Extension of Ninety-Day Rule for the Impact of Hurricane Harvey, Hurricane Irma and

Hurricane Maria; • INT 13-01: Extension of Ninety-Day Rule for the Impact of Hurricane/Superstorm Sandy; and • INT 05-04: Extension of Ninety-day Rule for the Impact of Hurricane Katrina, Hurricane Rita and

Hurricane Wilma. Information or issues (included in Description of Issue) not previously contemplated by the Working Group: None Convergence with International Financial Reporting Standards (IFRS): Not applicable. Staff Review Completed by: Robin Marcotte—NAIC Staff, January 2019 Staff Recommendation: NAIC Staff recommends that the Working Group move this item to the active listing, categorized as nonsubstantive and expose a tentative interpretation to allow for an optional temporary sixty-day extension of the normal ninety-day rule in paragraph 9 of SSAP No. 6 for policies impacted by California fires (Camp Fire, Hill Fire or Woolsey Fire). The interpretation would provide a temporary extension of the nonadmission guidance for premium receivables of directly impacted policies or agents by sixty days for a total of one hundred and fifty days (90 days per existing guidance, plus a 60-day extension = 150 days) not to extend past April 24, 2019. This temporary relaxation of the ninety-day rule for directly impacted policies is similar to the extensions that have been granted for other major national disasters in prior interpretations.



The proposed extension temporarily overrides SSAP No. 6, paragraph 9 for affected policies, therefore the policy statement in Appendix F (see authoritative literature) requires 2/3rd (two-thirds) of the Working Group members to be present and voting and a supermajority of the Working Group members present to vote in support of the interpretation before it can be finalized. Due to the short-term nature of the applicability of this extension, which expires April 25, 2019, this interpretation will be publicly posted on the Statutory Accounting Principles (E) Working Group web page. This interpretation will be automatically nullified on April 25, 2019, and it will be included as a nullified INT in Appendix H – Superseded SSAPs and Nullified Interpretations in the As of March 2020, Accounting Practices and Procedures Manual Status: On January 17, 2019 the Statutory Accounting Principles (E) Working Group moved this item to the active listing, categorized as nonsubstantive and expose a tentative INT 19-01: Extension of Ninety-Day Rule for the Impact of California Camp Fire, Hill Fire and Woolsey Fire to allow for an optional temporary 60-day extension of the normal 90-day rule in paragraph 9 of SSAP No. 6 for policies impacted by California fires (Camp Fire, Hill Fire and Woolsey Fire). The interpretation provides a temporary extension of the nonadmission guidance for premium receivables of directly impacted policies or agents by sixty days for a total of one hundred and fifty days (90 days per existing guidance, plus a 60-day extension = 150 days) not to extend past April 24, 2019. This temporary relaxation of the 90-day rule for directly impacted policies and agents is similar to the extensions that have been granted for other major national disasters in prior interpretations. G:\FRS\DATA\Stat Acctg\3. National Meetings\A. National Meeting Materials\2019\Spring\Hearing\11 - 19-01 CA Wildfire form A INT 19-01.docx



INT 19-02

19-02-1

Interpretation of the Statutory Accounting Principles (E) Working Group

INT 19-02: Freddie Mac Single Security Initiative INT 19-02 Dates Discussed February 6, 2019 INT 19-02 References

Current: SSAP No. 26R—Bonds SSAP No. 43R—Loan-backed and Structured Securities INT 19-02 Issue

1. This interpretation has been issued to provide a limited-scope exception to the exchange and conversion guidance in SSAP No. 26R—Bonds as well as prescribe guidance in SSAP No. 43R—Loan-backed and Structured Securities for instruments converted in accordance with the Freddie Mac Single Security Initiative. Under this initiative, reporting entities will be permitted to exchange “45-day securities” for “55-day securities” without any material change to the securities, or to the loans that back the securities. (With the exchange, there would be a 10-day delay in payment cycle.)

2. Information on the Freddie Mac Single Security Initiative (Freddie Mac Gold PC Exchange). Information is also available via the noted link: http://www.freddiemac.com/mbs/exchange/faqs.html

a. Freddie Mac will offer holders of 45-day, TBA-eligible and non-TBA-eligible Gold PCs and Giants the option to exchange their eligible 45-day securities for 55-day Freddie Mac securities and float compensation. For the TBA-eligible security exchanges, the 55-day corresponding security will be a Uniform Mortgage-Backed Security (UMBS™) or Supers, while for non-TBA eligible exchanges, the corresponding security will be a 55-day Freddie Mac MBS or Giant MBS.

b. Most elements of the new 55-day security received upon exchange will exactly match those of the PC or Giant being exchanged – most fundamentally, the cash flows of the 55-day security will ultimately be backed by the same loans as the original PC or Giant. Each new 55-day security will mostly have the same characteristics as the corresponding PC such as unpaid principal balance, pool factor, and weighted average coupon. The 55-day security will have a new CUSIP, prefix, pool number, and issuance date.

c. Freddie Mac is offering the exchange to promote liquidity in the 55-day TBA-eligible market. The exchange of non-TBA eligible securities for 55-day Freddie Mac MBS will help provide greater consistency across Freddie Mac’s fixed-rate securities population. After the Single Security Initiative’s implementation, all new issue Freddie Mac Single Family fixed-rate securities will have a 55-day payment delay.

d. Exchanges will be initiated at the option of the investor and will not be mandatory. The exchange offer is expected to open in May 2019, the month prior to the Single Security Initiative go-live. The Dealer-facilitated path will stay open for the foreseeable future, while the Direct-to-Freddie Mac exchange path is expected to stay open for 3-5 years.

http://www.freddiemac.com/mbs/exchange/faqs.html



INT 19-02 INT 19-02 Appendix B

19-02-2

e. Investors will receive a one-time payment that will be the approximate fair value compensation for the 10 days’ delay of the bond’s payment, or float compensation. For the Direct-to-Freddie Mac exchange path, this compensation will be paid through a one-time cash payment. For the Dealer-facilitated path, it is anticipated that the dealer will likely net the float compensation payment from the buy-back price of the 55-day security. Freddie Mac will treat the float compensation payment as a tax-free adjustment to the security basis. As such, for those investors that execute their exchange through the Direct-to-Freddie Mac path, Freddie Mac does not intend to report the payment as taxable income to the investor or to the IRS. However, Freddie Mac is not dictating to investors how they must treat the payment. Some investors may conclude, after consulting with their tax advisors, that the float compensation is taxable income when received.

INT 19-02 Discussion

3. The Working Group reached a tentative consensus to incorporate a limited-scope exception to SSAP No. 26R—Bonds and prescribe guidance for SSAP No. 43R—Loan-backed and Structured Securities specific to securities exchanged as part of the Freddie Mac Single Security Initiative. This limited-scope exception requires continuation of the amortized cost basis of the security surrendered to the new security received in the exchange. This is an exception to the guidance in SSAP No. 26R that requires fair value of the surrendered security to become the cost basis for the received security, unless the fair value of the security received is more clearly evident. Although there is not explicit guidance for exchanges in SSAP No. 43R, an entity referring to other statutory accounting standards for application, (such as SSAP No. 95—Nonmonetary Transactions) would infer a fair value measurement, rather than a continuation of the amortized cost basis.

4. By continuing the amortized cost basis, the reporting entity shall not recognize any gains or losses (from comparison of fair value to the amortized cost basis) as a result of the exchange. This is considered appropriate as most of the elements of the security held after the exchange will exactly match the security surrendered, including unpaid principal balance, pool factors and weighted average coupon. Furthermore, the cash flows of the new securities will be ultimately backed by the same loans as the original security.

5. This tentative interpretation also permits reporting entities to adjust the security’s basis (decrease) for the float compensation received. This treatment agrees to how Freddie Mac will treat the compensation payment. This treatment was determined by Freddie Mac after receiving confirmation from the Securities Exchange Commission (SEC) that the SEC does not object to the treatment of the exchange as a minor modification of an existing security. Freddie Mac has also identified that it does not intend to report the float compensation as taxable income to the investor or the IRS, but has identified that the holders of the securities must rely on their own tax and accounting advisors in determining the best course of action.

INT 18-03 Status 6. The tentative consensus adopted in this interpretation shall remain applicable as long as securities are exchanged under the Freddie Mac Single Security Initiative. This interpretation is only applicable for the specific exchange program reviewed, and shall not be inferred to other security exchanges.

7. As a tentative consensus, further discussion is planned

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Form A

Issue: Single Security Initiative Check (applicable entity): P/C Life Health


Description of Issue: This agenda item has been drafted to consider an interpretation that provides a limited-scope exception to the exchange and conversion guidance in SSAP No. 26R—Bonds for instruments converted in accordance with the Freddie Mac Single Security Initiative. Under this initiative, reporting entities will be permitted to exchange existing “45-day securities” to “55-day securities” without any material change to the securities, or to the loans that back the securities. With the proposed interpretation, for the specific instruments in scope, the new security received under the exchange would not be recognized at the fair value of the security surrendered. Rather, the new security would continue the amortized cost basis of the prior security, with adjustment to the securities’ basis to reflect float compensation received from Freddie Mac for the 10-day delay in payment. With this treatment, there would be no gain or loss recognized from this exchange. Overview of Single Security Initiative – Freddie Mac Gold PC Exchange: Key elements of the Single Security Initiative have been provided below. Additional information is available via the following link: http://www.freddiemac.com/mbs/exchange/faqs.html

Freddie Mac will offer holders of 45-day, TBA-eligible and non-TBA-eligible Gold PCs and Giants the option to exchange their eligible 45-day securities for 55-day Freddie Mac securities and float compensation. For the TBA-eligible security exchanges, the 55-day corresponding security will be a Uniform Mortgage-Backed Security (UMBS™) or Supers, while for non-TBA eligible exchanges, the corresponding security will be a 55-day Freddie Mac MBS or Giant MBS. Most elements of the new 55-day security received upon exchange will exactly match those of the PC or Giant being exchanged – most fundamentally, the cash flows of the 55-day security will ultimately be backed by the same loans as the original PC or Giant. Each new 55-day security will mostly have the same characteristics as the corresponding PC such as unpaid principal balance, pool factor, and weighted average coupon. The 55-day security will have a new CUSIP, prefix, pool number, and issuance date.

Freddie Mac is offering the exchange to promote liquidity in the 55-day TBA-eligible market. The exchange of non-TBA eligible securities for 55-day Freddie Mac MBS will help provide greater consistency across Freddie Mac’s fixed-rate securities population. After the Single Security Initiative’s implementation, all new issue Freddie Mac Single Family fixed-rate securities will have a 55-day payment delay. Exchanges will be initiated at the option of the investor and will not be mandatory. The exchange offer is expected to open in May 2019, the month prior to the Single Security Initiative go-live. The Dealer-facilitated path will stay open for the foreseeable future, while the Direct-to-Freddie Mac exchange path is expected to stay open for 3-5 years.




Investors will receive a one-time payment that will be the approximate fair value compensation for the 10 days’ delay of the bond’s payment, or float compensation. For the Direct-to-Freddie Mac exchange path, this compensation will be paid through a one-time cash payment. For the Dealer-facilitated path, it is anticipated that the dealer will likely net the float compensation payment from the buy-back price of the 55-day security. Freddie Mac will treat the float compensation payment as a tax-free adjustment to the security basis. As such, for those investors that execute their exchange through the Direct-to-Freddie Mac path, Freddie Mac does not intend to report the payment as taxable income to the investor or to the IRS. However, Freddie Mac is not dictating to investors how they must treat the payment. Some investors may conclude, after consulting with their tax advisors, that the float compensation is taxable income when received.

Freddie Mac’s treatment of the float compensation as a tax-free adjustment to the security basis was determined after receiving guidance from the SEC that the SEC does not object to treatment of the exchange as a minor modification of the existing security. By concluding that the exchange is a minor modification, Freddie Mac has noted theirits belief that holders of the security would carry over the basis of their 45-day securities and would recognize the cash compensation received for the 10-day delay in payment cycle as a basis adjustment (decrease) on the 55-day Freddie Mac security they received. Freddie Mac has also identified that under IRS Revenue Ruling 2018-24, the exchange of 45-day Gold PC securities for 55-day Freddie Mac mortgage-backed securities will not be taxable. Although the IRS did not rule on the taxability of the associated float compensation payment, Freddie Mac is not planning to report the float compensation payment to the investor or the IRS as a taxable event. Freddie Mac is directing investors to rely on their own tax and accounting advisors to determine the best course of action. Existing Authoritative Literature: SSAP No. 26R—Bonds:

Exchanges and Conversions 22. If a bond is exchanged or converted into other securities (including conversions of mandatory convertible securities addressed in paragraph 11.b.), the fair value of the bond surrendered at the date of the exchange or conversion shall become the cost basis for the new securities with any gain or loss realized at the time of the exchange or conversion. However, if the fair value of the securities received in an exchange or conversion is more clearly evident than the fair value of the bond surrendered, then it shall become the cost basis for the new securities.

Activity to Date (issues previously addressed by the Working Group, Emerging Accounting Issues (E) Working Group, SEC, FASB, other State Departments of Insurance or other NAIC groups): None Information or issues (included in Description of Issue) not previously contemplated by the Working Group: None Convergence with International Financial Reporting Standards (IFRS): Not applicable. Staff Recommendation: NAIC staff recommends that the Working Group move this item to the active listing, categorized as an interpretation, and expose a tentative INT 19-01 to incorporate a limited-scope exception to SSAP No. 26R to require Freddie Mac securities exchanged in accordance with the Single Security Initiative to not recognize the new security at fair value, but to continue the amortized cost basis. Furthermore, consistent with Freddie Mac’s treatment, the float compensation received shall be recognized as an adjustment to the cost basis of the security. As the new security is virtually the same as the prior security, NAIC staff agrees that the financial statements shall not be adjusted based on current fair value as a result of the exchange. (NAIC staff



notes that significant changes between fair value and the amortized cost basis will most likely be limited to situations in which the original security was acquired at a premium or discount.) NAIC staff is recommending use of an interpretation for this direction, as the guidance should only be applied to the investments exchanged in accordance with the Single Security Initiative. Although there is no current end date for the conversion process, this INT will be nullified when the exchange conversion process has been terminated. The proposed guidance would directly conflict with SSAP No. 26R, paragraph 22. As such, the policy statement in Appendix F (see authoritative literature) requires 2/3rd (two-thirds) of the Working Group members to be present and voting and a supermajority of the Working Group members present to vote in support of the interpretation before it can be finalized. Staff Review Completed by: Julie Gann, NAIC Staff – December 2018 G:\FRS\DATA\Stat Acctg\3. National Meetings\A. National Meeting Materials\2019\Spring\Hearing\13 - 19-02 - Freddie Mac - Single Security.docx





Form A

Issue: ASU 2017-13—Amendments to SEC Paragraphs Check (applicable entity): P/C Life Health


Description of Issue: FASB issued ASU 2017-13, Amendments to SEC Paragraphs Pursuant to the Staff Announcement at the July 20, 2017 EITF Meeting and Rescission of Prior SEC Staff Announcements and Observer Comments, which effects the codification in Revenue Recognition (Topic 605), Revenue from Contracts with Customers (Topic 606), Leases (Topic 840), and Leases (Topic 842). This ASU provides updated transition guidance for public reporting entities and is a result of the July 20, 2017 Emerging Issues Task Force (EITF) meeting. There are three main updates to the guidance from this ASU: (1) updates to Topic 606 and 842 for when these revenue and lease accounting changes are effective for public business entities; (2) rescission of prior SEC staff announcements in Topic 605 and Topic 840, which are superseded by Topic 606 and Topic 842, effective on the date of transition from the old to new ASC guidance; and (3) guidance for leveraged leases in Topic 842 that requires that all components of a leveraged lease be recalculated from inception of the lease based on the revised after-tax cash flows arising from the change in the tax law (Tax Cuts and Jobs Act), including revised tax rates. The updated guidance clarifies when public business entities as well private companies must implement the guidance from:

• ASU 2014-09, Revenue from Contracts with Customers (Topic 606), • ASU2016-08, Revenue from Contracts with Customers (Topic 606): Principal versus Agent

Considerations (Reporting Revenue Gross versus Net), • ASU 2016-10, Revenue from Contracts with Customers (Topic 606): Identifying Performance Obligations

and Licensing, ASU 2016-12, Revenue from Contracts with Customers (Topic 606): Narrow-Scope Improvements and Practical Expedients,

• ASU 2016-20, Technical Corrections and Improvements to Topic 606, Revenue from Contracts with Customers, and

• ASU 2017-05, Other Income—Gains and Losses from the Derecognition of Nonfinancial Assets (Subtopic 610-20): Clarifying the Scope of Asset Derecognition Guidance and Accounting for Partial Sales of Nonfinancial Assets.

A public business entity is defined as one that is required by the U.S. Securities and Exchange Commission (SEC) to file or furnish financial statements, or does file or furnish financial statements (including voluntary filers), with the SEC including other entities whose financial statements or financial information are required to be or are included in a filing; or an entity may meet the definition of a public business entity solely because its financial statements or financial information is included in another entity’s filing with the SEC. In that case, the entity is only a public business entity for purposes of financial statements that are filed or furnished with the SEC. The existing transition guidance related to revenue stated that a public business entity and certain other specified entities adopt ASC Topic 606 for annual reporting periods beginning after Dec. 15, 2017, including interim reporting periods within that reporting period. All other entities are required to adopt ASC Topic 606 for annual reporting periods beginning after Dec. 15, 2018, and interim reporting periods within annual reporting periods beginning after Dec. 15, 2019. For leases, the transition guidance requires that a public business entity and certain



other specified entities adopt ASC Topic 842 for fiscal years beginning after Dec. 15, 2018, and interim periods within those fiscal years. All other entities are required to adopt ASC Topic 842 for fiscal years beginning after Dec. 15, 2019, and interim periods within fiscal years beginning after Dec. 15, 2020. ASU 2017-13 updates to the transition guidance states that “SEC staff would not object to a public business entity that otherwise would not meet the definition of a public business entity except for a requirement to include or the inclusion of its financial statements or financial information in another entity’s filing with the SEC adopting (1) ASC Topic 606 for annual reporting periods beginning after Dec. 15, 2018, and interim reporting periods within annual reporting periods beginning after Dec. 15, 2019, and (2) ASC Topic 842 for fiscal years beginning after Dec. 15, 2019, and interim periods within fiscal years beginning after Dec. 15, 2020.” This guidance is included in Topic 606 and Topic 842. Existing Authoritative Literature: Leases are covered in SSAP No. 22—Leases. Basic discussion of the nature of assets, and specifically admitted assets, is covered in SSAP No. 4—Assets and Nonadmitted Assets. Refer to Appendix D—GAAP Cross Reference to Statutory Accounting Principles for GAAP Pronouncements and Working Groups actions pertaining to ASC Topic 605 and 606. Premium revenue recognition is detailed throughout the SSAPs, including the following: SSAP No. 51—Life Contracts; SSAP No. 53—Property Casualty Contracts – Premiums; SSAP No. 54—Individual and Group Accident and Health Contracts and SSAP No. 57—Title Insurance. Activity to Date (issues previously addressed by the Working Group, Emerging Accounting Issues (E) Working Group, SEC, FASB, other State Departments of Insurance or other NAIC groups): None Information or issues (included in Description of Issue) not previously contemplated by the Working Group: None Convergence with International Financial Reporting Standards (IFRS): ASU 2014-09, which created ASC Topic 606, and IFRS 15 are the result of the joint project between the FASB and IASB to improve financial reporting by creating common revenue recognition guidance. The leases project began as a joint project with the IASB and many of the requirements in Topic 842 are the same as the requirements in IFRS 16. Staff Recommendation: NAIC staff recommends that the Working Group move this item to the active listing, categorized as nonsubstantive, and expose revisions to Appendix D—Nonapplicable GAAP Pronouncements to reject ASU 2017-13, Amendments to SEC Paragraphs Pursuant to the Staff Announcement at the July 20, 2017 EITF Meeting and Rescission of Prior SEC Staff Announcements and Observer Comments as not applicable to statutory accounting. This item is proposed to be rejected as not applicable as ASU 2017-13 is specific to deletion of SEC paragraphs, which are not applicable for statutory accounting purposes. Staff Review Completed by: Jake Stultz – October 2018 Status: On November 15, 2018, the Statutory Accounting Principles (E) Working Group moved this item to the active listing, categorized as nonsubstantive, and exposed revisions to Appendix D—Nonapplicable GAAP Pronouncements to reject ASU 2017-13, Amendments to SEC Paragraphs Pursuant to the Staff Announcement at the July 20, 2017 EITF Meeting and Rescission of Prior SEC Staff Announcements and Observer Comments as not applicable to statutory accounting. G:\FRS\DATA\Stat Acctg\3. National Meetings\A. National Meeting Materials\2019\Spring\Hearing\14 - 18-41 - ASU 2017-13 - SEC Updates.docx




Form A

Issue: ASU 2018-02: Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income Check (applicable entity): P/C Life Health


Description of Issue: This agenda item has been drafted to formally consider ASU 2018-02: Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income (ASU 2018-02) for statutory accounting. This GAAP item was preliminarily considered in agenda item 2018-01: Federal Income Tax Reform, but at that time, the GAAP item was only an exposure, and not an adopted ASU. The amendments in ASU 2018-02 allow a reclassification from accumulated other comprehensive income (AOCI) to retained earnings for stranded tax effects resulting from the Tax Cuts and Jobs Act (TCJA). The provisions provide entities an election to reclassify the income tax effects of the TCJA on items within AOCI to retained earnings, with required disclosure if an entity does not elect to reclassify. For entities electing to reclassify the tax effects, the ASU prescribes what should be captured in the reclassification. The ASU was provided to address concerns regarding “stranded tax effects” resulting from the TCJA and only relates to the reclassification of income tax effects from that Act. The ASU does not affect the underlying U.S. GAAP guidance that requires the effect of a change in tax laws or rates to be included in income from continuing operations. The ASU is effective for fiscal years beginning after Dec. 15, 2018, and interim periods within those years, with early adoption permitted. The amendments should be applied either in the period of adoption or retrospectively to each period (or periods) in which the effect of the change in the tax rate from the TCJA is recognized. Existing Authoritative Literature: SSAP No. 101—Income Taxes

8. Changes in DTAs and DTLs, including changes attributable to changes in tax rates and changes in tax status, if any, shall be recognized as a separate component of gains and losses in unassigned funds (surplus)FN. Admitted adjusted gross DTAs and DTLs shall be offset and presented as a single amount on the statement of financial position.

Footnote: Changes in DTAs and DTLs due to changes to tax rates and tax status shall be recorded as a “change in net deferred income tax,” excluding any change reflected in unrealized capital gains. Tax effects previously reflected in unrealized capital gains (to present unrealized gains and losses “net of tax”) shall be re-measured for the change in the tax rate in the same reporting line. Changes in net deferred tax shall not include changes in nonadmitted DTAs, as changes in nonadmittance are reported on a separate reporting line.

Activity to Date (issues previously addressed by the Working Group, Emerging Accounting Issues (E) Working Group, SEC, FASB, other State Departments of Insurance or other NAIC groups): Agenda item 2018-01 considered the impact of the TCJA on SSAP No. 101—Income Taxes. As part of this review, revisions were adopted to paragraph 8 to clarify how changes in tax rates should be reflected for statutory accounting. These revisions resulted in a footnote to detail the reporting lines that could be impacted by the change. With the review of SSAP No. 101, the GAAP exposure (prior to the issuance of ASU 2018-02) was reviewed and a conclusion was reached that statutory accounting does not result with “stranded tax effects,” therefore guidance,



similar to what was proposed for U.S. GAAP, was not needed in statutory accounting. Although the issued ASU 2018-02 does vary from the original U.S. GAAP exposure (e.g., ASU provides an election, not a requirement for reclassification), these changes do not alter the original assessment of “stranded tax effects” under SAP. Assessment included in Agenda Item 2018-02:

On January 18, 2018, the FASB exposed a proposed ASU “Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income” for a comment period ending February 2, 2018. This proposed ASU was exposed to address concerns that deferred tax impacts from the effect of a change in tax laws or rates would be included in income from continuing operations in the reporting periods that includes the enacted date although the tax effect was originally charged to other comprehensive income, and is reflected in accumulated other comprehensive income. The amendments in the proposed ASU would require a reclassification from accumulated other comprehensive income to retained earnings for the “stranded” tax effects from the newly enacted federal corporate income tax rate. The amount of the reclassification would be the difference between the historical corporate tax rate and the newly enacted 21% corporate tax rate.

Statutory Assessment: Existing guidance in SSAP No. 101 prescribes that changes in deferred tax assets

and liabilities shall be recognized as a separate component of surplus. (This guidance was a modification from U.S. GAAP, which requires these changes to be reported in income from continuing operations.) As such, with the existing guidance in SSAP No. 101, statutory accounting does not have a “stranded” tax effect issue and does not need to incorporate guidance similar to what is being considered for U.S. GAAP.

Information or issues (included in Description of Issue) not previously contemplated by the Working Group: None Convergence with International Financial Reporting Standards (IFRS): Not applicable. Staff Recommendation: NAIC staff recommends that the Working Group move this item to the active listing, categorized as nonsubstantive, and expose revisions to reject ASU 2018-02 as not applicable to statutory accounting in Appendix D—Nonapplicable GAAP Pronouncements. Although this guidance could be rejected in SSAP No. 101, as the ASU only allows reclassification from AOCI to retained earnings in response to the TCJA, and does not affect underlying GAAP guidance related to income taxes, NAIC staff believes it would be most appropriate to reject this ASU as not applicable. As noted, statutory accounting does not have a “stranded” tax effect issue and does not need to incorporate guidance similar to what is being considered for U.S. GAAP. Staff Review Completed by: Julie Gann, NAIC Staff – August 2018 Status: On November 15, 2018, the Statutory Accounting Principles (E) Working Group moved this item to the active listing, categorized as nonsubstantive, and exposed revisions to Appendix D—Nonapplicable GAAP Pronouncements to reject ASU 2018-02, Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income as not applicable to statutory accounting.

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Form A

Issue: ASU 2018-04: Investments—Debt Securities (Topic 320) and Regulated Operations (Topic 980) Check (applicable entity): P/C Life Health


Description of Issue: Accounting Standards Update 2018-04: Investments—Debt Securities (Topic 320) and Regulated Operations (Topic 980), Amendments to SEC Paragraphs Pursuant to SEC Staff Accounting Bulletin No. 117 and SEC Release No. 33-9273 (ASU 2018-04). The ASU was issued by the Financial Accounting Standards Board (FASB) to supersede guidance for Securities Exchange Commission (SEC) reporting entities for “other than temporary” and for other factors to consider when evaluating impairment of individual available-for-sale and held-to-maturity securities. Existing Authoritative Literature: SSAP No. 26R—Bonds and SSAP No. 43R—Loan-Backed and Structured Securities include extensive guidance on debt securities, including impairment and disclosures. Activity to Date (issues previously addressed by the Working Group, Emerging Accounting Issues (E) Working Group, SEC, FASB, other State Departments of Insurance or other NAIC groups): None Information or issues (included in Description of Issue) not previously contemplated by the Working Group: None Convergence with International Financial Reporting Standards (IFRS): None. Staff Recommendation: NAIC staff recommends that the Working Group move this item to the active listing, categorized as nonsubstantive, and expose revisions to Appendix D—Nonapplicable GAAP Pronouncements to reject ASU 2018-04: Investments—Debt Securities (Topic 320) and Regulated Operations (Topic 980), Amendments to SEC Paragraphs Pursuant to SEC Staff Accounting Bulletin No. 117 and SEC Release No. 33-9273 as not applicable to statutory accounting. This item is proposed to be rejected as not applicable as ASU 2018-04 is specific to deletion of SEC paragraphs, which are not applicable for statutory accounting purposes. Staff Review Completed by: Jake Stultz – August 2018 Status: On November 15, 2018, the Statutory Accounting Principles (E) Working Group moved this item to the active listing, categorized as nonsubstantive, and exposed revisions to Appendix D—Nonapplicable GAAP Pronouncements to reject ASU 2018-04, Investments—Debt Securities (Topic 320) and Regulated Operations (Topic 980), Amendments to SEC Paragraphs as not applicable to statutory accounting.

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Form A Issue: ASU 2018-05 - Income Taxes (Topic 740), Amendments to SEC Paragraphs Pursuant to SEC Staff Accounting Bulletin No. 118 Check (applicable entity): P/C Life Health


Description of Issue: Accounting Standards Update 2018-05 adds Securities and Exchange Commission (SEC) guidance paragraphs to Topic 740, Income Taxes (ASU 2018-05), in the Financial Accounting Standards Board (FASB) codification. The ASU includes SEC staff views on the income tax accounting implications of the Tax Cuts and Jobs Act, which come from SEC Staff Accounting Bulletin No. 118. The guidance in ASU 2018-05 is specific to SEC registrants. The Tax Cuts and Jobs Act (TCJA) was reviewed by the Working Group in agenda items 2018-01 and 2018-02 for statutory accounting. Existing Authoritative Literature: SSAP No. 101—Income Taxes provides the basis of statutory accounting for income taxes. Activity to Date (issues previously addressed by the Working Group, Emerging Accounting Issues (E) Working Group, SEC, FASB, other State Departments of Insurance or other NAIC groups): Agenda items 2018-01 and 2018-02 include discussion of the statutory accounting impact of the (TCJA). Information or issues (included in Description of Issue) not previously contemplated by the Working Group:None Convergence with International Financial Reporting Standards (IFRS): The Tax Cuts and Jobs Act is U.S. legislation. It will have an impact on companies with U.S. operations that use IFRS as their basis of accounting, but there are no convergence issues. Staff Recommendation: NAIC staff recommends that the Working Group move this item to the active listing, categorized as nonsubstantive, and expose revisions to Appendix D—Nonapplicable GAAP Pronouncements to reject ASU 2018-05 - Income Taxes (Topic 740), Amendments to SEC Paragraphs Pursuant to SEC Staff Accounting Bulletin No. 118 as not applicable to statutory accounting. This item is proposed to be rejected as not applicable as ASU 2018-05 is specific to SEC paragraphs, which are not applicable for statutory accounting purposes. Staff Review Completed by: Jake Stultz, NAIC Staff - September 2018 On November 15, 2018, the Statutory Accounting Principles (E) Working Group moved this item to the active listing, categorized as nonsubstantive, and exposed revisions to Appendix D—Nonapplicable GAAP Pronouncements to reject ASU 2018-05, Income Taxes (Topic 740), Amendments to SEC Paragraphs Pursuant to SEC Staff Accounting Bulletin No. 118 as not applicable to statutory accounting. G:\FRS\DATA\Stat Acctg\3. National Meetings\A. National Meeting Materials\2019\Spring\Hearing\17 - 18-44 - ASU 2018-05 - SEC Income Taxes.docx





Form A

Issue: ASU 2018-06 - Codification Improvements to Topic 942, Financial Services—Depository and Lending Check (applicable entity): P/C Life Health


Description of Issue: ASU 2018-06, Codification Improvements to Topic 942, Financial Services—Depository and Lending (ASU 2018-06) was issued by the Financial Accounting Standards Board (FASB) to supersede outdated guidance from the Office of the Comptroller of the Currency’s Banking Circular 202, Accounting for Net Deferred Tax Charges (Circular 202) that was included in Subtopic 942-740, Financial Services—Depository and Lending—Income Taxes. The guidance in ASU 2018-06 relates to the tax consequences of bad debt reserves of savings and loans (and other qualified thrift lenders) that arose in tax years beginning before Dec. 31, 1987. Existing Authoritative Literature: SSAP No. 101—Income Taxes includes the statutory accounting guidance for income taxes, but does not include any specific guidance for savings and loans or other qualified thrift lenders. Activity to Date (issues previously addressed by the Working Group, Emerging Accounting Issues (E) Working Group, SEC, FASB, other State Departments of Insurance or other NAIC groups): None Information or issues (included in Description of Issue) not previously contemplated by the Working Group: None Convergence with International Financial Reporting Standards (IFRS): None Staff Recommendation: NAIC staff recommends that the Working Group move this item to the active listing, categorized as nonsubstantive, and expose revisions to Appendix D—Nonapplicable GAAP Pronouncements to reject ASU 2018-06 - Codification Improvements to Topic 942, Financial Services—Depository and Lending as not applicable to statutory accounting. This item is proposed to be rejected as not applicable as ASU 2018-06 is specific to savings and loans and not relevant for insurance entities. Staff Review Completed by: Jake Stultz – August 2018 Status: On November 15, 2018, the Statutory Accounting Principles (E) Working Group moved this item to the active listing, categorized as nonsubstantive, and exposed revisions to Appendix D—Nonapplicable GAAP Pronouncements to reject ASU 2018-06, Codification Improvements to Topic 942, Financial Services—Depository and Lending as not applicable to statutory accounting.

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Form A

Issue: Structured Notes Check (applicable entity): P/C Life Health


Description of Issue: This agenda item has been drafted to revisit the accounting and reporting of structured notes and other similar investment products, including buffered return-enhanced notes, reverse convertibles, revertible notes, leveraged notes and reverse-exchangeable securities. (These sorts of products may be marketed under a variety of names.) Although there can be differences in the underlying products, the focus of this agenda item is on instruments that combine characteristics of a debt instrument with a derivative component. More specifically, this agenda item is focused on investment products, structured to resemble debt instruments, where the investor assumes a risk of principal loss based on an underlying component unrelated to the credit risk of the issuer. The intent of this agenda item is to determine the appropriate accounting and reporting for these investments. Information about structured notes from the SEC, FINRA, government sponsored enterprises and U.S. GAAP is provided below: SEC Excerpts – Structured Note:

• Structured Notes are securities issued by financial institutions whose returns are based on, among other things, equity indexes, a single equity security, a basket of equity securities, interest rates, commodities, and/or foreign currencies. Thus, the return is “linked” to the performance of a reference asset or index. Structured notes have a fixed maturity and include two components – a bond component and an embedded derivative.

• Some structured notes provide for the repayment of principal at maturity, which is often referred to as “principal protection.” (Such protection may be limited to a portion of the original principal (e.g., 10%) and may be contingent on specific factors.) Many structured notes do not offer this feature. For structured notes that do not offer full principal protection, the performance of the linked asset or index may cause the holder to lose some, or all, of their principal. (Note: Principal protection focuses on the risk of principal loss from the embedded derivative and not risk of loss from default by the issuer.)

• Ability to trade structured notes in a secondary market is often very limited as structured notes (other than exchange-traded notes known as ETNs) are not listed for trading on securities exchanges. As a result, the only potential buyer may be the issuing financial institution’s broker-dealer affiliate or the broker-dealer distributor of the structured note. In addition, issuers often specifically disclaim their intent to repurchase or make markets in the notes they issue. Holders should be prepared to hold a structured note to its maturity date or risk selling the note at a discount to its value at the time of sale.

• Structured notes have complicated payoff structures that can make it difficult to accurately assess the value, risk and potential for growth through the term of the structured note. Determining the performance of the note can be complex and the calculation can vary significantly from note to note. Payoff structures can be leveraged, inverse, or inverse-leveraged, which may result in larger returns or losses for the holder. For example, the payoff on structured notes can depend on:



o Participation Rates: Some structured notes provide a minimum payoff of the principal invested plus an additional payoff based on multiplying any increase in the reference asset or index by a fixed percentage. This percentage is called the participation rate. For example, if the participation rate is 50 percent, and the reference asset or index increased 20 percent, then the return paid would be 10 percent (50% of 20%).

o Capped Maximum Returns: Some structured notes may provide payments linked to a reference asset or index with a leveraged or enhanced participation rate, but only up to a capped, maximum amount. Once the maximum payoff is reached, the holder does not participate in any additional increases in the reference asset or index.

o Knock-in Feature: Some structured notes may specify that if the reference asset or index falls

below a pre-specified level during the term of the note, the holder may lose some or all of the principal investment at maturity and also could lose coupon payments scheduled throughout the term of the note. This pre-specified level may be called a barrier, trigger or knock-in. When this level is breached, the payout return changes on the note. For example, if the reference asset or index falls below the knock-in level and its value is lower than on the date of issuance, instead of receiving a return of principal, the holder may receive an amount that reflects the decline in value of the reference asset or index. For certain types of structured notes, the holder may actually receive the reference asset that has declined in value during the term of the note.

• In addition to risk of the underlying variable, structured notes are unsecured debt obligations. Hence, they

are also subject to the risk of issuer default.

• Some structured notes have “call provisions” that allow the issuer, at its sole discretion, to redeem the note before it matures at a price that may be above, below or equal to the face value of the structured note.

Structured Note - NAIC Designation / CRP Rating:

• Any CRP rating / NAIC designation reported for these investments may not address the risk of principal loss related to the underlying variable. If a CRP rating / NAIC designation is reported, it may only be reflective on the credit risk of the issuer, not the actual risk of the investment.

Structured Note Example Prospectus: The following is language taken from a long-term structured note (maturing 2023) (names / rates changed):

These “Securities” are unsecured and unsubordinated debt securities issued by ABC (NAIC 1) and fully and unconditionally guaranteed by ABC with returns linked to the performance of the EURO XX Index (the “Underlying”). If the Underlying Return is greater than zero, ABC will pay the Principal Amount at maturity plus a return equal to the product of (i) the Principal Amount multiplied by (ii) the Underlying Return multiplied by (iii) the Upside Gearing of 2.75. If the Underlying Return is less than or equal to zero, ABC will either pay the full Principal Amount at maturity, or, if the Final Level is less than the Downside Threshold, ABC will pay significantly less than the full Principal Amount at maturity, if anything, resulting in a loss of principal that is proportionate to the negative Underlying Return. These long-dated Securities are for investors who seek an equity index-based return and who are willing to risk a loss on their principal and forgo current income in exchange for the Upside Gearing feature and the contingent repayment of principal, which applies only if the Final Level is not less than the Downside Threshold, each as applicable at maturity. Investing in the Securities involves significant risks. You will not receive interest or dividend payments during the term of the Securities. You may lose some or all of your Principal Amount. The contingent repayment of principal applies only if you hold the Securities to maturity. The securities are significantly riskier than conventional debt instruments. The terms of the securities may not obligate us to repay the full principal amount of the securities. The securities can have downside



market risk similar to the underlying, which can result in a loss of a significant portion or all of your investment at maturity. This market risk is in addition to the credit risk inherent in purchasing our debt obligations.

FINRA Excerpts: Investor Alert: Reverse Convertibles – Complex Investment Vehicles

• Reverse convertibles are debt obligations of the issuer that are tied to the performance of an unrelated security or basket of securities. Although often described as debt instruments, they are far more complex than a traditional bond and involve elements of option trading.

• A reverse convertible is a structured product that generally consists of a high-yield, short-term note of the issuer that is linked to the performance of an unrelated reference asset – often a single stock, but sometimes a basket of stocks, an index or some other asset. The product typically has two components:

o A debt instrument – Usually a note (called the “wrapper”) that pays an above-market coupon (on a monthly or quarterly basis).

o A derivative – A put option, that gives the issuer the right to repay the principal to the investor in the form of a set amount of the underlying asset, rather than cash, if the price of the underlying asset dips below a predetermined price (often referred to as the “knock-in” level).

• The purchase of a reverse convertible gives the holder a yield-enhanced bond. The holder does not own,

and does not get to participate in any upside appreciation of, the underlying asset. Instead, in exchange for higher coupon payments during the life of the note, the holder gives the issuer a put option on the underlying asset.

• The purchaser / holder is betting that the value of the underlying asset will remain stable or go up, while the issuer is betting that the price will fall.

o Holder Best Case – The value of the underlying asset stays above the knock-in level or rises, resulting in the holder receiving a return of principal and a high coupon over the life of the investment.

o Holder Worst Case – The value of the underlying asset drops below the knock-in level, in which case, the issuer can pay back principal in the form of the depreciated asset. This means that the holder loses some, or all, of the principal (offset only partially by the monthly or quarterly interest received and the ownership of the shares of the devaluated asset).

• The initial investment for most reverse convertibles is $1,000 per security, and most have maturity dates

ranging from 3 months to one year. The interest or “coupon” rate on the note is usually higher than the yield on a conventional debt instrument of the issuer, or an issuer with a comparable debt rating.

o FINRA identified reverse convertibles with annualized coupon rates of up to 30%. A high yield reflects the risk that instead of full return of principal at maturity, the investor could receive less than the full return of principal if the value of the unrelated reference assets falls below the knock-in level the issuer sets.

o Depending on how the underlying asset performs, the holder either receives the principal back in cash or a predetermined amount of shares of the underlying stock or asset (or cash equivalent), which amounts to less than the original investment (because the asset’s price has dropped).



o In some cases, return of the full principal depends on the price of the reference asset at the maturity date, whereas in other cases, the breach of the knock-in level at any time during the period will result in the holder receiving less than the original principal.

• Reverse convertibles have risks similar to fixed-income products (issuer default and inflation), but also

have risks attributed to the underlying asset. Even if the issuer meets its obligation on the note, holders could end up with shares of a depreciated – or worthless – asset.

• While the note component may reflect the issuer’s credit rating, that rating does not reflect the risk that the price of the unrelated underlying asset will fall below the knock-in level, and result in a loss of principal. A reverse convertible packaged by a highly rated issuer could be linked to a poorly rated company, or to a highly rated company with poor performing stock.

• Some reverse convertibles have call provisions that allow the issuer, at its sole discretion, to redeem the investment before it matures. If this is the case, the holder does not receive any subsequent coupon payments, and the holder would immediately receive principal in either cash or stock.

• Reverse convertibles do not offer principal protection. The only principal protection offered is the conditional downside protection of the knock-in price.

Reverse Convertibles - NAIC Designation / CRP Rating:

• As reverse convertibles are short-term investments, these items are not reported with any NAIC designation or CRP rating. Rather, a holder would allocate these items on Schedule D - Part 1A based on their assessment of the underlying credit risk. It is assumed that holders of these investments would allocate these item based on the credit quality of the issuer. However, similar to Structured Notes, the credit risk of the issuer does not address the risk of principal loss related to the underlying variable.

Reverse Convertible Example Prospectus: The following is an excerpt from a reverse convertible (offering both 3-month and 6-month notes):

Payment at Maturity (if held to maturity): For each $1,000 principal amount of the Notes, the investor will receive $1,000 plus any accrued and unpaid interest at maturity unless: (i) the Final Stock Price is less than the Initial Stock Price; and (ii) (a) for notes subject to Intra-Day Monitoring, at any time during the Monitoring Period, the trading price of the Reference Stock is less than the Barrier Price, or (b) for notes subject to Close of Trading Day Monitoring, on any day during the Monitoring Period, the closing price of the Reference Stock is less than the Barrier Price. If the conditions described in (i) and (ii) are both satisfied, then at maturity the investor will receive, instead of the principal amount of the Notes, in addition to any accrued and unpaid interest, the number of shares of the Reference Stock equal to the Physical Delivery Amount, or at our election, the cash value thereof. If we elect to deliver shares of the Reference Stock, fractional shares will be paid in cash. Investors in these Notes could lose some or all of their investment at maturity if there has been a decline in the trading price of the Reference Stock.

The following is another excerpt from a reverse convertible:

Principal Payment at Maturity

A $1,000 investment in the Notes will pay $1,000 at maturity unless: (a) the final price of the linked share is lower than the initial price of the linked share; and (b) between the initial valuation date and the final valuation date, inclusive, the closing price of the linked share on any day is below the protection price.



If the conditions described in (a) and (b) are both true, at maturity you will receive, at our election, instead of the full principal amount of your Notes, either (i) the physical delivery amount (fractional shares to be paid in cash in an amount equal to the fractional shares multiplied by the final price), or (ii) a cash amount equal to the principal amount of your Notes reduced by the percentage decrease in the price of the linked share from the initial price to the final price.

If you receive shares of the linked share in lieu of the principal amount of your Notes at maturity, the value of your investment will approximately equal the market value of the shares of the linked share you receive, which could be substantially less than the value of your original investment. You may lose some or all of your principal if you invest in the Notes.

Government-Sponsored Enterprises (GSE) – Credit Risk Transfer (CRT) Transactions

GSE CRT securities are “debt” notes issued by Freddie Mac or Fannie Mae designed to transfer the credit risk from the mortgages in a specified reference pool to the investors that purchase the debt securities. The structure of these securities originated in 2012 in response to a Federal Housing Finance Agency (FHFA) strategic plan of credit risk transfer to reduce Fannie Mae’s and Freddie Mac’s overall risk. (The original issuances under the strategic plan were Structured Agency Credit Risk (STACR) for Freddie Mac and Connecticut Avenue Securities (CAS) for Fannie Mae.)

• Issued CRT security is tied to a reference pool of mortgages. As loans in the referenced pool default, the securities incur principal write-downs. The principal write-downs are allocated to designated tranches.

• CRT securities are different from mortgage-backed securities (MBS). Investing in a MBS allows investors to receive a portion of the principal and interest that the GSE receives from the borrowers of the underlying mortgages. The GSE guarantees timely payment of interest and principal on MBS by charging a guarantee fee to the lender, which is passed on to the borrower through the interest rate changed to the mortgage. (With this structure the GSEs retain the credit risk of the mortgage borrowers.) As an investor in a CRT, the credit risk in the referenced mortgages is transferred to the investors.

• Each CRT transaction includes several tranches that cover a range of cash flows, credit risk and potential return profiles. Those holding the lowest level tranche take on the highest credit risk, as they incur losses first. Those holding higher level tranches take on the lowest credit risk. The GSE generally maintains the highest tranche, which incurs the last level of loss.

• The FHFA 2012 summary characterize these transactions as synthetic notes or derivatives:

The STACR and CAS securities account for about 90 percent of credit risk transfers to date. These securities are issued as Enterprise debt and do not constitute the sale of mortgage loans or their cash flows. Instead, STACR and CAS are considered to be synthetic notes or derivatives because their cash flows track to the credit risk performance of a notional reference pool of mortgage loans.

• As identified the Freddie Mae STACR summary:

o STACR debt notes are unsecured and unguaranteed bonds whose principal payments are

determined by the delinquency and principal payment experience on a STACR Reference Pool. Freddie Mac transfers credit risk from the mortgages in the reference pool to credit investors who invest in the STACR debt notes.

o Freddie Mac makes periodic payments of principal and interest on the notes and is compensated through a reduction in note balance for defined credit events on the Reference Pool.



o STACR debt investors may not receive their full principal and will receive periodic payments of principal as well as interest.

o Periodic and ultimate principal payments on STACR debt are influenced by the delinquency and

principal payment experience on a STACR reference pool, in addition to predetermined principal rules. Debt coupon yields will likely be established at higher levels than standard Freddie Mac debt offerings.

GSE / CRT (Mortgage Referenced Securities) - NAIC Designation / CRP Rating:

• Mortgage referenced securities issued by Fannie Mae and Freddie Mac are reviewed under existing methodologies of the NAIC Securities Valuation Office (SVO) and the NAIC Structured Securities Group (SSG). This methodology considers both the credit risk of the issuer (Fannie / Freddie) as well as the credit risk of the borrowers in the referenced mortgage loans. This analysis is possible as the underlying risk is credit risk, and not the risk of any other variable (e.g., equity index, etc.).

STACR Example Prospectus:

The Notes will not constitute “mortgage related securities” for purposes of SMMEA, and the Notes may be regarded as high-risk, derivative, risk-linked or otherwise complex securities. The Notes should not be purchased by prospective investors who are prohibited from acquiring securities having the foregoing characteristics. The performance of the Notes will be affected by the Credit Event experience of the Reference Obligations. The Notes are not backed by the Reference Obligations and payments on the Reference Obligations will not be available to make payments on the Notes. However, each Class of Notes will have credit exposure to the Reference Obligations, and the yield to maturity on the Notes will be directly related to the amount and timing of Credit Events on the Reference Obligations. As described in this offering circular, the notes are linked to the credit and principal payment risk of a certain pool of residential mortgage loans but are not backed or secured by such mortgage loans. The occurrence of 180-day or more delinquencies on these mortgage loans as well as the occurrence of other credit events thereon as described in this offering circular, could result in write-downs of the class principal balances of the notes. Interest and principal payable on the notes will be solely the unsecured obligation of Freddie mac.

CAS Example Prospectus:

The Notes will not constitute "mortgage related securities" for purposes of SMMEA, and the Notes may be regarded as high-risk, derivative, risk-linked or otherwise complex securities. The Notes should not be purchased by prospective investors who are prohibited from acquiring securities having the foregoing characteristics. As described in this prospectus, the notes are linked to the credit and principal payment risk of certain residential mortgage loans but are not backed or secured by such mortgage loans. The occurrence of certain credit events or modification events on these mortgage loans, as described in this prospectus, will result in write-downs of the class principal balances of the notes to the extent losses are realized on such mortgage loans as a result of these events. In addition, the interest entitlement of the notes will be subject to reduction based on the occurrence of modification events on these mortgage loans to the extent losses are realized with respect thereto, as further described herein under "description of the notes—hypothetical structure and calculations with respect to the reference tranches—allocation of modification loss amount." interest and principal payable on the notes will be solely the unsecured obligation of Fannie Mae.

U.S. GAAP Guidance



The U.S. GAAP guidance for structured notes was originally reflected in EITF 96-12, Recognition of Interest Income and Balance Sheet Classification of Structured Notes. This guidance was rejected for statutory accounting in SSAP No. 43R. Some of the conclusions in EITF 96-12 were subsequently revised with the issuance of FAS 133, Accounting for Derivative Instruments and Hedging Activities and FAS 155, Accounting for Certain Hybrid Financial Instruments. The revisions from FAS 133 and FAS 155 were driven from the “clear and closely related” separation guidance for embedded derivatives. Pursuant to the changes from FAS 133 and FAS 155, if an entity cannot reliably identify the embedded derivative for separation, the entire contract shall be measured at fair value. Additionally, the changes incorporated a fair value measurement election for certain hybrid financial instruments with embedded derivatives. For those items, an entity could elect to account for the contract entirely at fair value. Current U.S. GAAP guidance for structured notes is captured in FASB Codification Topic 320, Investments – Debt and Equity Securities. The current GAAP guidance differentiates accounting based on whether the contract terms suggests that is reasonably possible that the entity could lose all or substantially all of its original investment amount for other than failure of the borrower to pay the contractual amounts due. For those structured notes, the GAAP guidance requires measurement at fair value, with all changes in fair value reported in earnings. For other structured notes in which the contractual amount of principal or original investment amount is at risk, entities are required to use a retrospective interest method. With this approach, if a note was to trigger a reduction in principal repayment, the entity would recognize a negative yield adjustment. Key excerpts from U.S. GAAP:

Structured Note Definition: A debt instrument whose cash flows are linked to the movement in one or more indexes, interest rates, foreign exchange rates, commodities prices, prepayment rates, or other market variables. Structured notes are issued by U.S. government-sponsored enterprises, multilateral development banks, municipalities, and private entities. The notes typically contain embedded (but not separable or detachable) forward components or option components such as caps, calls, and floors. Contractual cash flows for principal, interest, or both can vary in amount and timing throughout the life of the note based on nontraditional indexes or nontraditional uses of traditional interest rates or indexes.

Income Recognition for Certain Structured Notes

320-10-35-38 This guidance addresses the accounting for certain structured notes that are in the form of debt securities, but does not apply to any of the following: a. Mortgage loans or other similar debt instruments that do not meet the definition of a security

under this Subtopic

b. Traditional convertible bonds that are convertible into the stock of the issuer

c. Multicurrency debt securities

d. Debt securities classified as trading

e. [Subparagraph not used]

f. Debt securities participating directly in the results of an issuer's operations (for example, participating mortgages or similar instruments)

g. Reverse mortgages

h. Structured note securities that, by their terms, suggest that it is reasonably possible that the entity could lose all or substantially all of its original investment amount (for other



than failure of the borrower to pay the contractual amounts due). (Such securities shall be subsequently measured at fair value with all changes in fair value reported in earnings.)

320-10-35-40 Entities shall use the retrospective interest method for recognizing income on structured note securities that are classified as available-for-sale or held-to-maturity debt securities and that meet any of the following conditions:

a. Either the contractual principal amount of the note to be paid at maturity or the original

investment amount is at risk (for other than failure of the borrower to pay the contractual amounts due). Examples include principal-indexed notes that base principal repayment on movements in the Standard & Poor's S&P 500 Index or notes that base principal repayment on the occurrence of certain events or circumstances.

b. The note's return on investment is subject to variability (other than due to credit rating changes of the borrower) because of either of the following:

1. There is no stated coupon rate or the stated coupon is not fixed or prespecified, and the variation in the return on investment or coupon rate is not a constant percentage of, or in the same direction as, changes in market-based interest rates or interest rate index, for example, the London Interbank Offered Rate (LIBOR) or the U.S. Treasury Bill Index.

2. The variable or fixed coupon rate is below market rates of interest for traditional notes of comparable maturity and a portion of the potential yield (for example, upside potential for principal) is based on the occurrence of future events or circumstances. (Examples of instruments that meet this condition include inverse floating-rate notes, dual-index floating notes, and equity-linked bear notes.)

c. The contractual maturity of the bond is based on a specific index or on the occurrence of specific events or circumstances outside the control of the parties to the transaction, excluding the passage of time or events that result in normal covenant violations. Examples of instruments that meet this condition include index amortizing notes and notes that base contractual maturity on the price of oil.

320-10-35-41 Under the retrospective interest method, the income recognized for a reporting period would be measured as the difference between the amortized cost of the security at the end of the period and the amortized cost at the beginning of the period, plus any cash received during the period. The amortized cost would be calculated as the present value of estimated future cash flows using an effective yield, which is the yield that equates all past actual and current estimated future cash flow streams to the initial investment. If the effective yield is negative (that is, the sum of the newly estimated undiscounted cash flows is less than the security's amortized cost), the amortized cost would be calculated using a zero percent effective yield. 320-10-35-42 For purposes of determining the effective yield at which income will be recognized, all estimates of future cash flows shall be based on quoted forward market rates or prices in active markets, when available; otherwise, they shall be based on current spot rates or prices as of the reporting date.

Existing Authoritative Literature: SSAP No. 86—Derivatives:

4. “Derivative instrument” means an agreement, option, instrument or a series or combination thereof:

a. To make or take delivery of, or assume or relinquish, a specified amount of one or more underlying interests, or to make a cash settlement in lieu thereof; or



b. That has a price, performance, value or cash flow based primarily upon the actual or expected price, level, performance, value or cash flow of one or more underlying interests.

11. An “underlying” is a specified interest rate, security price, commodity price, foreign exchange rate, index of prices or rates, or other variable (including the occurrence or nonoccurrence of a specified event such as a scheduled payment under contract). An underlying may be a price or rate of an asset or liability but is not the asset or liability itself.

SSAP No. 26R—Bonds

3. Bonds shall be defined as any securities1 representing a creditor relationship, whereby there is a fixed schedule for one or more future payments. This definition includes:

a. U.S. Treasury securities;(INT 01-25)

b. U.S. government agency securities;

c. Municipal securities;

d. Corporate bonds, including Yankee bonds and zero-coupon bonds;

e. Convertible bonds, including mandatory convertible bonds as defined in paragraph 11.b;

f. Fixed-income instruments specifically identified:

i. Certifications of deposit that have a fixed schedule of payments and a maturity date in excess of one year from the date of acquisition;

ii. Bank loans issued directly by a reporting entity or acquired through a

participation, syndication or assignment; iii. Hybrid securities, excluding: surplus notes, subordinated debt issues which have

no coupon deferral features, and traditional preferred stocks. iv. Debt instruments in a certified capital company (CAPCO) (INT 06-02)

Although “structured notes” are not explicitly named in the SSAP No. 26R scope, they are referenced in a disclosure adopted per a referral from the Valuation of Securities (E) Task Force:

30.l Separately identify structured notes, on a CUSIP basis, with information by CUSIP for actual cost,

fair value, book/adjusted carrying value, and whether the structured note is a mortgage-referenced security.2

1 This statement adopts the GAAP definition of a security as it is used in FASB Codification Topic 320 and 860. Security: A share, participation, or other interest in property or in an entity of the issuer or an obligation of the issuer that has all of the following characteristics:

a. It is either represented by an instrument issued in bearer or registered form or, if not represented by an instrument, is registered in books maintained to record transfers by or on behalf of the issuer.

b. It is of a type commonly dealt in on securities exchanges or markets or, when represented by an instrument, is commonly

recognized in any area in which it is issued or dealt in as a medium for investment. c. It either is one of a class or series or by its terms is divisible into a class or series of shares, participations, interests or

obligations.



As noted in the footnote to paragraph 30.l., the definition of a structured note subject to this disclosure is in accordance with the definition in the Purposes and Procedures Manual of the NAIC Investment Analysis Office:

Structured Note Definition from P&P Manual:

A Structured Note’s is a direct debt issuance by a corporation, municipality, or government entity, ranking pari-passu with the issuer’s other debt issuance of equal seniority where either: • The coupon and/or principal payments are linked, in whole or in part, to prices of, payment streams

from, index or indices, or assets deriving their value from other than the issuer’s credit quality, or

• The coupon and/or principal payments are leveraged by a formula that is different from either a fixed coupon, or a non-leveraged floating rate coupon linked to an interest rate index including by not limited to LIBOR or prime rate.

Analytically, a Structured Note can be divided into the issuer’s debt issue and an embedded derivative. Securities with certain embedded securities are not considered Structured Notes, including but not limited to bonds with standard call or put options.

When the issuer is a trust, the source of payments on the security is the assets in the trust, and investors’ recourse is limited to the assets in that trust, the security is not a Structured Note.

Definition / Guidance for Mortgage Referenced Security from P&P Manual Mortgage Referenced Security is a category of a Structured Note, as defined above in Part Three, Section 3 (b) (vi) of this Manual. In addition to the Structured Note definition, the following are characteristics of a Mortgage Referenced Security: A Mortgage Referenced Security’s coupon and/or principal payments are linked, in whole or in part, to prices of, or payment streams from, real estate, index or indices related to real estate, or assets deriving their value from instruments related to real estate, including, but not limited to, mortgage loans.

(B) Not Filing Exempt A Mortgage Referenced Security is not eligible for the filing exemption in Part Two, Section 4 (c) (ii) or the filing exemption in Section 4 (d) of this Manual, but is subject to the filing requirement indicated in Part Two, Section 2 (a) of this Manual. (C) NAIC Risk Assessment In determining the NAIC designation of a Mortgage Referenced Security, the SSG may use the financial modeling methodology discussed in this Part Seven, Section 6(a), adjusted to the specific reporting and accounting requirements applicable to Mortgage Referenced Securities.

Activity to Date (issues previously addressed by the Working Group, Emerging Accounting Issues (E) Working Group, SEC, FASB, other State Departments of Insurance or other NAIC groups): In 2014, in response to a request from the Valuation of Securities (E) Task Force, the Statutory Accounting Principles (E) Working Group incorporated a disclosure for structured notes in SSAP No. 26R. As detailed in that agenda item (agenda item 2014-02), the disclosure was requested by the Investment Asset (E) Working Group in order to assess the volume and activity of these notes, and so that subsequent consideration could occur for accounting or reporting revisions. This disclosure was requested before assessments for valuation and risk-based capital for these investments. The definition of a structured note was adopted in December 2013 by the

2 Determination of a “structured note” and “mortgage-referenced security” for this disclosure shall follow the definitions adopted within the Purposes and Procedures Manual of the NAIC Investment Analysis Office.



VOSTF, noting that these investments are different from structured securities subject to SSAP No. 43R, as these securities are not backed by a trust holding assets to back the cash flows. Information or issues (included in Description of Issue) not previously contemplated by the Working Group: NAIC staff ran a report of the structured note disclosure captured in the year-end 2017 financial statements. The disclosure captured limited information regarding CUSIP, actual cost, fair value, BACV and whether the item is a mortgage-referenced security. The following summarizes key data from that report:

• Population as of year-end 2017: 3,933 securities reported by 476 entities o 28 securities reported by 4 fraternals o 1,290 securities reported by 123 life companies o 2,255 securities reported by 294 property / casualty companies o 360 reported by 55 health entities

• Reported Value in the Disclosure

o BACV = $25,508,476,578 o FV = $27,114,386,508 o Cost = $25,095,837,931

• Mortgage Reference Security

o No = 3,134 o Yes = 788

• Number of CUSIPS = 1,777

Instances where multiple companies held the same CUSIP seemed to mostly reflect U.S. TIPS (Treasury Inflation-Indexed Securities) or other items described as Treasury Securities. From review of the data, 859 of structured notes reported were identified as US Tips or other US Treasury securities. (All of these items were reported with an NAIC 1.)

Note: NAIC staff does not consider Treasury Securities or TIPS to be structured notes within the scope of this agenda item. Structured notes, for purposes of this agenda item, represent securities where there is the potential for loss based on an underlying variable unrelated to the credit risk of the issuer. Treasury inflation-indexed securities (TIPS) are direct obligations of the U.S. government, and are backed by the full faith and credit of the government. The principal is protected against inflation and can grow as inflation rises. Although subsequent deflation could cause the principal to decline, the Treasury will pay at maturity an amount that is no less than the par amount as of the date the security was first issued. Hence, with these securities there is no risk of “principal loss” to the reporting entity.

After removing the 859 US Treasury items, 3,009 investments were captured in the structured note disclosure. The following reflects the reported NAIC designation for these items:

Standard FE FM AM Z S * PS Total NAIC 1 621 948 259 11 30 1 0 0 1,870 NAIC 2 14 671 2 34 16 4 0 7 748 NAIC 3 18 239 2 7 1 2 0 1 270 NAIC 4 19 40 0 3 3 0 0 0 65 NAIC 5 3 10 1 1 1 0 8 0 24 NAIC 6 5 8 1 4 1 4 4 5 32 Totals 680 1,916 265 60 52 11 12 13 3,009



Summary of items noted: NAIC 1 = Items reported with a “standard” NAIC 1 appear to mostly reflect the mortgage-referenced structured notes. The descriptions for these items reference FNMA, FHLMC, FHLB, Federal National Mortgage Association, Fannie Mae, Connecticut Avenue Securities—CAS, STACR, and GNMA. (As discussed within this agenda item, these agencies pass on the risk of the underlying mortgage to the security holder.) Per discussion with the NAIC Securities Valuation Office (SVO) and the NAIC Structured Securities Group (SSG), the NAIC has a methodology to review the STACR and CAS investments, and that methodology includes both the issuer’s credit assessment, as well as the credit assessment of the borrowers reflected in the referenced mortgage loan pool. FE Items = Items reported with an “FE” are presumably reported based on the issuer’s CRP rating. As detailed within this agenda item, although the issuer is responsible for remitting the note obligation at maturity, the underlying risk of the security is not limited to the issuer obligation. Rather, there is additional risk for the performance of the underlying variable. (Although NAIC staff has not verified use of the FE designation for items reported as structured notes, the P&P Manual prohibits use of the “FE” symbol with mortgage referenced securities.) FM / AM Items = NAIC staff is uncertain why securities that have been financially modeled, or that are modified filing exempt, would be captured within the structured note disclosure. Per discussion with the SVO and the SSG, although STACRs and CAS are reviewed for NAIC designations by the SSG, these securities are not considered “modeled” and are not captured in the financial modeling or modified filing exempt guidance in SSAP No. 43R. As such, it is not appropriate for these securities to be reported with these symbols. Z Designation = A Z designation is used to identify an insurer-designated security that is in transition in reporting or filing status because it is newly purchased, not yet submitted to the SVO, in transition from a FE status to another, or has been dropped recently by AVR+ and the insurer has filed the security. S Symbol = The designation is used to identify additional or other non-payment risk. The “S” symbol is not a symbol that insurers can self-designate. The SVO adds the “S” symbol to NAIC designations as a signal to the regulator that there is additional risk in the security not related to the credit risk of the issuer. “*” = Security has been self-assigned by the insurer. PS = This security was on the preferred stock schedule with preferred stock identifiers.

Convergence with International Financial Reporting Standards (IFRS): N/A Staff Recommendation: NAIC staff recommends that the Working Group move this item to the active listing, categorized as nonsubstantive, and expose this agenda item with a request for comments. This agenda item proposes to revise statutory accounting and reporting to indicate that structured notes, for which the contractual principal amount to be paid at maturity or the original investment amount is at risk for other than failure of the borrower to pay the contractual amount due, shall be reported as a derivative in scope of SSAP No. 86. This guidance proposes a specific exception for mortgage-referenced government sponsored enterprises, with those securities captured in scope of SSAP No. 43R. Other instruments, which meet the definition of a bond, that may be considered a form of a “structured note” under U.S. GAAP terminology but for which the principal amount or original investment is not at risk for other than credit risk, (for example, an inflation bond or other structures where the interest rate varies, but original principal is not at risk), shall continue to be reported as bonds in scope of SSAP No. 26R. This agenda item also proposes to clarify that all derivatives, regardless of maturity date, shall be captured as derivatives and not as cash equivalents or short-term investments.



The proposed accounting and reporting proposed within this agenda item is consistent with statutory accounting concepts, primarily the recognition concept, which focuses on the ability to meet policyholder obligations with the existence of readily marketable assets available when both current and future obligations are due. Consistent with that concept, an instrument, for which original principal may not be returned in accordance with the terms of the agreement, should be captured on an annual statement reporting schedule that is more consistent with the substance of the transaction. Reporting these instruments as a derivative is consistent with the definition of a derivative in SSAP No. 86, and reflects the substance of the instrument (rather than the form). With reporting as a derivative, these instruments would be reported at fair value, which would be consistent with U.S. GAAP for situations in which the terms of the instrument suggests that it is reasonably possible that an entity could lose all or substantially all of its original investment amount for other than the failure of the borrower to pay the contractual amounts due. NAIC staff also highlights that the substance of the structured notes in scope of this agenda item (excluding the mortgage referenced securities), may be considered “speculative derivatives.” NAIC staff understands that certain state investment limitations may prohibit insurers from holding speculative derivative instruments. As such, by properly classifying these items based on the substance of the transaction, the financial statements provide a better representation of the investments held by a reporting entity.

Speculation is the act of buying or selling an asset in hopes of generating a profit from the asset's price fluctuations. Stock options, which are derivative securities, could be used to speculate on prices of underlying assets.

Ultimately, if the revisions proposed in this agenda item are supported, the Working Group will need to make a referral to the Valuation of Securities (E) Task Force to make corresponding revisions to their definition of a “structured note.” Key elements / discussion points in determining the NAIC staff recommendation:

• Structured Notes, excluding mortgage-referenced securities, in which the terms of the security does not obligate the issuer to repay the full principal, (as principal repayment is determined in accordance with the performance of an underlying variable), which can result in a loss of principal, other than by default, is a derivative instrument subject to the provisions of SSAP No. 86—Derivatives.

o A structured note incorporates risk of an underlying variable in addition to the credit-risk of the issuer. With the focus of structured notes captured in this agenda item, the substance of the structure is the derivative element, which determines the amount owed under the terms of the agreement. The reporting of these structures as derivatives is consistent with the overall substance of the item. Although these structures are designed to resemble a debt instrument (with an issuer obligation), as the issuer obligation is contingent on the derivative element, the substance of the transaction (derivative element) should drive the accounting. (Reporting these instruments as bonds reflects the “form” of the investment and is not reflective of the underlying risk of the investment.) The direction for classification as a derivative instrument is not contradictory to SSAP No. 86, paragraph 16, which indicates that embedded derivatives should not be separated from the host contract and accounted for separately. As detailed in this agenda item, there is no separation from the host contract of the derivative; rather the entire instrument shall be classified as a derivative, which is in substance the nature of the transaction.

o Identification, and the designated accounting and reporting of a structured note for statutory accounting purposes are focused on principal repayment per the terms of the security (which includes the performance of the underlying variable). For statutory accounting purposes, this



classification does not intend to capture debt instruments for which the principal repayment is only subject to the credit risk of the issuer. (As noted in the proposed revisions to SSAP No. 26R, bond instruments that may be considered “structured notes” under U.S. GAAP, but for which the original principal or investment is not at risk will be captured in scope of SSAP No. 26R. Examples include TIPS and other floating / variable rate interest instruments.

o Classification as a structured note, for statutory accounting, is focused on the potential for loss of

principal per the terms of the security (other than by default). This classification excludes inflation-indexed securities in which the principal repayment may increase, as long as the security will pay at maturity no less than the par stated as of the date the security was issued.

o A structured note for which the original principal or investment is at risk shall be accounted for

under SSAP No. 86 regardless if the maturity date of the instrument is short term or long term. As such, reverse convertibles (or similar structures) shall be accounted and reported in accordance with SSAP No. 86. The guidance for cash equivalents / short-term investment classification is predicated on the concept that the risk of interest rate changes until maturity is insignificant. However, as the risk of loss for the structured notes addressed in this agenda item is contingent on equity / derivative factors, these instruments should not be captured as cash equivalents or short-term investments. Revisions have also been proposed to clarify that derivatives, regardless of maturity date, should never be reported as cash equivalents or short-term investments. (NAIC staff notes that there is no dedicated reporting line for derivatives as either short-term assets or cash equivalents, and if previously captured in these reporting lines, they would have simply been noted as “other.”)

o With the clarification that structured notes for which there is a risk of principal loss outside of

default risk are derivatives, the structured note disclosure will be deleted from SSAP No. 26. Consideration could be given on whether additional information shall be captured for these securities in SSAP No. 86.

• Government sponsored enterprises (GSE) credit risk transfer instruments (CRT) (known as mortgage-

referenced securities - MRS) meet the statutory classification as a structured note (as the holder could lose principal with the performance of the referenced security), however, separate accounting and reporting consideration is given as the underlying referenced variable also pertains to credit-risk, which can be assessed by existing methodologies of the NAIC Securities Valuation Office and/or the NAIC Structured Securities Group (SSG). These securities encompass both the credit risk of the issuer (e.g., Fannie Mae or Freddie Mac), as well as the credit risk of mortgage loan borrowers.

o As the “referenced variable” in a MRS is credit risk, which can be assessed for NAIC

designations, an exception to the structured note classification / derivative reporting is proposed. For MRS, it is recommended that these items be specifically identified in scope of SSAP No. 43R with explicit guidance in that SSAP for the accounting and reporting for these securities. The inclusion of these securities in SSAP No. 43R would be an exception to the

definition of a loan-backed or structured security, because MRS are not backed by assets held in trust. Although these items do not meet the standard definition of a SSAP No. 43R security, inclusion of these securities is considered more appropriate than capturing these securities in scope of SSAP No. 26R. This is because the principal repayment and interest income received by the holder ultimately depends on the cash flows attributed to the underlying variable (referenced pool of mortgages), even if the underlying variables are not held in “trust” and do not directly collateralize the MRS.



o The explicit accounting and reporting in SSAP No. 43R for MRS is proposed to include the following concepts:

Identification of MRS included in scope of SSAP No. 43R. (This will explicitly reference

the government agencies that could issue these securities.) Structured notes, for which there is a risk of principal loss beyond default risk, that are not MRS will be reported as derivatives under SSAP No. 86.

Guidance that MRS will be considered an “other” security in determining NAIC designation (NAIC 1-6) and will not be subject to the SSAP No. 43R financial modeling or the modified filing exempt process. With this distinction, the guidance in SSAP No. 43R, paragraph 25 would apply in determining the measurement method as either amortized cost or lower of amortized cost of fair value. (Under the provisions of the P&P Manual, these securities will not qualify for filing exempt; therefore they would be required to be filed with the NAIC SVO/SSG for the NAIC designation.)

Guidance that MRS securities should recognize an other-than-temporary impairment

when it is known that a referenced mortgage has incurred a default that will impact the principal repayment of the debt instrument. This guidance would be in addition to standard guidance for OTTI recognition based on the credit assessment of the issuer.

o If the SSAP No. 43R approach is supported for MRS, a referral will be sent to the Blanks (E)

Working Group to capture these securities on Schedule D-1 as a specific line in the “U.S. Special Revenue and Special Assessment Obligations and All Non-Guaranteed Obligations of Agencies and Authorities of Governments and Their Political Subdivisions” category. (As the MRS are only permitted from the designated government agencies, there should be no reporting of these securities in any of the other categories on Schedule D-1.)

o If the SSAP No. 43R approach is not supported for MRS, NAIC staff offers the following two

other options:

Capture MRS in scope of SSAP No. 86 as derivatives. This classification would be consistent with the treatment of other structured notes subject to the risk of loss beyond default risk. (As noted, the FHFA and prospectus’ identify these securities as derivatives as they are based on the performance of an underlying variable.)

Include explicit guidance in SSAP No. 26 for these securities. (The accounting and

reporting, including the NAIC designation would likely be similar to what is proposed if captured under SSAP No. 43R.)

Proposed Revisions pursuant to the NAIC Staff Recommendations SSAP No. 2—Cash, Cash Equivalents, Drafts and Short-Term Investments (Revisions exclude derivative instruments from being reported as cash equivalents or short-term investments.)

Cash Equivalents 6. Cash equivalents are short-term, highly liquid investments that are both (a) readily convertible to known amounts of cash, and (b) so near their maturity that they present insignificant risk of changes in



value because of changes in interest rates. Only investments with original maturities3 of three months or less qualify under this definition, with the exception of money market mutual funds, as detailed in paragraph 7. Regardless of maturity date, derivative instruments shall not be reported as cash equivalents and shall be reported as derivatives on Schedule DB. Securities with terms that are reset at predefined dates (e.g., an auction-rate security that has a long-term maturity and an interest rate that is regularly reset through a Dutch auction) or have other features an investor may believe results in a different term than the related contractual maturity shall be accounted for based on the contractual maturity at the date of acquisition, except where other specific rules within the statutory accounting framework currently exist.

Short-Term Investments 12. All investments with remaining maturities (or repurchase dates under repurchase agreements) of one year or less at the time of acquisition (excluding derivatives and those investments classified as cash equivalents as defined in this statement) shall be considered short-term investments. Short-term investments include, but are not limited to, bonds, commercial paper, repurchase agreements, and collateral and mortgage loans which meet the noted criteria. Short-term investments shall not include certificates of deposit. Regardless of maturity date, derivative instruments shall not be reported as short-term investments and shall be reported as derivatives on Schedule DB.

SSAP No. 26R—Bonds (Revisions clarify the scope inclusions / exclusions for structured notes as well as remove the structured note disclosure.)

1. This statement establishes statutory accounting principles for bonds, specific fixed-income investments, and particular funds identified by the Securities Valuation Office (SVO) as qualifying for bond treatment as identified in this statement.

2. This statement excludes:

a. Loan-backed and structured securities addressed in SSAP No. 43R—Loan-Backed and Structured Securities.

b. Securities that meet the definition in paragraph 3 with a maturity date of one year or less from date of acquisition, which qualify as cash equivalents or short-term investments. These investments are addressed in SSAP No. 2R—Cash, Cash Equivalents, Drafts and Short-Term Investments.

c. Securities that meet the definition in paragraph 3, but for which the contractual amount of the instrument to be paid at maturity (or the original investment) is at risk for other than failure of the borrower to pay the contractual amount due. These investments, although in the form of a debt instrument, incorporate risk of an underlying variable in the terms of the agreement, and the issuer obligation to return the full principal is contingent on the performance of the underlying variableFN. These investments are addressed in SSAP No. 86—Derivatives, unless the investment is a mortgage-referenced security addressed in SSAP No. 43R.

New Footnote: The exclusion in paragraph 2c is specific to instruments in which the terms of the agreement make it possible that the reporting entity could lose all or a portion of its principal amount due / original investment amount (for other than failure of the issuer to pay the contractual amounts due). These instruments incorporate both the credit risk of

3 Original maturity means original maturity to the entity holding the investment. For example, both a three-month U.S. Treasury bill and a three-year Treasury note purchased three months from maturity qualify as cash equivalents. However, a Treasury note purchased three years ago does not become a cash equivalent when its remaining maturity is three months.



the issuer, as well as the risk of an underlying variable (such as the performance of an equity index or the performance of an unrelated security). Securities that are labeled “principal-protected notes” are captured within this exclusion if the “principal protection” involves only a portion of the principal / original investment amount and/or if the protection requires the reporting entity to meet qualifying conditions in order to be safeguarded from the risk of loss from the underlying linked variable. Securities that may have changing interest rates in response to a linked underlying variable, or that have the potential for increased principal repayments in response to a linked variable (such as U.S. Treasury Inflation-Indexed Securities) that do not incorporate risk of original investment / principal loss (outside of default risk) are not captured in this exclusion.

c.d. Mortgage loans and other real estate lending activities made in the ordinary course of business. These investments are addressed in SSAP No. 37—Mortgage Loans and SSAP No. 39—Reverse Mortgages.

30. The financial statements shall include the following disclosures:

l. Separately identify structured notes, on a CUSIP basis, with information by CUSIP for actual cost, fair value, book/adjusted carrying value, and whether the structured note is a mortgage-referenced security.4

SSAP No. 43R—Loan-backed and Structured Securities (Revisions clarify the scope inclusions for MRS. Shaded text in paragraph 33 reflects interested parties’ comments added to the exposure in November 2018.)

1. This statement establishes statutory accounting principles for investments in loan-backed securities, and structured securities and mortgage referenced securities. In accordance with SSAP No. 103R—Transfers and Servicing of Financial Assets and Extinguishments of Liabilities (SSAP No. 103R), retained beneficial interests from the sale of loan-backed securities and structured securities are accounted for in accordance with this statement. Items captured in scope of In this statement loan-backed securities and structured securities are collectively referred to as loan-backed securities.

SUMMARY CONCLUSION 2. Loan-backed securities are defined as securitized assets not included in structured securities, as defined below, for which the payment of interest and/or principal is directly proportional to the payments received by the issuer from the underlying assets, including but not limited to pass-through securities, lease-backed securities, and equipment trust certificates.

3. Structured securities are defined as loan-backed securities which have been divided into two or more classes for which the payment of interest and/or principal of any class of securities has been allocated in a manner which is not proportional to payments received by the issuer from the underlying assets.

4. Loan-backed securities are issued by special-purpose corporations or trusts (issuer) established by a sponsoring organization. The assets securing the loan-backed obligation are acquired by the issuer and pledged to an independent trustee until the issuer’s obligation has been fully satisfied. The investor only has direct recourse to the issuer’s assets, but may have secondary recourse to third parties through insurance or guarantee for repayment of the obligation. As a result, the sponsor and its other affiliates may have no financial obligation under the instrument, although one of those entities may retain the responsibility for servicing the underlying assets. Some sponsors do guarantee the performance of the underlying assets.

4 Determination of a “structured note” and “mortgage-referenced security” for this disclosure shall follow the definitions adopted within the Purposes and Procedures Manual of the NAIC Investment Analysis Office.



4.5. Mortgage referenced securities do not meet the definition of a loan-backed or structured security, but are explicitly captured in scope of this statement. In order to qualify as a mortgage referenced security, the security must be issued by a government sponsored enterpriseFN in the form of a “credit risk transfer” in which the issued security is tied to a referenced pool of mortgages. These securities do not qualify as “loan-backed securities” as the pool of mortgages are not held in trust and the amounts due under the investment are not backed or secured by the mortgage loans. Rather, these items reflect instruments in which the payments received are linked to the credit and principal payment risk of the underlying mortgage loan borrowers captured in the referenced pool of mortgages. For these instruments, reporting entity holders may not receive a return of their full principal as principal repayment is contingent on repayment by the mortgage loan borrowers in the referenced pool of mortgages. Unless specifically noted, the provisions for loan-backed securities within this standard apply to mortgage referenced securities.

(Remaining paragraphs renumbered accordingly.)

New Footnote – Currently, only Fannie Mae and Freddie Mac are the government sponsored entities that issue qualifying mortgage referenced securities. However, this guidance would apply to mortgage referenced securities issued by any other government sponsored entity that subsequently engages in the transfer of residential mortgage credit risk.

Reporting Guidance for All Loan-Backed and Structured Securities 2625. Loan-backed and structured securities shall be valued and reported in accordance with this statement, the Purposes and Procedures Manual of the NAIC Investment Analysis Office, and the designation assigned in the NAIC Valuations of Securities product prepared by the NAIC Securities Valuation Office or equivalent specified procedure. The carrying value method shall be determined as follows:

a. For reporting entities that maintain an Asset Valuation Reserve (AVR), loan-backed and structured securities shall be reported at amortized cost, except for those with an NAIC designation of 6, which shall be reported at the lower of amortized cost or fair value.

b. For reporting entities that do not maintain an AVR, loan-backed and structured securities designated highest-quality and high-quality (NAIC designations 1 and 2, respectively) shall be reported at amortized cost; loan-backed and structured securities that are designated medium quality, low quality, lowest quality and in or near default (NAIC designations 3 to 6, respectively) shall be reported at the lower of amortized cost or fair value.

Designation Guidance 2726. For securities within the scope of this statement, the initial NAIC designation used to determine the carrying value method and the final NAIC designation for reporting purposes is determined using a multi-step process. The Purposes and Procedures Manual of the NAIC Investment Analysis Office provides detailed guidance. A general description of the processes is as follows:

c. All Other Loan-Backed and Structured Securities: For loan-backed and structured securities not subject to paragraphs 26.a. (financial modeling) or 26.b. (modified filing exempt), follow the established designation procedures according to the appropriate section of the Purposes and Procedures Manual of the NAIC Investment Analysis Office. The NAIC designation shall be applicable for statutory accounting and reporting purposes (including determining the carrying value method and establishing the AVR charges). The carrying value method is established as described in paragraph 25. Examples of these securities include, but are not limited to, mortgage referenced securities, equipment trust certificates, credit tenant loans (CTL), 5*/6* securities, interest only (IO) securities, and loan-backed and structured securities with SVO assigned NAIC designations.

3433. If the entity does not expect to recover the entire amortized cost basis of the security, the entity would be unable to assert that it will recover its amortized cost basis even if it does not intend to sell the



security and the entity has the intent and ability to hold. Therefore, in those situations, an other-than temporary impairment shall be considered to have occurred. (For mortgage-referenced securities, an OTTI is considered to have occurred when there has been a delinquency or other credit event in the referenced pool of mortgages such that the entity does not expect to recover the entire amortized cost basis of the security.) In assessing whether the entire amortized cost basis of the security will be recovered, an entity shall compare the present value of cash flows expected to be collected from the security with the amortized cost basis of the security. If present value of cash flows expected to be collected is less than the amortized cost basis of the security, the entire amortized cost basis of the security will not be recovered (that is, a non-interest related decline5 exists), and an other-than-temporary impairment shall be considered to have occurred. A decrease in cashflows expected to be collected on a loaned-backed or structured security that results from an increase in prepayments on the underlying assets shall be considered in the estimate of the present value of cashflows expected to be collected.

SSAP No. 86—Derivatives (Revisions clarify the inclusion of securities when there is a contractual risk of loss in the terms of a debt instrument for an underlying variable other than the failure of the borrower to pay the contractual amount due.)

Definitions (for purposes of this statement) 4. “Derivative instrument” means an agreement, option, instrument or a series or combination thereof:

a. To make or take delivery of, or assume or relinquish, a specified amount of one or more underlying interests, or to make a cash settlement in lieu thereof; or

b. That has a price, performance, value or cash flow based primarily upon the actual or expected price, level, performance, value or cash flow of one or more underlying interests.

5. Derivative instruments include, but are not limited to; options, warrants used in a hedging transaction and not attached to another financial instrument, caps, floors, collars, swaps, forwards, futures, structured notes with risk of principal / original investment loss based on the terms of the agreement (in addition to default risk) and any other agreements or instruments substantially similar thereto or any series or combination thereof.

a. “Caps” are option contracts in which the cap writer (seller), in return for a premium, agrees to limit, or cap, the cap holder’s (purchaser) risk associated with an increase in a reference rate or index. For example, in an interest rate cap, if rates go above a specified interest rate level (the strike price or the cap rate), the cap holder is entitled to receive cash payments equal to the excess of the market rate over the strike price multiplied by the notional principal amount. Because a cap is an option-based contract, the cap holder has the right but not the obligation to exercise the option. If rates move down, the cap holder has lost only the premium paid. A cap writer has virtually unlimited risk resulting from increases in interest rates above the cap rate;

b. “Collar” means an agreement to receive payments as the buyer of an option, cap or floor and to make payments as the seller of a different option, cap or floor;

c. “Floors” are option contracts in which the floor writer (seller), in return for a premium, agrees to limit the risk associated with a decline in a reference rate or index. For example, in an interest rate floor, if rates fall below an agreed rate, the floor holder

5 A non-interest related decline is a decline in value due to fundamental credit problems of the issuer. Fundamental credit problems exist with the issuer when there is evidence of financial difficulty that may result in the issuer being unable to pay principal or interest when due. An interest related decline in value may be due to both increases in the risk-free interest rate and general credit spread widening.



(purchaser) will receive cash payments from the floor writer equal to the difference between the market rate and an agreed rate multiplied by the notional principal amount;

d. “Forwards” are agreements (other than futures) between two parties that commit one party to purchase and the other to sell the instrument or commodity underlying the contract at a specified future date. Forward contracts fix the price, quantity, quality, and date of the purchase and sale. Some forward contracts involve the initial payment of cash and may be settled in cash instead of by physical delivery of the underlying instrument;

e. “Futures” are standardized forward contracts traded on organized exchanges. Each exchange specifies the standard terms of futures contracts it sponsors. Futures contracts are available for a wide variety of underlying instruments, including insurance, agricultural commodities, minerals, debt instruments (such as U.S. Treasury bonds and bills), composite stock indices, and foreign currencies;

f. “Options” are contracts that give the option holder (purchaser of the option rights) the right, but not the obligation, to enter into a transaction with the option writer (seller of the option rights) on terms specified in the contract. A call option allows the holder to buy the underlying instrument, while a put option allows the holder to sell the underlying instrument. Options are traded on exchanges and over the counter;

f.g. “Structured Notes” in scope of this statement are instruments (often in the form of a debt instruments), in which the amount of principal repayment or return of original investment is contingent on an underlying variable/interestFN. Structured notes that are “mortgage referenced securities” are captured in SSAP No. 43R—Loan-backed and Structured Securities.

New Footnote: The “structured notes” captured within scope of this statement is specific to instruments in which the terms of the agreement make it possible that the reporting entity could lose all or a portion of its original investment amount (for other than failure of the issuer to pay the contractual amounts due). These instruments incorporate both the credit risk of the issuer, as well as the risk of an underlying variable/interest (such as the performance of an equity index or the performance of an unrelated security). Securities that are labeled “principal-protected notes” are captured within scope of this statement if the “principal protection” involves only a portion of the principal and/or if the principal protection requires the reporting entity to meet qualifying conditions in order to be safeguarded from the risk of loss from the underlying linked variable. Securities that may have changing interest rates in response to a linked underlying variable, or that have the potential for increased principal repayments in response to a linked variable (such as U.S. Treasury Inflation-Indexed Securities) that do not incorporate risk of original investment / principal loss (outside of default risk) are not captured in scope of this statement.

g.h. “Swaps” are contracts to exchange, for a period of time, the investment performance of one underlying instrument for the investment performance of another underlying instrument, typically, but not always, without exchanging the instruments themselves. Swaps can be viewed as a series of forward contracts that settle in cash and, in some instances, physical delivery. Swaps generally are negotiated over-the-counter directly between the dealer and the end user. Interest rate swaps are the most common form of swap contract. However, foreign currency, commodity, and credit default swaps also are common;

h.i. “Swaptions” are contracts granting the owner the right, but not the obligation, to enter into an underlying swap. Although options can be traded on a variety of swaps, the term “swaption” typically refers to options on interest rate swaps. A swaption hedges the buyer against downside risk, as well as lets the buyer take advantage of any upside benefits. That is, it gives the buyer the benefit of the agreed-upon rate if it is more favorable than the current market rate, with the flexibility of being able to enter into the current market



swap rate if it is preferable. Conversely, the seller of swaptions assumes the downside risk, but benefits from the amount paid for the swaption, regardless if it is exercised by the buyer and the swap is entered into.

i.j. “Warrants” are instruments that give the holder the right to purchase an underlying financial instrument at a given price and time or at a series of prices and times outlined in the warrant agreement. Warrants may be issued alone or in connection with the sale of other securities, for example, as part of a merger or recapitalization agreement, or to facilitate divestiture of the securities of another business entity.

Staff Review Completed by: Julie Gann - NAIC Staff: April 2018 Status: On August 4, 2018, the Statutory Accounting Principles (E) Working Group moved this item to the active listing, categorized as nonsubstantive, and exposed revisions to SSAP No. 2—Cash, Cash Equivalents, Drafts, and Short-Term Investments, SSAP No. 26R—Bonds, SSAP No. 43R—Loan-Backed and Structured Securities and SSAP No. 86—Derivatives to revise the guidance for structured notes when the reporting entity holder assumes a risk of principal loss based on an underlying component unrelated to the credit risk of the issuer. The revisions, as shown above, are summarized as follows:

• SSAP No. 2—Cash, Cash Equivalents, Drafts and Short-Term Investments: Revisions clarify that derivative instruments shall not be reported as cash equivalents or short-term instruments regardless of their maturity date, and shall be reported as derivatives regardless of maturity.


• SSAP No. 43R—Loan-backed and Structured Securities: Revisions explicitly capture mortgage-reference securities in scope. This is an explicit exception to the LBSS definition, as the items do not qualify as “loan-backed securities” as the pool of mortgages are not held in trust, and the amounts due under the investment are not backed by the referenced mortgages.

• SSAP No. 86—Derivatives: Revisions capture structured notes in scope when there is a risk of principal loss based on the terms of the agreement (in addition to default risk).

On November 15, 2018, the Statutory Accounting Principles (E) Working Group re-exposed this agenda item in order to solicit comments on whether structured notes, except for mortgage-referenced securities, shall be reported as derivatives under SSAP No. 86, or similar to mandatory convertible bonds in scope of SSAP No. 26R. This exposure intends to allow additional time to consider the comments provided by interested parties and NAIC staff on these two options. (The proposed edits to SSAP No. 43R, paragraph 33, as recommended by interested parties, were supported by the Working Group and are additional edits to the prior proposed revisions to SSAP No. 43R.)

• Interested Parties’ Comments – Proposal for Treatment as Mandatory Convertible Bonds: Interested parties agree with NAIC staff that the accounting for such structured notes, where the investor assumes risk of principal loss based on an underlying component unrelated to the credit risk of the issuer, warrants scrutiny given today’s amortized cost treatment currently afforded under SSAP No. 26R. Such



scrutiny is also warranted because, unlike US GAAP, embedded derivatives are not bifurcated from the host investment under statutory accounting. Fair value measurement of such securities may be appropriate under statutory accounting. However, interested parties believe these bonds, where the investor assumes some risk of principal loss based on an underlying component unrelated to the credit risk of the issuer, can be better addressed within SSAP No. 26R. Specifically, by requiring their measurement at fair value, through unrealized gain/loss, similar to 1) an insurer that maintains an Asset Valuation Reserve (AVR), for bonds with an NAIC designation of 6, 2) an insurer that does not maintain an AVR, for bonds with an NAIC designation of 3-6 and 3) mandatory convertible bonds, when fair value is below cost. This achieves the following three objectives:

1) Requires fair value reporting as suggested is appropriate per the exposure draft,

2) Does not require the host bond investment, with an embedded derivative, to be reported under SSAP No. 86 as a derivative, along with its embedded derivative component, and

3) Reduces the likelihood that an insurance company may inadvertently run afoul of certain state

investment limitations, that may prohibit insurers from holding speculative derivative instruments. That is, by classifying a whole bond investment, as a derivative, just because the bond investment hosts an embedded derivative component.

Interested parties are supportive of the NAIC staff’s proposed definition of structured notes (i.e., the investor assumes the risk of principal loss unrelated to the credit risk of the issuer) and are supportive of NAIC’s staff’s view that all such structured notes, regardless of maturity, should be recorded at fair value. However, interested parties believe all such structured notes, including those acquired with a remaining maturity of year or less at the time of acquisition, should also be reported at fair value within SSAP No. 26R. Lastly, interested parties are supportive of the NAIC staff’s proposed exception that would include mortgage-referenced securities within the scope of SSAP No. 43R as such securities are, in substance similar, to other SSAP No. 43R securities and where the credit risk can be assessed by existing methodologies of the NAIC Securities Valuation Office and/or the NAIC Structured Securities Group. However, interested parties would propose one small change (underlined) to the NAIC staff’s proposed changes to paragraph 33 of SSAP No. 43R to ensure consistency with other in substance similar securities:


• NAIC Staff Comments – Proposal for Treatment as Derivatives:

In reviewing the interested parties’ comments, NAIC staff has the provided the following discussion points:

• It is correct that the form of a structured note is a debt instrument. However, the debt instrument is a “wrapper” around the underlying derivative component. It is the derivative component that impacts the amount of principal, or original investment amount, that will be returned at maturity.

• The amount of principal repayment is often determined based on the underlying component as of the date of maturity. As such, even if the underlying component appears to be on the upside on



prior reporting dates, if on the date of maturity, the underlying component drops below the downside threshold, any principal repayment will be calculated based on that maturity date (resulting in principal loss). Additionally, there is an extremely limited secondary market, and if attempting to sell the security in advance of the maturity date, the holder should expect to sell at a significant discount to its value. Although NAIC staff agrees that fair value is likely still the most appropriate reporting value, any reported “fair value” will be a level 3 measurement (determined without observable inputs), and any fair value amount reported on a financial statement reporting date will not approximate the principal repayment that would be calculated as of the date of maturity.

• NAIC staff agrees that if these items are captured in scope of SSAP No. 26R, the guidance for mandatory convertibles is likely most appropriate, however, the differences between structured notes and mandatory convertibles are significant. With a mandatory convertible, the instrument will convert to an equity instrument on a specific date, or in response to a specific trigger, but the reporting entity is not required to liquidate the equity instrument at the time of conversion. As such, the reporting entity could continue to hold the equity instrument and benefit from potential future increases in value. With a structured note, the instrument terminates on the date of maturity and the holder receives the principal repayment based on the underlying trigger (e.g., equity performance) as of the point in time. As such, there is no potential for a reporting entity to continue holding the instrument to regain value. This structure is a derivative forward, in which two parties commit to transact at a future specified date in accordance with terms of the agreement established at acquisition.

o Guidance for mandatory convertibles requires measurement at the lower of amortized cost or

fair value. Mandatory convertibles are not reported with NAIC designations or CRP ratings. For RBC purposes, the formula adjusts mandatory convertibles to reflect what would be owned at the time of conversion. (For example, if the mandatory convertible was to result in common stock at the time of conversion, the RBC charge for the convertible results in the common stock charge.) The lack of NAIC designations for these items is problematic as all Schedule D-1 items are presumed to be reported with NAIC designations. Even with the specific process for mandatory convertibles, the RBC and AVR instructions are not clear on where these are captured (by NAIC designation bucket) prior to the adjustments for the convertible component.

• NAIC staff does not agree with the interested parties’ objective to prevent these instruments from

being considered speculative derivatives and limited under state investment limitations. It is NAIC staff’s opinion that these instruments are speculative derivatives. NAIC staff believes the structure of these items has occurred to allow classification as a debt instrument (based on form), when the instrument is in substance a derivative instrument. As such, NAIC staff believes these instruments should be captured in state derivative investment limitations.

• The reporting for cash equivalents and short-term investments is designed for situations in which the investment is so near maturity there is limited expected change in the credit quality of the instrument. (This is why such investments are not reported with NAIC designations and the RBC charge is minimal.) For structured notes, regardless of the timeframe till maturity, the creditworthiness of the issuer has no bearing on the formula that determines the amount of principal repayment, or return of original investment, as of the date of maturity. (Remittance could be impacted by the credit quality of the issuer, but the key issue with these securities is the uncertainty of the actual principal repayment that will be owed based on the underlying derivative component.) As such, based on the design and underlying derivative components, these instruments should never be reported as short-term or cash equivalents.



Pursuant to the discussion points above, NAIC staff supports reporting structured notes, when the contractual amount of the instrument to be paid at maturity is at risk for other than failure of the borrower to pay the amount due, as derivatives. Reporting as derivatives is more appropriate based on the substance of the transaction, rather than the design to reflect a debt instrument.

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To: Statutory Accounting Principles (E) Working Group

From: Julie Gann (NAIC Staff)

Re: Examples of Structured Note Reporting – Derivative or Mandatory Convertible

Date: December 5, 2018 Intent: During the 2018 Fall National Meeting, the Statutory Principles (E) Working Group re-exposed agenda item 2018-18: Structured Notes to allow additional time to assess whether structured notes would be more appropriately reported as derivatives or as mandatory convertible bonds. With the re-exposure, the Working Group requested NAIC staff to produce a comparison of the two reporting options to subsequently be available with the exposed agenda item. Overview / History: A structured note for purposes of agenda item 2018-18 is an investment product, structured to resemble a debt instrument, where the investor assumes a risk of principal loss based on an underlying component unrelated to the credit risk of the issuer. Structured notes have a return (principal and interest) that is linked to the performance of a referenced asset or index at a specific maturity date. As such, at the date of maturity, if the referenced asset has declined below the downside threshold, the holder will not receive return of their full principal. The proposed revisions in agenda item 2018-18 recommends structured notes (that are not government sponsored enterprise (GSE) mortgage-referenced securities), to be captured in scope of SSAP No. 86—Derivatives. This proposed accounting guidance would account for the derivative based on the substance of the transaction – a forward contract – and not in the form of a debt instrument. In response to the initial exposure, industry requested that structured notes be accounted for as mandatory convertibles in scope of SSAP No. 26, with a requirement to use fair value as the measurement method. NAIC staff disagreed with this suggestion as the conversion of a mandatory convertible bond results with the reporting entity holding an equity security (either preferred or common stock). However, with a structured note, at maturity, the reporting entity generally only receives a return based on the calculation per the terms of the agreement This “return” could be zero, with a loss of the entire principal balance. Prospectus Example:

Investing in the Securities involves significant risks. You will not receive interest or dividend payments during the term of the Securities. You may lose some or all of your Principal Amount. The contingent repayment of principal applies only if you hold the Securities to maturity. The securities are significantly riskier than conventional debt instruments. The terms of the securities may not obligate us to repay the full principal amount of the securities. The securities can have downside market risk similar to the underlying, which can result in a loss of a significant portion or all of your investment at maturity. This market risk is in addition to the credit risk inherent in purchasing our debt obligations.

With the re-exposure of the agenda item during the 2018 Fall National Meeting, the proposed revisions continue to support derivative reporting in SSAP No. 86. However, comments were specifically solicited on whether structured notes shall be reported as derivatives or as mandatory convertible bonds. With this request, a comparison of the two reporting options was requested to accompany the exposure.



Snapshot Comparison of Derivative and Structure Note Reporting:

Derivative Forward Contract

Bond Mandatory Convertible

SSAP SSAP No. 86 SSAP No. 26R

Reporting Schedule Schedule DB Schedule D

Measurement Method Fair Value Fair Value*

Potential Exposure Reported on DB Not Reported

RBC Components:

Type of Entry Life: Manual Life: Manual**

P/C: Pulled from F/S P/C: Manual**

RBC Charge Life: Varies with NAIC designation

on potential exposure. Life: 30% pre-tax on BACV***

P/C: 5% flat charge against

reported BACV P/C: 15% on BACV***

Investment Limits in the NAIC Defined Limits

Investment Model

Limited as % of admitted assets based on whether qualifies as a

“hedging” (6.5%) or “income generating” derivative (10%).

Limited as “equity” 20% of admitted assets, or If not on exchange, 5% of

admitted assets. * Under SSAP No. 26R, mandatory convertibles are reported at the lower of amortized cost or fair

value. If in scope of SSAP No. 26R, structured notes would always be required at fair value. ** The reporting of a mandatory convertible security in the RBC formula is a manual process in which

companies need to distinctly report the mandatory convertible on the replication pages. Currently there is no easy way to verify reporting. From the 2017 RBC schedules, there were less than 10 p/c companies reporting on the replication page. (Although the derivative reporting for life companies also involves manual entry, the manual entry buckets the derivatives by the credit-quality of issuer. The total derivatives reported should agree to the derivative schedules.)

*** The RBC charge for mandatory convertible reporting is a manual calculation that removes the

original bond charge and implements the “post-conversion” security charge. As mandatory convertible bonds convert to either common or preferred stock, the RBC factor represents the resulting equity security that will be held after conversion. For purposes of this comparison, as there is generally no actual security held after the structured note matures, and assuming the underlying component is an equity index, the “standard” unaffiliated common stock charge has been included. (This RBC charge does not reflect the BETA adjustment, as that depends on the portfolio of the reporting entity.) However, if the decision is made to retain structured notes within scope of SSAP No. 26R, specific instructions and/or a new RBC charge would be needed to ensure appropriate and consistent treatment. The concept to apply the mandatory convertible RBC charges does not work, as the structured note does not generally convert to a new instrument. Rather, the holder receives a return of principal and interest based on the performance of the referenced index / asset at maturity.

Investment Limits Note: Only a few states have adopted the NAIC Investments of Insurers Model Act (Model 280) in a substantially similar manner. NAIC staff knows that in some states, reporting on Schedule D results with classification of the investment as a “bond” and in that state’s “bond bucket” for assessing investment limits.



Key Elements – Variations Between Reporting Schedules: • Although the structured note investment would be reported at fair value regardless of reporting

schedule, by reporting on Schedule DB as a derivative, the reporting entity would be required to identify the potential loss exposure:

o If the principal of the structured note was $100, and the terms of the agreement specified that the entire amount could be lost based on the performance of the underlying component (reference asset), then $100 would be identified as the potential exposure on Schedule DB.

o If the principal of the structured note was $100, and the terms of the agreement specified that only $50 could be lost based on the terms of the performance of the underlying component (there was $50 “principal protected”), then the reporting entity would identify $50 as their potential exposure.

o Capturing information on the potential exposure is considered important for these investments, as the reporting date “fair value” cannot predict whether the referenced equity index or asset will be positive as of the designated maturity date. Even if the structured note appeared to be favorable to the reporting entity throughout the term of the agreement, if on the designated “maturity” date the referenced asset / index triggered the downside indicator, the reporting entity would receive a return of principal based on that day’s downside performance.

o Information on the potential exposure is reported in aggregate by counterparty for all derivative contracts on Schedule DB-D. As such, both the potential loss exposure as well as the counterparty (issuer) risk is known. (Particularly for life companies, the derivative is assessed RBC based on the counterparty’s credit risk assessment.)

o If reporting on Schedule D, as a bond, no information is captured as to the extent of potential loss under the terms of the agreement.

• If reporting on Schedule D, as a bond, the general concept of amortization of “yield to worst” will not be followed, as the reported fair value of the investment will not represent the amount that would be received at maturity per the terms of the agreement.

• If reporting on Schedule D, as a bond – using existing guidance for mandatory convertibles – additional guidance will likely still be needed for RBC assessment. This is because the RBC charge for mandatory convertibles reflects the resulting security that will be held after conversion. With a structured note, there is no expected resulting security at maturity, rather the holder is expected to only receive a return based on the performance of the reference asset. This return could be a loss of the entire principal amount. (Pursuant to some structured note provisions (reverse convertibles), some notes can require, at the option of the issuer, physical delivery of the reference asset. It is expected that these non-cash transfers would be rare.)

• If reporting on Schedule D, as a bond, instructions would be required to ensure all structured notes, regardless of maturity date, are reported on Schedule D-1 as long-term investments. These securities should not be reported as cash equivalents or short-term investments.



Derivative Reporting: Reported as a forward contract in Schedule DB: Schedule DB – Part A – Section 1. This schedule includes forwards open as of Dec. 31. Column 1 – Description: Detail the instrument, terms of the agreement and the underlying component.

Column 2 – Description of items Hedged, Used for Income Generation or Replicated: Report as N/A

Column 3 – Schedule / Exhibit Identifier - (Identifies the schedule of the hedged asset.): Report N/A. Column 4 – Type(s) of Risk: Report Equity / Index Risk. Column 5 – Exchange, Counterparty or Central Clearinghouse: Report the counterparty (issuer) Column 6 – Trade Date: Report the trade date of the original transaction. Column 7 – Date of Maturity / Expiration: Report the maturity date of the structured note. Column 8 – Number of Contracts: Presumably this will be a single contract. Column 9 – Notional Amount: This would be the original principal value / par value of the instrument. Column 10 – Strike Price, Rate, or Index Received (Paid): Report N/A Column 11 – Cumulative Prior Year(s) Initial Cost of Undiscounted Premium: Report cost if paid in a prior year. Column 12 – Current Year Initial Cost of Premium Received: Report cost if paid in current year. Column 13 – Current Year Income: Report any income received. This is likely to be zero as the transactions reviewed

did not pay any interest throughout the term of the contract. Column 14 – Book/Adjusted Carrying Value: Report fair value of the instrument. Column 15 – Code: None of the codes in this column would be applicable. Column 16 – Fair value: Identify source of fair value. This will likely be “reporting entity” as there is no market. Column 17 – Unrealized Income / Decrease: Report change in fair value. Column 18 – Total Foreign Exchange Change in BACV: Report 0 / Leave Blank Column 19 – Current Year’s Amortization: Report 0 / Leave blank as these are held at fair value. Column 20 – Adjustment to Carrying Value of Hedged Item: Leave Blank. Column 21 – Potential Exposure: Report the amount of principal that could be lost under the structured note

provisions. For example, if the structured note cost $100, and the entire amount can be lost based on the performance of the equity index, then $100 should be reported.

Column 22 – Credit Quality of Reference Entity: Only applies to credit default swaps, leave blank. Column 23 – Hedge Effectiveness at Inception and Year-end: Leave Blank. Only applies to hedge transactions. Electronic Columns 24-27: Include with details on the source of fair value. Electronic Columns 28-31: These columns only apply to derivatives with financing premiums.



Bond Reporting: Reported similar to a mandatory convertible bond on Schedule D Schedule D – Part 1. This schedule includes long-term bonds owned Dec. 31. Column 1 – CUSIP Identification: Detail the CUSIP

Column 2 – Description: Provide a description of the owned bond.

Column 3 – Code: None of the codes would currently apply. Column 4 – Foreign: Insert applicable code (foreign / domestic) Column 5 – Bond Characteristics: Identify the security as a “6” – as the bond has terms that may result in

principal not being repaid in full for reasons other than payment default by the issuer. Column 6 – NAIC Designation and Admin Symbol: Mandatory Convertibles are not reported with an NAIC

designation. (This could be perceived as problematic, as structured notes still have default risk from the issuer. If following the mandatory convertible provisions, and reporting as a bond, there would be no RBC charges attributed to the issuer’s credit quality.)

Column 7 – Actual Cost: Report actual consideration paid to purchase the security. Column 8 – Rate to Use Fair Value: Rate to determine fair value. Column 9 – Fair Value: Report fair value. Column 10 – Par Value: Report par value. This column requires adjustment to par, however, with structured

notes, any loss of principal based on the referenced asset is not known until maturity. As such, this column would continue to reflect par throughout the term of the instrument.

Column 11 – Book/Adjusted Carrying Value: Report fair value. (Mandatory convertibles are reported at the

lower of amortized cost or fair value, but the industry proposal is to require fair value for structured notes.)

Column 12 – Unrealized Valuation Increase / Decrease: Report change in fair value. Column 13 – Current Year’s Amortization / Accretion: Report 0 / Leave blank as these are held at fair value. Column 14 – Current Year’s Other Than Temporary Impairment: Per NAIC staff assessment, it seems that there

would no possibility of reporting impairment through the term of the agreement, as there would be no interest paid throughout the term, and the principal to be returned would be based on the calculation as of the maturity date of the instrument. Hence, although the instrument could result with a complete loss of principal, this would not be noted until the maturity date.

Column 15 – Total Foreign Exchange Change in BACV: Report 0 / Leave Blank Column 16 – Interest Rate: Leave Blank. From the info reviewed, these instruments do not pay stated interest. Column 17 – Effective Rate of Interest: Leave Blank. These instruments pay a return based on the performance of

the reference asset. The instrument would no longer be on Schedule D-1 once that occurs. Column 18 – Interest – When Paid Rate: Leave Blank. these instruments do not pay stated interest. Column 19 – Admitted Interest Due and Accrued: Leave Blank. these instruments do not pay stated interest. Column 20 – Amount Received During Year: Leave Blank. these instruments do not pay stated interest.



Column 21 – Acquired Date: Report trade date. Column 22 – Stated Contractual Maturity Date: Report maturity date Electronic Columns 23: State Abbreviation Electronic Columns 24-25: Include with details on the source of fair value. Electronic Columns 26: Collateral Type – Only applicable to loan-backed and structured securities. Electronic Columns 27-29: Information on call dates. Some structured notes have “call provisions” that allow

the issuer, at its sole discretion, to redeem the note before it matures at a price that may be above, below or equal to the face value of the structured note.

Electronic Columns 30-34: Additional information on the security including LEI (if available), issuer, issue, ISIN

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Form A

Issue: SSAP No. 37 – Participation Agreement in a Mortgage Loan Check (applicable entity): P/C Life Health


Description of Issue: This agenda item has been drafted to clarify statutory accounting guidance for a participation agreement in a mortgage loan. The guidance permitting a “participation agreement” was adopted in 2017 and intended to allow ownership in a single mortgage loan agreement with a sole borrower when the insurer is not named on the original mortgage loan agreement. With a participation agreement, the insurer would acquire the mortgage loan via an assignment or participation agreement between the selling lender and any co-lenders. This guidance for acquiring mortgages through a “participation agreement” was adopted at the same time as the revisions to identify “participants” in mortgage loans. (A participant in a mortgage is defined when there is more than one lender identified on the loan documents as providing funds to a sole borrower.) Although the guidance for a “participant” in a mortgage loan is explicit that the guidance pertains to mortgages issued to a “sole borrower,” and there is explicit guidance in SAP No. 37 that identifies that investments that reflect involvement in a “mortgage loan fund” are not considered mortgage loans, it appears that the “participation agreement” language is being used as a reference to incorporate ownership interests in pool / funds of mortgages as SSAP No. 37 (Schedule B) mortgage loans. This agenda item incorporates minimal revisions to the “participant agreement” language to expressly indicate that the participation agreement must pertain to a sole borrower in a single mortgage loan agreement. Consistent with existing guidance in SSAP No. 37, investments that reflect ownership in a mortgage loan fund is not in scope of SSAP No. 37. Investments in a “pool of mortgages” shall be reported on Schedule BA. Existing Authoritative Literature: SSAP No. 37–Mortgage Loans

2. A mortgage loan is defined as a debt obligation that is not a security, which is secured by a mortgage on real estate. In addition to mortgage loans directly originated, a mortgage loan also includes mortgages acquired through assignment, syndication or participation1. Investments that


a. Reporting entity is a “participant” in a single mortgage loan agreement that identifies more than one lender (which includes the reporting entity) providing funds to a sole borrower with the real estate collateral securing all lenders identified in the agreement. For these agreements, each lender is incorporated directly into the loan documents. The key differentiating characteristic of a mortgage loan provided under a group “mortgage loan participation agreement” rather than a solely-owned mortgage loan is that no one lender of the lending group may unilaterally foreclose on the mortgage. With these agreements, the lenders must foreclose on the mortgage loan as a group.

b. Reporting entity has a “participation agreement” to invest in mortgages issued by another entity. Although the reporting entity is not named on the original mortgage loan agreement, the original issuer sells a portion of the mortgage loan to an incoming participant lender (co-lender) and the sale is documented by an assignment or participation agreement between the selling lender and the co-lender. With these agreements, the co-lender acquires an undivided participation interest in the loan and will receive direct interest in the amount of their participation in the right to repayment of the loan and the collateral given to secure the loan. The financial rights and obligations of the lenders in these agreements shall be similar to those in a direct loan.



reflect “participating mortgages,” “mortgage loan fund,” or the “securitization of assets” are not considered mortgage loans within scope of this SSAP.



ii. It is of a type commonly dealt in on securities exchanges or markets or, when represented by an instrument, is commonly recognized in any area in which it is issued or dealt in as a medium for investment.

iii. It either is one of a class or series or by its terms is divisible into a class or series of shares, participations, interests, or obligations.

Activity to Date (issues previously addressed by the Working Group, Emerging Accounting Issues (E) Working Group, SEC, FASB, other State Departments of Insurance or other NAIC groups): Agenda item 2016-39 expanded the scope of SSAP No. 37, with the intent to clarify that mortgage loans would include co-lending agreements when the insurer is directly named on the loan documentation (as a “participant”) and when they are not named on the loan documents, but acquire the interest through a sale (in a “participation agreement”). Although the guidance in SSAP No. 37 is explicit that investments that reflect “mortgage loan funds” are not intended to be in scope, it seems that some are referencing the guidance for a “participation agreement” to captured interests in mortgage loan funds / pools of mortgages.

Information or issues (included in Description of Issue) not previously contemplated by the Working Group: None Convergence with International Financial Reporting Standards (IFRS): Not applicable. Staff Recommendation: NAIC staff recommends that the Working Group move this item to the active listing, categorized as nonsubstantive, and expose minimal revisions to SSAP No. 37—Mortgage Loans to further clarify that a mortgage loan acquired through “participation agreement” is limited to a single mortgage loan agreement with a sole borrower. SSAP No. 37–Mortgage Loans

2. A mortgage loan is defined as a debt obligation that is not a security, which is secured by a mortgage on real estate. In addition to mortgage loans directly originated, a mortgage loan also includes mortgages acquired through assignment, syndication or participation2. Investments that


a. Reporting entity is a “participant” in a single mortgage loan agreement that identifies more than one lender (which includes the reporting entity) providing funds to a sole borrower with the real estate collateral securing all lenders identified in the agreement. For these agreements, each lender is incorporated directly into the loan documents. The key differentiating characteristic of a mortgage loan provided under a group “mortgage loan participation agreement” rather than a solely-owned mortgage loan is that no one lender of the lending group may unilaterally foreclose on the mortgage. With these agreements, the lenders must foreclose on the mortgage loan as a group.

b. Reporting entity has a “participation agreement” to invest in a single mortgage agreement mortgages(sole borrower) originally issued by another entity. Although the reporting entity is not named on the original mortgage loan agreement, the original issuer sells a portion of the mortgage loan to an incoming participant lender (co-lender) and the sale is documented by an assignment or participation agreement between the selling lender and the co-lender. With these agreements, the co-lender acquires an undivided



reflect “participating mortgages,” “mortgage loan fund,” or the “securitization of assets” are not considered mortgage loans within scope of this SSAP.





Staff Review Completed by: Julie Gann, NAIC Staff – June 2018 Status: On August 4, 2018, the Statutory Accounting Principles (E) Working Group moved this item to the active listing, categorized as nonsubstantive, and exposed proposed revisions to SSAP No. 37—Mortgage Loans, as detailed above, to clarify that a mortgage loan acquired through a mortgage loan participation agreement is limited to a single mortgage loan agreement with a sole borrower. On November 15, 2018, the Statutory Accounting Principles (E) Working Group exposed new revisions to SSAP No. 37—Mortgage Loans, to clarify that mortgage loans acquired through a participation agreement are limited to single mortgage loan agreements and exclude “bundled” mortgage loans. These revisions intend to prevent inadvertent restrictions when there may be more than one lender / borrower, but clarify that structures that reflect more than one mortgage loan agreement are not in scope of SSAP No. 37. November 15, 2018 Exposure:

SSAP No. 37–Mortgage Loans

2. A mortgage loan is defined as a debt obligation that is not a security, which is secured by a mortgage on real estate. In addition to mortgage loans directly originated, a mortgage loan also includes mortgages acquired through assignment, syndication or participation2. Investments that reflect “participating mortgages,” “mortgage loan fund,” “bundled mortgage loans3,” or the “securitization of assets” are not considered mortgage loans within scope of this SSAP.



participation interest in the loan and will receive direct interest in the amount of their participation in the right to repayment of the loan and the collateral given to secure the loan. The financial rights and obligations of the lenders in these agreements shall be similar to those in a direct loan.






a. Reporting entity is a “co-lenderparticipant” in a single mortgage loan agreement that identifies more than one lender (which includes the reporting entity) providing funds to a sole borrower with the real estate collateral securing all lenders identified in the agreement. For these single mortgage loan agreements, each lender is incorporated directly into the loan documents. The key differentiating characteristic of a mortgage loan provided under a group “mortgage loan co-lending participation agreement” rather than a solely-owned mortgage loan is that no one lender of the lending group may unilaterally foreclose on the mortgage. With these agreements, the lenders must foreclose on the mortgage loan as a group.

b. Reporting entity has a “participation agreement” to invest in a single mortgage agreement mortgages(sole borrower) originally issued by another entity. Although the reporting entity is not named on the original mortgage loan agreement, the original issuer sells a portion of the mortgage loan to an incoming participant lender (co-lender) and the sale is documented by an assignment of a participation interest or participation agreement between the selling lender and the co-lenderparticipant. With these agreements, the participantco-lender acquires an undivided participation interest in the single mortgage loan and will have rights related receive direct interest in the amount of their participation in the right to repayment of the loan based on its pro-rata share of the single mortgage loanand the collateral given to secure the loan. The financial rights and obligations of the lenders participants in these agreements shall be similar to those in a direct loan.

3 The scope of this SSAP is limited to single mortgage loan agreements. Although single mortgage loan agreements can potentially have more than one lender (e.g., co-lenders / participations) and more than one borrower (such as in a tenancy-in-common arrangement), the concept of a “single mortgage loan” does not include arrangements in which a reporting entity acquires more than one mortgage in a sole transaction. (For example, if a reporting entity was to acquire an interest in a “bundle” of mortgage loans with various unrelated borrowers and collateral, this agreement would be outside of the scope of this SSAP.) G:\FRS\DATA\Stat Acctg\3. National Meetings\A. National Meeting Materials\2019\Spring\Hearing\21 - 18-22 - SSAP No. 37 Mortgage Loans.docx




Form A

Issue: SSAP No. 26R – Prepayment Penalties Check (applicable entity): P/C Life Health


Description of Issue: In 2016, guidance was adopted to SSAP No. 26R to clarify the calculation of investment income for prepayment penalty and/or acceleration fees for bonds liquidated prior to scheduled termination. Since the adoption of that guidance, comments have been received on how the calculations should be applied when the call price is below par.

Adopted calculation: Realized Gain / Loss = Difference between Par and BACV Investment Income = Consideration Received Less Par

Comparing the calculation for when the call price is above par, and for when the call price is less than par:

Call Price Above Par Premium

Call Price Above Par Discount

Call Price Less Than Par

Par 100 Par 100 Par 100 BACV 102 BACV 98 BACV 25 Consideration 103 Consideration 103 Consideration 26 Loss (100-102) (2) Gain (100-98) 2 Gain (100-25) 75 Income (103-100) 3 Income (103-100) 3 Income (26-100) (74)

In the first two examples, when the consideration received is greater than par, the allocation accurately reflects the realized gain and the investment income for the prepayment penalty. The examples adopted in 2017 were focused on situations where amounts received were greater than par. In the third example, in which the consideration is less than par, the allocation to investment income for the prepayment penalty misrepresents that there has been a large realized gain and a large realized loss. Although the net impact in the financial statements correctly reflects $1 in net gain, the calculation in SSAP No. 26 would require the reporting entity to show a $75 realized gain (which could impact AVR and IMR) and a $74 net investment income loss (which impacts the income statement and dividend calculation). Although NAIC staff agrees that prepayment penalties reported as investment income shall be separately reported from realized gains / losses, NAIC staff notes that the resulting impact of the gross calculation, when the call price is less than par, may result with unintended consequences to AVR / IMR and net income. The intent of this agenda item is to propose clarifications to the guidance to clarify that the calculation to determine realized gains / loss and investment income shall be followed in situations in which the consideration receives exceeds par. In situations in which consideration received is less than par, the reporting entity shall separately allocate the consideration received between investment income and realized gain / loss in accordance with the terms of the callable bond. The portion of consideration received that represents prepayment penalties and/or acceleration fees shall be reported as investment income.



Existing Authoritative Literature: SSAP No. 26R—Bonds:

16. A bond may provide for a prepayment penalty or acceleration fee in the event the bond is liquidated prior to its scheduled termination date. Such fees shall be reported as investment income when received.

17. The amount of prepayment penalty and/or acceleration fees to be reported as investment income shall be calculated as follows:

a. The amount of investment income reported is equal to the total proceeds (consideration) received less the par value of the investment; and

b. Any difference between the book adjusted carrying value (BACV) and the par value at the time of disposal shall be reported as realized capital gains and losses, subject to the authoritative literature in SSAP No. 7.

Activity to Date (issues previously addressed by the Working Group, Emerging Accounting Issues (E) Working Group, SEC, FASB, other State Departments of Insurance or other NAIC groups): Agenda Item 2015-23: Prepayment Penalties and Presentation of Callable Bonds – Bifurcation of Agenda Item 2015-04 amended existing paragraph 16 in SSAP No. 26R regarding prepayment penalties. It specifically noted make whole call provisions when the guidance was developed. Information or issues (included in Description of Issue) not previously contemplated by the Working Group: None Convergence with International Financial Reporting Standards (IFRS): Not applicable. Staff Recommendation: NAIC staff recommends that the Working Group move this item to the active listing, categorized as nonsubstantive, and expose proposed revisions to SSAP No. 26R to provide guidance for situations in which the consideration received from a callable bond is less than par. In these situations, the reporting entity shall separately allocate the consideration received between investment income and realized gain / loss in accordance with the terms of the callable bond. The portion of consideration received that represents prepayment penalties and/or acceleration fees shall be reported as investment income. As part of the exposure, comments are requested on whether the following illustration should be added to the appendix and/or if all of the appendix for prepayment penalties should be eliminated / condensed Proposed Edits to SSAP No. 26R:

16. A bond may provide for a prepayment penalty or acceleration fee in the event the bond is liquidated prior to its scheduled termination date. Such fees shall be reported as investment income when received.


a. For called bonds in which the consideration received exceeds par:

i. The amount of investment income reported is equal to the total proceeds (consideration) received less the par value of the investment; and




b. Called bonds in which the consideration received is less than par:

i. Each bond shall be reviewed individually, in accordance with the terms of the bond and call provisions, to determine the extent a prepayment penalty or acceleration fee, which should be reported as investment income, was received. After determining any prepayment penalty or acceleration fee, the reporting entity shall calculate the resulting realized gain or loss. The following are examples to determine the acceleration fee / prepayment penalty when call price is less than par:



Regulator and industry comments are requested on whether the following illustration should be added to the appendix and/or if all of the appendix for prepayment penalties should be eliminated / condensed.


Par 100 Par 100 Par 100 BACV 24 BACV 28 BACV 25 Consideration 26 Consideration 26 Consideration 26 Fair Value 25 Fair Value 25 Fair Value 25 Gain (Loss) 1 Gain (Loss) (3) Gain (Loss) 0 Income 1 Income 1 Income 1

Staff Review Completed by: Julie Gann, NAIC Staff – October 2018 Status: On November 15, 2018, the Statutory Accounting Principles (E) Working Group moved this item to the active listing, categorized as nonsubstantive, and exposed revisions to SSAP No. 26R—Bonds, as shown above, to provide guidance for determining the prepayment penalty for called bonds when consideration received is less than par. Comments are requested on whether additional illustrations should be added to the SSAP, or if the existing illustrations should be eliminated or condensed. G:\FRS\DATA\Stat Acctg\3. National Meetings\A. National Meeting Materials\2019\Spring\Hearing\22 - 18-32 - SSAP No. 26R - Prepayment Penalties.docx





Form A

Issue: SSAP No. 30 – Pledges to FHLBs Check (applicable entity): P/C Life Health


Description of Issue: This agenda item has been drafted to clarify the accounting guidance if an insurer pledges assets to a Federal Home Loan Bank (FHLB) on behalf of an affiliate. The proposed revisions detailed within this agenda item are consistent with existing guidance in SSAP No. 4—Assets and Nonadmitted Assets, but intend to address any uncertainty on the existing statutory accounting guidance. The existing guidance in SSAP No. 4 related to assets restricted by a related party was incorporated from INT 01-03: Assets Pledged as Collateral or Restricted for the Benefit of a Related Party. That INT was initially effective June 11, 2001 and is explicit that if the assets of an insurance entity are pledged or otherwise restricted by the actions of a related party, the assets are not under the exclusive control of the insurance entity and are not available to satisfy policyholder obligations due to these encumbrances or other third party interests. As such, the INT, and the guidance in SSAP No. 4, identifies that these assets shall not be recognized as admitted assets. NAIC staff has become aware of a situation in which an insurer, who was not a member of the FHLB, had pledged assets to an FHLB on behalf of their affiliate. The affiliate was the FHLB member. The insurer that had pledged assets to the FHLB had taken the position that the pledged assets were permitted to be admitted as they met the requirements for admittance pursuant to paragraph 14 of SSAP No. 30—Unaffiliated Common Stock. NAIC staff notes that the guidance in SSAP No. 30 was intended to address the accounting for FHLB transactions by reporting entities that are FHLB members. This guidance is inclusive as it addresses the insurer’s reporting of the FHLB capital stock, the insurer’s pledging of collateral to the FHLB and disclosures when the insurer borrows funds from the FHLB. In no situation was the guidance for collateral pledged to the FHLB intended to be used out of context and applied by either FHLB or non-FHLB members that pledged funds on behalf of an affiliate member. In addition to clarifying applicability of the existing guidance in SSAP No. 4, which is an overall concept that applies to all pledges of assets, this agenda item requests comments from regulators, interested parties and the FHLB regarding the ability for non-members to engage in activities with the FHLB on behalf of an affiliate that is a member of the FHLB. Comments are requested on whether the existing guidance for FHLBs, which allows admitted asset treatment for FHLB stock although the stock is significantly restricted and cannot be liquidated for policyholder claims, shall be retained if the reporting entity is utilizing their FHLB membership to obtain FHLB benefits for affiliates. Existing Authoritative Literature: SSAP No. 4—Assets and Nonadmitted Assets

2. For purposes of statutory accounting, an asset shall be defined as: probable1 future economic benefits obtained or controlled by a particular entity as a result of past transactions or events. An asset

1 FASB Statement of Financial Accounting Concepts No. 6, Elements of Financial Statements, states:



has three essential characteristics: (a) it embodies a probable future benefit that involves a capacity, singly or in combination with other assets, to contribute directly or indirectly to future net cash inflows, (b) a particular entity can obtain the benefit and control others’ access to it2, and (c) the transaction or other event giving rise to the entity’s right to or control of the benefit has already occurred. These assets shall then be evaluated to determine whether they are admitted. The criteria used is outlined in paragraph 3. 3. As stated in the Statement of Concepts, "The ability to meet policyholder obligations is predicated on the existence of readily marketable assets available when both current and future obligations are due. Assets having economic value other than those which can be used to fulfill policyholder obligations, or those assets which are unavailable due to encumbrances or other third party interests should not be recognized on the balance sheet," and are, therefore, considered nonadmitted. For purposes of statutory accounting principles, a nonadmitted asset shall be defined as an asset meeting the criteria in paragraph 2, which is accorded limited or no value in statutory reporting, and is one which is:

a Specifically identified within the Accounting Practices and Procedures Manual as a nonadmitted asset; or

b Not specifically identified as an admitted asset within the Accounting Practices and Procedures Manual.

If an asset meets one of these criteria, the asset shall be reported as a nonadmitted asset and charged against surplus unless otherwise specifically addressed within the Accounting Practices and Procedures Manual. The asset shall be depreciated or amortized against net income as the estimated economic benefit expires. In accordance with the reporting entity's written capitalization policy, amounts less than a predefined threshold of furniture, fixtures, equipment, or supplies, shall be expensed when purchased.

4. Transactions which do not give rise to assets as defined in paragraph 2 shall be charged to operations in the period the transactions occur. Those transactions which result in amounts which may meet the definition of assets, but are specifically identified within the Accounting Practices and Procedures Manual as not giving rise to assets (e.g., policy acquisition costs), shall also be charged to operations in the period the transactions occur.

SSAP No. 30R—Unaffiliated Common Stock

FHLB Capital Stock 14. FHLB capital stock is held by reporting entities that are members of an FHLB. Each reporting entity must acquire FHLB capital stock for membership and maintain capital stock holding sufficient to support its business activity (borrowings3) in accordance with the respective FHLB’s capital plan. The price of FHLB capital stock cannot fluctuate, and all FHLB capital stock must be purchased, repurchased or transferred at its par value. FHLB capital stock is restricted for redemption in accordance with the FHLB capital plan and shall be coded as restricted within the financial statements (e.g., investment schedules and general interrogatories).

Probable is used with its usual general meaning, rather than in a specific accounting or technical sense (such as that in FASB Statement No. 5, Accounting for Contingencies, paragraph 3), and refers to that which can reasonably be expected or believed on the basis of available evidence or logic but is neither certain nor proved. 2 If assets of an insurance entity are pledged or otherwise restricted by the action of a related party, the assets are not under the exclusive control of the insurance entity and are not available to satisfy policyholder obligations due to these encumbrances or other third party interests. Thus, pursuant to paragraph 2(c), such assets shall not be recognized as an admitted asset on the balance sheet. Additional guidance for assets pledged as collateral is included in INT 01-31.

3 Membership in an FHLB allows reporting entities to take advances / borrow from the FHLB. These borrowings can be structured in a variety of ways, for example: debt, funding agreements, repurchase agreements, securities lending, etc. Borrowings from an FHLB shall be reflected in the financial statements in accordance with the SSAP that addresses the substance of the agreement.



15. Acquisition of FHLB capital stock allows members to conduct business activity (borrowings) from an FHLB. The amount of capital stock acquired determines the reporting entity’s eligible borrowing amount. At a minimum, all borrowings from an FHLB (regardless of structure) must also be fully collateralized in accordance with the FHLB capital plan, which determines the amount of collateral required by type of pledged instrument. Collateral pledged to an FHLB shall be coded as restricted within the financial statements (e.g., investments schedules and general interrogatories). Collateral pledged to an FHLB is considered an admitted asset if all of the following conditions are met:

a. the asset would have been admitted under SSAP No. 4;

b. the pledging insurer continues to receive the income on the pledged collateral;

c. the pledging insurer can remove and substitute other securities with little or advance notice to the FHLB as long as the insurer complies with related investment quality and market value provisions; and

d. there has been no uncured default or event to indicate an impairment or loss contingency for the pledged assets.

FHLB Disclosures 16. For FHLB agreements, the following information shall be disclosed in the financial statements for current and prior year and between general account and separate account activity. The information in the disclosures shall be presented gross even if a right to offset per SSAP No. 64 exists.

a. General description of FHLB agreements, with information on the nature of the agreement, type of borrowing (advances, lines of credit, borrowed money, etc.) and use of the funding.

b. Amount of FHLB capital stock held, in aggregate, and classified as follows: i) membership stock (separated by Class A and Class B); ii) Activity Stock; and iii) Excess Stock. For membership stock, report the amount of FHLB capital stock eligible for redemption4 and the anticipated timeframe for redemption: i) less than 6 months, ii) 6 months to 1 year, iii) 1 year to 3 years, and iv) 3 to 5 years.

c. Amount (fair value and carrying value) of collateral pledged to the FHLB as of the reporting date, In addition, report the maximum amount of collateral pledged to the FHLB at any time during the current reporting period. (Maximum shall be determined on the basis of carrying value, but with fair value also reported)

d. Aggregate amount of borrowings at the reporting date from the FHLB, reflecting compilation of all advances, loans, funding agreements, repurchase agreements, securities lending, etc., outstanding with the FHLB, and classify whether the borrowing is in substance: i) debt (SSAP No. 15—Debt and Holding Company Obligations), ii) a funding agreement (SSAP No. 52—Deposit-Type Contracts), or iii) Other. For funding agreements, report the total reserves established. Report the maximum amount of aggregate borrowings from an FHLB at any time during the current reporting period, the actual or estimated maximum borrowing capacity as determined by the insurer, with a description of how the borrowing capacity was determined, and whether current borrowings are subject to prepayment penalties.

4 For FHLB membership stock to be eligible for redemption, written notification must have been provided to the FHLB prior to the reporting date.



Activity to Date (issues previously addressed by the Working Group, Emerging Accounting Issues (E) Working Group, SEC, FASB, other State Departments of Insurance or other NAIC groups): None Information or issues (included in Description of Issue) not previously contemplated by the Working Group: None Convergence with International Financial Reporting Standards (IFRS): Not applicable. Staff Recommendation: NAIC staff recommends that the Working Group move this item to the active listing, categorized as nonsubstantive, and expose revisions to SSAP No. 30—Unaffiliated Common Stock to clarify that an insurer that pledges assets to an FHLB on behalf of an affiliate shall be captured in the concept detailed in footnote 2 of SSAP No. 4. This concept identifies that if assets of an insurance entity are pledged or otherwise restricted by the action of a related party, the assets are not under the exclusive control of the reporting entity and are not available to satisfy policyholder obligations and shall be nonadmitted. NAIC staff has identified that the current disclosures for FHLBs are not designed to capture “affiliate” activity, and a reporting entity that reports “collateral pledged to an FHLB” when the reporting entity is not an FHLB member may appear to be misleading without further documentation that the affiliate is not an FHLB member and only an affiliate of the FHLB member. Although revisions are proposed to clarify that any asset pledged to an FHLB by a non-FHLB member shall be nonadmitted, NAIC staff has also proposed additional revisions to clarify that the SSAP No. 30 guidance is restricted to reporting entities that are FHLB members. Lastly, the revisions propose to clarify that any transaction that is entered into on behalf of an affiliate, but is completed in a manner to exclude the affiliate involvement (e.g., pledging assets directly to the FHLB) shall be considered a related party transaction under SSAP No. 25—Affiliates and Other Related Parties. With this exposure, comments are requested from the regulators, interested parties and the FHLBs on the following: (Previously, from past discussions, affiliate transactions with FHLBs were not expected to occur.)






Proposed Revisions to SSAP No. 30R—Unaffiliated Common Stock

FHLB Capital Stock 14. FHLB capital stock is held by reporting entities that are members of an FHLB. Each reporting entity must acquire FHLB capital stock for membership and maintain capital stock holding sufficient to support its business activity (borrowings5) in accordance with the respective FHLB’s capital plan. The price of FHLB capital stock cannot fluctuate, and all FHLB capital stock must be purchased, repurchased

5 Membership in an FHLB allows reporting entities to take advances / borrow from the FHLB. These borrowings can be structured in a variety of ways, for example: debt, funding agreements, repurchase agreements, securities lending, etc. Borrowings from an FHLB shall be reflected in the financial statements in accordance with the SSAP that addresses the substance of the agreement.



or transferred at its par value. FHLB capital stock is restricted for redemption in accordance with the FHLB capital plan and shall be coded as restricted within the financial statements (e.g., investment schedules and general interrogatories).

15. Acquisition of FHLB capital stock allows members to conduct business activity (borrowings) from an FHLB. The amount of capital stock acquired determines the reporting entity’s eligible borrowing amount. At a minimum, all borrowings from an FHLB (regardless of structure) must also be fully collateralized in accordance with the FHLB capital plan, which determines the amount of collateral required by type of pledged instrument. Collateral pledged to an FHLB shall be coded as restricted within the financial statements (e.g., investments schedules and general interrogatories). Collateral pledged to an FHLB by a reporting entity FHLB member is considered an admitted asset if all of the following conditions in subparagraphs 14a-14d are met.:

a. the asset would have been admitted under SSAP No. 4FN;

b. the pledging insurer continues to receive the income on the pledged collateral;

c. the pledging insurer can remove and substitute other securities with little or advance notice to the FHLB as long as the insurer complies with related investment quality and market value provisions; and

d. there has been no uncured default or event to indicate an impairment or loss contingency for the pledged assets.

New Footnote – As detailed in SSAP No. 4, if assets are pledged or otherwise restricted by the action of a related party, the assets are not permitted to be admitted in the statutory financial statements. As such, a reporting entity pledging assets to an FHLB on behalf of an affiliate shall nonadmit the pledged assets.

16. The guidance in paragraphs 13-14 is specific for reporting entities that are FHLB members. A reporting entity that engages with an FHLB through an “affiliate arrangement” (meaning an affiliate of the reporting entity is the FHLB member), is not considered an FHLB member. In those situations, any FHLB capital stock held by the non-FHLB member reporting entity or collateral pledged to an FHLB on behalf of an affiliate shall be nonadmitted. Detail of the affiliate FHLB arrangement, including any collateral pledged or funds received, shall be captured as a related party transaction (as if the activity occurred directly with the affiliate) under the provisions of SSAP No. 25.

FHLB Disclosures 176. For reporting entity FHLB membersagreements, the following information shall be disclosed in the financial statements for current and prior year and between general account and separate account activity. The information in the disclosures shall be presented gross even if a right to offset per SSAP No. 64 exists.

a. General description of FHLB agreements, with information on the nature of the agreement, type of borrowing (advances, lines of credit, borrowed money, etc.) and use of the funding.

b. Amount of FHLB capital stock held, in aggregate, and classified as follows: i) membership stock (separated by Class A and Class B); ii) Activity Stock; and iii) Excess Stock. For membership stock, report the amount of FHLB capital stock eligible for redemption6 and the anticipated timeframe for redemption: i) less than 6 months, ii) 6 months to 1 year, iii) 1 year to 3 years, and iv) 3 to 5 years.

6 For FHLB membership stock to be eligible for redemption, written notification must have been provided to the FHLB prior to the reporting date.



c. Amount (fair value and carrying value) of collateral pledged to the FHLB as of the reporting date, In addition, report the maximum amount of collateral pledged to the FHLB at any time during the current reporting period. (Maximum shall be determined on the basis of carrying value, but with fair value also reported)

d. Aggregate amount of borrowings at the reporting date from the FHLB, reflecting compilation of all advances, loans, funding agreements, repurchase agreements, securities lending, etc., outstanding with the FHLB, and classify whether the borrowing is in substance: i) debt (SSAP No. 15—Debt and Holding Company Obligations), ii) a funding agreement (SSAP No. 52—Deposit-Type Contracts), or iii) Other. For funding agreements, report the total reserves established. Report the maximum amount of aggregate borrowings from an FHLB at any time during the current reporting period, the actual or estimated maximum borrowing capacity as determined by the insurer, with a description of how the borrowing capacity was determined, and whether current borrowings are subject to prepayment penalties.

Staff Review Completed by: Julie Gann, NAIC Staff – June 2018 Status: On November 15, 2018, the Statutory Accounting Principles (E) Working Group moved this item to the active listing, categorized as nonsubstantive, and exposed revisions to SSAP No. 30R—Unaffiliated Common Stock, as shown above, to clarify that assets pledged to a Federal Home Loan Bank (FHLB) on behalf of an affiliate shall be nonadmitted pursuant to SSAP No. 4—Assets and Nonadmitted Assets. Comments are requested on activities that that occur involving FHLBs, including the following:






G:\FRS\DATA\Stat Acctg\3. National Meetings\A. National Meeting Materials\2019\Spring\Hearing\23 - 18-33 - SSAP No. 30 - FHLB.docx




Form A

Issue: SSAP No. 30R – Foreign Mutual Funds Check (applicable entity): P/C Life Health


Description of Issue: This agenda item has been drafted to consider whether foreign mutual funds should be in scope of SSAP No. 30R in accordance with the request per the interested parties’ Oct. 5, 2018 comment letter:

Some in industry have noted that existing SSAP No. 30 scope language includes “shares of mutual funds” while the new exposure only specifically scopes in SEC registered mutual funds. Foreign open-ended mutual funds that are structured similarly to SEC registered mutual funds with a NAV that is calculated and published periodically and used as the basis for purchases and redemptions should be included in SSAP No. 30. Additionally, foreign open-ended mutual funds are often registered with and regulated by competent regulatory bodies. Interested parties believe a case can be made to expand the scope of SSAP No. 30 to include such registered foreign open-end mutual funds, with similar structure and regulation, and respectfully ask the Working Group to explore this idea during 2019. Interested Parties can provide further information on such foreign open-end mutual funds upon the Working Group’s request.

The guidance in SSAP No. 30—Unaffiliated Common Stock, prior to the adoption of SSAP No. 30R, included in scope “shares of mutual funds, regardless of the types or mix of securities owned by the fund (e.g., bonds, stocks, money market instruments…” Although there is no reference to foreign mutual funds in SSAP No. 30 or the corresponding Issue Paper No. 30—Investments in Common Stock (excluding investments in common stock of subsidiary, controlled or affiliated entities), when drafting SSAP No. 30R, NAIC staff had the impression that the phrase “mutual fund” was intended to reflect an SEC registered open-end investment company investment, as U.S. retail investors can only buy funds that are registered with the SEC. (Global or international funds can also be registered with the SEC, hence, these are permissible to U.S. investors.) All SEC registered funds must comply with the Investment Company Act of 1940. However, per the comments from interested parties, “mutual funds” can be issued from other jurisdictions, and NAIC staff would agree that foreign mutual funds should not be treated different than foreign common stock.

SEC Definition: A mutual fund is an SEC-registered open-end investment company that pools money from many investors and invests the money in stocks, bonds, short-term money-market instruments, other securities or assets, or some combination of these investments.

Foreign mutual funds are funds registered outside of the US SEC in accordance with specific rules / regulations of the foreign country. Examples of foreign mutual funds include:

• The European Union: Mutual funds authorized for sale in Europe are governed by regulations from the Undertakings for Collective Investment in Transferable Securities, or UCITS. To market a fund across all member countries of the European Union, only need to register the fund in one EU country under the authority of that country's financial regulator. For example, in Ireland, it is the Irish Financial Services Regulatory Authority. In turn, the IFSRA is part of the Committee of European Securities Regulators, which is in charge of coordinating the securities regulators of all the EU countries.



• The Hong Kong Market: There are two fund governing bodies in the Hong Kong market: the Securities and Futures Commission (SFC) and the MPFSA. The SFC's rules are broader and not as specific or restrictive as the rules set forth by the MPFSA, and they apply to all funds marketed in Hong Kong, no matter what type of mutual fund they are. MPFSA only governs funds that are marketed for use in the retirement accounts of its residents. This means that funds suitable for investment in retirement accounts must abide by both SFC and MPFSA rules. However, as the MPFSA rules are more restrictive than SFC rules, fund managers can usually concentrate on the MPFSA rules, knowing that compliance with these rules will usually ensure compliance with the broader rules as well.

• Other Markets: Other markets have their own structure and regulations:

o Canada mutual funds are subject to provincial securities laws as well as national rules known as

NI 81-102. The NI stands for "National Instrument." For example, dealers who sell mutual funds must be registered with the securities regulator of their province, while the mutual fund asset manager must ensure that the fund they manage abides by the NI 81-102 rules.

o Taiwan mutual fund market is regulated by the Financial Supervisory Committee in accordance with the Securities Investment Trust and Consulting Act.

Foreign Reporting on D-2-2: Common stocks owned are reflected in Schedule D-2-2. This schedule currently captures information on foreign securities in column 4 in accordance with the following Annual Statement Instructions:

For the Foreign Code columns in Schedules D and DA, the following codes should be used:

“A” For Canadian securities issued in Canada and denominated in U.S. dollars.

“B” For those securities that meet the definition of foreign provided in the Supplement Investment Risk Interrogatories and pay in a currency other than U.S. dollars.

“C” For foreign securities issued in the U.S. and denominated in U.S. dollars

“D” For those securities hat meet the definition of foreign as provided in the Supplement Investment Risk Interrogatories and denominated in U.S. dollars (e.g., Yankee Bonds or Eurodollar Bonds).

Leave blank for those securities that do not meet the criteria for the use of “A,” “B,” “C,” or “D.”

(Staff Note – If the investment is a Canadian investment in Canadian dollars, it would not be noted as foreign.)

Select definitions Per the Supplemental Investment Risk Interrogatory:

Foreign Investment: An investment in a foreign jurisdiction, or an investment in a person, real estate or asset domiciled in a foreign jurisdiction. An investment shall not be deemed to be foreign if the issuing person, qualified primary credit source or qualified guarantor is a domestic jurisdiction or a person domiciled in a domestic jurisdiction, unless:

(a) The issuing person is a shell business entity; and

(b) The investment is not assumed, accepted, guaranteed or insured or

otherwise backed by a domestic jurisdiction or person, that is not a shell business entity, domiciled by a domestic jurisdiction.

https://www.investopedia.com/terms/n/netincome.asp

https://www.investopedia.com/terms/d/dealer.asp



Domestic Jurisdiction: The United States, Canada, any state, any province of Canada or any pollical subdivision of any of the foregoing.

Foreign Jurisdiction: A jurisdiction other than a domestic jurisdiction.

The Supplemental Investment Risks Interrogatory captures information on foreign investments: (Per the definition of domestic jurisdiction, investments in Canada are not captured as “foreign” in the SIRI. Questions 5-10 are only completed if the aggregate foreign investments exceed 2.5% of total admitted assets.) 4. Assets held in foreign investments:

4.01 Are assets held in foreign investments less than 2.5% of the reporting entity’s total admitted assets? Yes [ ] No [ ]

If response to 4.01 above is yes, responses are not required for interrogatories 5 – 10.

4.02 Total admitted assets held in foreign investments $ ............... .............. % 4.03 Foreign-currency-denominated investments $ ............... .............. % 4.04 Insurance liabilities denominated in that same foreign currency $ ............... .............. %

5. Aggregate foreign investment exposure categorized by NAIC sovereign designation:

1 2 5.01 Countries designated NAIC 1 $ ................................... ................................... % 5.02 Countries designated NAIC 2 $ ................................... ................................... % 5.03 Countries designated NAIC 3 or

below $ ................................... ................................... %

6. Largest foreign investment exposures by country, categorized by the country’s NAIC sovereign designation:

1 2 Countries designated NAIC 1: 6.01 Country 1: $ ................................... ................................... % 6.02 Country 2: $ ................................... ................................... % Countries designated NAIC 2: 6.03 Country 1: $ ................................... ................................... % 6.04 Country 2: $ ................................... ................................... % Countries designated NAIC 3 or

below:

6.05 Country 1: $ ................................... ................................... % 6.06 Country 2: $ ................................... ................................... %

1 2 7. Aggregate unhedged foreign currency exposure .................................... $ ...................................... % 8. Aggregate unhedged foreign currency exposure categorized by NAIC sovereign designation:

1 2 8.01 Countries designated NAIC 1 $ ................................... ................................... % 8.02 Countries designated NAIC 2 $ ................................... ................................... % 8.03 Countries designated NAIC 3 or

below $ ................................... ................................... %

9. Largest unhedged foreign currency exposures by country, categorized by the country’s NAIC sovereign

designation:



1 2

Countries designated NAIC 1: 9.01 Country 1: $ ................................... ................................... % 9.02 Country 2: $ ................................... ................................... % Countries designated NAIC 2: 9.03 Country 1: $ ................................... ................................... % 9.04 Country 2: $ ................................... ................................... % Countries designated NAIC 3 or

below:

9.05 Country 1: $ ................................... ................................... % 9.06 Country 2: $ ................................... ................................... %

10. Ten largest non-sovereign (i.e. non-governmental) foreign issues:

1 Issuer

2 NAIC Designation

3 4

10.01 .................................................. ................................. $...................... ..................... % 10.02 .................................................. ................................. $...................... ..................... % 10.03 .................................................. ................................. $...................... ..................... % 10.04 .................................................. ................................. $...................... ..................... % 10.05 .................................................. ................................. $...................... ..................... % 10.06 .................................................. ................................. $...................... ..................... % 10.07 .................................................. ................................. $...................... ..................... % 10.08 .................................................. ................................. $...................... ..................... % 10.09 .................................................. ................................. $...................... ..................... % 10.10 .................................................. ................................. $...................... ..................... %

11. Amounts and percentages of the reporting entity’s total admitted assets held in Canadian investments and

unhedged Canadian currency exposure:

11.01 Are assets held in Canadian investments less than 2.5% of the reporting entity’s total admitted assets? Yes [ ] No [ ]

If response to 11.01 is yes, detail is not required for the remainder of Interrogatory 11.

1 2

11.02 Total admitted assets held in Canadian investments

$ ..................................... .................................. %

11.03 Canadian-currency-denominated investments $ ..................................... .................................. % 11.04 Canadian-denominated insurance liabilities $ ..................................... .................................. % 11.05 Unhedged Canadian currency exposure $ ..................................... .................................. %

Mutual Fund Reporting in the General Interrogatories:

29. This interrogatory is applicable to Property/Casualty and Health entities only.

29.2 The diversified mutual funds (diversified according to the U.S. Securities and Exchange Commission (SEC) in the Investment Company Act of 1940 [Section 5(b)(1)]) that are excluded from the Asset Concentration Factor section of the risk-based capital filing are to be disclosed in this interrogatory.

29.3 “Significant Holding” means the top five largest holdings of the mutual fund. For each diversified

mutual fund disclosed in Interrogatory 29.2, the top largest holdings of the mutual fund must be disclosed in this interrogatory.



The “Amount of Mutual Fund’s Book/Adjusted Carrying Value Attributable to the Holding” should be based upon the fund’s latest available valuation as of year-end (e.g., fiscal year-end or latest periodic valuation available prior to year-end).

The “Date of Valuation” should be the date of the valuation amount provided in the Amount of Mutual Fund’s Book/Adjusted Carrying Value Attributable to the Holding column.

29.1 Does the reporting entity have any diversified mutual funds reported in Schedule D – Part 2 (diversified according to the Securities and Exchange Commission (SEC) in the Investment Company Act of 1940 [Section 5 (b) (1)])? Yes [ ] No [ ]

29.2 If yes, complete the following schedule:

1 CUSIP #

2 Name of Mutual Fund

3 Book/Adjusted Carrying Value

29.2999 TOTAL

29.3 For each mutual fund listed in the table above, complete the following schedule:

1

Name of Mutual Fund (from above table)

2

Name of Significant Holding of the Mutual Fund

3 Amount of Mutual Fund’s

Book/Adjusted Carrying Value Attributable to the Holding

4

Date of Valuation

Existing Authoritative Literature: SSAP No. 30—Unaffiliated Common Stock (Prior to Substantive Revisions)

3. Common stocks (excluding investments in affiliates) are securities which represent a residual ownership in a corporation and shall include:

a. Publicly traded common stocks;

b. Master limited partnerships trading as common stock and American deposit receipts only if the security is traded on the New York, American, or NASDAQ exchanges;

c. Publicly traded common stock warrants;

d. Shares of mutual funds, regardless of the types or mix of securities owned by the fund (e.g., bonds, stocks, money market instruments), except for:

i. Bond Mutual Funds which qualify for bond treatment, as identified in Part Six, Section 2, of the Purposes and Procedures Manual of the NAIC Investment Analysis Office;

ii. Money Market Mutual Funds on the U.S. Direct Obligations/Full Faith and Credit Exempt List, as identified in Part Six, Section 2, of the Purposes and Procedures Manual of the NAIC Investment Analysis Office1;

e. Exchange Traded Funds, except for those identified for bond or preferred stock treatment, as identified in Part Six, Section 2, of the Purposes and Procedures Manual of the NAIC Investment Analysis Office;

1 Pursuant to SSAP No. 2R, effective December 31, 2017, money market mutual funds shall be reported as cash equivalents and valued at fair value (net asset value allowed as a practical expedient).



f. Common stocks that are not publicly traded, including equity interests in certified capital companies in accordance with INT 06-02: Accounting and Reporting for Investments in a Certified Capital Company (CAPCO); and

g. Common stocks that are restricted as to transfer of ownership. Restricted stock shall be defined as a security for which sale is restricted by governmental or contractual requirement (other than in connection with being pledged as collateral), except where that requirement terminates within one year or if the holder has the power by contract or otherwise to cause the requirement to be met within one year. Any portion of the security that can be reasonably expected to qualify for sale within one year is not considered restricted. Regardless of redemption timeframe, FHLB capital stock is considered restricted stock until actual redemption by the FHLB.

SSAP No. 30R—Unaffiliated Common Stock

3. Common stocks (excluding investments in affiliates) are securities which represent a residual / subordinate ownership in a corporation. This definition includes:

a. Publicly traded common stocks;

b. Common stocks that are not publicly traded;

c. Common stocks restricted as to transfer of ownership2.

4. In addition, the following equity3 investments are captured within scope of this statement:

a. Master limited partnerships trading as common stock and American deposit receipts only if the security is traded on the New York or NASDAQ exchange;

b. Publicly traded common stock warrants;

c. Shares of SEC registered Investment Companies4 captured under the Investment Company Act of 1940 (open-end investment companies (mutual funds), closed-end funds and unit investment trusts), regardless of the types or mix of securities owned by the fund (e.g., bonds or stocks5), except for Bond Mutual Funds which qualify for bond treatment, as identified in Part Six, Section 2, of the Purposes and Procedures Manual of the NAIC Investment Analysis Office;

d. Exchange Traded Funds, except for those identified for bond or preferred stock treatment, as identified in Part Six, Section 2, of the Purposes and Procedures Manual of the NAIC Investment Analysis Office; and

e. Equity interests in certified capital companies in accordance with INT 06-02: Accounting and Reporting for Investments in a Certified Capital Company (CAPCO); and

2 Restricted stock shall be defined as a security for which sale is restricted by governmental or contractual requirement (other than in connection with being pledged as collateral), except where that requirement terminates within one year or if the holder has the power by contract or otherwise to cause the requirement to be met within one year. Any portion of the security that can be reasonably expected to qualify for sale within one year is not considered restricted. Regardless of redemption timeframe, FHLB capital stock is considered restricted stock until actual redemption by the FHLB. 3 Unless as specifically noted, the equity investments identified within scope are subject to the provisions of this standard as if they were common stock investments. 4 Non-SEC registered investment companies (e.g., private investment companies or hedge funds) are excluded from the scope of this statement. 5 Money market mutual funds are considered cash equivalents under SSAP No. 2R.



5. Investments within scope of this statement meet the definition of assets as defined in SSAP No. 4—Assets and Nonadmitted Assets and are admitted assets to the extent they conform to the requirements of this statement.

Activity to Date (issues previously addressed by the Working Group, Emerging Accounting Issues (E) Working Group, SEC, FASB, other State Departments of Insurance or other NAIC groups): None

Information or issues (included in Description of Issue) not previously contemplated by the Working Group: None Convergence with International Financial Reporting Standards (IFRS): Not applicable. Staff Recommendation: NAIC staff recommends that the Working Group move this item to the active listing, categorized as nonsubstantive, and expose proposed revisions to SSAP No. 30R to explicitly permit foreign open-end mutual funds to be in scope of SSAP No. 30R. With this exposure, NAIC staff would recommend referrals to the Capital Adequacy (E) Task Force and the Valuation of Securities (E) Task Force to obtain comments with regards to the proposed revisions and identified questions. With the proposed edits, NAIC staff would also suggest comments to address the following situations:

1) Should only certain jurisdictions be permitted for their mutual funds inclusion as common stock? (For example, UK, Hong Kong, Canadian, etc.)




NAIC staff notes that SSAP No. 30, with reporting on Schedule D-2-2, is the most appropriate reporting location for all authorized and regulated open-end mutual funds. With the reporting requirements, including information on foreign investments, NAIC staff does not object to reporting foreign open-end mutual funds in the same manner as foreign common stock investments, noting that mutual funds and common stock investments receive the same risk-based capital charge. NAIC staff notes that other foreign funds shall not be captured within scope of D-2-2 but shall be captured under SSAP No. 48—Joint Ventures, Partnerships and Limited Liability Companies and reported on Schedule BA. Proposed Edits to SSAP No. 30R:

4. In addition, the following equity6 investments are captured within scope of this statement:

a. Master limited partnerships trading as common stock and American deposit receipts only if the security is traded on the New York or NASDAQ exchange;

6 Unless as specifically noted, the equity investments identified within scope are subject to the provisions of this standard as if they were common stock investments.



b. Publicly traded common stock warrants;

c. Shares of SEC registered Investment Companies7 captured under the Investment Company Act of 1940 (open-end investment companies (mutual funds), closed-end funds and unit investment trusts), regardless of the types or mix of securities owned by the fund (e.g., bonds or stocks8), except for Bond Mutual Funds which qualify for bond treatment, as identified in Part Six, Section 2, of the Purposes and Procedures Manual of the NAIC Investment Analysis Office;

d. Exchange Traded Funds, except for those identified for bond or preferred stock treatment, as identified in Part Six, Section 2, of the Purposes and Procedures Manual of the NAIC Investment Analysis Office; and

d.e. Foreign open-end mutual funds governed and authorized in accordance with regulations established by the applicable foreign jurisdiction. Other foreign funds are excluded from the scope of this statement.

e.f. Equity interests in certified capital companies in accordance with INT 06-02: Accounting and Reporting for Investments in a Certified Capital Company (CAPCO); and

Staff Review Completed by: Julie Gann, NAIC Staff – June 2018 Status: On November 15, 2018, the Statutory Accounting Principles (E) Working Group moved this item to the active listing, categorized as nonsubstantive, and exposed revisions to SSAP No. 30R—Unaffiliated Common Stock, as shown above, to include foreign mutual funds in scope. Comments are requested on the classification between domestic and foreign, as well as reporting as diversified securities, with specific referrals directed to the Capital Adequacy (E) Task Force and the Valuation of Securities (E) Task Force.

Exposure Questions:





G:\FRS\DATA\Stat Acctg\3. National Meetings\A. National Meeting Materials\2019\Spring\Hearing\24 - 18-34 - SSAP No. 30R - Foreign Mutual Funds.docx

7 Non-SEC registered investment companies (e.g., private investment companies or hedge funds) are excluded from the scope of this statement. 8 Money market mutual funds are considered cash equivalents under SSAP No. 2R.




Form A

Issue: ASU 2018-14, Changes to the Disclosure Requirements for Defined Benefit Plans Check (applicable entity): P/C Life Health


Description of Issue: This agenda item has been drafted to consider ASU 2018-14, Changes to the Disclosure Requirements for Defined Benefit Plans for statutory accounting. This ASU was issued in August 2018 as part of a Financial Accounting Standards Board (FASB) project to improve the effectiveness of disclosures in the notes to the financial statements. Additionally, in August 2018, the FASB finalized a proposed FASB Concepts Statement, Conceptual Framework for Financial Reporting – Chapter 8: Notes to Financial Statements. The intent of this Concept Statement is to identify a broad range of possible information for the Board’s consideration when deciding on the disclosure requirements for a particular topic. From that broad set, the Board will identify a narrower set of disclosures to be required on the basis of, among other considerations, an evaluation of whether the expected benefits of providing the information justify the expected costs. The amendments in ASU 2018-14 are the result of the Board’s final deliberations of the concepts in the Concepts Statement as they relate to defined benefit plan disclosures. The ASU modifies the disclosure requirements in ASC 715-20, Defined Benefit Plans as follows: Removed Disclosures: The following disclosure requirements were removed:

1. Amounts in accumulated other comprehensive income (AOCI) expected to be recognized as components of net periodic benefit cost over the next fiscal year.

2. Amount and timing of plan assets expected to be returned to the employer.

3. The disclosures related to the June 2001 amendments to the Japanese Welfare Pension Insurance Law

4. Related party disclosures about the amount of future annual benefits covered by insurance and annuity contracts and significant transactions between the employer or related parties and the plan.

5. For nonpublic entities, the reconciliation of the opening balances to the closing balances of plan assets measured on a recurring basis in Level 3 of the fair value hierarchy. However, nonpublic entities will be required to disclose separately the amounts of transfers into and out of Level 3 of the fair value hierarchy and purchases of Level 3 plan assets.

6. For public entities, the effects of a one-percentage-point change in assumed health care cost trends rates on the (a) aggregate of the service and interest cost components or net periodic benefit costs and the (b) benefit obligation for postretirement health care benefits.

New Disclosures: The following disclosure requirements were added:

1. The weighted-average interest crediting rates for cash balance plans and other plans with promised interest crediting rates.



2. An explanation of the reasons for significant gains and losses related to changes in the benefit obligation for the period.

Clarified Disclosures: The ASU also clarifies the existing disclosure requirements, which state that the following information for defined benefit plans should be disclosed:

1. The projected benefit obligation (PBO) and the fair value of plan assets for plans with PBOs in excess of plan assets.

2. The accumulated benefit obligation (ABO) and the fair value of plan assets for plans with ABOs in excess of plan assets.

The amendments detailed in ASU 2018-14 are effective Dec. 31, 2020 Jan. 1, 2021 for public business entities and Dec. 31, 2021 Jan. 1, 2022 for all other entities. Early adoption is permitted for all entities. (Entities should apply the amendments on a retrospective basis to all periods presented.) Existing Authoritative Literature: Guidance for pensions and other postretirement plans (OPEB plans) are captured in SSAP No. 92—Postretirement Plans Other Than Pensions and SSAP No. 102—Pensions. The guidance in these SSAPs adopt with modification U.S. GAAP guidance for OPEBs and pensions. A key modification in both SSAP No. 92 and SSAP No. 102 was the statutory rejection of the U.S. GAAP reduced disclosure requirements for nonpublic entities. Rather, both SSAP No. 92 and SSAP No. 102 adopt the U.S. GAAP disclosure requirements for public entities as reflected in the SSAPs. Activity to Date (issues previously addressed by the Working Group, Emerging Accounting Issues (E) Working Group, SEC, FASB, other State Departments of Insurance or other NAIC groups): None

Information or issues (included in Description of Issue) not previously contemplated by the Working Group: None Convergence with International Financial Reporting Standards (IFRS): IAS 19, Employee Benefits establishes recognition, measurement, and disclosure requirements for financial statements prepared in conformity with IFRS. Must of the current disclosure guidance in ASC 710-20 is the same as, or is similar to, that in IAS 19. However, there are differences based on the FASB’s and the IASB’s differing assessments on financial statement users’ needs and the differences in the recognition and measurement principles applied to defined benefit pension and other postretirement plans. The amendments in ASU 2018-14 are the results of the FASB’s application of the concepts in the Concepts Statement as they related to defined benefit pension and other postretirement plans and are narrow in scope. As a result, significant convergence with IAS 19 is not expected to be achieved from these amendments. Staff Recommendation: NAIC staff recommends that the Working Group move this item to the nonsubtantive active listing and expose revisions to SSAP No. 92—Postretirement Benefits Other Than Pensions and SSAP No. 102—Pensions to adopt with modification the disclosure amendments reflected in ASU 2018-14. Similar to past actions, the statutory modifications will not permit reduced disclosure provisions for nonpublic entities. Rather, the amendments to SSAP No. 92 and SSAP No. 102 will reflect the U.S. GAAP disclosure requirements for public entities. The proposed amendments to SSAP No. 92 and SSAP No. 102 reflect the following U.S. GAAP changes from ASU 2018-14. (The related paragraph for SSAP No. 92 and SSAP No. 102 is also noted.)



• New U.S. GAAP disclosure for the interest crediting rates – (SSAP 92: ¶66.j; SSAP 102: ¶68.k)

• Deletion of disclosure on the effect of a 1% point increase or decrease – (SSAP 92: ¶66.l; SSAP 102: N/A)

• Deletion of disclosure for the approximate amount of future annual benefits covered by insurance contracts – (SSAP 92: ¶66.m; SSAP 102: ¶68.l)

• New U.S. GAAP disclosures on the reasons for significant gains and losses related to changes in defined

benefit obligations and any other significant change not otherwise apparent in the required disclosures – (SSAP 92: ¶66.q; SSAP 102: ¶68.p)

• Deletion of disclosure on the amounts in unassigned funds expected to be recognized as component of net

periodic benefit cost over the fiscal years – (SSAP 92: ¶66.r; SSAP 102: ¶68.q)

• Deletion of disclosure of the amount and timing of any plan assets expected to be returned to the employer during the 12 month period that follows the most recent annual statement of financial position – (SSAP 92: ¶66.s; SSAP 102: ¶68.r)

• Matched update terms to GAAP terminology for disclosure of two or more plans – (SSAP No. 92: ¶69; SSAP No. 102: ¶69)

Proposed Revisions to SSAP No. 92: Disclosures - Single-Employer Defined Postretirement Plans

66. An employer that sponsors one or more other defined benefit postretirement plans shall provide the following information for postretirement benefit plans other than pensions. Amounts related to the employer’s results of operations shall be disclosed for each period for which a statement of income is presented. Amounts related to the employer’s statement of financial position, shall be disclosed as of the date of each statement of financial position presented.

a. A reconciliation of beginning and ending balances of the benefit obligation showing separately, if applicable, the effects during the period attributable to each of the following: service cost, interest cost, contributions by plan participants, actuarial gains and losses, foreign currency exchange rate changes, benefits paid, plan amendments, business combinations, divestitures, curtailments, settlements, and special termination benefits.

b. A reconciliation of beginning and ending balances of the fair value of plan assets showing

separately, if applicable, the effects during the period attributable to each of the following: actual return on plan assets, foreign currency exchange rate changes, contributions by the employer, contributions by plan participants, benefits paid, business combinations, divestitures, and settlements.

c. The funded status of the plans and the amounts recognized in the statement of financial

position, showing separately the assets (nonadmitted) and liabilities recognized.

d. The objectives of the disclosures about postretirement benefit plan assets are to provide users of financial statements with an understanding of:

i. How investment allocation decisions are made, including the factors that are

pertinent to an understanding of investment policies and strategies

ii. The classes of plan assets



iii. The inputs and valuation techniques used to measure the fair value of plan

assets

iv. The effect of fair value measurements using significant unobservable inputs (Level 3) on changes in plan assets for the period

v. Significant concentrations of risk within plan assets.

An employer shall consider those overall objectives in providing the following information about plan assets:

(a) A narrative description of investment policies and strategies, including

target allocation percentages or range of percentages considering the classes of plan assets disclosed pursuant to (b) below, as of the latest statement of financial position presented (on a weighted-average basis for employers with more than one plan), and other factors that are pertinent to an understanding of those policies and strategies such as investment goals, risk management practices, permitted and prohibited investments including the use of derivatives, diversification, and the relationship between plan assets and benefit obligations. For investment funds disclosed as classes as described in (b) below, a description of the significant investment strategies of those funds shall be provided.

(b) The fair value of each class of plan assets as of each date for which a

statement of financial position is presented. Asset classes shall be based on the nature and risks of assets in an employer’s plan(s). Examples of classes of assets include, but are not limited to, the following: cash and cash equivalents; equity securities, (segregated by industry type, company size, or investment objective); debt securities, issued by national, state, and local governments; corporate debt securities; asset-backed securities; structured debt; derivatives on a gross basis (segregated by type of underlying risk in the contract, for example, interest rate contracts, foreign exchange contracts, equity contracts, commodity contracts, credit contracts, and other contracts); investment funds (segregated by type of fund); and real estate. Those examples are not meant to be all inclusive. An employer should consider the overall objectives in paragraph 66.d. in determining whether additional classes of plan assets or further disaggregation of classes should be disclosed.

(c) A narrative description of the basis used to determine the overall

expected long-term rate-of-return-on-assets assumption, such as the general approach used, the extent to which the overall rate-of-return-on-assets assumption was based on historical returns, the extent to which adjustments were made to those historical returns in order to reflect expectations of future returns, and how those adjustments were determined. The description should consider the classes of assets described in (b) above, as appropriate.

(d) Information that enables users of financial statements to assess the

inputs and valuation techniques used to develop fair value measurements of plan assets at the reporting date. For fair value measurements using significant unobservable inputs, an employer shall disclose the effect of the measurements on changes in plan assets for the period. To meet those objectives, the employer shall disclose the following information for each class of plan assets disclosed pursuant to (b) above for each annual period:



(1) The level within the fair value hierarchy in which the fair value measurements in their entirety fall,1 segregating fair value measurements using quoted prices in active markets for identical assets or liabilities (Level 1), significant other observable inputs (Level 2), and significant unobservable inputs (Level 3)

(2) Information about the valuation technique(s) and inputs used to

measure fair value and a discussion of changes in valuation techniques and inputs, if any, during the period.

e. The benefits (as of the date of the latest statement of financial position presented)

expected to be paid in each of the next five fiscal years, and in the aggregate for the five fiscal years thereafter. The expected benefits should be estimated based on the same assumptions used to measure the company’s benefit obligation at the end of the year and should include benefits attributable to estimated future employee service.

f. The employer’s best estimate, as soon as it can reasonably be determined, of

contributions expected to be paid to the plan during the next fiscal year beginning after the date of the latest statement of financial position presented. Estimated contributions may be presented in the aggregate combining (1) contributions required by funding regulations or laws, (2) discretionary contributions, and (3) noncash contributions.

g. The amount of net periodic benefit cost recognized, showing separately the service cost

component, the interest cost component, the expected return on plan assets for the period, the gain or loss component, the prior service cost or credit component, the transition asset or obligation component, and the gain or loss recognized due to settlements or curtailments.

h. Separately the net gain or loss and net prior service cost or credit recognized in

unassigned funds (surplus) for the period pursuant to paragraphs 42 and 46, and reclassification adjustments of unassigned funds (surplus) for the period, as those amounts, including amortization of the net transition asset or obligation, are recognized as components of net periodic benefit cost.

i. The amounts in unassigned funds (surplus) that have not yet been recognized as

components of net periodic benefit cost, showing separately the net gain or loss, net prior service cost or credit, and net transition asset or obligation.

j. On a weighted-average basis, the following assumptions used in the accounting for the

plans: assumed discount rates, rates of compensation increase (for pay-related plans), and expected long-term rates of return on plan assets specifying, in a tabular format, the assumptions used to determine the benefit obligation and the assumptions used to determine net benefit cost, and interest crediting rates (for cash balance plans and other plans with promised interest crediting rates).

k. The assumed health care cost trend rate(s) for the next year used to measure the

expected cost of benefits covered by the plan (gross eligible charges), and a general description of the direction and pattern of change in the assumed trend rates thereafter, together with the ultimate trend rate(s) and when that rate is expected to be achieved.

1 In some cases, the inputs used to measure fair value might fall in different levels of the fair value hierarchy. The level in the fair value hierarchy within which the fair value measurement in its entirety falls shall be determined based on the lowest level input that is significant to the fair value measurement in its entirety. Assessing the significance of a particular input to the fair value measurement in its entirety requires judgment, considering factors specific to the asset or liability.



l. The effect of a one-percentage-point increase and the effect of a one-percentage-point decrease in the assumed health care cost trend rates on (1) the aggregate of the service and interest cost components of net periodic postretirement health care benefit costs and (2) the accumulated postretirement benefit obligation for health care benefits. (For purposes of this disclosure, all other assumptions shall be held constant, and the effects shall be measured based on the substantive plan that is the basis for the accounting.)

m.l. If applicable, the amounts and types of securities of the employer and related parties

included in plan assets, the approximate amount of future annual benefits of plan participants covered by insurance contracts issued by the employer or related parties, and any significant transactions between the employer or related parties and the plan during the period.

n.m. If applicable, any alternative method used to amortize prior service amounts or net gains

and losses pursuant to paragraphs 43 and 50. o.n. If applicable, any substantive commitment, such as past practice or a history of regular

benefit increases, used as the basis for accounting for the benefit obligation. p.o. If applicable, the cost of providing special or contractual termination benefits recognized

during the period and a description of the nature of the event. q.p. An explanation of the following information: any significant change in the benefit

obligation or plan assets not otherwise apparent in the other disclosures required by this statement.

i. The reasons for significant gains and losses related to changes in the defined

benefit obligation for the period.

ii. Any other significant change in the benefit obligation or plan assets not otherwise apparent in the other required disclosures in this statement.

r. The amounts in unassigned funds (surplus) expected to be recognized as components of net periodic benefit cost over the fiscal year that follows the most recent annual statement of financial position presented, showing separately the net gain or loss, net prior service cost or credit, and net transition asset or obligation.

s. The amount and timing of any plan assets expected to be returned to the employer

during the 12-month period, or operating cycle if longer, that follows the most recent annual statement of financial position presented.

Disclosures – Employers with Two or More Defined Benefit Plans

69. The disclosures required by this statement shall be aggregated for all of an employer’s other defined benefit postretirement plans unless disaggregating in groups is considered to provide useful information or is otherwise required by this paragraph and paragraph 70 of this statement. Disclosures shall be as of the date of each statement of financial position presented. If aggregate disclosures are presented, an employer shall disclose, as of the date of each statement of financial position presented:

a. The accumulated aggregate benefit obligation and aggregate fair value of plan assets for plans with accumulated benefit obligations in excess of plan assets as of the measurement date of each statement of financial position presented.

70. A U.S. reporting entity may combine disclosures about pension plans or other postretirement benefit plans outside the United States with those for U.S. plans unless the benefit obligations of the plans outside the United States are significant relative to the total benefit obligation and those plans use significantly different assumptions.



102. This statement adopts with modification paragraphs 1-7 and 16-18 as well as Appendix D – Amendments to Statement 106 and Appendix E – Amendments to Statement 132(R) of FASB Statement No. 158, Employers’ Accounting for Defined Benefit Pension and Other Postretirement Plans, an amendment of FASB Statements No. 87, 88, 106 and 132(R) (FAS 158). Paragraphs 8-10 and D2.u providing specific guidance for not-for-profit organizations are rejected. Paragraphs 11-15 regarding the effective dates for FAS 158 are rejected and paragraph 19 providing an alternative method for remeasuring plan assets and benefits obligations as of the fiscal year the measurement date provisions are applied is also rejected. The disclosure included within FAS 132 (R), as amended by FAS 158, pertaining specifically to pensions (paragraph 5.e.) has been rejected for inclusion within this standard. This Statement adopts the revisions to paragraph 5.d. of FAS 132(R) as amended by FASB Staff Position FAS 132(R)-1, Employers’ Disclosures about Postretirement Benefit Plan Assets (FSP FAS 132(R)-1) and ASU 2010-06, Fair Value Measurements and Disclosures (Topic 820): Improving Disclosures about Fair Value Measurements (ASU 2010-06). Other revisions to disclosure requirements as amended by FSP FAS 132(R)-1 relate to nonpublic entities and are rejected. This statement adopts EITF 06-4, Accounting for Deferred Compensation and Postretirement Benefit Aspects of Endorsement Split-Dollar Life Insurance Arrangements. This statement adopts by reference revisions to ASC 715-80 as detailed in ASU 2011-09, Compensation – Retirement Benefits – Multiemployer Plans with limited additional disclosures required within statutory financial statements. This statement adopts by reference FSP FASB 158-1, Conforming Amendments to the Illustrations in FASB Statements No. 87, No. 88, and No. 106 and to the Related Staff Implementation Guides (FSP FAS 158-1) to the extent that the examples and related implementation guides comply with the adopted GAAP guidance previously identified within this statement, as modified for statutory accounting. This statement adopts with modification the disclosure revisions reflected in ASU 2018-14, Changes to the Disclosure Requirements for Defined Benefit Plans, consistent with the modifications from the adoption of FAS 158 and FAS 106. The following modifications from the adopted paragraphs of FAS 158 and FAS 106 have been incorporated within this standard:

a. All references to “other comprehensive income” or “accumulated other comprehensive income” within FAS 158 have been revised to reflect “unassigned funds (surplus).”

b. Any prepaid asset resulting from the excess of the fair value of plan assets over the

accumulated postretirement benefit obligation shall be nonadmitted. Furthermore, any asset recognized from the cost of a “participation right” of an annuity contract per paragraph 59 shall also be nonadmitted.

c. Provisions within paragraph 57 and 58 of FAS 106, as amended by FAS 158, permitting

a calculated market-related value of plan assets has been eliminated with only the fair value measurement method for plan assets retained.

d. The reduced disclosure requirements for nonpublic entities described in paragraph 8 of

FAS 132(R), as amended by FAS 158, are rejected. All reporting entities shall follow the disclosure requirements within this statement which have been adopted from paragraph 5 of FAS 132(R), as amended by FAS 158.

e. Clarification has been included within this standard to ensure both vested and nonvested

employees are included within the recognition of net postretirement benefit cost and in the accumulated postretirement benefit obligation. Although this is consistent with GAAP, this is a change from previous statutory accounting. As nonvested employees were excluded from statutory accounting under SSAP No. 14, guidance has been included to indicate that the unrecognized prior service cost attributed to nonvested individuals is not required to be included in net postretirement benefit cost entirely in the year this standard is adopted. The unrecognized prior service cost for nonvested employees shall be amortized as a component of net postretirement benefit cost by assigning an equal amount to each expected future period of service before vesting occurs for nonvested employees active at the date of the amendment. Unassigned funds (surplus) is then adjusted each period as prior service cost is amortized. (Guidance is included within the transition related to the recognition of the prior service cost for nonvested employees through unassigned surplus.)



f. Conclusion of Interpretation 99-26: Offsetting Pension Assets and Liabilities (INT 99-26)

prohibiting the offset of defined benefit liabilities of one plan with prepaid assets of another plan has been incorporated within paragraph 33 of this statement.

g. Provisions within paragraph 44B of FAS 106, as amended by FAS 158, regarding the

classification of underfunded liabilities as current or noncurrent liabilities and the classification of assets from overfunded plans as noncurrent assets has been rejected as inconsistent with statutory accounting.

h. Provisions within paragraph 65 of FAS 106, as amended by FAS 158, defining the fair

value of investments have been rejected. Fair value definitions and measurement for investments shall be determined in accordance with statutory accounting guidance.

i. Provisions within paragraph 72 of FAS 106, as amended by FAS 158, regarding the plan

assets measurement date for consolidating subsidiaries or entities utilizing the equity method under APB Opinion No. 18 has been rejected. For statutory accounting, all entities shall follow the measurement date guidance within paragraph 62 of this statement.

j. The disclosure requirement included within paragraph 5.e. of FAS 132(R) has been

rejected for this statement as it specifically pertains to pensions.

k. Transition under FAS 158 is different from the requirements of this statement. FAS 158 requires publicly traded equity securities to initially apply the requirement to recognize the funded status of a postretirement benefit plan; the gains/losses, prior service costs/credits and transition obligations/assets that have not yet been included in net periodic benefit cost; and the disclosure requirements as of the end of the fiscal year ending after December 15, 2006. Transition guidelines for statutory accounting are defined in paragraphs 105-116 of this statement.

l. FAS 158 provided two approaches for an employer to transition to a fiscal year-end

measurement date. For purposes of statutory accounting, the second approach permitting reporting entities to use earlier measurements determined for year-end reporting as of the fiscal year immediately preceding the year that the measurement date provisions is rejected. For consistency purposes, all reporting entities shall follow the first approach and remeasure plan assets and benefit obligations as of the beginning of the fiscal year that the measurement date provisions are applied.

Proposed Revisions to SSAP No. 102: Disclosures – Single-Employer Defined Benefit Plans

68. An employer that sponsors one or more defined benefit pension plans or one or more other defined benefit postretirement plans shall provide the following information, separately for pension plans and other postretirement benefit plans. Amounts related to the employer’s results of operations shall be disclosed for each period for which a statement of income is presented. Amounts related to the employer’s statement of financial position, shall be disclosed as of the date of each statement of financial position presented.

a. A reconciliation of beginning and ending balances of the benefit obligation showing separately, if applicable, the effects during the period attributable to each of the following: service cost, interest cost, contributions by plan participants, actuarial gains and losses, foreign currency exchange rate changes, benefits paid, plan amendments, business combinations, divestitures, curtailments, settlements, and special termination benefits.



b. A reconciliation of beginning and ending balances of the fair value of plan assets showing separately, if applicable, the effects during the period attributable to each of the following: actual return on plan assets, foreign currency exchange rate changes, contributions by the employer, contributions by plan participants, benefits paid, business combinations, divestitures, and settlements.

c. The funded status of the plans and the amounts recognized in the statement of financial

position, showing separately the assets and liabilities recognized.

d. The objectives of the disclosures about postretirement benefit plan assets are to provide users of financial statements with an understanding of:

i. How investment allocation decisions are made, including the factors that are

pertinent to an understanding of investment policies and strategies

ii. The classes of plan assets

iii. The inputs and valuation techniques used to measure the fair value of plan assets

iv. The effect of fair value measurements using significant unobservable inputs

(Level 3) on changes in plan assets for the period

v. Significant concentrations of risk within plan assets.

An employer shall consider those overall objectives in providing the following information about plan assets:

(a) A narrative description of investment policies and strategies, including target allocation percentages or range of percentages considering the classes of plan assets disclosed pursuant to (b) below, as of the latest statement of financial position presented (on a weighted-average basis for employers with more than one plan), and other factors that are pertinent to an understanding of those policies and strategies such as investment goals, risk management practices, permitted and prohibited investments including the use of derivatives, diversification, and the relationship between plan assets and benefit obligations. For investment funds disclosed as classes as described in (b) below, a description of the significant investment strategies of those funds shall be provided.

(b) The fair value of each class of plan assets as of each date for which a

statement of financial position is presented. Asset classes shall be based on the nature and risks of assets in an employer’s plan(s). Examples of classes of assets could include, but are not limited to, the following: cash and cash equivalents; equity securities, (segregated by industry type, company size, or investment objective); debt securities, issued by national, state, and local governments; corporate debt securities; asset-backed securities; structured debt; derivatives on a gross basis (segregated by type of underlying risk in the contract, for example, interest rate contracts, foreign exchange contracts, equity contracts, commodity contracts, credit contracts, and other contracts); investment funds (segregated by type of fund); and real estate. Those examples are not meant to be all inclusive. An employer should consider the overall objectives in paragraph 68.d. in determining whether additional classes of plan assets or further disaggregation of classes should be disclosed.



(c) A narrative description of the basis used to determine the overall expected long-term rate-of-return-on-assets assumption, such as the general approach used, the extent to which the overall rate-of-return-on-assets assumption was based on historical returns, the extent to which adjustments were made to those historical returns in order to reflect expectations of future returns, and how those adjustments were determined. The description should consider the classes of assets described in (b) above, as appropriate.

(d) Information that enables users of financial statements to assess the

inputs and valuation techniques used to develop fair value measurements of plan assets at the reporting date. For fair value measurements using significant unobservable inputs, an employer shall disclose the effect of the measurements on changes in plan assets for the period. To meet those objectives, the employer shall disclose the following information for each class of plan assets disclosed pursuant to (b) above for each annual period:

(1) The level within the fair value hierarchy in which the fair value

measurements in their entirety fall,2 segregating fair value measurements using quoted prices in active markets for identical assets or liabilities (Level 1), significant other observable inputs (Level 2), and significant unobservable inputs (Level 3)

(2) Information about the valuation technique(s) and inputs used to

measure fair value and a discussion of changes in valuation techniques and inputs, if any, during the period.

e. For defined benefit pension plans, the accumulated benefit obligation.

f. The benefits (as of the date of the latest statement of financial position presented)

expected to be paid in each of the next five fiscal years, and in the aggregate for the five fiscal years thereafter. The expected benefits should be estimated based on the same assumptions used to measure the company’s benefit obligation at the end of the year and should include benefits attributable to estimated future employee service.

g. The employer’s best estimate, as soon as it can reasonably be determined, of

contributions expected to be paid to the plan during the next fiscal year beginning after the date of the latest statement of financial position presented. Estimated contributions may be presented in the aggregate combining (1) contributions required by funding regulations or laws, (2) discretionary contributions, and (3) noncash contributions.

h. The amount of net benefit cost recognized, showing separately the service cost

component, the interest cost component, the expected return on plan assets for the period, the gain or loss component, the prior service cost or credit component, the transition asset or obligation component, and the gain or loss recognized due to settlements or curtailments.

i. Separately the net gain or loss and net prior service cost or credit recognized in

unassigned funds (surplus) for the period pursuant to paragraphs 15 and 19 and reclassification adjustments of unassigned funds (surplus) for the period, as those

2 In some cases, the inputs used to measure fair value might fall in different levels of the fair value hierarchy. The level in the fair value hierarchy within which the fair value measurement in its entirety falls shall be determined based on the lowest level input that is significant to the fair value measurement in its entirety. Assessing the significance of a particular input to the fair value measurement in its entirety requires judgment, considering factors specific to the asset or liability.



amounts, including amortization of the net transition asset or obligation, are recognized as components of net periodic benefit cost.

j. The amounts in unassigned funds (surplus) that have not yet been recognized as

components of net periodic benefit cost, showing separately the net gain or loss, net prior service cost or credit, and net transition asset or obligation.

k. On a weighted-average basis, the following assumptions used in the accounting for the

plans: assumed discount rates, rates of compensation increase (for pay-related plans), and expected long-term rates of return on plan assets specifying, in a tabular format, the assumptions used to determine the benefit obligation and the assumptions used to determine net benefit cost, and interest crediting rates (for cash balance plans and other plans with promised crediting rates).

l. If applicable, the amounts and types of securities of the employer and related parties

included in plan assets, the approximate amount of future annual benefits of plan participants covered by insurance contracts issued by the employer or related parties, and any significant transactions between the employer or related parties and the plan during the period.

m. If applicable, any alternative method used to amortize prior service amounts or net gains

and losses pursuant to paragraphs 16 and 23. n. If applicable, any substantive commitment, such as past practice or a history of regular

benefit increases, used as the basis for accounting for the benefit obligation. o. If applicable, the cost of providing special or contractual termination benefits recognized

during the period and a description of the nature of the event. p. An explanation of the following information:any significant change in the benefit obligation

or plan assets not otherwise apparent in the other disclosures required by this statement.

i. The reasons for significant gains and losses related to changes in the defined benefit obligation for the period.

ii. Any other significant change in the benefit obligation or plan assets not otherwise apparent in the other disclosures required by this statement.

q. The amounts in unassigned funds (surplus) expected to be recognized as components of net periodic benefit cost over the fiscal year that follows the most recent annual statement of financial position presented, showing separately the net gain or loss, net prior service cost or credit, and net transition asset or obligation.

r. The amount and timing of any plan assets expected to be returned to the employer

during the 12-month period, or operating cycle if longer, that follows the most recent annual statement of financial position presented.

Disclosures – Employers with Two or More Defined Benefit Plans

69. The disclosures required by this statement shall be aggregated for all of an employer’s defined benefit pension plans and for all of an employer’s other defined benefit postretirement plans unless disaggregating in groups is considered to provide useful information or is otherwise required by this paragraph and paragraph 70. Disclosures shall be as of the date of each statement of financial position presented. Disclosures about pension plans with assets in excess of the accumulated benefit obligation generally may be aggregated with disclosures about pension plans with accumulated benefit obligations in excess of assets. The same aggregation is permitted for other postretirement benefit plans. If



aggregate disclosures are presented, an employer shall disclose, as of the date of each financial statement position presented:

a. The aggregate projected benefit obligation and aggregate fair value of plan assets for plans with projected benefit obligations in excess of plan assets as of the measurement date of each statement of financial position presented.

b. The aggregate pension accumulated benefit obligation and aggregate fair value of plan

assets for pension plans with accumulated benefit obligations in excess of plan assets.

70. A U.S. reporting entity may combine disclosures about pension plans or other postretirement benefit plans outside the United States with those for U.S. plans unless the benefit obligations of the plans outside the United States are significant relative to the total benefit obligation and those plans use significantly different assumptions. 87. This statement adopts with modification paragraphs 1-7 and 16-17 as well as Appendix C – Amendments to Statements 87 and 88 and Appendix E – Amendments to Statement 132(R) of FASB Statement No. 158, Employers’ Accounting for Defined Benefit Pension and Other Postretirement Plans, an amendment of FASB Statements No. 87, 88, 106 and 132(R) (FAS 158). Paragraphs 8-10 providing specific guidance for not-for-profit organizations is rejected. Paragraphs 11-15 regarding the effective dates for FAS 158 is rejected and paragraph 19 providing an alternative method for remeasuring plan assets and benefits obligations as of the fiscal year the measurement date provisions are applied is also rejected. Appendix D – Amendments to Statement 106 has not been incorporated within this statutory statement as it will be considered in accordance with revisions to SSAP No. 14—Postretirement Benefits Other Than Pensions (SSAP No. 14). Disclosures included within FAS 132(R), as amended by FAS 158, pertaining to health care (paragraphs 5.l. and 5.m.) have been rejected for inclusion within this standard, but will also be considered in accordance with revisions to SSAP No. 14. This statement adopts the revisions to paragraph 5.d. of FAS 132(R) as amended by FASB Staff Position FAS 132(R)-1, Employers’ Disclosures about Postretirement Benefit Plan Assets (FSP FAS 132(R)-1) and ASU 2010-06, Fair Value Measurements and Disclosures (Topic 820): Improving Disclosures about Fair Value Measurements (ASU 2010-06). Other revisions to disclosures requirements as amended by FSP FAS 132(R)-1 relate to nonpublic entities and are rejected. This statement adopts by reference revisions to ASC 715-80 as detailed in ASU 2011-09, Compensation – Retirement Benefits – Multiemployer Plans with limited additional disclosures required within statutory financial statements. This statement adopts by reference FSP FASB 158-1, Conforming Amendments to the Illustrations in FASB Statements No. 87, No. 88, and No. 106 and to the Related Staff Implementation Guides (FSP FAS 158-1) to the extent that the examples and related implementation guides comply with the adopted GAAP guidance previously identified within this statement, as modified for statutory accounting. This statement adopts with modification the disclosure revisions reflected in ASU 2018-14, Changes to the Disclosure Requirements for Defined Benefit Plans, consistent with the modifications from the adoption of FAS 158 and FAS 106. The following modifications from the adopted paragraphs of FAS 158 have been incorporated within this standard:

a. All references to ‘other comprehensive income’ or ‘accumulated other comprehensive

income’ within FAS 158 have been revised to reflect unassigned funds (surplus). b. Any prepaid asset resulting from the excess of the fair value of plan assets over the

projected benefit obligation shall be nonadmitted. Furthermore, any asset recognized from the cost of a ‘participation right’ of an annuity contract per paragraph 54 shall also be nonadmitted.

c. Provisions within paragraph 30 of FAS 87, as amended by FAS 158, permitting a market-

related value of plan assets have been eliminated with only the fair value measurement method for plan assets being retained.



d. The reduced disclosure requirements for nonpublic entities described in paragraph 8 of FAS 132(R), as amended by FAS 158, are rejected. All reporting entities shall follow the disclosure requirements included in paragraph 5 of FAS 132(R) as amended by FAS 158.

e. Clarification has been included within this standard to ensure both vested and nonvested

employees are included within the recognition of net periodic pension cost and in the pension benefit obligation. Although this is consistent with GAAP, this is a change from previous statutory accounting. As nonvested employees were excluded from statutory accounting under SSAP No. 89, guidance has been included to indicate that the unrecognized prior service cost attributed to nonvested individuals is not required to be included in net periodic pension cost entirely in the year this standard is adopted. The unrecognized prior service cost for nonvested employees shall be amortized as a component of net periodic pension cost by assigning an equal amount to each expected future period of service before vesting occurs for nonvested employees active at the date of the amendment. Unassigned funds (surplus) is then adjusted each period as prior service cost is amortized. (Guidance is included within the transition related to the recognition of the prior service cost for nonvested employees through unassigned funds (surplus).)

f. Conclusion of Interpretation 04-12: EITF 03-4: Determining the Classification and Benefit

Attribution Method for a “Cash Balance” Pension Plan (INT 04-12) indicating that ‘cash balance’ plans are considered defined benefit plans has been incorporated within paragraph 3 of this statement.

g. Conclusion of Interpretation 99-26: Offsetting Pension Assets and Liabilities (INT 99-26)

prohibiting the offset of defined benefit liabilities of one plan with prepaid assets of another plan has been incorporated within paragraph 26 of this statement.

h. Provisions within paragraph 36 of FAS 87, as amended by FAS 158, regarding the

classification of underfunded liabilities as current or noncurrent liabilities and the classification of assets from overfunded plans as noncurrent assets has been rejected as inconsistent with statutory accounting.

i. Provisions within paragraph 49 of FAS 87, as amended by FAS 158, defining the fair

value of investments have been rejected. Fair value definitions and measurement for investments shall be determined in accordance with statutory accounting guidance.

j. Provisions within paragraph 52 of FAS 87, as amended by FAS 158, regarding the plan

assets measurement date for consolidating subsidiaries or entities utilizing the equity method under APB Opinion No. 18 has been rejected. For statutory accounting, all entities shall follow the measurement date guidance within paragraph 45 of this statement.

k. Transition under FAS 158 is different from this statement. FAS 158 requires entities with

publicly traded equity securities to initially apply the requirement to recognize the funded status of a benefit plan; the gains/losses, prior service costs/credits and transition obligations/assets that have not yet been included in net periodic benefit cost; and the disclosure requirements as of the end of the fiscal year ending after December 15, 2006. Transition guidelines for statutory accounting are defined in paragraphs 90-101.

l. FAS 158 provided two approaches for an employer to transition to a fiscal year-end

measurement date. For purposes of statutory accounting, the second approach permitting reporting entities to use earlier measurements determined for year-end reporting as of the fiscal year immediately preceding the year that the measurement date provisions is rejected. For consistency purposes, all reporting entities shall follow the first approach and remeasure plan assets and benefit obligations as of the beginning of the fiscal year that the measurement date provisions are applied.



Staff Review Completed by: Julie Gann, NAIC Staff – September 2018 Status: On November 15, 2018, the Statutory Accounting Principles (E) Working Group moved this item to the active listing, categorized as nonsubstantive, and exposed revisions to SSAP No. 92—Postretirement Benefits Other than Pensions and SSAP No. 102—Pensions, as shown above, to adopt with modification the disclosure amendments reflected in ASU 2018-14, Changes to the Disclosure Requirements for Defined Benefit Plans. G:\FRS\DATA\Stat Acctg\3. National Meetings\A. National Meeting Materials\2019\Spring\Hearing\25 - 18-37 - ASU 2018-14 - Benefit Plan Disclosures.docx




Form A Issue: Prepayments to Service and Claims Adjusting Providers Check (applicable entity): P/C Life Health


Description of Issue: This agenda item seeks to address a regulator inquiry regarding prepayments to providers of claims and adjusting services in which the service provider is prepaid by the insurer. While the initial inquiry for this agenda item was a prepaid roadside assistance provider, the accounting issues are relevant to other providers of claims and adjusting services as well. The prepayments can take a variety of forms and the provider can take on a variety of duties, but in the example provided, the roadside assistance provider was being prepaid a flat fee for a minimum number of vehicles/ policies regardless of claims incurred or sales. The provider additionally received a flat fee per vehicle if actual sales exceed the negotiated minimum number of vehicles. The provider, who is not an insurer, was contracted to provide roadside assistance and administer and settle claims using only the prepaid amounts. So, to use a health care analogy, the provider accepts a “capitated” payment to administer and settle claims. Roadside assistance is a common feature or rider to many automobile insurance policies that has been available for several years. Roadside assistance provides towing and other services such as jumpstarting car batteries, unlocking doors and gas refills for the insured. Discussions with industry representatives indicate that in most cases, roadside assistance providers may have rates that are negotiated, but providers are not typically prepaid. Rather, when the insured calls for assistance negotiated rate providers are dispatched and subsequently paid at negotiated rates as the claims for assistance are incurred. This agenda item is focused on prepayments to providers. To provide a fictional numeric example, the minimum annual payment to the provider was for 50,000 vehicles at $10 per vehicle, with additional payments per vehicle required if sales exceed the initial fees. The provider in this example, was also responsible for administering claims and dispatching service in exchange for the “capitated” fee. Therefore, the roadside assistance provider would not bill the insurer further when claims are incurred. The guidance in SSAP No. 55—Unpaid Claims, Losses and Loss Adjustment Expenses, paragraphs 4 and 5 (excerpted in the Authoritative Literature section) are relevant to the timing of claims recognition and payment of loss adjustment expenses. The guidance provides that claims are recognized when incurred. The existing guidance indicates that paying a third party in advance to adjust claims in the future does not decrease the claims adjustment liability. The claim adjustment liability is only reduced when the claim has been adjusted, not when it is prepaid. In accordance with SSAP No. 64—Offsetting and Netting of Assets and Liabilities, prepayments to a third party do not meet the right of offset requirements. The statutory accounting and reporting questions at issue are how the direct writer accounts for and reports the prepaid claims and adjusting expenses initially and subsequently. The existing guidance notes that claim adjusting expenses are not reduced for payments to third parties. The guidance in SSAP No. 55 indicates liabilities shall be established in an amount necessary to adjust all unpaid claims irrespective of payments to third parties with the exception that the liability is established net of capitated payments to managed care providers. The prepaid



expenses under consideration may include a prepayment for claims administration and or a prepayment for the claims. In reviewing the annual statement instructions for the Underwriting and Expense Exhibit, Part 3, and the related instructions for property and casualty expenses, the initial prepayment to the provider seems be consistent with miscellaneous underwriting expense.

For policies that purchase the coverage and incurred a claim, it seems appropriate to reclassify a proportionate percentage of the initial prepayment to claims incurred and loss adjustment expenses as losses are incurred and adjusted. However, it would be inappropriate to allocate claims expense and claims adjusting expenses to policies that did not purchase the coverage and inappropriate to allocate the costs of the provider to claims or claims adjusting expenses prior to incurring the claims. Therefore, in the event of prepayment to a third-party provider, some of the costs may remain in miscellaneous adjusting expense.

Existing Authoritative Literature:

• SSAP No. 55—Unpaid Claims, Losses and Loss Adjustment Expenses, paragraphs 4 and 5 includes the following:

SUMMARY CONCLUSION

4. Claims, losses, and loss/claim adjustment expenses shall be recognized as expenses when a covered or insured event occurs. In most instances, the covered or insured event is the occurrence of an incident which gives rise to a claim or the incurring of costs. For claims-made type policies, the covered or insured event is the reporting to the entity of the incident that gives rise to a claim. Claim payments and related expense payments are made subsequent to the occurrence of a covered or insured event, and in order to recognize the expense of a covered or insured event that has occurred, it is necessary to establish a liability. Liabilities shall be established for any unpaid claims and unpaid losses (loss reserves), unpaid loss/claim adjustment expenses (loss/claim adjustment expense reserves) and incurred costs, with a corresponding charge to income. Claims related extra contractual obligations losses and bad-faith losses shall be included in losses. See individual business types for the accounting treatment for adjustment expenses related to extra contractual obligations and bad-faith lawsuits.


General 10. The liability for claim reserves and claim liabilities, unpaid losses, and loss/claim adjustment expenses shall be based upon the estimated ultimate cost of settling the claims (including the effects of inflation and other societal and economic factors), using past experience adjusted for current trends, and any other factors that would modify past experience. These liabilities shall not be discounted unless authorized for specific types of claims by specific SSAPs, including SSAP No. 54R and SSAP No. 65—Property and Casualty Contracts.

The guidance in SSAP No. 55, paragraph 5 was incorporated from INT 02-21: Accounting for Prepaid Loss Adjustment Expenses and Claim Adjustment Expenses, which was nullified when the guidance was moved to SSAP No. 55.



• SSAP No. 64—Offsetting and Netting of Assets and Liabilities provides the following: 2. Assets and liabilities shall be offset and reported net only when a valid right of setoff exists except as provided for in paragraphs 3 and 4. A right of setoff is a reporting entity’s legal right, by contract or otherwise, to discharge all or a portion of the debt owed to another party by applying an amount that the other party owes to the reporting entity against the debt(INT 09-08). A valid right of setoff exists only when all the following conditions are met: a. Each of the two parties owes the other determinable amounts. An amount shall be considered

determinable for purposes of this provision when it is reliably estimable by both parties to the agreement;

b. The reporting party has the right to set off the amount owed with the amount owed by the other party;

c. The reporting party intends to setoff; and d. The right of setoff is enforceable at law.

• Property and Casualty Annual Statement Instructions Underwriting and Investment Exhibit Part 3 – Expenses provides the following:

A company that pays any affiliated entity (including a managing general agent) for the management, administration, or service of all or part of its business or operations shall allocate these costs to the appropriate expense classification items (salaries, rent, postage, etc.) as if these costs had been borne directly by the company. Management, administration, or similar fees should not be reported as a one-line expense. The company may estimate these expense allocations based on a formula or other reasonable basis. A company that pays any non-affiliated entity (including a managing general agent) for the management, administration, or service of all or part of its business or operations shall allocate these costs to the appropriate expense classification item as follows:

a. Payments for claims handling or adjustment services are allocated to Loss Adjustment Expenses (Column 1) in the Underwriting and Investment Exhibit, Part 3. If the total of such expenses incurred equals or exceeds 10% of the total incurred Loss Adjustment Expenses (Line 25, Column 1), the company shall allocate these costs to the appropriate expense classification items as if these costs had been borne directly by the company. If such expenses are less than 10% of the total, they may be reported on Line 1 of Column 1.

b. Payments for services other than claims handling or adjustment services are allocated to the

appropriate expense classification items as if these costs had been borne directly by the company, if the total of such fees paid equals or exceeds 10% of the total incurred Other Underwriting Expenses (Line 25, Column 2). If the total is less than 10%, the payments may be reported on Line 2 if the fees are calculated as a percentage of premiums, or on Line 3 if the fees are not calculated as a percentage of premiums.

The total management and service fees incurred attributable to affiliates and non-affiliates is reported in the footnote to the Underwriting and Investment Exhibit, Part 3 of the annual statement, and the method(s) used for allocation shall be disclosed in the Notes to the Financial Statements. The company shall use the same allocation method(s) on a consistent basis. Refer to SSAP No. 70—Allocation of Expenses for accounting guidance. Exclude from investment expenses brokerage and other related fees, to the extent they are included in the actual cost of a bond upon acquisition. Refer to SSAP No. 26R—Bonds for accounting guidance.



Include all other internal costs or costs paid to an affiliated company related to origination, purchase or commitment to purchase bonds. For the purpose of establishing uniformity in classifications of expenses in reporting entities’ statements and reports filed with the Insurance Departments, the company shall observe the instructions contained in the Appendix of these instructions for the Uniform Classification of Expenses. Activity to Details of Write-ins Aggregated at Line 24 for Miscellaneous Expenses

List separately each category of miscellaneous expenses for which there is no pre-printed line on Underwriting and Investment Exhibit, Part 3.

• Property and Casualty Annual Statement Instructions Underwriting Appendix Instructions for Uniform

Classifications of Expenses of Property and Casualty Insurers provides the following:

1.1 Direct Include: The Following Expenses When in Connection with the Investigation and Adjustment of Policy Claims: Independent Adjusters: Fees and expenses of independent adjusters or settling agents Legal: Fees and expenses of lawyers for legal services in the defense, trial, or appeal of suits, or for other legal services Bonds: Premium costs of bonds Appeal Costs and Expenses: Appeal bond premiums, charges for printing records, charges for printing briefs, court fees and incidental to appeals General Court Costs and Fees: Entry fees and other court costs, and other fees not includible in Losses (Note: Interest and costs assessed as part of or subsequent to judgment are includible in Losses.) Medical Testimony: Fees and expenses of medical witnesses of attendance or testimony at trials or hearings (“Medical” includes physicians, surgeons, chiropractors, chiropodists, dentists, osteopaths, veterinarians, and hospital representatives.) Expert Witnesses: Fees and expenses of expert witnesses for attendance or testimony at trials or hearings Lay Witnesses: Fees and expenses of lay witnesses for attendance or testimony at trials or hearings Services of Process: Constables, sheriffs, and other fees and expenses for service of process, including subpoenas Transcripts of Testimony: Stenographers’ fees and fees for transcripts of testimony Medical Examinations: Fees for medical examinations, fees for performing autopsies, fees for impartial examination, x-rays, etc., for the purpose of trial and determining questions of liability (This does not include fees for medical examinations, x-rays, etc., made to determine necessary treatment, or made solely to determine the extent or continuation of disability, or first aid charges, as such fees and charges are includible in Losses.) Miscellaneous: Costs of appraisals, expert examinations, surveys, plans, estimates, photographs, maps, weather reports, detective reports, audits, credit or character reports, watchmen (Charges for hospital records and records of other kinds, notary fees, certified copies of certificates and legal documents, charges for Claim Adjustment Services by underwriting syndicates, pools, and associations)



Exclude: Compensation to employees (see Salaries) Expenses of salaried employees (see Travel and Travel Items) Items includible in Allowances to Managers and Agents Payments to State Industrial Commissions (see Taxes, Licenses, and Fees) Payments to claim adjusting organizations except where the expense is billed specifically to individual companies (see Boards, Bureaus, and Associations) Cost of services of medical examiners for underwriting purposes (see Surveys and Underwriting Reports) Salvage and subrogation recovery expense, rewards, lost and found advertising, expenses for disposal of salvage (Such expenses shall be deducted from salvage.) Any expenses which by these instructions are includible elsewhere Separation of Claim Adjustment Services: The Statistical Plans filed by certain rating bureaus contain definitions of “Allocated Loss Adjustment Expenses” which exclude for rating purposes certain types of claim adjustment services as defined herein. For the lines of business thus affected, companies that are members of such rating bureaus shall maintain records necessary to the reporting of Claim Adjustment Services—Direct, as follows: a. As defined in Statistical Plans b. Other than as defined in Statistical Plans

Date (issues previously addressed by the Working Group, Emerging Accounting Issues (E) Working Group, SEC, FASB, other State Departments of Insurance or other NAIC groups): None. Information or issues (included in Description of Issue) not previously contemplated by the Working Group: June 2017 updates to the AICPA Revenue Recognition Guide noted in Issue #9- 1: Considerations for applying the scope exception in FASB ASC 606-10-15-2 and 606-10-15-4 to Contracts within the Scope of ASC 944 contains some discussion on roadside assistance that is tangential but does not address the prepayments under discussion. The updates were issued in response to questions regarding Accounting Standards Update (ASU) 2016-20: Technical Corrections and Improvements to Topic 606, Revenue from Contracts from Customers. At issue was whether to bifurcate insurance contracts within the scope of Topic 944, Financial Services— Insurance that contain noninsurance elements and account for them within the scope of Topic 606, Revenue from Contracts from Customers. Roadside assistance provided with an automobile insurance policy was listed as an example of activities performed by an insurance entity, included in contracts within the scope of FASB Topic 944, that Financial Reporting Executive Committee (FinREC) believes generally should be considered fulfillment activities (that either mitigate risks to the insurer or contain costs related to services to fulfill the insurer’s obligation) that are not within the scope of FASB Topic 606, but should be considered part of the insurance contract within the scope of FASB Topic 944. Roadside assistance was noted as mitigating the risk of a further accident or damage to the insured automobile.

Convergence with International Financial Reporting Standards (IFRS): During the development of IFRS 17, Insurance Contracts, the International Accounting Standards Board (IASB) had discussions regarding classification for the revenue which are not on point to roadside assistance prepayments. Similar to the AICPA issue noted above, the issue was whether roadside assistance sold as part of an insurance policy should be included within the scope of insurance contracts or whether it should be accounted for separately as fee for



service. The IFRS 17 issued in May 2017 notes that some fixed-fee service contracts meet the definition of an insurance contract (for example, automobile roadside assistance) and IFRS 17 provides an option to use IFRS 15, Revenue from Contracts with Customers to account for as fee for service. Staff Review Completed by: Robin Marcotte NAIC Staff September 2018 Staff Recommendation: NAIC Staff recommends that the Working Group move this item to the active listing, categorized as nonsubstantive and expose revisions to SSAP No. 55 to provide guidance as follows: 1. The initial prepayment for providers of claims adjusting expense and claim payment is recognized as a

miscellaneous underwriting expense.

2. Subsequently, for direct policies that purchased the related insurance coverage which used the claims or adjusting services incur losses which are paid, a proportionate percentage of the initial provider prepayment amounts are reclassified from miscellaneous underwriting expense to claims adjustment expense and or claims expense, as applicable

3. To the extent that additional amounts are prepaid for direct policies that did not purchase services, the prepaid expenses shall remain in miscellaneous underwriting expenses.

Note that NAIC staff envisions that additional annual statement instruction clarifications may be indicated after the Working Group finalizes guidance. Proposed revisions to SSAP No. 55 recommended for November 2018 exposure:

4. Claims, losses, and loss/claim adjustment expenses shall be recognized as expenses when a covered or insured event occurs. In most instances, the covered or insured event is the occurrence of an incident which gives rise to a claim or the incurring of costs. For claims-made type policies, the covered or insured event is the reporting to the entity of the incident that gives rise to a claim. Claim payments and related expense payments are made subsequent to the occurrence of a covered or insured event, and in order to recognize the expense of a covered or insured event that has occurred, it is necessary to establish a liability. Liabilities shall be established for any unpaid claims and unpaid losses (loss reserves), unpaid loss/claim adjustment expenses (loss/claim adjustment expense reserves) and incurred costs, with a corresponding charge to income.

a. Prepayments to third party administrators, management companies or other entities for unpaid losses/claims, except for capitated payments for manage care contracts, shall not reduce losses/claims and shall be initially reported as miscellaneous underwriting expenses. When incurred losses/claims are paid, claims prepayments to third party administrators, management companies or other entities (except for capitated payments for manage care contracts) are reclassified proportionately based on the losses/claims cost from miscellaneous underwriting expenses to loss/claim expenses paid. Flat fee minimum prepayments to third party administrators or management companies or other entities that do not relate to services or adjusting for the underlying direct policy benefits are reported as miscellaneous underwriting expenses and not reclassified to loss/claim adjusting expenses.



b. Claims related extra contractual obligations losses and bad-faith losses shall be included in losses. See individual business types for the accounting treatment for adjustment expenses related to extra contractual obligations and bad-faith lawsuits.


a. Prepayments to third party administrators, management companies or other entities, except for capitated payments for manage care contracts, for unpaid losses/ claims adjusting expenses shall be initially reported as miscellaneous underwriting expenses.

b. When incurred losses/claims adjusting expenses are paid, prepayments to third party administrators, management companies or other entities (except for capitated payments for manage care contracts) are reclassified proportionately based on the adjusting expenses from miscellaneous underwriting expenses to paid loss /claim adjusting expenses. Flat fee minimum prepayments to third party administrators or management companies or other entities that do not relate to services or adjusting for the underlying direct policy benefits are reported as miscellaneous underwriting expenses and not reclassified to loss/claim adjusting expenses.

Status: On November 15, 2018, the Statutory Accounting Principles (E) Working Group moved this item to the active listing, categorized as nonsubstantive, and exposed revisions to SSAP No. 55—Unpaid Claims, Losses and Loss Adjustment Expenses, as shown above, to provide guidance clarifying that prepayments to providers of claims and adjusting services shall be recognized as miscellaneous underwriting expenses, with guidance for reclassification as claims adjustment expense or claims expense, as applicable, as claims are paid. During the November 2018 Working Group discussion, it was highlighted that the proposed treatment is different than recognizing a nonadmitted prepaid asset, as the amounts are not expected to be material. Comments were requested on this difference and if the amounts are expected to be material. For Spring 2019 National Meeting discussion: NAIC staff recommends re-exposure of modified proposed language which was developed with interested parties input as illustrated below and in the agenda item. The interested parties responded to the request for comments and noted a preference to “nonadmit a prepaid asset” for prepaid loss and LAE, which is consistent with existing guidance, instead of the to the previously exposed “expense and reclassify as amounts are paid” approach. NAIC staff has proposed a modification to the interested parties’ proposed language to exclude the reference to SSAP No. 84—Health Care and Government Insured Plan Receivables which is not currently referenced in SSAP No. 55. In addition, NAIC staff has recommended guidance regarding flat fee bundled payments which indicates nonadmission of prepaid amounts and allocation to expense categories as benefits or services are rendered. Proposed paragraph 4a and b of SSAP No. 55:

4. Claims, losses, and loss/claim adjustment expenses shall be recognized as expenses when a covered or insured event occurs. In most instances, the covered or insured event is the occurrence of an incident which gives rise to a claim or the incurring of costs. For claims-made type policies, the covered or insured event is the reporting to the entity of the incident that gives rise to a claim. Claim payments and



related expense payments are made subsequent to the occurrence of a covered or insured event, and in order to recognize the expense of a covered or insured event that has occurred, it is necessary to establish a liability. Liabilities shall be established for any unpaid claims and unpaid losses (loss reserves), unpaid loss/claim adjustment expenses (loss/claim adjustment expense reserves) and incurred costs, with a corresponding charge to income.

a. All prepayments (i.e., variable, fixed or bundled amounts) to third party administrators, management companies or other entities for unpaid claims, losses and losses/claims adjustment expenses, except for capitated payments for manage care contracts, shall not reduce losses/claims and shall be initially reported as a prepaid asset and nonadmitted in accordance with SSAP No. 29—Prepaid Expenses. When the benefit has been provided to the policyholder or claimant, the claims prepayments to third party administrators, management companies or other entities (except for capitated payments for manage care contracts), are reclassified proportionately from the prepaid nonadmitted asset to claims, losses or loss/claim expenses paid based on the amount of losses/claims cost incurred to provide the benefit.

b. Prepayments to third party administrators or management companies or other entities

that do not relate to services or adjusting for the underlying direct policy benefits are reported as miscellaneous underwriting expenses.

c. Claims related extra contractual obligations losses and bad-faith losses shall be included

in losses. See individual business types for the accounting treatment for adjustment expenses related to extra contractual obligations and bad-faith lawsuits.

Proposed paragraph 5a of SSAP No. 55:


a. When the prepaid benefit as described in paragraph 4 has been provided to the policyholder or the claimant, the associated prepayments to third party administrators, management companies or other entities (except for capitated payments for manage care contracts) are reclassified proportionately from the prepaid nonadmitted asset to paid loss /claim adjusting expenses based on the amount of losses/claims cost incurred to provide the benefit. Prepayments to third party administrators or management companies or other entities that do not relate to services or adjusting for the underlying direct policy benefits are reported as miscellaneous underwriting expenses.

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Form A

Issue: Interest on Claims Check (applicable entity): P/C Life Health


Description of Issue: This agenda item seeks to clarify the reporting of interest payable on claims. Most states and jurisdictions have a law regarding prompt payment of claims, particularly for accident and health policies. These laws are to encourage the payment of claims in a timely manner and ensure that if the claims are not paid in a timely manner, the claimant is made whole for the delay in payment. Although there are variations in legal details, the laws typically require payment of “clean claims” within a specified number of days, (examples 30-60 days) and require the payment of interest to the claimant/ provider etc., if the claim is not paid with the specified required time. The rate of interest varies by jurisdiction, as does the frequency of how often the interest rate changes. A “clean claim” is typically a claim not in dispute for which sufficient documentation is provided. In addition, federal health programs such as Medicare and Medicaid also have requirements for the payment of interest on overdue claims. The accounting issue is providing explicit guidance regarding the reporting of the interest expense paid on overdue claims. NAIC has received questions noting a diversity in practice on the reporting of this expense. Some industry representatives advocated for the expense to be reported as part of the claim. However, as the expense is avoidable if the claim is paid promptly, NAIC staff does not advocate for interest expense to be part of a claim. Rather for accident and health policies in particular, the interest expense is a consequence of the reporting entity’s operating activities as opposed to the actual claim. From a review of SSAP No. 55, interest required by prompt payment laws and other similar requirements seems to be a cost of not adjusting the claim in a timely manner and would therefore, fit the description of claims adjusting expenses. Because this cost does not fit the definition of defense or cost containment adjustment expense, it would next default to the claims adjusting expense subcategory of adjusting and other. However, in some instances, the payment of interest on claims seems to be a regulatory penalty which should be reported as fines and penalties of regulatory authorities. Therefore, NAIC staff identifies that the primary choices for reporting interest on claims expenses are loss or claims adjusting expense, subcategory adjusting and other or regulatory penalties and fines. NAIC staff’s informal discussions have suggested several ways of determining if the interest paid on a claim is a regulatory penalty. Some people suggested basing the determination on whether the amount paid was required by law and or based on a regulatory finding or violation. This approach seeded to be problematic, as prompt payment requirements can require automatic payment of interest in compliance with the law. Additionally, is it also possible for there to be a regulatory penalty for entities which have not paid the required interest in “violation” of a law or regulation etc. This second situation may result in interest payments to insureds and fines or regulatory penalties paid to the regulatory agency. After discussion, staff recommends making the determination based on the party that receives the interest as follows:

a. interest paid to claimants are reported as claims adjusting expense, adjusting and other. b. interest paid to regulatory authorities are reported as a regulatory penalties and fines

Existing Authoritative Literature: SSAP No. 55—Unpaid Claims, Losses and Loss Adjustment Expenses



Life, Accident and Health 7. The following future costs relating to life and accident and health indemnity contracts, as defined in SSAP No. 50, shall be considered in determining the liability for unpaid claims and claim adjustment expenses:

a. Accident and Health Claim Reserves: Reserves for claims that involve a continuing loss. This reserve is a measure of the future benefits or amounts not yet due as of the statement date which are expected to arise under claims which have been incurred as of the statement date. This shall include the amount of claim payments that are not yet due such as those amounts commonly referred to as disabled life reserves for accident and health claims. The methodology used to establish claim reserves is discussed in SSAP No. 54R.

b. Claim Liabilities for Life/Accident and Health Contracts:

i. Due and Unpaid Claims: Claims for which payments are due as of the statement date;

ii. Resisted Claims in Course of Settlement: Liability for claims that are in dispute and are unresolved on the statement date. The liability either may be the full amount of the submitted claim or a percentage of the claim based on the reporting entity's past experience with similar resisted claims;

iii. Other Claims in the Course of Settlement: Liability for claims that have been reported but the reporting entity has not received all of the required information or processing has not otherwise been completed as of the statement date;

iv. Incurred But Not Reported Claims: Liability for which a covered event has occurred (such as death, accident, or illness) but has not been reported to the reporting entity as of the statement date.

c. Claim Adjustment Expenses for Accident and Health Reporting Entities are those costs expected to be incurred in connection with the adjustment and recording of accident and health claims defined in paragraphs 7.a. and 7.b. Certain claim adjustment expenses reduce the number or cost of health services thereby resulting in lower premiums or lower premium increases. These claim adjustment expenses shall be classified as cost containment expenses.

d. Claim Adjustment Expenses for Life Reporting Entities: Costs expected to be incurred (including legal and investigation) in connection with the adjustment and recording of life claims defined in paragraph 7.b. This would include adjustment expenses arising from claims-related lawsuits such as extra contractual obligations and bad-faith lawsuits.

Managed Care

8. The following costs relating to managed care contracts as defined in SSAP No. 50 shall be considered in determining the claims unpaid and claims adjustment expenses:

a. Claims unpaid for Managed Care Reporting Entities:

i. Unpaid amounts for costs incurred in providing care to a subscriber, member or policyholder including inpatient claims, physician claims, referral claims, other medical claims, resisted claims in the course of settlement and other claims in the course of settlement;

ii. Incurred But Not Reported Claims: Liability for which a covered event has occurred (such as an accident, illness or other service) but has not been reported to the reporting entity as of the statement date;



iii. Additional unpaid medical costs resulting from failed contractors under capitation contracts and provision for losses incurred by contractors deemed to be related parties for which it is probable that the reporting entity will be required to provide funding;

b. Claim Adjustment Expenses for Managed Care Reporting Entities are those costs expected to be incurred in connection with the adjustment and recording of managed care claims defined in paragraph 8.a. Certain claim adjustment expenses reduce the number or cost of health services thereby resulting in lower premiums or lower premium increases. These claim adjustment expenses shall be classified as cost containment expenses.

c. Liabilities for percentage withholds ("withholds") from payments made to contracted providers;

d. Liabilities for accrued medical incentives under contractual arrangements with providers and other risk-sharing arrangements whereby the health entity agrees to share savings with contracted providers.

Managed Care and Accident and Health

9. Claim adjustment expenses for accident and health contracts and managed care contracts (identified in paragraphs 7.c. and 8.b.), including legal expenses, can be subdivided into cost containment expenses and other claim adjustment expenses:

a. Cost containment expenses: Expenses that actually serve to reduce the number of health services provided or the cost of such services. The following are examples of items that shall be considered "cost containment expenses" only if they result in reduced levels of costs or services:

i. Case management activities;

ii. Utilization review;

iii. Detection and prevention of payment for fraudulent requests for reimbursement;

iv. Network access fees to Preferred Provider Organizations and other network-based health plans (including prescription drug networks), and allocated internal salaries and related costs associated with network development and/or provider contracting;

v. Consumer education solely relating to health improvement and relying on the direct involvement of health personnel (this would include smoking cessation and disease management programs, and other programs that involve hands on medical education); and

vi. Expenses for internal and external appeals processes.

b. Other claim adjustment expenses: Claim adjustment expenses as defined in paragraph 7.c. or 8.b. that are not cost containment expenses. Examples of other claim adjustment expenses are:

i. Estimating the amounts of losses and disbursing loss payments;

ii. Maintaining records, general clerical, and secretarial;

iii. Office maintenance, occupancy costs, utilities, and computer maintenance;

iv. Supervisory and executive duties; and



v. Supplies and postage.

vi. This would include adjustment expenses arising from claims-related lawsuits such as extra contractual obligations and bad-faith lawsuits.

Property and Casualty Annual Statement Instructions for the Statement of Income provides the following (bolding added for emphasis):

Details of Write-ins Aggregated at Line 14 for Miscellaneous Income Include: Miscellaneous items, such as:

Income on annuities purchased to fund future payments. The income from annuities is the amount received on annuities purchased to fund future payments less the change in the value (i.e., present value) of these annuities. Premiums for life insurance on employees (less $__________ increase in cash values). NOTE: Use this item only where the company is beneficiary. Receipts from Schedule BA assets, other than interest, dividends and real estate income, and other than capital gains on investments. Other sundry receipts and adjustments not reported elsewhere. Fines and penalties of regulatory authorities should be shown as a separate item. Gain or loss from initial retroactive reinsurance and any subsequent change in the initial incurred loss and loss adjustment expense reserves transferred. As an expense, interest due or payable to assuming reinsurers on funds held by the reporting entity. As an offset to expense, interest due from ceding reinsurers on funds held by the ceding company on behalf of the reporting entity. Net realized foreign exchange capital gains and losses not related to investments. Refer to SSAP No. 23—Foreign Currency Transactions and Translations for accounting guidance. Gains/losses on fixed assets.

Exclude: Investment foreign exchange gains/ (losses).

Life Accident and Health Annual Statement Instructions for the Summary of Operations provides the following (bolding added for emphasis):

Details of Write-ins Aggregated at Line 27 for Deductions List separately each category of deductions for which there is no pre-printed line on Page 4. Report the amount from the Form For Calculating the Interest Maintenance Reserve, Line 3. Include:

Fines and penalties of all regulatory authorities (not just the insurance regulatory authority) that should be shown here as a separate item. As an expense, interest due or payable to assuming reinsurers on funds held by the reporting entity. Reserve adjustment on modified coinsurance assumed.

Exclude: Expenses to be recorded on a specific line on Exhibit 2, or on Exhibit 2,

Line 9.3, Aggregate Write-ins for Expenses, e.g., general insurance expenses and other expenses.

Health Annual Statement Instructions for the Statement of Revenue and Expenses provides the following (bolding added for emphasis):

Details of Write-ins Aggregated at Line 29 for Other Income or Expenses Include:



As income, interest due from ceding reinsurers on funds held by the ceding company on behalf of the reporting entity (assuming entity). As an offset to expense, interest due from ceding reinsurers on funds held by the ceding company on behalf of the reporting entity. Income or expense items not covered in any other account. Net realized foreign exchange capital gains and losses not related to investments. Refer to SSAP No. 23—Foreign Currency Transactions and Translations for accounting guidance. Fines and penalties of regulatory authorities.

Activity to Date (issues previously addressed by the Working Group, Emerging Accounting Issues (E) Working Group, SEC, FASB, other State Departments of Insurance or other NAIC groups): None Information or issues (included in Description of Issue) not previously contemplated by the Working Group:

• An internet search provided a listing of prompt payment laws for accident and health policies at the following link (NAIC staff did not verify the legal references): http://www.tlrfoundation.com/sites/default/files/pdf/TLR_Prompt_Pay_Statutes_Appendix_A_V01.pdf

• Some of the concepts in the prompt payment laws relate to NAIC Model 180-Uniform Individual Accident and Sickness Policy Provision Law (UPPL) (#180).

Convergence with International Financial Reporting Standards (IFRS): Not applicable. Staff Review Completed by: Robin Marcotte NAIC Staff October 2018 Staff Recommendation: NAIC Staff recommends that the Working Group move this item to the active listing, categorized as nonsubstantive and:

1. Expose revisions to SSAP No. 55 to clarify the reporting of interest on accident and health claims;

2. Notify the Health Actuarial (B) Task Force of the exposure;

3. Request comments on other lines of business for subsequent revisions. For life products, such elements are expected to be considered claims, whereas for property and casualty products the guidance is expected to have similar treatment for health products. Comments are requested on whether these allocations would be considered appropriate; and

4. Request comments on the effective date.

Proposed revisions to SSAP No.55

Managed Care and Accident and Health

9. Claim adjustment expenses for accident and health contracts and managed care contracts (identified in paragraphs 7.c. and 8.b.), including legal expenses, can be subdivided into cost containment expenses and other claim adjustment expenses:

http://www.tlrfoundation.com/sites/default/files/pdf/TLR_Prompt_Pay_Statutes_Appendix_A_V01.pdf

https://www.naic.org/store/free/MDL-180.pdf?23

https://www.naic.org/store/free/MDL-180.pdf?23



a. Cost containment expenses: Expenses that actually serve to reduce the number of health services provided or the cost of such services. The following are examples of items that shall be considered "cost containment expenses" only if they result in reduced levels of costs or services:

i. Case management activities;

ii. Utilization review;

iii. Detection and prevention of payment for fraudulent requests for reimbursement;

iv. Network access fees to Preferred Provider Organizations and other network-based health plans (including prescription drug networks), and allocated internal salaries and related costs associated with network development and/or provider contracting;

v. Consumer education solely relating to health improvement and relying on the direct involvement of health personnel (this would include smoking cessation and disease management programs, and other programs that involve hands on medical education); and

vi. Expenses for internal and external appeals processes.

b. Other claim adjustment expenses: Claim adjustment expenses as defined in paragraph 7.c. or 8.b. that are not cost containment expenses. Examples of other claim adjustment expenses are:

i. Estimating the amounts of losses and disbursing loss payments;

ii. Maintaining records, general clerical, and secretarial;

iii. Office maintenance, occupancy costs, utilities, and computer maintenance;

iv. Supervisory and executive duties; and

v. Supplies and postage.

vi. This would include adjustment expenses arising from claims-related lawsuits such as extra contractual obligations and bad-faith lawsuits.

vii. Interest paid in accordance with prompt payment laws or regulations to claimants. (Interest paid to regulatory authorities is reported as regulatory fines and fees.)

Status: On November 15, 2018, the Statutory Accounting Principles (E) Working Group moved this item to the active listing, categorized as nonsubstantive, and exposed revisions to SSAP No. 55—Unpaid Claims, Losses and Loss Adjustment Expenses, as shown above, to clarify that interest paid on accident and health claims shall be reported as other claims adjustment expense. Comments are requested on the effective date and reporting for other lines of business based on the tentative notes in the staff recommendation above. The Working Group directed that the Health Actuarial (B) Task Force be notified of the exposure.

For Spring 2019 discussion: NAIC staff recommends adoption of the exposed nonsubstantive revision, with the addition of the January 1, 2020 effective date requested by interested parties. The effective date language would result in the following revisions to SSAP No. 55, paragraph 22:



22. This statement is effective for years beginning January 1, 2001. A change resulting from the adoption of this statement shall be accounted for as a change in accounting principle in accordance with SSAP No. 3. Guidance reflected in paragraphs 7.c., 8.b. and 9, incorporated from SSAP No. 85, is effective for years ending on and after December 31, 2003. The guidance incorporated into paragraphs 1, 3, 6.c.ii., 7.d. and 9.b.vi. was originally included in INT 03-17: Classification of Liabilities from Extra Contractual Obligation Lawsuits, and was initially effective March 10, 2004. The guidance in paragraph 5 was previously included in INT 02-21: Accounting for Prepaid Loss Adjustment Expenses and Claim Adjustment Expenses effective for reporting periods ending on or after December 31, 2002, for all contracts except for capitated managed care contracts and December 31, 2006, for capitated managed care contracts. The guidance in paragraph 12 related to conservatism and adverse deviation was originally contained in INT 01-28: Margin for Adverse Deviation in Claim Reserve and was effective October 16, 2001. The guidance in paragraph 14 related to coordination of benefits was originally contained within INT 00-31: Application of SSAP No. 55 Paragraph 12 to Health Entities and was effective December 4, 2000. The guidance reflected in footnote 1, incorporated from INT 06-14: Reporting of Litigation Costs Incurred for Lines of Business in which Legal Expenses Are the Only Insured Peril, was effective June 2, 2007. The guidance in paragraph 9.b.vii., regarding interest on managed care and accident and health claims, is effective January 1, 2020 and shall be applied prospectively.

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Form A

Issue: Regulatory Transactions – Referral from Reinsurance (E) Task Force Check (applicable entity): P/C Life Health


Description of Issue: This agenda item has been drafted in response to a referral from the Reinsurance (E) Task Force / Reinsurance Investment Security (E) Subgroup after reviewing whether a security meets the criteria of a “listed security” and/or a “regulatory transaction” under the provisions of the Purposes and Procedures Manual of the NAIC Investment Analysis Office (P&P Manual). As detailed within the referral, if an item is considered a regulatory transaction, there is no specific statutory accounting or reporting guidance. As these items are not supposed to be reported as FE, and as they are not captured in the NAIC designation process, insurance reporting entities do not have reporting guidance for these items. This referral requests the Working Group to consider whether an “investment” involved in regulatory transactions should be considered a nonadmitted asset, unless approved for admittance by the domiciliary state regulatory as a permitted or prescribed practice, and/or whether there should be specific measurement provisions or disclosure requirements for these items. As detailed in the referral, a standard investment that an insurance company obtains, with the intent to receive yield / profit in order to back insurance operations and policyholder claims is considered an “investment security.” Under the provisions of the P&P Manual, “investment securities” are required to be filed with the NAIC SVO for an NAIC designation (unless considered filing exempt). If the item is acquired as part of a transaction that requires state review and approval, then the item is considered part of a regulatory transaction and is excluded from the investment security determination. Although NAIC designations do not determine the appropriate SSAP or reporting schedule, NAIC designations often impact the measurement method and/or related risk-based capital charges for reported investments. Without clear instruction on how to report “investments” acquired that are part of regulatory transactions, and as NAIC designation information is required in most investment reporting schedules, insurance reporting entities are left either using the CRP/filing exempt rating (which is contrary to the P&P Manual), or identifying the item as 5*/6* (which may be misleading as to the nature of the item). Although the Subgroup does not believe regulatory transactions are utilized by many insurers, the Subgroup concluded that appropriate identification in the financial statements (to distinguish from “investment securities”) when they are present would be extremely beneficial to the regulators. Since these items are acquired as part of other agreements that require state review and approval, the Subgroup recognized that other factors may impact the insurance reporting entities’ decision to continue holding the investment and/or liquidate the item that differ from standard “investment securities.” As such, regardless of the measurement method permitted in the SSAP to which the item may be in scope, the Subgroup suggests consideration of nonadmittance unless the state regulator explicitly approves admittance as a permitted or prescribed practice. The Subgroup recognized that the definition of a regulatory transaction is somewhat open to interpretation in the P&P Manual. In addition to the referral to the Working Group, the Subgroup is also providing a referral to the Valuation of Securities (E) Task Force to incorporate more information / characteristics of what should be considered a regulatory transaction. As the definition is specific to state regulator review, ultimately determining whether an item is a regulatory transaction, and not an “investment security” would be subject to the state domiciliary regulator.



Existing Authoritative Literature: SSAP No. 4—Assets and Nonadmitted Assets provides the following guidance:

2. For purposes of statutory accounting, an asset shall be defined as: probable1 future economic benefits obtained or controlled by a particular entity as a result of past transactions or events. An asset has three essential characteristics: (a) it embodies a probable future benefit that involves a capacity, singly or in combination with other assets, to contribute directly or indirectly to future net cash inflows, (b) a particular entity can obtain the benefit and control others’ access to it2, and (c) the transaction or other event giving rise to the entity’s right to or control of the benefit has already occurred. These assets shall then be evaluated to determine whether they are admitted. The criteria used is outlined in paragraph 3.

3. As stated in the Statement of Concepts, "The ability to meet policyholder obligations is predicated on the existence of readily marketable assets available when both current and future obligations are due. Assets having economic value other than those which can be used to fulfill policyholder obligations, or those assets which are unavailable due to encumbrances or other third party interests should not be recognized on the balance sheet," and are, therefore, considered nonadmitted. For purposes of statutory accounting principles, a nonadmitted asset shall be defined as an asset meeting the criteria in paragraph 2, which is accorded limited or no value in statutory reporting, and is one which is:

a Specifically identified within the Accounting Practices and Procedures Manual as a nonadmitted asset; or

b Not specifically identified as an admitted asset within the Accounting Practices and Procedures Manual.

If an asset meets one of these criteria, the asset shall be reported as a nonadmitted asset and charged against surplus unless otherwise specifically addressed within the Accounting Practices and Procedures Manual. The asset shall be depreciated or amortized against net income as the estimated economic benefit expires. In accordance with the reporting entity's written capitalization policy, amounts less than a predefined threshold of furniture, fixtures, equipment, or supplies, shall be expensed when purchased. 4. Transactions which do not give rise to assets as defined in paragraph 2 shall be charged to operations in the period the transactions occur. Those transactions which result in amounts which may meet the definition of assets, but are specifically identified within the Accounting Practices and Procedures Manual as not giving rise to assets (e.g., policy acquisition costs), shall also be charged to operations in the period the transactions occur.

5. The reporting entity shall maintain a capitalization policy containing the predefined thresholds for each asset class to be made available for the department(s) of insurance.

Assets Pledged as Collateral or Otherwise Restricted 6. Assets that are pledged to others as collateral or otherwise restricted (not under the exclusive control of the insurer, subject to a put option contract, etc.) shall be identified in the investment schedules pursuant to the codes in the annual statement instructions, disclosed in accordance with SSAP No. 1—

1 FASB Statement of Financial Accounting Concepts No. 6, Elements of Financial Statements, states:

Probable is used with its usual general meaning, rather than in a specific accounting or technical sense (such as that in FASB Statement No. 5, Accounting for Contingencies, paragraph 3), and refers to that which can reasonably be expected or believed on the basis of available evidence or logic but is neither certain nor proved. 2 If assets of an insurance entity are pledged or otherwise restricted by the action of a related party, the assets are not under the exclusive control of the insurance entity and are not available to satisfy policyholder obligations due to these encumbrances or other third party interests. Thus, pursuant to paragraph 2(c), such assets shall not be recognized as an admitted asset on the balance sheet. Additional guidance for assets pledged as collateral is included in INT 01-31.



Accounting Policies, Risks & Uncertainties, and Other Disclosures (SSAP No. 1), reported in the general interrogatories, and included in any other statutory schedules or disclosure requirements requesting information for assets pledged as collateral or otherwise restricted. Restricted assets should be reviewed to determine admitted or nonadmitted assets status in the statutory financial statements per the terms of their respective SSAPs. Asset restrictions may be a factor in determining the admissibility of an asset under a respective SSAP3. However, determining that a restricted asset is an admitted asset does not eliminate the statutory requirements to document and identify the asset as one that is pledged as collateral or otherwise restricted.

7. Assets pledged as collateral are one example of assets that are not under the exclusive control of the insurer, and are therefore restricted, even if the assets are admitted under statutory accounting guidelines (e.g., the asset is substitutable and/or other related SSAP conditions are met). As such, the asset shall be coded as pledged in the investment schedules pursuant to the annual statement instructions, disclosed in accordance with SSAP No. 1, reported in the general interrogatories, and included in any other statutory schedules or disclosure requirements requesting information for assets pledged as collateral or otherwise restricted.

8. The financial statements shall disclose if the written capitalization policy and the resultant predefined thresholds changed from the prior period and the reason(s) for such change.

The referral provided the following definitions from the Purposes and Procedures Manual: Investment Security: Part Two, Section 2 (a):

An Investment Security means an instrument evidencing a lending transaction between an insurance company as lender and a non-affiliated borrower, where the borrower’s sole motivation is to borrow money and the insurance company’s sole motivation is to make a profit on the loan that the state of domicile regulates by reference to the NAIC Financial Conditions Framework. The SVO shall have no authority to issue NAIC Designations or any other NAIC analytical product to an insurance company for a Regulatory Transaction under this Section 2 (a).

Regulatory Transaction: Part Three, Section 2 (e) Regulatory Transaction means a security or other instrument in a transaction submitted to one or more state insurance departments for review and approval under the regulatory framework of the state or states.

SVO Listing of Securities: Part One, Section 3:

A filing exempt (FE) security is an Investment Security, as defined in Part Two, Section 2 (a) of this Manual, that is exempt from filing with the SVO, as otherwise required by Part Two, Section 2 (a) of this Manual, pursuant to the filing exemption in Part Two, Section 4 (d) of this Manual. Insurance companies derive NAIC Designations for FE securities by applying the conversion instructions in Part Two, Section 4(d) (i) (A) and (B) of this Manual and the equivalency relationships disclosed in Section 7(d) (ii). NAIC Designations assigned to FE securities are reported by the insurance company to the NAIC and subsequently added by NAIC staff to the FE Data File. Insurance companies shall not report Regulatory Transactions, defined in Part Three, Section 2 (e) of this Manual, as FE securities, and the NAIC staff shall not add a Regulatory Transaction to the FE Data File.

Activity to Date (issues previously addressed by the Working Group, Emerging Accounting Issues (E) Working Group, SEC, FASB, other State Departments of Insurance or other NAIC groups): None. Information or issues (included in Description of Issue) not previously contemplated by the Working Group: None. 3 An example of such a situation is detailed in footnote 2 pertaining to assets restricted by the action of a related party. This is only a single example and each restricted asset would need to be reviewed to ensure it qualifies as an admitted asset.



Convergence with International Financial Reporting Standards (IFRS): N/A. Staff Recommendation: Staff recommends that the Working Group move this item to the active listing, categorized as nonsubstantive and expose revisions to SSAP No. 4 to clarify that items acquired as part of regulatory transactions, which meet the definition of an asset, shall only be admitted with the approval of the domestic state insurance department and such admission is subject to disclosure in Annual Statement Note 1 as a prescribed or permitted practice. NAIC staff also recommends that regulatory transactions be identified with a new administrative symbol (RT) in the investment schedules. NAIC staff notes that under the existing reporting guidelines, these items are not to be shown as FE, they will not receive NAIC designations, and there is no existing reporting code to identify these items. As the “NAIC designation” column is a required column in several investment schedules, without a specific administrative symbol, entities end up using an inappropriate reporting code. Once adopted, a referral will be sent to the Blanks (E) Working Group and the Valuation of Securities (E) Task Force to incorporate this new administrative symbol for reporting purposes. NAIC staff requests comments on the appropriate reporting schedule, and whether all “regulatory transactions” shall be reported on BA, regardless of the underlying structure of the item. Proposed Revisions to SSAP No. 4: (New paragraph 8 – all other paragraphs renumbered)

8. Assets identified to be part of “regulatory transactions,” as determined pursuant to the Purposes and Procedures Manual of the NAIC Investment Analysis Office, shall follow the statutory accounting guidance for the type of asset, but shall be admitted only to the extent the regulatory transaction has been approved for admittance by the state domiciliary regulator. Regulatory transactions admitted with state regulator approval are considered permitted or prescribed practices subjected to disclosure in Annual Statement Note 1 as required by SSAP No. 1—Accounting Policies, Risks & Uncertainties, and Other Disclosures.

Staff Review Completed by: Julie Gann – NAIC Staff, January 2018 Status: On March 24, 2018, the Statutory Accounting Principles (E) Working Group moved this agenda item to the active listing, categorized as nonsubstantive, and exposed proposed revisions to SSAP No. 4—Assets and Nonadmitted Assets to indicate that items acquired as part of “regulatory transactions,” as defined in the Purposes and Procedures Manual of the Investment Analysis Office, that meet the definition of an asset shall only be admitted with approval of the domestic state insurance department as a prescribed or permitted practice. It also identifies that regulatory transactions shall also be identified with a new administrative symbol (RT) in the investment schedules. The exposure requests comments on whether all “regulatory transactions” shall be reported on Schedule BA – Other Long Term Invested Assets. On August 4, 2018, the Statutory Accounting Principles (E) Working Group exposed revisions to SSAP No. 4—Assets and Nonadmitted Assets, modified from the prior exposure as shown below, to identify that items reported as invested assets acquired as part of “regulatory transactions” as defined in the Purposes and Procedures Manual of the NAIC Investment Analysis Office (P&P Manual), that meet the definition of an asset, shall only be admitted with approval of the domestic state insurance department as a permitted or prescribed practice.

August 4, 2018 – Exposed Revisions to SSAP No. 4: (Shading highlights changes from prior exposure)

8. Items reported as invested assets identified to be part of “regulatory transactionsFN,” as determined pursuant to the Purposes and Procedures Manual of the NAIC Investment Analysis Office,



shall follow the statutory accounting guidance for the type of asset, but shall be admitted only to the extent the regulatory transaction has been approved for admittance by the state domiciliary regulator. Regulatory transactions Such assets admitted with state regulator approval are considered permitted or prescribed practices and shall be disclosed subject to disclosure in Annual Statement Note 1 as required by SSAP No. 1—Accounting Policies, Risks & Uncertainties, and Other Disclosures.

New Footnote: Pursuant to the Purposes and Procedures manual, regulatory transactions are not permitted to be reported with an NAIC designation or as filing exempt.

G:\FRS\DATA\Stat Acctg\3. National Meetings\A. National Meeting Materials\2019\Spring\Hearing\28 - 18-06 - RISS Regulatory Transactions.docx


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Statutory Accounting Principles (E) Working Group 2018 Fall National Meeting Comment Letters Received

TABLE OF CONTENTS

COMMENTER / DOCUMENT PAGE REFERENCE

Comment Letters Received for Items Exposed 2018 Fall National Meeting / Early 2019

Interested Parties – February 15, 2019 o Ref #2019-01: INT 19-01: Extension of Ninety-Day Rule Interpretation o Ref #2018-18: Structured Notes o Ref #2018-22: Participation Agreement in a Mortgage Loan o Ref #2018-26: SCA Loss Tracking o Ref #2018-32: SSAP No. 26R – Prepayment Penalties o Ref #2018-30: SSAP No. 30R – Pledges to FHLBs o Ref #2018-34: SSAP No. 30R – Foreign Mutual Funds o Ref #2018-35: ASU 2018-07 – Nonemployee Share-Based Payments o Ref #2018-36: ASU 2018-13 – Disclosures for Fair Value Measurement o Ref #2018-37: ASU 2018-14 – Disclosures for Defined Benefit Plans o Ref #2018-38: Prepayments to Service and Claims Adjusting Providers o Ref #2018-39: Interest on Claims o Ref #2018-40: ASU 2018-15 – Cloud Computing Service Contracts o Ref #2018-41: ASU 2017-13 – Amendments to SEC Paragraphs o Ref #2018-42: ASU 2018-02 – Reclassification of Certain Tax Effects o Ref #2018-43: ASU 2018-04 – Debt Securities and Regulated Operations o Ref #2018-44: ASU 2018-05 – SEC Staff Accounting Bulletin No. 118 o Ref #2018-45: ASU 2018-06 – Deposits and Lending o Ref #2018-46: SSAP No. 86 – Benchmark Interest Rates o Ref #2018-47: Editorial and Maintenance Update

1

Interested Parties – March 5, 2019 o Ref# 2019-02: INT 1919-02: Freddie Mac Single Security Initiative

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FHLB Response – February 18, 2019 o Ref #2018-33: Pledges to FHLBs

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Comment Letters for Items Exposed with November 2018 Deadline

Interested Parties – November 17, 2018 o Ref# 2016-20: ASU 2016-13, Credit Losses

21

Interested Parties – November 30, 2018 o Ref# 2016-02: ASU 2016-02, Leases o Ref #2018-06: Regulatory Transactions – Referral from Reinsurance TF o Ref #2018-07: Surplus Note Accounting – Referral from Reinsurance TF

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State of Vermont, Dept of Financial Regulation – November 30, 2018 o Exposure Ref #2018-06 and #2018-07

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D. Keith Bell, CPASenior Vice PresidentAccounting PolicyCorporate FinanceThe Travelers Companies, Inc.860-277-0537; FAX 860-954-3708Email: [email protected]

Rose Albrizio, CPA Vice President Accounting Practices AXA Equitable. 201-743-7221Email: [email protected]

February 15, 2019

Mr. Dale Bruggeman, Chairman Statutory Accounting Principles Working Group National Association of Insurance Commissioners 1100 Walnut Street, Suite 1500 Kansas City, MO 64106-2197

RE: Interested Parties Comments on Items Exposed for Comment by the Statutory Accounting Principles (E) Working Group with Comments due February 15th

Dear Mr. Bruggeman:

Interested parties appreciate the opportunity to provide comments on the items that were exposed by the Statutory Accounting Principles (E) Working Group (the “Working Group”) during the NAIC 2018 Fall National Meeting in San Francisco with comments due February 15th. We offer the following comments:

Ref #2019-01: Extension of Ninety-Day Rule for the Impact of California Camp Fire, Hill Fire and Woolsey Fire

On January 17, 2019 the Statutory Accounting Principles (E) Working Group moved this item to the active listing and exposed a tentative INT 19-01: Extension of Ninety-Day Rule for the Impact of California Camp Fire, Hill Fire and Woolsey Fire to allow for an optional temporary 60-day extension of the normal 90-day rule in paragraph 9 of SSAP No. 6 for policies impactedby California fires (Camp Fire, Hill Fire and Woolsey Fire). The interpretation provides atemporary extension of the nonadmission guidance for premium receivables of directly impactedpolicies or agents by sixty days for a total of one hundred and fifty days (90 days per existingguidance, plus a 60-day extension = 150 days) not to extend past April 24, 2019. This temporaryrelaxation of the 90-day rule for directly impacted policies and agents is similar to the extensionsthat have been granted for other major national disasters in prior interpretations.

Interested parties support the proposed extension of the ninety-day rule.

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mailto:[email protected]






Statutory Accounting Principles Working Group February 15, 2019 Page 2

Ref #2018-18: Structured Notes

The Working Group moved this item to the active listing, categorized as nonsubstantive, and exposed revisions to SSAP No. 2—Cash, Cash Equivalents, Drafts, and Short-Term Investments, SSAP No. 26R—Bonds, SSAP No. 43R—Loan-Backed and Structured Securities and SSAP No. 86—Derivatives to revise the guidance for structured notes when the reporting entity holder assumes a risk of principal loss based on an underlying component unrelated to the credit risk of the issuer.

Interested parties agree with NAIC staff that the accounting for such structured notes, where the investor assumes risk of principal loss based on an underlying component unrelated to the credit risk of the issuer, warrants scrutiny given today’s amortized cost treatment currently afforded under SSAP No. 26R. Such scrutiny is also warranted because, unlike US GAAP, embedded derivatives are not bifurcated from the host investment under statutory accounting. Fair value measurement of such securities may be appropriate under statutory accounting.

First, we would like to point out that our previous response on this topic did not suggest these notes should be accounted for as convertible bonds; rather, our response offered three examples of bonds (including convertible bonds) being reported at fair value under SSAP No. 26R merely to highlight that fair value reporting under SSAP No. 26R is not unprecedented. We understand that the NAIC staff still believes structured notes should not only be reported at fair value but be reported as derivatives under SSAP No. 86 rather than as bonds under SSAP No. 26R.

Interested parties are sympathetic to NAIC staff rationale to report structured notes, as defined, as derivatives and our reluctance really stems from fear of unintended consequences, not the intent of the proposal. This a complicated area and insurance companies are bound by the letter of any new rule changes (as enforced by the auditing firms) and not the intent of proposed changes. To help address these concerns, we offer the following proposed changes to the definition of structured notes to ensure unintended consequences are minimized. Further, we would like assurance that this issue can be revisited again in the future if further unintended consequences materialize as the cliff effect and penalty of reporting as derivatives is severe. We believe the following clarifications are in the spirit of the NAIC staff proposal and only clarify that certain transactions not intended to be in scope, are not in scope, of the new structured note definition. Proposed changes are underlined and the footnote (FN) was eliminated as aggregation within a continuous definition was viewed as more cohesive:

Securities that meet the definition in paragraph 3, but for which the contractual amount of the instrument to be paid at maturity (or the original investment) is at risk for other than failure of the borrower to pay the contractual amount due. These investments, although in the form of a debt instrument, incorporate risk of an underlying variable in the terms of the agreement, and the issuer obligation to return the full principal is contingent on the performance of the underlying variable FN. These investments are addressed in SSAP No. 86 – Derivatives, unless the investment is a mortgage-referenced security addressed in SSAP No. 43R. New Footnote: This exclusion is specific to

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instruments in which the terms of the agreement make it possible that the reporting entity could lose all or a portion of its principal amount due / original investment (for other than failure of the issuer to pay the contractual amounts due). These instruments incorporate both the credit risk of the issuer, as well as the risk of an underlying variable (such as the performance of an equity index or the performance of an unrelated security). Securities that are labeled “principal-protected notes” are captured within this exclusion if the “principal protection” involves only a portion of the principal / original investment amount and/or if the protection requires the reporting entity to meet qualifying conditions in order to be safeguarded from the risk of loss from the underlying linked variable. Securities that may have changing positive interest rates in response to a linked underlying variable or the passage of time, or that have the potential for increased principal repayments in response to a linked variable (such as U.S. Treasury Inflation-Indexed Securities) that do not incorporate risk of original investment / principal loss (outside of default risk) are not captured in this exclusion. Securities within the scope of SSAP No. 43R, foreign denominated bonds (if only by virtue of their denomination in a foreign currency) and securities comprising elements of risk consistent with Approved RSATs, as defined in Purposes and Procedures Manual of the NAIC Investment Analysis Office, are also not captured in this exclusion. This exclusion does not impact Replication (Synthetic Asset) Transactions as defined in SSAP No. 86.

Interested parties are also supportive of the NAIC staff’s proposed exception that would include mortgage-referenced securities within the scope of SSAP No. 43R as such securities are, in substance, similar to other SSAP No. 43R securities and where the credit risk can be assessed by existing methodologies of the NAIC Securities Valuation Office and/or the NAIC Structured Securities Group. However, interested parties would propose one small change (underlined) to the NAIC staff’s proposed changes to paragraph 33 of SSAP No. 43R to ensure consistency with other in substance similar securities:


Lastly, there are three needed administrative necessities for this proposal to be viable:

1) Interested parties do not believe structured notes will generally meet the requirements of a hedging transaction, income generation transaction, or replication transaction, as currently defined. Accordingly, SSAP No. 86 will need to be amended to either broaden the definition of income generation, to include structured notes, or a new category will need to be created.

2) The SSAP No. 86 structured note definition will need to be aligned with the definition above or, maybe more appropriately, just reference the above definition within SSAP No. 26R.

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3) Future referrals to the Blanks and Investment RBC Working Groups will be necessary to establish the appropriate classification for these derivatives as well as any related impacts to AVR and RBC requirements. As this agenda item is currently perceived as a non-substantive change, which would be effective immediately upon adoption, these changes will all need to occur prior to adoption. Otherwise, the agenda item will need to be changed to substantive with an appropriate effective date.

Ref #2018-22: SSAP No. 37 – Participation Agreement in a Mortgage Loan At the NAIC Fall National meeting, the Statutory Accounting Principles Working Group voted to expose non-substantive revisions to SSAP No. 37, revised from the previous exposure, to clarify that mortgage loans acquired through a participation agreement are limited to single mortgage loan agreements and exclude “bundled” mortgage loans. The revisions are intended to prevent inadvertent restrictions where there may be more than one lender / borrower, but clarify that structures that reflect more than one mortgage loan agreement are not in scope of SSAP No. 37. Interested parties are appreciative that the Working Group addressed our comments on the earlier exposure that a mortgage loan agreement could include multiple borrowers, be secured by multiple properties and have more than one lender via a co-lending or participation agreement and the technical edits to the definition of a co-lending and participation agreement. The current exposure of SSAP No. 37 added bundled mortgage loans to the group of investments not considered in the scope of mortgage loans under SSAP 37. It is exposed as follows and adds footnote 3 to further clarify what is a single mortgage loan agreement and a bundled mortgage loan: Exposed paragraph 2:

2. A mortgage loan is defined as a debt obligation that is not a security, which is secured by a mortgage on real estate. In addition to mortgage loans directly originated, a mortgage loan also includes mortgages acquired through assignment, syndication or participation. Investments that reflect “participating mortgages,” “mortgage loan fund,” “bundled mortgage loans3,” or the “securitization of assets” are not considered mortgage loans within the scope of this SSAP. Exposed Footnote 3: 3 The scope of this SSAP is limited to single mortgage loan agreements. Although single mortgage loan agreements can potentially have more than one lender (e.g., co-lenders / participations) and more than one borrower (such as in a tenancy-in-common arrangement), the concept of a “single mortgage loan” does not include arrangements in which a reporting entity acquires more than one mortgage in a sole transaction. (For example, if a reporting entity was to acquire an interest in a “bundle” of mortgage loans with various unrelated borrowers and collateral, this agreement would be outside of the scope of this SSAP.) Interested parties first had a couple of minor technical edit suggestions:

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• For the second sentence of paragraph 2 of SSAP No. 37, we suggest “… a mortgage loan also includes mortgage loans acquired or obtained through assignment, syndication or participation.”

• For footnote 3, we suggest that the word “loan” be added to the third line of the footnote as part of the phrase “one mortgage loan in a sole transaction”.

More importantly, while we agree with the spirit of the scope exclusions to exclude mortgage loans wrapped as an interest in a single investment such as legally organized pools or a loan fund, we believe that the concept of a bundle of mortgage loans as defined in footnote 3 is too broad with inadvertent consequences. For example, the statement in footnote 3 that “the concept of a “single mortgage loan” does not include arrangements in which a reporting entity acquires more than one mortgage loan in a sole transaction” could be interpreted to exclude the purchase of a group of commercial or individual mortgage loans in the secondary market from being reported as SSAP No. 37 mortgage loans. To correct that confusion, we would suggest adding the following clarifying sentence to the end of footnote 3; “However, a bundle of mortgage loans does not include a “bulk purchase” where the reporting entity’s interest in each mortgage loan is legally separate and divisible and the purchase just facilitates the acquisition of multiple single mortgage loan agreements”. After making those changes, interested parties suggest re-wording footnote 3 to read as follows:

3 The scope of this SSAP is limited to single mortgage loan agreements. Although single mortgage loan agreements can potentially have more than one lender (e.g., co-lenders / participations) and more than one borrower (such as in a tenancy-in-common arrangement), the concept of a “single mortgage loan” does not include arrangements in which a reporting entity acquires more than one mortgage loan in a sole transaction. (For example, if a reporting entity was to acquire an interest in a “bundle” of mortgage loans with various unrelated borrowers and collateral, this agreement would be outside of the scope of this SSAP. However, a bundle of mortgage loans does not include a “bulk purchase” where the reporting entity’s interest in each mortgage loan is legally separate and divisible and the purchase just facilitates the acquisition of multiple single mortgage loan agreements.

Ref #2018-26: SCA Loss Tracking – Accounting Guidance The Working Group re-exposed this agenda item and directed NAIC staff to work with interested parties and research applicable U.S. GAAP guidance to consider revisions to existing guidance that requires negative subsidiary, controlled and affiliated (SCA) entity reporting when there is a guarantee or commitment to provide financial support. Although interested parties and NAIC staff have not held discussions on this issue since the November 2018 NAIC Fall National Meeting, interested parties offer the following comments on the re-exposed proposed revisions. Interested parties continue to oppose proposed guidance that would double-count the impact of the parent insurer’s guarantee or commitment of the SCA’s obligations on the parent insurer’s surplus. We do not believe this was the intention of NAIC staff or the Working Group.

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Although we believe the current wording of paragraph 13(e) of SSAP No. 97 provides guidance that would require the reporting entity to appropriately reflect the proper impact on surplus of a parent entity’s guarantee or commitment to provide financial support, we will work with NAIC staff to clarify that wording, if necessary. We believe that the proposed requirement to report a negative equity value when the reporting entity has a guarantee or commitment to provide financial support is not a workable solution and we suspect that few, if any, insurance entities have attempted to report such negative equity. The use of a negative equity value complicates the preparation of investment schedules and may cause other issues in the completion of the annual statement, especially if investment systems are not designed to accommodate negative values. Rather, we believe it is more common for the reporting entity to report a separate liability on the financial statements in order to meet the requirements and the intent of paragraph 13(e). The recording of other liabilities in the write-in line of the annual statement page 3 is common and not operationally complex, especially since annual statement write-in lines are not subject to the numerous cross-checks involved with the investment schedules. In addition, the interested parties offer comments specific to the proposed revisions of SSAP No. 97 paragraph 13(e)(i). The modifications proposed by Ref # 2018-26 result in a parent entity being required to always record a negative equity position as a reduction to statutory surplus for both 8.b.ii. and 8.b.iv. SCA entities, whether or not there is a guarantee or other commitment by the parent entity. Interested parties do not disagree the guidance should be applied to 8.b.ii SCA entities as this is consistent with the current guidance outlined in paragraph 13 and Q&A #7 of SSAP No. 97. Interested parties disagree that this guidance should be applied to 8.b.iv. SCA foreign insurance entities (the “limited statutory adjustments”). Prior to applying the SSAP No. 97 paragraph 9 adjustments, the GAAP equity of a foreign insurance SCA entity is subject to the following:

- GAAP loss recognition testing of reserves, for which additional liabilities would be

established for expected future losses beyond recovery of any GAAP assets (including recoverability of deferred acquisition costs, or DTAs),

- GAAP impairment testing of asset balances (e.g. – goodwill, DTA’s, investment other-than-temporary losses), and

- Investments that make up the majority of most insurance companies’ investment portfolios (e.g. – fixed maturities and equity securities) are reflected at their fair values.

The application of the limited statutory adjustments then results in a very conservative valuation of these entities, which has nothing to do with SCA operational losses that represent a negative equity value/liability of its parent company. For example, in addition to the non-admittance of deferred acquisition costs (which are tested for recoverability prior to being subject to the paragraph 9 adjustment), the other primary circumstances that can result in a negative equity position subsequent to the paragraph 9

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adjustments is if the investment portfolio has significant unrealized investment losses driven by interest rates that would be temporary and would reverse in the future as the security approaches its maturity date. Thus, requiring the parent insurance company to record the negative equity position of an 8.b.iv. SCA entity would unnecessarily penalize the parent insurance company and would result in recording losses on the parent company’s books that would not have been recorded if all assets and liabilities of the foreign insurance SCA were recorded directly on the parent company’s balance sheet. Furthermore, foreign insurance companies are more akin to 8.b.iii entities, as they represent independent business operations that distribute insurance products to customers, and they are subject to regulations by their local insurance regulators. As such, unlike 8.b.ii SCA entities, these foreign insurance companies are stand-alone operations and not an extension of the domestic insurance company. As such, we believe this difference should drive different accounting treatment for each respective type of SCA entity. Ref #2018-32: SSAP No. 26R – Prepayment Penalties The Working Group moved this item to the active listing, categorized as nonsubstantive, and exposed revisions to SSAP No. 26R—Bonds, to provide guidance to determine investment income for prepayment penalties or acceleration fees and realized gain/loss where bonds are prepaid for consideration less than par. Companies may hold investments such as zero coupon bonds with call prices below par. The calculation to determine investment income is consideration less par based on the current guidance in SSAP No. 26R, which would result in negative investment income where the bond has a call price less than par. The calculation to determine realized gain/loss is par less book adjusted carrying value (again, based on current guidance in SSAP No. 26R), which would result in a realized gain where the bond has a book adjusted carrying value less than par. Absent additional guidance, the calculations misrepresent that there is negative investment income and a realized gain. In the case of zero coupon bonds, the misrepresented negative investment income and the realized gain can be large. The Working Group proposal would prevent unintended consequences to AVR/IMR and net income. Interested parties support revisions to SSAP No. 26R to provide calculations to determine prepayment penalties or acceleration fees for bonds that are prepayable at less than par. However, we believe it is not necessary to require that each bond be reviewed individually. Individual bond review is not required where bonds are prepayable at par or greater, and system vendors have incorporated the functionality to facilitate proper measurement and reporting of these transactions. Requiring individual bond review for instruments prepayable at less than par would introduce additional manual processes which we believe would be unduly burdensome for such a limited circumstance. Interested parties also believe that calculations that reference fair value would be operationally burdensome because fair values are not determined daily and prepayments can occur any day. Interested parties propose the modifications below, which we believe correct the potential for misrepresenting investment income and realized gains while also offering a solution that is operationally simpler to implement. The modifications remove the

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proposed insertion of “or loss” from the introduction to paragraph 17 because a prepayment penalty or acceleration fee would not be negative (as such fees are intended to compensate the investor for the callability) and make other revisions to not refer to fair value and not require each bond be reviewed individually. Modifications are denoted with strikethroughs and double underline.


a. For called bonds in which the total proceeds (consideration) received exceeds par:

i. The amount of investment income reported is equal to the total proceeds (consideration) received less the par value of the investment; and


b. For cCalled bonds in which the consideration received is less than par:

i. To the extent an entity has in place a process to identify explicit Each bond shall be reviewed individually, in accordance with the terms of the bond and call provisions, to determine the extent a prepayment penalty or acceleration fees, thesewhich should be reported as investment income, was received.

ii. After determining any explicit prepayment penalty or acceleration fees, the reporting entity shall calculate the resulting realized gain or loss. The following are examples to determine the acceleration fee / prepayment penalty when call price consideration is less than par: as the difference between the remaining consideration and the BACV which shall be reported as realized capital gains and losses, subject to the authoritative literature in SSAP No. 7.



In response to the request for comments, interested parties support adding the illustrations to Exhibit C of SSAP No. 26R, as revised below, and retaining the existing illustrations. Interested parties offer that the paragraph reference in the footnote “*” to Examples 1, 2 and 3 in Exhibit C should be revised to indicate paragraph 17.

Call Price Less than Par

Entity 1 Entity 2 Entity 3 Par 100 Par 100 Par 100 BACV 24 BACV 28 BACV 25 Consideration 26 Consideration 26 Consideration 26

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Fair ValueExplicit fee

251 Fair ValueExplicit fee

251 Fair ValueExplicit fee 251




25



Ref #2018-33: SSAP No. 30 – Pledges to FHLBs The Working Group moved this item to the active listing, categorized as nonsubstantive, and exposed revisions to SSAP No. 30R—Unaffiliated Common Stock, as shown above, to clarify that assets pledged to a Federal Home Loan Bank (FHLB) on behalf of an affiliate shall be nonadmitted pursuant to SSAP No. 4—Assets and Nonadmitted Assets. Comments are requested on activities that that occur involving FHLBs, including the following:




• Whether the existing guidance for FHLBs, which allows admitted asset treatment for FHLB stock although the stock is significantly restricted and cannot be liquidated for policyholder claims, shall be retained if the reporting entity is utilizing their FHLB membership to obtain FHLB benefits for affiliates.

Interested parties have no comment on this item. Ref #2018-34: SSAP No. 30R – Foreign Mutual Funds The Working Group moved this item to the active listing, categorized as nonsubstantive, and exposed revisions to SSAP No. 30R—Unaffiliated Common Stock to include foreign mutual funds in scope and requested comments on four questions.

The proposed edits to SSAP No. 30R would add 4e below to include foreign mutual funds to the list of equity investments captured within the scope of SSAP 30R.

Proposed Update

4e. Foreign open-end mutual funds governed and authorized in accordance with regulations established by the applicable foreign jurisdiction. Other foreign funds are excluded from the scope of this statement.

Interested parties’ response is as follows:

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Interested parties agree with the recommendation to include foreign open-funds in the scope of SSAP No. 30R and request that this be effective 1/1/2019. The following are interested parties’ responses to the four questions posed by the Working Group.


The interested parties do not recommend citing individual jurisdictions, as those jurisdictions would have to be subject to ongoing evaluation and periodic selection by the NAIC or the appropriate governing authority. Instead, the interested parties recommend that the NAIC limit this proposal to regulated foreign open-ended investment funds. Similar to SEC registered mutual funds, regulated foreign open-end investments will be carried at fair value with the change reported through surplus; thus, always reflecting changes in the fund’s net asset value (NAV) in surplus. Also, as noted below, interested parties believe these regulated foreign open-end funds should be reported as foreign and a new Schedule D code should be established so the regulators can easily isolate exposure to these funds. If the NAIC believes the proposal should be limited to certain jurisdictions, then interested parties offer to work with NAIC staff to develop workable criteria.

Also, this response uses the term ‘foreign open-end investment funds’ because the term ‘mutual fund’ is not used universally throughout all foreign jurisdictions.

Proposed revisions

4e. Foreign open-end investmentmutual funds governed and authorized in accordance with regulations established by the applicable foreign jurisdiction. Other foreign funds are excluded from the scope of this statement.


Yes, Canadian mutual funds should continue to be considered domestic. Interested parties recommend a new code be established for Foreign mutual funds (other than Canadian). This would be consistent with Schedule D – Summary by Country, which shows United States, Canada, Other Countries.


Yes. Canadian mutual funds should be treated as domestic the same way Canadian bonds and stocks are currently reported. All other foreign mutual funds should be reported as foreign.

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No. Interested parties do not believe that the exclusion noted above should be restricted to only U.S. SEC registered mutual funds qualifying for diversification. Interested parties believe that it is appropriate to exclude from the Asset Concentration Factor section of the risk-based capital filing all mutual funds, including other similar open end regulated foreign investment funds, that are diversified within the meaning of the Investment Company Act of 1940 {Section 5(b)(1)}.

Note that, according to the annual statement instructions, General Interrogatory #29 states “This interrogatory is applicable to Property/Casualty and Health entities only.”

Ref #2018-35: ASU 2018-07, Improvements to Nonemployee Share-Based Payment Accounting The Working Group moved this item to the active listing, categorized as nonsubstantive, and exposed proposed revisions to SSAP No. 95—Nonmonetary Transactions and SSAP No. 104R—Share-Based Payments (detailed in separate document), to adopt with modification ASU 2018-07, Improvements to Nonemployee Share-Based Payment Accounting. The revisions to SSAP No. 104R eliminate the specific section for nonemployee awards and include guidance for nonemployees with the share-based payment guidance for employees. The revisions to SSAP No. 95 update previously adopted U.S. GAAP guidance to reflect the revisions from ASU 2018-07. Interested parties have no comment on this item. Ref #2018-36: ASU 2018-13, Changes to the Disclosure Requirements for Fair Value Measurement The Working Group moved this item to the active listing, categorized as nonsubstantive, and exposed revisions to SSAP No. 100R—Fair Value, to adopt with modification the disclosure amendments in ASU 2018-13, Changes to the Disclosure Requirements for Fair Value Measurement. The exposed revisions also clarify prior actions by the Working Group on related U.S. GAAP pronouncements. Interested parties support the revisions in this item. Ref #2018-37: ASU 2018-14, Changes to the Disclosure Requirements for Defined Benefit Plans The Working Group moved this item to the active listing, categorized as nonsubstantive, and exposed revisions to SSAP No. 92—Postretirement Benefits Other than Pensions and SSAP No. 102—Pensions, to adopt with modification the disclosure amendments reflected in ASU 2018-14, Changes to the Disclosure Requirements for Defined Benefit Plans.

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Interested parties have no comment on this item. Ref #2018-38: Prepayments to Service and Claims Adjusting Providers The Working Group moved this item to the active listing, categorized as nonsubstantive, and exposed revisions to SSAP No. 55—Unpaid Claims, Losses and Loss Adjustment Expenses, as shown above, to provide guidance clarifying that prepayments to providers of claims and adjusting services shall be recognized as miscellaneous underwriting expenses, with guidance for reclassification as claims adjustment expense or claims expense, as applicable, as claims are paid. During the November 2018 Working Group discussion, it was highlighted that the proposed treatment is different than recognizing a nonadmitted prepaid asset, as the amounts are not expected to be material. Comments were requested on this difference and if the amounts are expected to be material. Interested parties note that the initial inquiry was within the context of roadside assistance carrier where a flat fee is prepaid for a minimum number of vehicles or polices regardless of claims incurred or sales. It should be noted that the prepaid expenses under consideration may include either a prepayment for claims administration (i.e., loss adjustment expense) or a prepayment for losses, or both. Interested parties note that the specific fact pattern provided may not necessarily be analogized to all situations where an insurer may prepay for a service. For each instance where there may be a prepaid expense made to a third-party provider, the accounting should reflect whether the insured coverage provides indemnification for a loss or a loss adjustment service. For example, in some instances the prepaid amount is to provide coverage and to indemnify the insured for an insured peril covered by the policy and is not a claims administration service. In any case, interested parties believe that it is not appropriate to classify prepaid expenses incurred for anticipated claims, losses, and loss/claim adjustment expenses as miscellaneous underwriting expenses. The insurer’s procurement of services to be used to satisfy future obligations of its policies is not part of its underwriting function but is rather a function of its incurred losses or the administration of its claims processing. It is recommended that these expenses be classified as a prepaid nonadmitted asset at the time the amount is paid to the provider, with a corresponding charge to claims, losses and loss/claim adjustment expenses at the time the benefit is provided to the claimant or to the policy holder. In order to address this fact and to address the potential differences in contracts, we believe the proposed guidance should be amended to allow for the appropriate reclassification of the miscellaneous underwriting expense to claims/losses or claim/loss adjustment expense, based upon the underlying policy coverage, and the exception for capitated payments to manage cared contracts noted in the paragraph should be further clarified to note that this guidance does not apply to health care receivables within the scope of SSAP No. 84, Health Care and Government Insured Plan Receivables. Interested parties also note that the proposed changes in paragraph 4a and 5b of SSAP No. 55 reflect the reclassification when the claim is paid, which may cause confusion as there is no additional payment made where the service is prepaid. Instead, the insurer’s obligation has been satisfied when the policyholder receives the benefit or the service. We recommend the following

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modifications to address these potential situations or questions related to the new guidance (new wording is highlighted): Proposed paragraph 4a of SSAP No. 55:

Prepayments to third party administrators, management companies or other entities for unpaid claims, losses and losses/claims adjustment expenses, except for capitated payments for manage care contracts or contracts within the scope of SSAP No. 84, Health Care and Government Insured Plan Receivables, shall not reduce losses/claims and shall be initially reported as a prepaid asset and nonadmitted in accordance with SSAP No. 29, Prepaid Expenses. miscellaneous underwriting expenses. When incurred the benefit has been provided to the policyholder or claimant losses/claims are paid, the claims prepayments to third party administrators, management companies or other entities (except for capitated payments for manage care contracts or contracts within the scope of SSAP No. 84, Health Care and Government Insured Plan Receivables,) are reclassified proportionately based on the losses/claims cost from the prepaid asset miscellaneous underwriting expenses to claims, losses or loss/claim expenses paid based on the amount of losses/claims cost incurred to provide the benefit. Flat fee minimum prepayments to third party administrators or management companies or other entities that do not relate to services or adjusting for the underlying direct policy benefits are reported as miscellaneous underwriting expenses and not reclassified to claims, losses or loss/claim adjusting expenses.

Proposed paragraph 5b of SSAP No. 55:

When the prepaid benefit has been provided to the policyholder or the claimant, incurred losses/claims adjusting expenses are paid, the associated prepayments to third party administrators, management companies or other entities (except for capitated payments for manage care contracts or contracts within the scope of SSAP No. 84, Health Care and Government Insured Plan Receivables) are reclassified proportionately based on the adjusting expenses from miscellaneous underwriting expenses the prepaid asset to paid loss /claim adjusting expenses based on the amount of losses/claims cost incurred to provide the benefit. Flat fee minimum prepayments to third party administrators or management companies or other entities that do not relate to services or adjusting for the underlying direct policy benefits are reported as miscellaneous underwriting expenses and not reclassified to loss/claim adjusting expenses.

Ref #2018-39: Interest on Claims The Working Group moved this item to the active listing, categorized as nonsubstantive, and exposed proposed revisions to SSAP No. 55—Unpaid Claims, Losses and Loss Adjustment Expenses to clarify the reporting of interest on accident and health claims. The revised accounting would record interest paid to claimants as Other Claim Adjustment Expenses and interest paid to regulatory authorities as Regulatory Fines and Fees. We understand that part of the motivation for the proposal is to establish consistent accounting. Currently, health insurers are recording delayed claim interest in a variety of ways.

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Although industry is not opposed to the revised accounting, we are concerned about the timing. Interest paid on claims is embedded in health company claims processing systems and any changes must be done in a controlled fashion and will take some time to implement. We would suggest that the proposed accounting be effective January 1, 2020 to allow sufficient time for health insurers to make the necessary changes to their claims processing systems.

Ref #2018-40: ASU 2018-15, Intangibles – Goodwill and Other – Internal-Use Software (Subtopic 350-40) – Customer’s Accounting for Implementation Costs Incurred in a Cloud Computing Arrangement That Is a Service Contract The Working Group moved this item to the active listing, categorized as nonsubstantive, and directed NAIC staff to draft proposed revisions to adopt with modification ASU 2018-15, Customer’s Accounting for Implementation Costs Incurred in a Cloud Computing Arrangement That is a Service Contract, allowing for capitalization and amortization of the implementation costs as nonoperating system software for interim exposure consideration. When subsequent exposure occurs, comments will be requested on whether any of the implementation costs would qualify as operating system software under existing concepts in SSAP No. 16R—Electronic Data Processing Equipment and Software, and if so, whether it would be possible to bifurcate the costs between operating and nonoperating system software. Despite comments made at the Fall National Meeting, NAIC staff confirms that the implementation costs of the hosting arrangement pursuant to ASU 2018-15 are being treated similarly to internally developed software costs, but do not result with software assets. As such, there would be no need to bifurcate implementation costs between operating and non-operating software. The proposed treatment, allowing capitalization of implementation costs as non-operating system software, does not imply that these capitalization costs reflect software assets. Rather, this distinction stipulates that these capitalized implementation costs are nonadmitted in statutory financial statements. The proposed capitalization allows amortization of these costs through the income statement, rather than as an immediate expense. The costs capitalized under ASU 2018-15, as they are implementation costs for a hosting arrangement, do not represent assets available for policyholder claims and shall be nonadmitted. (Pursuant to the ASU, the provisions of ASU 2018-15 only apply when there is not the contractual right to take possession of the software and when it is not feasible for the reporting entity to run the software on its own or with another party.) NAIC staff notes that the ASU 2018-15 dissention includes the position of two FASB members who noted that the costs permitted to be capitalized under ASU 2018-15 do not meet the definition of an asset. These members disagreed with recognition of these costs as assets on a standalone basis, noting that the incurred costs do not provide any future economic benefits for the entity independent of the cloud computing hosting arrangement. Although NAIC staff recommends capitalization of the implementation costs to allow for amortization over the term of the hosting contract, not to exceed 5 years, the proposed revisions also recommend that these capitalized assets shall be nonadmitted in statutory financial statements as they cannot be used for policyholder claims.

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NAIC staff notes that the items being addressed in this agenda item / ASU refer to the implementation costs of a hosting arrangement. This item has no impact on the accounting of software. Regardless if software is acquired as part of a hosting arrangement, the acquisition of software continues to be captured under SSAP No. 16R. The proposed revisions are also intended to clarify the prior review of ASU 2015-05. Interested parties have no comment on this item. Ref #2018-41: ASU 2017-13—Amendments to SEC Paragraphs The Working Group moved this item to the active listing, categorized as nonsubstantive, and exposed revisions to Appendix D—Nonapplicable GAAP Pronouncements to reject ASU 2017-13, Amendments to SEC Paragraphs Pursuant to the Staff Announcement at the July 20, 2017 EITF Meeting and Rescission of Prior SEC Staff Announcements and Observer Comments as not applicable to statutory accounting. Interested parties have no comment on this item.

Ref #2018-42: ASU 2018-02: Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income

The Working Group moved this item to the active listing, categorized as nonsubstantive, and exposed revisions to Appendix D—Nonapplicable GAAP Pronouncements to reject ASU 2018-02, Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income as not applicable to statutory accounting. Interested parties have no comment on this item.

Ref #2018-43: ASU 2018-04: Investments—Debt Securities (Topic 320) and Regulated Operations (Topic 980)

The Working Group moved this item to the active listing, categorized as nonsubstantive, and exposed revisions to Appendix D—Nonapplicable GAAP Pronouncements to reject ASU 2018-04, Investments—Debt Securities (Topic 320) and Regulated Operations (Topic 980), Amendments to SEC Paragraphs as not applicable to statutory accounting. Interested parties have no comment on this item.

Ref #2018-44: ASU 2018-05 - Income Taxes (Topic 740), Amendments to SEC Paragraphs Pursuant to SEC Staff Accounting Bulletin No. 118 The Working Group moved this item to the active listing, categorized as nonsubstantive, and exposed revisions to Appendix D—Nonapplicable GAAP Pronouncements to reject ASU 2018-05, Income Taxes (Topic 740), Amendments to SEC Paragraphs Pursuant to SEC Staff Accounting Bulletin No. 118 as not applicable to statutory accounting. Interested parties have no comment on this item.

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Ref #2018-45: ASU 2018-06 - Codification Improvements to Topic 942, Financial Services—Depository and Lending The Working Group moved this item to the active listing, categorized as nonsubstantive, and exposed revisions to Appendix D—Nonapplicable GAAP Pronouncements to reject ASU 2018-06, Codification Improvements to Topic 942, Financial Services—Depository and Lending as not applicable to statutory accounting. Interested parties have no comment on this item.

Ref #2018-46: SSAP No. 86 – Benchmark Interest Rates The Working Group Exposed revisions add the Securities Industry and Financial Markets (SIFMA) Municipal Swap Rate and the Secured Overnight Financing Rate (SOFR) Overnight Index Swap (OIS) Rate as U.S. benchmark interest rates for hedge accounting. Interested parties have no comment on this item.

Ref #2018-47: NAIC Accounting Practices and Procedures Manual Editorial and Maintenance Update The Working Group revisions clarify that SSAP No. 48 entities are not required to complete SSAP No. 97 disclosures unless directed under SSAP No. 48. Interested parties have no comment on this item.

* * * * Thank you for considering interested parties’ comments. We look forward to working with you and the Working Group on these topics. If you have any questions in the interim, please do not hesitate to contact either one of us. Sincerely, D. Keith Bell Rose Albrizio

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D. Keith Bell, CPA Senior Vice President Accounting Policy Corporate Finance The Travelers Companies, Inc. 860-277-0537; FAX 860-954-3708 Email: [email protected]

Rose Albrizio, CPA Vice President Accounting Practices AXA Equitable. 201-743-7221 Email: [email protected]

March 5, 2019 Mr. Dale Bruggeman, Chairman Statutory Accounting Principles Working Group National Association of Insurance Commissioners 1100 Walnut Street, Suite 1500 Kansas City, MO 64106-2197 RE: Interested Parties Comments on Items Exposed for Comment by the Statutory

Accounting Principles (E) Working Group with Comments due March 5 Dear Mr. Bruggeman: Interested parties appreciate the opportunity to provide comments on the items that were exposed by the Statutory Accounting Principles (E) Working Group (the “Working Group”) with a comment deadline of March 5th. We offer the following comments: Ref #2019-02: Single Security Initiative INT 19-02: Freddie Mac Single Security Initiative The Working Group moved this item to the active listing and exposed a tentative INT 19-02: Freddie Mac Single Security Initiative Extension (“INT 19-02”) to provide for a limited scope exception to the exchange and conversion guidance in SSAP No. 26R – Bonds (“SSAP No. 26R”) for instruments converted in accordance with the Freddie Mac Single Security Initiative. Under this initiative, reporting entities will be permitted to exchange existing “45-day securities” to “55-day securities” without any material change to the securities, or to the loans that back the securities. Interested parties support the exchange and conversion guidance detailed in INT 19-02. Interested parties note that although Freddie Mac securities are mortgage-backed securities and are accounted for under SSAP No. 43R – Loan Backed and Structured Securities (“SSAP No. 43R”), SSAP No. 43R does not include specific guidance on modifications and conversions. We believe it is reasonable that INT 19-02 refers to SSAP No. 26R, which includes specific guidance on modifications and conversions in paragraph 22 to draw the exception. Interested parties understand from subsequent discussions that NAIC staff intend to modify INT 19-02 to prescribe

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Statutory Accounting Principles Working Group March 5, 2019 Page 2

the guidance for SSAP No. 43R securities exchanged as part of the Freddie Mac Single Security Initiative. Interested parties support NAIC staff’s proposed changes. Thank you for considering interested parties’ comments. If you have any questions in the interim, please do not hesitate to contact either one of us. Sincerely, D. Keith Bell Rose Albrizio

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FHLB Response Ref #2018-33: Pledges to FHLBs

Received via Email – February 18, 2019 Ability for non-Federal Home Loan Bank (“FHLB” or “FHLBank”) member to borrow funds based on affiliate FHLB membership. In all instances – across all FHLBs – the FHLB will not provide borrowings/advances to any entity that is not an FHLB member. An FHLB member is not required to disclose the intent of borrowing (and the FHLB does not “approve” the use of advance proceeds), therefore FHLB members may borrow from the FHLB and provide the funds to an affiliate of the member. Consistent with the terms of the FHLBank Act and Federal Housing Finance Agency (FHFA) regulation, FHLBanks can permit members to borrow using assets pledged by the member’s affiliate to secure the member’s borrowing from the FHLBank. See 12 U.S.C. 1430(e) and 12 CFR 1266.7(g). Under FHFA regulation if a member’s affiliate pledges assets to secure the member’s borrowings from its FHLBank the pledge of assets has to be to secure either: (1) the member's obligation to repay advances or (2) a surety or other agreement under which the affiliate has assumed, along with the member, a primary obligation to repay advances made to the member. If this occurs, the insurer member continues to be responsible for ensuring that the member’s borrowings at all times are fully secured by eligible collateral pledged to the FHLBank. Additionally, the member (not the affiliate) is solely responsible for maintaining sufficient capital stock in the FHLBank, including maintaining the required amount of activity stock to support the member’s outstanding advances. Finally, the member is always primarily obligated to repay the advances from the FHLBank in either structure (1) or (2) above.

“Group” FHLB Membership – Meaning the FHLB membership is determined/divided among more than one affiliate, in which all affiliated companies are considered FHLB members (with FHLB privileges), based on the “group” agreement. In all instances – across all FHLBs – only separate reporting entities (those with an insurance charter) are permitted to join the FHLB. As such, it is not possible for reporting entities to join on a “group” basis. Additionally, only individual insurance reporting entities may join an FHLB. (Holding companies and captives (with the exception of Risk Retention Groups (RRGs) are not permitted to be FHLB members.) The state in which a company is “based” or has its “principal place of business (“PPOB” as defined in FHFA regulations) determines FHLB membership. As such, if there are two insurers in a group, and they are based in different FHLB districts, each insurer would be restricted in joining the FHLB that is determined based on their PPOB location. Where a company is “based” or has its PPOB per FHFA regulations may be impacted by other factors and may not necessarily be the state of domicile.

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Prevalence of insurer affiliate assets being pledged to an FHLB to support FHLB member/borrower borrowings:

• FHLBank Atlanta does accept affiliate collateral with proper documentation (with no restrictions on whether or not the affiliate is an insurance company). We do not, however, currently have any affiliate pledging arrangements in place with insurance company members.

• FHLBank Boston does not currently have any arrangements in place where a nonmember insurance company pledges collateral on behalf of a member.

• FHLB Chicago does allow affiliate pledges for insurance members on a case-by-case basis.

• FHLBank Cincinnati – Affiliate pledges are open to all FHLBank members – which includes both the Bank’s depository institutions and insurers. Although banks may choose to have non-member affiliates pledges assets directly to the FHLB, there are no banks currently utilizing this option.

• FHLBank Dallas – Unknown.

• FHLBank Des Moines has no NAIC insurance companies utilizing affiliate pledge with another company, insurance or otherwise

• FHLBank Indianapolis – Unknown.

• FHLBank New York currently has no insurance company affiliates pledging assets to support member borrowings.

• FHLBank Pittsburgh does not have any non-member insurance company pledging collateral on behalf of an insurance company member.

• FHLBank San Francisco does accept nonmember affiliate pledges to support member borrowings, although we do not have any nonmember affiliates providing collateral to support insurance company borrowings..

• FHLBank Topeka does not currently have any non-member insurance company pledging collateral on behalf of another insurance company member.

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November 7, 2018 Mr. Dale Bruggeman, Chairman Statutory Accounting Principles Working Group National Association of Insurance Commissioners 1100 Walnut Street, Suite 1500 Kansas City, MO 64106-2197 RE: Additional Comments: Discussion Draft of Issue Paper Ref #2016-20, Credit Losses Dear Mr. Bruggeman: Interested parties appreciate the opportunity to provide additional comments regarding the NAIC Staff’s (“Staff”) March 24, 2018 Discussion Draft of Issue Paper Ref #2016-20, Credit Losses (the “discussion draft”). After further discussion with NAIC Staff, interested parties reached an understanding regarding Staff’s intent of the discussion draft and its application to available-for-sale debt securities1 (“AFS debt securities’). We understand that the intent of the discussion draft was that credit losses for bonds carried at amortized cost for statutory reporting (i.e., investments in the scope of SSAP No. 26R, Bonds and SSAP No. 43R, Loan-Backed and Structured Securities) would be measured in accordance with ASU 2016-13, Topic 326-30. In short, debt securities that would be treated as AFS for U.S. GAAP reporting would be evaluated to determine if a credit loss should be recognized for statutory reporting only if amortized cost for those securities is greater than fair value. AFS debt securities would be evaluated for credit losses on an individual basis; the trigger for impairment and the measurement of impairment does not change from existing U.S. GAAP (with the exception that an entity should not use the length of time a security has been in an unrealized loss position to avoid recording a credit loss); the loss would be estimated based on the present value of best estimate of cash flows discounted at the security’s current

1 Under FASB Codification Topic 320, available-for-sale debt securities are those that are not designated as either “trading securities” (i.e., those acquired with the intent of selling within hours or days) or “held to maturity” securities (i.e., those for which the reporting entity has the positive intent and ability to hold the securities to maturity).

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effective rate; the net of the amortized cost of an AFS debt security and the credit loss allowance may not be less than fair value of the security (i.e., fair value floor); the credit loss would be recorded in an allowance account and may be reversed if credit conditions improve. If an entity intends to sell or is more likely than not that it will be required to sell the security before recovery, the investment will be written down to fair value. We are attaching further detail (Exhibit A) related to our mutual understanding with Staff as to the intent of the discussion draft for AFS debt securities (i.e., the attached was shared with Staff). Interested parties considered the discussion draft proposal to apply the pending U.S. GAAP model (ASU 2016-13, Topic 326-30) to AFS debt securities for statutory reporting and we recommend retaining the existing credit impairment guidance in SSAP No. 26R and SSAP No. 43R. We believe the proposed modifications to adopt ASU 2016-13’s AFS debt securities impairment model to the statutory accounting for bonds is not cost justified for the reasons described below. Interested parties note that ASU 2016-13’s AFS debt securities impairment model is not substantively different than the current GAAP model as it pertains to the trigger and measurement of credit losses. As the current statutory impairment model is substantively aligned with current GAAP, we do not believe that the adoption of ASU 2016-13 for statutory accounting would be impactful to statutory surplus. However, the most significant change in ASU 2016-13’s AFS debt securities impairment model is structural (i.e., the use of a valuation allowance), with less impactful changes being the reversal of the loss allowance if credit concerns reverse and the use of a fair value floor. To accommodate a valuation allowance for bonds, significant changes would have to be made to the annual and quarterly statutory statements, as well as insurers’ statutory investment systems. The impact on insurers’ statutory investment systems and processes would be impactful even for U.S. insurers with parent companies that prepare GAAP-basis financial statements. Additionally, insurers would be required to make such changes at a time when they are allocating significant time and effort to other significant accounting changes (e.g., the adoption of ASU 2018-12, Targeted Improvements to the Accounting for Long-Duration Contracts). In addition, many U.S. insurers are either not required to prepare GAAP-basis financial statements or are required to prepare IFRS or some other foreign basis of accounting if such insurers are owned by foreign parent companies. Interested parties expect that the impact of adopting ASU 2016-13’s AFS debt securities impairment model for statutory accounting would be more costly to these insurers compared to insurers with parent companies that prepare U.S. GAAP-basis financial statements. Therefore, given that we would not expect any significant impacts to statutory surplus if the AFS impairment guidance of ASU 2016-13 were applied to the statutory accounting for bonds, we believe the costs associated with changing processes, systems, and statutory financial statements and exhibits outweigh any perceived benefits. Tax implications and other unintended consequences

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3

The IRS provides that insurance companies generally follow Statutory “books” to calculate their tax returns, with certain adjustments. With regards to charge-offs associated with debt securities (i.e., generally those debt securities for which the insurer has written the security down to zero for statutory accounting and reporting), the IRS allows a tax deduction at the time of the charge-off. Interested parties do not anticipate that the definition of charge-offs would be impacted by pending U.S. GAAP for AFS debt securities. However, this would need to be carefully studied. Also, if the ASU 2016-13 AFS debt securities impairment model were to be applied to statutory accounting with the use of an allowance, insurance companies may lose their ability to deduct write-downs (i.e., credit loss impairments) for those investments that meet the definition of REMIC investments (e.g., many structured securities with loans as the underlying collateral). Today, the IRS has an Industry Director Directive (IDD) that allows insurance companies to deduct write-downs recorded as direct adjustments to carrying value for REMIC investments when determining their tax liability. If statutory accounting and reporting were modified to record an allowance versus direct write-down, this could jeopardize the tax deduction available today for REMIC investments. Interested parties believe that, without working directly with the IRS to modify the language in the tax law, insurers may lose their ability to deduct credit loss write-downs associated with REMIC investments for Tax purposes.

We do not believe the perceived benefits of adopting an allowance (instead of a direct write-down of amortized cost) for AFS debt securities outweigh the significant time, effort, and cost of working with the IRS to either clarify or change the IDD. Interested parties provided a comment letter on July 9, 2018 to the Statutory Accounting Principles Working Group recommending that ASU 2016-13, including the adoption of an expected credit loss model (“ECL”) for investments be rejected for regulatory reporting for the many reasons provided in the letter. We are attaching the July 9th letter to this letter for reference as Exhibit B. We continue to recommend that ASU 2016-13, in its entirety, not be incorporated into regulatory reporting for investments. Interested parties appreciate the opportunity to comment on the discussion draft and welcome further conversation on this important topic for the insurance industry. Thank you for considering interested parties’ comments. We look forward to working with you and the Working Group on this topic. If you have any questions in the interim, please do not hesitate to contact either one of us. Sincerely, D. Keith Bell Rose Albrizio cc: interested parties

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November 30, 2018 Mr. Dale Bruggeman, Chairman Statutory Accounting Principles Working Group National Association of Insurance Commissioners 1100 Walnut Street, Suite 1500 Kansas City, MO 64106-2197 RE: Interested Parties Comments on Items Exposed for Comment by the Statutory

Accounting Principles (E) Working Group with Comments due November 30th Dear Mr. Bruggeman: Interested parties ("IPs”) appreciate the opportunity to provide comments on the items that were exposed by the Statutory Accounting Principles (E) Working Group (the “Working Group”) during the NAIC 2018 Summer National Meeting in Boston with comments due November 30th. We offer the following comments: Ref #2016-02: ASU 2016-02, Leases In February 2016, the FASB issued ASU No. 2016-02, Leases (“ASU No. 2016-02”) that generally requires the capitalization of all leases. The Working group rejected ASU No. 2016-02 but requested that NAIC staff amend existing statutory guidance to make the terminology consistent with ASU No. 2016-02, where appropriate, and otherwise provide greater clarity and specificity for the accounting for leases under statutory accounting. IPs are supportive of this initiative as existing SSAP No. 22 – Leases (“SSAP No. 22”) guidance, in certain areas, has proved difficult to navigate with auditors, and we have provided written comments on previous lease exposure drafts. Additionally, IPs have had several working sessions with NAIC staff with the goal of achieving the common objectives of regulators, NAIC staff and IPs. Specifically, IP focus has been on:

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1) Reorganization for purposes of flow and clarity to alleviate the current interpretational issues,

2) Clarification surrounding scope of sale lease back transactions deemed inappropriate by regulators (i.e., non-depreciable assets, including investments, and premium receivable are not within scope),

3) Clarification surrounding scope and appropriateness of computer software and equipment under sale leaseback transactions,

4) Elimination of or reworking of old/superseded real estate guidance that currently creates an unworkable standard due to confusion as to which transactions such guidance applies (i.e., non-real estate transactions), and

5) Removal of language from Topic 606 (US GAAP Revenue Recognition Guidance) that has been rejected under statutory accounting.

IP working sessions with NAIC staff have proved fruitful and, from our perspective, we have found a broad and conceptual common ground. Given the challenges of incorporating US GAAP terminology, the nuances of lease accounting (particularly with regards to the real estate guidance), and competing priorities, we have collectively not yet crossed the finish line. The one overriding common objective is quality over timeliness. As acknowledged in the materials in the November 15, 2018 Meeting Agenda, NAIC staff is working directly with IPs, on several discussion points, and we stand ready to continue such discussions. Ref #2018-06: Regulatory Transactions – Referral from the Reinsurance (E) Task Force During the Spring National Meeting, the Working Group exposed revisions to SSAP No. 4 – Assets and Nonadmitted Assets to indicate that items acquired as part of “regulatory transactions” as defined in the NAIC Accounting Practices and Procedures Manual (the P&P Manual), that meet the definition of an asset, shall only be admitted with approval of the domestic state insurance departments as a permitted practice. It also identifies that regulatory transactions shall also be identified with a new administrative symbol (RT) in the investment schedules, with a request for comments on whether all “regulatory transactions” should be reported on Schedule BA – Other Long Term Invested Assets. This item was a referral from the Reinsurance Task Force (“RTF”). IPs commented quite extensively, in our May 18, 2018 letter, about the unintended consequences of the proposed changes. The recent August 4, 2018 exposure draft included additional clarification that the intent was only to include invested assets, thus narrowing the extent of such unintended consequences. While IPs acknowledge the narrowing of scope, our primary concerns still exist:

1) The definition of regulatory transaction in the P&P Manual is as follows:

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Regulatory Transaction means a security or other instrument in a transaction submitted to one or more state insurance departments for review and approval under the regulatory framework of the state or states. As noted by the RTF, this definition is somewhat open to interpretation. The unintended consequences of such lack of clarity is the potential scoping in of thousands of transactions that might need permitted practices or risk non-admission. Examples, not all inclusive, include the following:

Working capital finance notes Reinsurance agreements that transfer material invested assets Purchases and sales of material investments between affiliates Non-cash dividends that transfer invested assets Non-cash contributions that transfer invested assets

IPs do not believe it appropriate nor desired (from both a regulatory and IP perspective) to require such transactions to be a permitted practice, and/or be subject to non-admission. Appropriate accounting guidance already exists for such transactions. Nor do we believe it appropriate for them to be recorded on Schedule BA.

2) IPs note that the RTF also had a referral to the Valuation of Securities Task Force (“VOSTF”) requesting help with their concerns. We note that the SVO’s response was essentially that the term used by the SVO is to identify transactions that are not filing exempt which is different from what the RTF is trying to achieve. While we continue to have questions about the SVO definition in their context (i.e., how items highlighted in bullets 2 – 5 above do not meet the definition of a regulatory transaction, it is our understanding the SVO believes those transactions are nonetheless filing exempt), this leads us to believe the term “regulatory transaction” should not be used in the accounting literature.

3) Because the definition of “regulatory transaction” as defined in the P&P Manual is different from what the RTF is trying to achieve (which is still unclear to IPs with any great specificity), and that definition provides significant potential for material unintended consequences, IPs do not believe it is appropriate to use in this context. Rather, IPs believe it is important to identify the problem that needs to be addressed.

• What specific types of transactions are trying to be addressed, that are not

already covered by the accounting guidance? For assets which are not already covered by the accounting guidance, insurers already need to request a permitted practice or treat the asset as nonadmitted. Accordingly, IPs wonder if this is a compliance issue rather than an

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accounting issue. IPs understand the “linked surplus note asset” included as an example in the exposure draft is just a subset of a much broader class of assets that are of concern. If true, the broader class of assets should be specifically identified.

• Which invested assets schedules are impacted? Although we are not

certain, it is our understanding that the broader class of assets of concern only relate to Schedule D assets. If so, that would potentially narrow the scope of unintended consequences. If it is because companies are inappropriately self-rating schedule D assets that are not filing exempt or do not have an NAIC designation, it might be indicative of either 1) a compliance issue or 2) an issue with other definitions, whether in the accounting guidance, blanks guidance or P&P Manual, that need clarification.

• The identification of the problem should be in writing, with sufficient

specificity, to achieve a common understanding with the RTF, VOSTF, SVO, the Working Group, NAIC staff, regulators and IPs, so the concern can properly be addressed.

As acknowledged in the in the materials of the November 15, 2018 Meeting Agenda, NAIC staff is working directly with IPs s to define the issues, and we stand ready to continue such efforts. We share the common goal of addressing concerns and preventing unintended consequences. Ref #2018-07: Surplus Note Accounting – Referral from the Reinsurance (E) Task Force During the 2018 Spring National Meeting, the Working Group also exposed revisions to SSAP No. 41R – Surplus Notes (“SSAP No. 41R”) to indicate that surplus notes that are linked to other structures are not subordinate and do not qualify for reporting as surplus and should be classified as debt. Furthermore, the exposure draft stated that assets linked to issued surplus notes were not considered available for policyholder claims and should be non-admitted. In our May 18, 2018 comment letter, we agreed with the general principle embodied within the exposure draft - that is, where there are “linked” transactions that attempt to circumvent the regulatory non-approval of payments on surplus notes, the surplus note should be classified as debt rather than surplus and we proposed revisions to:

1) Clarify that “linked” transactions related to surplus notes only result in reclassification if they are linked to an attempt to circumvent the regulatory non-approval of payments versus the surplus notes being “linked” in some other way. We also suggested language to state that if this regulatory non-approval of payments results in any contractual delay or decrease in the cash flows to be received from the “linked” assets, the surplus notes could not be classified as surplus.

2) Remove the proposed language that suggested that if a surplus note is reclassified to debt,

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because of “linkage”, the linked asset becomes non-admitted. In response to our May 18 letter, there was a reiteration that surplus notes need to be subordinate and to require Commissioner control on any payments and the following paragraph was exposed to be added to SSAP No. 41R. IPs agree with the language shown in bold italics:

The fundamental concept of paragraph 3 is that all surplus notes must be subordinate to all policyholders and all other creditors and that the domiciliary commissioner has control of payments made under a surplus note. Any dynamic, either when issuing a surplus note or through a subsequent transaction, that ultimately results with a surplus note that is not fully subordinate or that circumvents the commissioner control, disqualifies the instrument from “surplus note” treatment and the reporting entity shall report the issued instrument as debt under SSAP No. 15—Debt and Holding Company Obligations. Under the fundamental concept requiring subordination and commissioner control, surplus note accounting is prohibited in any situation in which a reporting entity has “linked” the cash flows payable from an issued surplus note with cash flows receivable under any other agreement or held asset. Such dynamics include, but are not limited to, situations in which terms negate or reduce cash flow exchanges, and/or when amounts payable under surplus notes and amounts receivable under other agreements or assets can be netted or offset (partially or in full) eliminating or reducing the exchange of cash or assets that would normally occur throughout the duration, or at maturity, of the agreement, asset or surplus note.

IPs do not agree with the wording in the third sentence that states that “…surplus note accounting is prohibited in any situation in which a reporting entity has linked the cash flows payable from an issued surplus note with cash flows receivable under any other agreement or held asset.” If this linkage does not result in a delay or reduction of cash flows or impact subordination, there is no reason to prohibit surplus note accounting and it should be acceptable. We believe a revised paragraph 4 as shown below would be appropriate to add to SSAP No. 41R:

The fundamental concept of paragraph 3 is that all surplus notes must be subordinate to all policyholders and all other creditors and that the domiciliary commissioner has control of payments made under a surplus note. Any dynamic, either when issuing a surplus note or through a subsequent transaction, which ultimately results with a surplus note that is not fully subordinate or that circumvents the commissioner’s control, or where the cash flows to be received from any financial asset held by the reporting entity are contingent upon the commissioner’s approval of surplus note payments, defines the surplus note as a “linked” surplus note which disqualifies the instrument from surplus note treatment and the reporting entity shall report the issued instrument as debt under SSAP No. 15 - Debt and Holding Company Obligations.

We would also respectfully request a holistic definition of a “linked” surplus note if it differs from the definition we have provided in the paragraph immediately preceding.

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Surplus notes are unique in that, not only are companies required to comply with SSAP No. 41R, they must also obtain approval and confirmation of such compliance from the domiciliary regulator prior to issuing surplus notes. IPs note that the current exposed wording for SSAP No. 41R would materially impact existing financing structures within the industry, especially insurer owned captive structures. For current captive financing structures, it is common practice for both the ceding company regulators and the captive regulators to perform rigorous review prior to initial approval. Elements of this rigorous review include:

• Review to ensure appropriate policyholder subordination and commissioner control with respect to surplus note payments, including legal and actuarial reviews, where appropriate;

• Review of other transactions or agreements involving affiliates, the holding company, or de facto agents of the reporting entity;

• Review of the financial condition of the reporting entity, along with its parent and affiliate entities; and

• Review of the use of surplus note proceeds.

None of these financing structures are entered into lightly – all necessary approvals are obtained from all appropriate regulators and ongoing analysis and vetting of the structures is provided to ensure that regulators have sufficient information to monitor subordination and approve surplus note interest and principal payments. Disclosures are included in the statutory filings and financial statements of the impacted companies and, in the case of captive financing transactions, the ceding companies and the captives; for example, the XXX/AXXX Reinsurance Supplement for captive financing transactions. While not standardized, detailed disclosures of these transactions are often included in SEC filings, and rating agencies receive advance notification and are fully informed of the transactions. We agree that robust disclosures can be standardized going forward for financing transactions, including both the captive and ceding company statutory financial statements for captive financing transactions. IPs can provide specific examples for consideration so that all regulators are fully informed of these transactions. If the current exposed language is adopted it would need to be adopted on a prospective basis, applicable only to policies with a future effective date, in order to include continuance of current previously approved financing structures and to preserve financing cost assumptions built into the customer’s premium. Finally, we believe that the scope of this exposure draft exceeds the issue in the referral from the Subgroup of the RTF. The original exposure draft by the Working Group in March 2018 contained a recommendation from a Subgroup of the RTF of a specific insurer owned captive financing structure, with a recommendation that no security be considered as a “Primary Security” (for purposes of compliance with Actuarial Guideline 48 and its successor Term and Universal Life Reserve Financing Model Regulation 787) when the receipt of cash from the issuer of the investment is impacted by the financial condition, actions, assets or obligations of the investment’s holders, the holder’s affiliates or creates a right of recourse or reimbursement

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against any such person or property. The issue the Subgroup of the RTF addressed was narrowly focused on whether specific securities could be considered Primary Securities. We do not believe it is appropriate or consistent with the referral to apply this language more broadly to define or limit surplus note accounting. The proposed language in the Working Group exposure draft would have unintended consequences outside the scope of the referral and could re-open issues addressed through Actuarial Guideline 48 and the model regulation amendments adopted in 2016. It should be noted that assets that are obtained by an insurer owned captive in exchange for a surplus note issued by that captive are already specifically excluded as a Primary Security in Actuarial Guideline 48 and Model Regulation 787. Thank you for considering IPs comments. We look forward to working with you and the Working Group on these topics. If you have any questions in the interim, please do not hesitate to contact either one of us. Sincerely, D. Keith Bell Rose Albrizio

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State of Vermont For consumer assistance: Department of Financial Regulation [Banking] 888-568-4547 89 Main Street [Insurance] 800-964- 1784 Montpelier, VT 05620-3101 [Securities] 877-550-3907

www.dfr.vermont.gov

via e-mail November 30, 2018 Dale Bruggeman, Chair Statutory Accounting Principles (E) Working Group c/o Julie Gann/Robin Marcotte National Association of Insurance Commissioners 1100 Walnut Street Suite 1500 Kansas City, MO 64106-2197 RE: Statutory Accounting Principles (E) Working Group (SAPWG) - Exposure Ref #2018-06 and #2018-07 Dear Dale: The Vermont Department of Financial Regulation – Captive Insurance Division (“VT DFR”) appreciates the opportunity to provide comments on the NAIC SAPWG’s Exposure documents (Ref #2018-06 and #2018-07). In developing these comments, the VT DFR obtained information from several stakeholders; therefore, we ask that you carefully consider the following:

1) The intent and purpose of the proposed changes are unclear. While we understand the revisions result from a referral made by the Reinsurance Task Force, there’s a real lack of clarity as to why the changes are needed. The SAPWG Ref #2018-07 proposal’s stated intent is to address a specific regulatory issue identified in the referral from the Reinsurance Task Force, and “to provide clear guidance that ‘surplus notes’ that are linked to other structures are not subordinate and do not qualify for surplus note accounting.” We do not fully understand the regulatory objective of the proposals, in fact, the elimination of surplus note accounting treatment for transactions in which netting arrangements may reduce the cash flows exchanged between parties, would be very problematic for existing “linked” transactions that achieve the same level of commissioner control and policyholder subordination under current guidance. If there

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VT DFR November 30, 2018 SAPWG Ref #2018-06 & #2018-07

is a problem with a particular transaction, or set of transactions, we prefer to see that the problem be more effectively handled with the individual company(ies) without affecting the accounting for transactions that have already been approved under the authority of multiple regulators, are well-understood and are structured such that commissioners have full control over such transactions and are subordinated to policyholders.

2) We believe that the current guidance already allows commissioners to exercise broad authority over the review and approval of surplus note transactions that are linked. We support the development of explicit guidance that would prevent the circumvention of regulatory authority under the current guidance in SSAP41. It is important that a company disclose, and the commissioner understand how the proceeds of surplus notes will be used or invested, including other factors in a transaction, but it is inappropriate use of accounting policy to limit commissioner discretion with respect to the approval of surplus notes. Therefore, the following considerations would provide a better basis for the clarified guidance requested in the referral:

• Review to ensure appropriate policyholder subordination and commissioner control, including legal review.

• Review to ensure there are no restrictions on the ability of the commissioner to approve payment of interest and principal to subordination of the note.

• Review of other transactions or agreements involving affiliates, the holding company, or de facto agents of the reporting entity.

• Review of the financial condition of the reporting entity, along with its parent and affiliate entities.

If the presence of a “linked” note creates a risk that the surplus note payments are not under the full control of the commissioner, and thus, might cause payments to policyholders to be subordinate to surplus note payments, then the surplus note should be treated as debt. However, if the commissioner has full control over payment of surplus note interest and principal, then the surplus note can be treated as equity regardless of whether the surplus note is “linked” to another instrument in a note-for-note structure. We believe these considerations should be incorporated more explicitly into regulator procedures for review of surplus notes and not included in the Accounting Practices and Procedures Manual.

3) The description of the issue in the Form A includes the recommendation that the

definition of “Primary Security” be used as limiting criteria with respect to the determination of whether a surplus note incorporates appropriate policyholder subordination or commissioner control. We do not believe the accounting guidance for surplus notes, intended to apply to instruments used by many different companies for a

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wide variety of business purposes, should mirror or incorporate the interpretations of the Reinsurance Task Force with respect to the eligibility of assets for reinsurance credit purposes.

4) We are concerned that certain financing transactions that use note-for-note structures will be impacted solely as a result of the netting agreements which are commonly incorporated in these transactions. Netting arrangements are used in many types of transactions to reduce administrative burdens associated with the transfer of cash or other assets back and forth between the parties. The same is true of netting arrangements in many note-for-note structures, which are administrative in nature. Relatively to specific approvals issued by the VT DFR, we found that such netting agreements neither impact policyholder subordination, nor do they result in contractual “linkage” that would circumvent commissioner control in the manner described in the referral from the Reinsurance Task Force. Netting agreements in the appropriate context should not trigger adverse treatment of a surplus note transaction. The issue with the proposal is the assumption that the note/asset is less than valid, but some note-for-note structures are “on-demand” and highly liquid.

We recommend the following revisions to eliminate the overly broad reference to netting arrangements while appropriately addressing the subject matter of the referral from the Reinsurance Task Force. The resulting guidance will reinforce the prohibition on the “linkage” of surplus notes with other held assets, while preserving appropriate commissioner discretion with respect to the review and approval of surplus notes in the specific circumstances in which they are considered.

4. The fundamental concept of paragraph 3 is that all surplus notes must be subordinate to all policyholders and all other creditors and that the domiciliary commissioner has control of payments made under a surplus note. Any dynamic, either when issuing a surplus note or through a subsequent transaction, that ultimately results with a surplus note that is not fully subordinate or that circumvents the commissioner control, disqualifies the instrument from “surplus note” treatment and the reporting entity shall report the issued instrument as debt under SSAP No. 15—Debt and Holding Company Obligations. Under the fundamental concept requiring subordination and commissioner control, surplus note accounting is prohibited in any situation in which a reporting entity has “linked” the cash flows payable from an issued surplus note with cash flows receivable under any other agreement or held asset in a manner which would circumvent the ability of the commissioner to exercise control over surplus note interest or principal payments. Such dynamics include, but are not limited to, situations in which terms negate or reduce cash flow exchanges, and/or when amounts payable under surplus notes and amounts receivable under other agreements or assets can be netted or

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offset (partially or in full) eliminating or reducing the exchange of cash or assets that would normally occur throughout the duration, or at maturity, of the agreement, asset or surplus note.

5) We recommend that existing transactions are not included in the scope of the proposed changes to the accounting guidance primarily because a) each “linked” surplus note transaction approved in Vermont are fundamentally sound, provide for appropriate risk transfer, and are under the full control by the commissioner; and b) the proposed guidance would create a double-penalty on surplus since the rated security cannot be carried as a bond, and reported on Schedule BA/non-admitted, and further, the surplus note would be forced to be accounted for as debt, not surplus. If the proposals are adopted such that all surplus notes that are “linked” to other instruments will be treated as debt regardless of whether the commissioner has full control over the surplus note interest or principal payments, such treatment should apply to prospective transactions only. If prior transactions are not grandfathered, Vermont will issue permitted practices for existing transactions to allow administrative netting agreements and to account for surplus notes that are “linked” in the same manner as was already vetted and approved.

Sincerely, Sandy Bigglestone Director of Captive Insurance cc: David Provost, Deputy Commissioner of Captive Insurance – VT DFR

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Attachment 30

Statutory Accounting Principles (E) Working Group 2018 Fall National Meeting Comment Letters Received

TABLE OF CONTENTS

COMMENTER / DOCUMENT PAGE REFERENCE

Comment Letters Received on SSAP No. 101—Income Taxes

Interested Parties – December 11, 2018 o SSAP No. 101 Q&A – Application of Paragraph 11.c

1

Interested Parties – December 11, 2018 o SSAP No. 101 Q&A – Revisions for the Tax Cuts and Jobs Act (TCJA)

11




December 11, 2018


RE: TCJA/ SSAP No. 101 Q&A

Dear Mr. Bruggeman:

Interested parties are writing to follow-up on the comments made in our April 23, 2018 letter that was submitted in response to a request by the Statutory Accounting Principles Working Group regarding the effect of the tax legislation commonly referred to as the Tax Cuts and Jobs Act (“TCJA”)1 on reversal patterns of deferred tax items for statutory accounting purposes. In that letter, we noted that varying interpretations by external audit firms of certain paragraphs of the Q&A to SSAP No. 101 could inappropriately result in inconsistent treatment among reporting entities. This concern was borne out as statutory audits were completed in the following weeks. Accordingly, we believe that certain revisions to the Q&A should be considered to clarify the statutory accounting requirements and to promote consistent treatment among reporting entities. The purpose of this letter is to propose such clarifications and to provide interested parties’ comments on why such changes should be made.

In our April 23 letter, we noted that some companies had reported that their external auditors were citing a combination of TCJA’s repeal of the life insurance company ordinary loss carryback with the “known” DTL reversal from the 8-year reserve transition relief as requiring scheduling (i.e., matching of DTA and DTL reversals) in the subsequent 3 years for purposes of the SSAP No. 101 paragraph 11.c. DTA admission test. This could potentially and unnecessarily accelerate recognition of the negative surplus impact of the 8-year transition payment. This was

1 An Act to Provide for Reconciliation Pursuant to Titles II and V of the Concurrent Resolution on the Budget for Fiscal Year 2018, P.L. 115-97.

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Statutory Accounting Principles Working Group December 11, 2018 Page 2 the case even if the company was not required to schedule deferred tax reversals in order to support not establishing a valuation allowance adjustment against ordinary gross DTAs under paragraph 7.e. of SSAP No. 101, and even if the company did not rely on reversal of existing DTLs as a source of income in supporting not establishing a valuation allowance. We noted that the support for this position, while not clearly articulated, appeared to have been based in part on the notion that the same DTAs considered in the paragraph 11.a. and 11.b. admission tests cannot be used in the paragraph 11.c. admission test, a position that in our view is clearly contradicted by paragraph 4.2 of the SSAP No. 101 Q&A. We further noted that this position effectively required a company to redo its valuation allowance analysis considering only one source of taxable income - i.e., DTLs - a source which may not have had to be considered at all in concluding that a valuation allowance was not required in the first place. In our view, this position highlights the need for certain clarifications in the Q&A which we have set forth in the attachment to this letter and the rationale for which is explained below. We believe that the inconsistent interpretation of the existing Q&A derives primarily from the following two items:

• What constitutes “scheduling”, “detailed scheduling”, or “additional detailed scheduling”. • How “historical and/or currently available information” should be considered in the context

of the DTA admission test under paragraph 11.c. We have proposed language to address these issues. We also have proposed language to further clarify the existing rule that consideration of temporary differences in the calculation of DTAs admitted under paragraphs 11.a. and 11.b.i. does not prevent reconsideration of the same temporary differences in the paragraph 11.c. calculation, subject of course to the subtraction requirement described in paragraph 4.2 of the Q&A to avoid duplication of the amount of DTAs. It is important to note that these proposed clarifications to the Q&A should be viewed in the context of a reporting entity that has adequate amounts of future taxable income exclusive of future reversals of existing taxable temporary differences to support not establishing a statutory valuation allowance adjustment against ordinary gross DTAs. As noted in paragraph 2.5 of the Q&A, a reporting entity is not required to consider all four sources of taxable income set forth in paragraph 13 of SSAP No. 101 in determining the need for a statutory valuation allowance adjustment if one or more sources are alone sufficient to support the conclusion that the entity will realize the tax benefits of its gross DTAs (i.e., a conclusion that no statutory valuation allowance is necessary). As noted above, the position advanced by certain audit firms effectively requires such a company to redo its valuation allowance analysis considering only one source of taxable income - its reversing DTLs - when that source of income was superfluous to the determination that gross DTAs will be fully realizable. Scheduling Paragraph 5.3 of the SSAP No. 101 Q&A already sets forth a definition of scheduling - i.e., the analysis performed to determine the pattern and timing of the reversal of temporary differences. As noted in our April 23 letter, some audit firms are maintaining that taking “known” reversals into account is not scheduling, when in fact determining the amount and timing of the reversal of temporary differences is the very definition of scheduling. Many temporary differences besides

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Statutory Accounting Principles Working Group December 11, 2018 Page 3 the TCJA reserve transition liability have, and always have had, reversal patterns that could be easily calculated. It is unreasonable to maintain that there is a category of “known” temporary difference for which the amount and timing of reversal can be determined that somehow falls short of scheduling. To clarify this point, we recommend including in paragraph 5.3 a sentence stating that scheduling includes any determination of the amount of a temporary difference that reverses in a future period, even if the reversal pattern is readily determinable, such as straight-line amortization of a fixed amount. In conformity with this change, we further recommend that a sentence be added at the end of paragraph 2.6 and in paragraph 2.7 of the Q&A to cross-reference the definition of scheduling in paragraph 5.3. We further recommend some wording changes in the last sentences of paragraph 2.7 to make it absolutely clear that this discussion of scheduling does not apply to a reporting entity mentioned earlier in paragraph 2.7 that is not required to schedule the reversal pattern of its existing temporary differences. Consideration of Historical and/or Currently Available Information in DTA Admission Tests Both paragraphs 2.5 and 4.13 of the Q&A refer to consideration of “historical and/or currently available information” in determining admitted DTAs. In the GAAP context, this language is used in describing the evidential information that is to be considered to determine whether a valuation allowance for DTAs is needed,2 and the first part of paragraph 2.5 provides similarly for purposes of the statutory valuation allowance adjustment. However, paragraph 2.5 of the Q&A also provides that “historical and/or currently available information may exist that is also relevant to” the guidance on admission of DTAs, and that it must be considered when determining the amount of admitted DTAs irrespective of the conclusion reached in establishing or not establishing a valuation allowance. Further, paragraph 4.13 of the Q&A provides in two different places that such information “specific to the remaining adjusted gross DTAs and DTLs must also be taken into consideration when determining admission by offset with gross DTLs” and “must be considered and be consistent with the conclusion to admit or nonadmit adjusted gross DTAs under paragraph 11.c. without additional detailed scheduling.” Instead of leading to clarity, having four sentences with somewhat different wording in three separate places in two different paragraphs of the Q&A leads to a lack of clarity that in turn has led to inconsistent application of the guidance. Further, because historical and/or currently available information has already been considered in determining that adjusted gross DTAs are more likely than not to be realized (i.e., considered in the determination of the valuation allowance), it is unclear just how such information is of further relevance to the paragraph 11.c. admission guidance that is the subject of paragraph 4.13 of the Q&A. This lack of clarity is compounded by use of inflexible phrases such as “must be considered” and “irrespective of”. This is especially problematic for companies that have relied on sources of future income other than the reversal of existing temporary differences in determining the need (or not) for a 2 ASC 740-10-30-17 states: “All available evidence, both positive and negative, shall be considered to determine whether, based on the weight of that evidence, a valuation allowance for deferred tax assets is needed. Information about an entity’s current financial position and its results of operations for the current and preceding years ordinarily is readily available. That historical information is supplemented by all currently available information about future years.”

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Statutory Accounting Principles Working Group December 11, 2018 Page 4 valuation allowance. Specifically, the language of paragraphs 2.5 and 4.13 has been cited as requiring the scheduling of reversals of deferred tax items for the paragraph 11.c. admission test, even in cases where scheduling has not been required for purposes of determining that no valuation allowance against ordinary DTAs was necessary. As previously noted, this interpretation effectively forces a company in that position to redo its valuation allowance analysis by looking at only one source of income (reversal of existing taxable temporary differences) that was not even necessary to consider in determining that no valuation allowance was necessary - in our view a clearly inappropriate result. For these reasons, we recommend consolidating and clarifying language. First, paragraph 2.5 otherwise deals with the determination of adjusted gross DTAs. However, the last two sentences of paragraph 2.5 are directed toward a separate topic - admission of adjusted gross DTAs. Accordingly, we recommend that the discussion of historical and/or currently available information in the context of DTA admission be consolidated in paragraph 4.13, and that paragraph 2.5 simply make reference to paragraph 4.13. Second, the sentence near the end of paragraph 4.13 beginning “However…” appears to directly contradict the preceding sentence, at least for reporting entities to which that previous sentence applies. For this reason, and for purposes of consolidating the discussion in paragraph 4.13, we recommend that portions of the “However…” sentence be included in the sentence earlier in paragraph 4.13 that also makes reference to historical and/or currently available information, and that the “However…” sentence itself be deleted. Finally, we recommend that such earlier sentence in paragraph 4.13 be expanded to clarify that it applies to reporting entities other than those that rely on sources of taxable income exclusive of reversals of temporary differences in evaluating the need for a valuation allowance, and to state that it does not require scheduling (as defined in paragraph 5.3) in the 11.c. admission test beyond that required in determining the need for a valuation allowance.3 Lastly, we recommend including a sentence in paragraph 5.1 of the Q&A making it clear that scheduling for purposes of paragraph 11.c. is not necessary beyond the extent required by paragraph 4.13 as modified by our above recommendations. In making these recommendations, we have duly considered that:

• In arriving at adjusted gross DTAs, historical and/or currently available information still must be taken into account in the determination of the statutory valuation allowance adjustment in accordance with the guidance in paragraph 2.5 of the Q&A

• Adjusted gross DTAs after reduction by any statutory valuation allowance adjustment have already been deemed more likely than not to be realized and should not effectively be required to pass that hurdle again with more restricted sources of future taxable income

• Paragraph 6.1 of the Q&A explicitly states that the amount of adjusted gross DTAs and gross DTLs is not recalculated under paragraph 11; rather, the purpose of paragraph 11 is to determine the amount of adjusted gross DTAs that can be admitted

• Admissibility of adjusted gross DTAs is already subject to significant guardrails, including: 3 As noted in the following section of this letter, we also recommend deletion of the word “remaining” before “adjusted gross DTAs” in that sentence for the reasons stated below.

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Statutory Accounting Principles Working Group December 11, 2018 Page 5

• The Realization Threshold Limitation Tables set forth in paragraph 11.b. of SSAP No. 101 which restrict DTA reversals to 3 years or less and which impose a cap on DTAs admitted under paragraph 11.b. of 15% or less of surplus

• The requirement in paragraph 11.c. that DTAs that are capital in character are permitted to offset only DTLs that are capital in character

• Reporting entities that are required to schedule temporary differences in determining the valuation allowance will have to do the same in the paragraph 11.c. admission test.

Consideration of Temporary Differences in the Paragraph 11 DTA Admission Tests As noted above, some external audit firms have maintained that the same DTAs considered in the paragraph 11.a. and 11.b. admission tests cannot be used in the paragraph 11.c. admission test. In our view, this position is clearly insupportable under paragraph 4.2 of the Q&A, which states that each of the calculations under paragraphs 11.a., 11.b. and 11.c. starts with the total of the reporting entity’s adjusted gross DTAs, and then provides a subtraction mechanism to prevent duplication before determining the amount of adjusted gross DTAs that can be admitted under that part. Paragraph 4.2 of the Q&A also states, as an example, that the consideration of existing temporary differences in the calculation of admitted DTAs under paragraph 11.a. does not prevent the reconsideration of the same temporary differences in the paragraph 11.b.i. calculation. It has been noted, however, that a similar example is not expressly provided for paragraph 11.c. Although the sentence about starting each calculation with total adjusted DTAs seems perfectly clear, and although the 11.a./11.b.i. example is just an example, we nevertheless recommend that a sentence be added to paragraph 4.2 to state that likewise, the consideration of temporary differences under either 11.a. or 11.b.i. does not prevent reconsideration of the same temporary differences in the 11.c. calculation. We also recommend that a cross reference be added at the end of paragraph 4.2 to the examples in paragraphs 4.16-4.25 that illustrate the paragraph 11 DTA admission calculations. Further, we recommend that both paragraph 4.9 and 4.13 of the Q&A include a cross-reference back to paragraph 4.2. Lastly, we recommend deletion of the word “remaining” in what would be the seventh sentence of our recommended revision to paragraph 4.13 (beginning “In addition to consideration of…), as that word can be viewed as conflicting with the requirement in paragraph 4.2 that each of the paragraph 11 calculations starts with total adjusted DTAs.

* * * * Thank you for considering interested parties’ comments. We look forward to working with you and the Working Group on this topic. If you have any questions in the interim, please do not hesitate to contact either one of us.

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Statutory Accounting Principles Working Group December 11, 2018 Page 6 Sincerely, D. Keith Bell Rose Albrizio cc: Julie Gann, NAIC staff Robin Marcotte, NAIC staff Interested parties

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Suggested Clarifications to SSAP 101 Q&A 2.5 SSAP No. 101 paragraph 7.e. provides that gross DTAs are reduced by a statutory valuation allowance adjustment if, based on the weight of available evidence, it is more likely than not that some portion or all of the gross DTAs will not be realized. The statutory valuation allowance adjustment is determined on a separate company, reporting entity basis. The determination of whether gross DTAs will be realized is based on the existence of sufficient taxable income of the appropriate character (ordinary income or capital gain) within the carryback, carryover period available under the tax law. Paragraph 13.a. through d. of SSAP No. 101 identifies four sources of taxable income to be considered in evaluating the existence of sufficient taxable income. These sources are identical to those to be considered under FAS 109 paragraph 21. FAS 109 paragraph 20 provides that “all available evidence, both positive and negative, should be considered to determine whether, based on the weight of that evidence, a valuation allowance is needed. Information about an enterprise’s current financial position and its results of operations for the current and preceding years ordinarily is readily available. That historical information is supplemented by all currently available information about future years. Sometimes, however, historical information may not be available (for example, start-up operations) or it may not be as relevant (for example, if there has been a significant, recent change in circumstances) and special attention is required.” A reporting entity is not required to consider all four sources of taxable income in determining the need for a statutory valuation allowance adjustment if one or more sources are alone sufficient to support the conclusion that the entity will realize the tax benefits of its gross deferred tax assets (i.e., a conclusion that no valuation allowance is necessary). However, the reporting entity is required to consider all of the potential sources of taxable income to determine the amount of the adjustment if a conclusion is reached that a statutory valuation allowance adjustment is necessary. Given the modification to FAS 109 made in SSAP No. 101 related to admission of DTAs, historical and/or currently available information may exist that is also relevant to this admission guidance. See Question 4.13 for discussion regarding consideration of Tthis historical and/or currently available information must also be considered whenin determining the amount of DTAs admitted under paragraph 11.c. of SSAP No. 101, irrespective of the conclusion reached in establishing or not establishing a statutory valuation allowance adjustment. 2.6 Footnote 1 to paragraph 7.e. of SSAP No. 101 indicates that a reporting entity shall consider reversal patterns of temporary differences, and might be required to schedule such differences:

…to the extent necessary to support establishing or not establishing a valuation allowance adjustment, determined in accordance with paragraphs 228 and 229 of FAS 109. For purposes of this accounting statement, consideration of reversal patterns does not require scheduling beyond that necessary to support establishing or not establishing a valuation allowance adjustment.

Paragraph 228 of FAS 109 generally holds that a company may need to schedule its temporary differences to determine the particular years in which the reversal of temporary differences is expected to occur. As discussed in Question 5b, paragraph 229 of FAS 109 indicates that future originating temporary differences and their subsequent reversal should be considered in determining the existence of future taxable income. For a definition of scheduling, see Question 5.3.

2.7 Although a reporting entity may need to consider the reversal pattern of temporary differences in evaluating the need for a statutory valuation allowance adjustment, scheduling the reversal pattern of such differences is not required in every instance. Under SSAP No. 101 and consistent with FAS 109, a general understanding of reversal patterns is, in many cases, relevant in assessing the need for a valuation allowance. Judgment is crucial in making this assessment. The amount of scheduling, if any, that will be required will depend on the facts and circumstances of each situation. ( S e e Q u e s t i o n 5 . 3 f o r a d e f i n i t i o n o f s c h e d u l i n g . ) For example, a reporting entity which relies upon future taxable income exclusive of reversing temporary differences and carryforwards5 for realization of DTAs is not required to schedule the reversal pattern of its existing temporary differences. This is consistent with

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guidance provided by the Financial Accounting Standards Board (FASB) in its answer to question 2 of A Guide to Implementation of Statement 109 on Accounting for Income Taxes: Question and Answers (Special Report on Statement 109) which states that scheduling of existing temporary differences is unnecessary for purposes of determining the need for a valuation allowance “where it can be easily demonstrated that future taxable income will more likely than not be adequate to realize future tax benefits of existing deferred tax assets.” In contrast, a reporting entity which relies upon the future reversal of existing taxable temporary differences to realize the tax benefits of its deductible temporary differences and carryforwards may be required to consider the reversal patterns of its taxable temporary differences.6

The degree of scheduling required, however, depends on the facts and circumstances of each situation and the relative magnitude of the taxable and deductible temporary differences. In certain situations involving reporting entities for which scheduling of temporary differences has not already been determined to be unnecessary, the ability to reasonably conclude that reversing taxable temporary differences will more likely than not create sufficient taxable income to realize reversing deductible temporary differences can be done without detailed scheduling.7

5 One of the four possible sources of taxable income that can be used to realize a tax benefit. See paragraph 13.b. of SSAP No. 101.

6[AS1] For example, due to the relatively short loss carryback periods (or, in the case of ent it ies taxed as life insurance companies, no carryback of operat ing losses) under existing current tax law, such consideration may be appropriate when taxable temporary differences are expected to reverse in a short number of future years while the deductible temporary differences are expected to reverse over a long number of future years. In addition, for “indefinite-lived” intangible assets (i.e., intangible assets like those discussed in paragraph 11 of FAS 142 for which no legal, regulatory, contractual, competitive, economic, or other factors limit their useful lives), predicting reversal of temporary differences related to such assets would be inconsistent with financial reporting assertions that the assets are indefinite-lived. In such a case, the reversal of taxable temporary differences with respect to such indefinite-lived intangible assets should not be considered a source of future taxable income when determining the statutory valuation allowance adjustment for entities taxed as non-life insurance companies. On the other hand, entities taxed as life insurance companies may, under current tax law, carry forward operating losses with no expiration period, subject to a utilization limit of 80% of taxable income (before the loss carryforward) in the carryforward year. In such case, the reversal of taxable temporary differences with respect to indefinite-lived intangible assets may be considered a source of taxable income, subject to the applicable tax law limitations.

7 Q&A 2 from the Special Report on Statement 109 published by the FASB.

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4.2 Paragraphs 11.a., 11.b. and 11.c. require three interdependent calculations or components that when added together equals the amount of the reporting entity’s admitted adjusted gross DTAs. Each of the calculations starts with the total of the reporting entity’s adjusted gross DTAs, and determines the amount of such adjusted gross DTAs that can be admitted under that part. For example, the consideration of existing temporary differences in the calculation of admitted adjusted gross DTAs under paragraph 11.a., does not prevent the reconsideration of the same temporary differences in the paragraph 11.b.i. calculation. Likewise, the consideration of existing temporary differences in the calculation of admitted adjusted gross DTAs under either paragraph 11.a or 11.b.i. does not prevent the reconsideration of the same temporary differences in the paragraph 11.c. calculation. However, to avoid duplication of admitted adjusted gross DTAs when adding the three parts together, the amount of admitted adjusted gross DTAs under paragraph 11.a. must be subtracted from the amount of adjusted gross DTAs in the paragraph 11.b.i. calculation. Similarly, the amount of admitted adjusted gross DTAs under paragraphs 11.a. and 11.b. must be subtracted from the total adjusted gross DTAs in the paragraph 11.c. calculation. For illustrations of the paragraph 11 DTA admission calculations see Questions 4.16-4.25.

4.9 The amount of admitted adjusted gross DTAs under paragraph 11.b.i., is limited to the amount that the reporting entity expects to realize within the applicable period as determined using the applicable Realization Threshold Limitation Table following the balance sheet date. See Question 6 for a further discussion of the meaning of “expected to be realized.” Se e Qu es t io n 4. 2 r e ga rd i ng t he a mo u nt o f ad j us t ed gro ss DT As c o ns i de re d i n t he p a ra gra p h 1 1.b . i . c a lc u la t io n. The amount of admitted adjusted gross DTAs under the paragraph 11.a. calculation is subtracted from the amount of adjusted gross DTAs under paragraph 11.b.i., to prevent the counting of the same admitted adjusted gross DTAs more than once. If the reporting entity expects to realize an amount of adjusted gross DTAs under paragraph 11.b.i. that is equal to or less than the admitted adjusted gross DTAs calculated under paragraph 11.a., then the resulting admitted adjusted gross DTAs under paragraph 11.b.i. will be zero. 4.13 Under paragraph 11.c., a reporting entity can admit adjusted gross DTAs as an offset against gross DTLs in an amount equal to the lesser of: (1) its adjusted gross DTAs, after subtracting the amount of admitted adjusted gross DTAs under paragraphs 11.a. and 11.b., or (2) its gross DTLs. S ee Q ues t i o n 4 . 2 re ga rd i ng t he a mo u nt o f ad j us te d gro ss DT As co ns i de red i n t he p a ra gra p h 1 1 .c . ca l cu l at i o n. In determining the amount of adjusted gross DTAs that can be offset against existing gross DTLs in the paragraph 11.c. calculation, the character (i.e., ordinary versus capital) of the DTAs and DTLs must be taken into consideration such that offsetting would be permitted in the tax return under existing enacted federal income tax laws and regulations. For example, an adjusted gross DTA related to unrealized capital losses could not be offset against an ordinary income DTL. Ordinary DTAs can be admitted by offset with ordinary DTLs and/or capital DTLs. However, capital DTAs can only be admitted by offset with capital DTLs. In addition to consideration of the character of the DTAs and DTLs, for reporting entities other than those that rely on sources of taxable income exclusive of reversals of temporary differences in evaluating the need for a statutory valuation allowance adjustment, significant and relevant historical and/or currently available information specific to the remaining adjusted gross DTAs and gross DTLs must alsoshould be taken into consideredation when determining admission by offset with gross DTLs in the determination of the admission of adjusted gross DTAs under paragraph 11.c., but without requiring scheduling (as defined in Question 5.3) beyond that required in determining the need for a statutory valuation allowance adjustment. As stated in paragraph 11.c., “for purposes of this component, the reporting entity shall consider the reversal patterns of temporary differences; however, this consideration does not require scheduling beyond that

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required in paragraph 7.e.” (See Question 2.5 through 2.8 for further discussion of scheduling for purposes of determining the reporting entity’s statutory valuation allowance adjustment.) [AS2]This consideration requires a scheduling exercise if scheduling is needed for determination of the statutory valuation allowance adjustment and, as a result, should be consistent with the determination of any statutory valuation allowance adjustment, which occurs prior to performing the admissibility calculations.13 However, Aas noted in Question 2.7, scheduling reversal patterns of temporary differences in evaluating the need for a statutory valuation allowance adjustment where a reporting entity relies on sources of future taxable income, exclusive of reversals of temporary differences, is not required. In such case, that reporting entity is not required to schedule reversal patterns of temporary differences for purposes of paragraph 11.c. of SSAP No. 101. However, the significant and relevant historical and/or currently available information noted above must be considered and be consistent with the conclusion to admit or nonadmit adjusted gross DTAs under paragraph 11.c. without additional detailed scheduling. See Question 2.5 through 2.8 for further discussion of scheduling for purposes of determining the reporting entity’s statutory valuation allowance adjustment. 13 Footnote 1 of SSAP No. 101 provides that a reporting entity “shall consider reversal patterns of temporary differences to the extent necessary to support establishing or not establishing a valuation allowance adjustment.” (Emphasis added). 5.1 A – The timing of temporary difference reversals is critical in determining the amount of admitted adjusted gross DTAs. Determining the reversal of temporary differences impacts the adjusted gross DTA admitted pursuant to paragraphs 11.a., 11.b.i. and potentially 11.c. of SSAP No. 101. For purposes of paragraph 11.c., determining the reversal of temporary differences (that is, scheduling, as defined in Question 5.3 below) is necessary only to the extent required by Question 4.13.

5.3 Paragraph 228 of FAS 109 states, in pertinent part, that “[t]he particular years in which temporary differences result in taxable or deductible amounts generally are determined by the timing of the recovery of the related asset or settlement of the related liability.” Question 1 of the FASB’s Special Report on Statement 109 provides additional guidance on scheduling. It defines “scheduling” as the analysis performed to determine the pattern and timing of the reversal of temporary differences. Thus, scheduling includes any determination of the amount of a temporary difference that reverses in a future period, even if the reversal pattern is readily determinable, such as straight-line amortization of a fixed amount. ItThe FASB’s Special Report also provides certain s c h e d u l i n g guidelines to be followed, including the need for the method employed to be systematic and logical, that a consistent method be used for each category of temporary differences, and that a change in the method used be considered a change in accounting principle.

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December 11, 2018


RE: TCJA/ SSAP No. 101 Q&A

Dear Mr. Bruggeman:

Earlier this year, the NAIC Statutory Accounting Principles (E) Working Group adopted Ref #2018-01 which made revisions to SSAP No. 101 and the SSAP No. 101 Q&A to reflect changes with respect to the enactment of the Federal income tax legislation commonly referred to as the Tax Cuts and Jobs Act (TCJA). With respect to the Q&A, Ref #2018-01 made only a couple of minor changes but deferred other revisions to be completed as a separate project of the Working Group. Subsequently, interested parties volunteered to provide staff of the Working Group with a draft redline of further revisions to the SSAP No. 101 Q&A necessitated by TCJA. Attached to this letter is a Word file for 12 of the 13 Q&As with interested parties’ draft of those suggested changes. (Please note that we have made no changes to Q&A 1, pending input from the Working Group or its staff as to whether to include disclosure changes incorporated in Ref #2018-01 and Ref #2018-15). Also attached is a two-page key to the changes we have proposed.

Unlike the body of SSAP No. 101 itself, a significant number of revisions are necessary to the Q&A to reflect the tax law changes made by TCJA, particularly in the Q&A’s many examples. The changes that we have made are driven primarily by TCJA’s 1) reduction in the corporate tax rate (and elimination of the graduated corporate tax rates); 2) repeal of the corporate alternative minimum tax; 3) repeal of the small life insurance company deduction; and 4) elimination of the net operating loss carryback for life insurance companies, but allowance of an unlimited carryover period. A few other changes have been suggested where appropriate. The reasons for most of the proposed changes are self-evident. Where they are not - or in a few places where

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Statutory Accounting Principles Working Group December 11, 2018 Page 2 changes might have been made but were not - a comment has been added in the margins. In one telephone discussion with staff of the Working Group, it was suggested by staff that the Q&A could be shortened. However, except where deletions have been made for TCJA-related tax law changes, we have not attempted to do so. First, the numerous examples and illustrations in the Q&A are often referred to by reporting entities and their external auditors and provide valuable guidance on interpretation and presentation, and companies would be reluctant to delete some of that guidance merely for purposes of shortening the Q&A. Second, if the Working Group concludes it is necessary to shorten the Q&A, interested parties believes that more direction would be needed from the Working Group or its staff as to where deletions would be appropriate before undertaking a draft of such revisions. Please note that we have not at this point made conforming changes such as to the Index or revising cross-references within the Q&A, though we have renumbered paragraphs where deletions have been made. Nor have we renumbered footnotes (which restarted at 1 when we copied the Q&A) for deletions and additions. Apologies for the odd page breaks - they appeared when the individual Q&A’s were copied into separate files.

* * * * Thank you for considering interested parties’ comments. We look forward to working with you and the Working Group on this topic and would be please to discuss with you any of the changes suggested in these attachments. If you have any questions in the interim, please do not hesitate to contact either one of us. Sincerely, D. Keith Bell Rose Albrizio cc: Julie Gann, NAIC staff Robin Marcotte, NAIC staff Interested parties

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SSAP 101 Q&A 2 2. Q – How should an entity measure its adjusted gross deferred tax assets

d i deferred tax liabilities? [Paragraph 7]

2.1 A – An enterprise shall record a gross deferred tax liability or asset for all temporary differences and operating loss, capital loss and tax credit carryforwards. Temporary differences include unrealized gains and losses and nonadmitted assets but do not include AVR, IMR, Schedule F penalties and, in the case of a mortgage guaranty insurer, amounts attributable to its statutory contingency reserve to the extent that "tax and loss" bonds have been purchased. In general, temporary differences produce taxable income or result in tax deductions when the related asset is recovered or the related liability is settled. A deferred tax asset or liability represents the increase or decrease in taxes payable or refundable in future years as a result of temporary differences and carryforwards at the end of the current year. Additionally, gross DTAs are reduced by a statutory valuation allowance adjustment if, based on the weight of available evidence, it is more likely than not (a likelihood of more than 50 percent) that some portion or all of the gross DTAs will not be realized. The statutory valuation allowance adjustment, determined in a manner consistent with paragraphs 20 through 25 of FAS 109, shall reduce gross DTAs to the amount that is more likely than not to be realized (the adjusted gross deferred tax assets).1 This answer only addresses the recognition of adjusted gross DTAs and gross DTLs and does not address the admissibility of such amounts. See Question 4 for a discussion of the admissibility criteria of SSAP No. 101.

2.2 Paragraph 7 of SSAP No. 101 states that temporary differences are identified and measured using a “balance sheet” approach whereby the statutory balance sheet and the tax basis balance sheet are compared. Operating loss, capital loss and tax credit carryforwards are computed in accordance with the applicable Internal Revenue Code.

2.3 The following illustrates the recognition and measurement of a typical book to tax difference for an insurance company:

Illustration Assumptions:

1/1/X2 Purchase 100 shares of Darby/Allyn Corp. stock for $25 a share 3/31/X2 Fair Value of Darby/Allyn Corp. stock has increased to $35 a share 3/31/X2 Tax basis reserves are computed and determined to be 80% of the statutory basis reserves

Balance Sheet at 3/31/X2:

Statutory Basis Tax Basis

Basis Difference

Tax Effect DTA (DTL) (2135%)2

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Common Stock $3,500 $2,500 ($1,000) 3 ($210350) Reserves $100,000 $80,000 $20,000 4 $4,2007,000

Journal Entries:

1/1/X2 DR Common stock $2,500

1 SSAP No. 101 requires the statutory valuation allowance adjustment to be presented in the annual statement as a direct reduction in the gross DTA. It is not included in non-admitted DTA.

2 See Question 3 for a discussion of “enacted rates.”

3 The carrying value of the stock on the statutory balance sheet reflects the fair value of the common stock per SSAP No. 30 — Investments in Common Stock (excluding investments in common stock of subsidiary, controlled, or affiliated entities) whereas the carrying value of the stock for tax purposes is its original cost. This difference is defined as temporary in that the $1,000 appreciation in value will be recognized in the tax return when the stock is disposed of. The difference is a deferred tax li ability in that the reversal of this temporary difference will increase future taxable income.

4 The reserve difference is due to the fact that statutory reserves are computed on a more conservative set of assumptions than for tax (life and health entities) or the tax reserves are discounted (property and casualty and other health entities)arises because, even though tax reserves are based on statutory reserves, they generally are reduced below statutory reserves pursuant to various provisions of the Internal Revenue Code. This amount is a temporary difference in that the entity will recognize the difference between statutory and tax carrying values over the life of the reserve or upon settlement of the claim or payment of the reserve. The difference is a deferred tax asset in that the reversal of this temporary difference will decrease future taxable income.

CR Cash ($2,500) Acquisition of common stock at $25 per share

3/31/X2 DR Common stock $1,000

CR Change in unrealized capital gains and losses ($1,000) Adjust carrying value to FV of $35 per share at end of quarter

3/31/X2 DR Change in reserves or unpaid losses $100,000

CR Reserves or Unpaid losses ($100,000) Recognition of reserves computed on a statutory basis 3/31/X2 DR Deferred tax asset $4,2007,000

CR Change in deferred income taxes ($3,9906,650) CR Deferred tax liability ($210350) Recognition of deferred taxes

NOTE: Presentation of deferred tax amounts and unrealized gain or losses net of tax is addressed in Question 12.

2.4 As depicted in the Illustration, the deferred tax assets and liabilities are tracked gross in the entity’s ledger and not netted until after consideration of the statutory valuation allowance adjustment, if any (see below), and the admissibility of deferred tax assets.

Statutory Valuation Allowance Adjustment

2.5 SSAP No. 101 paragraph 7.e. provides that gross DTAs are reduced by a statutory valuation allowance adjustment if, based on the weight of available evidence, it is more likely than not that some portion or all of the gross DTAs will not be realized. The statutory valuation allowance adjustment is

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determined on a separate company, reporting entity basis. The determination of whether gross DTAs will be realized is based on the existence of sufficient taxable income of the appropriate character (ordinary income or capital gain) within the carryback, carryover period available under the tax law. Paragraph 13.a. through d. of SSAP No. 101 identifies four sources of taxable income to be considered in evaluating the existence of sufficient taxable income. These sources are identical to those to be considered under FAS 109 paragraph 21. FAS 109 paragraph 20 provides that “all available evidence, both positive and negative, should be considered to determine whether, based on the weight of that evidence, a valuation allowance is needed. Information about an enterprise’s current financial position and its results of operations for the current and preceding years ordinarily is readily available. That historical information is supplemented by all currently available information about future years. Sometimes, however, historical information may not be available (for example, start-up operations) or it may not be as relevant (for example, if there has been a significant, recent change in circumstances) and special attention is required.” A reporting entity is not required to consider all four sources of taxable income in determining the need for a statutory valuation allowance adjustment if one or more sources are alone sufficient to support the conclusion that the entity will realize the tax benefits of its gross deferred tax assets (i.e., a conclusion that no valuation allowance is necessary). However, the reporting entity is required to consider all of the potential sources of taxable income to determine the amount of the adjustment if a conclusion is reached that a statutory valuation allowance adjustment is necessary. Given the modification to FAS 109 made in SSAP No. 101 related to admission of DTAs, historical and/or currently available information may exist that is also relevant to this admission guidance. This historical and/or currently available information must also be considered when determining the amount of DTAs admitted under paragraph 11 of SSAP No. 101, irrespective of the conclusion reached in establishing or not establishing a statutory valuation allowance adjustment.

2.6 Footnote 1 to paragraph 7.e. of SSAP No. 101 indicates that a reporting entity shall consider reversal patterns of temporary differences, and might be required to schedule such differences:

…to the extent necessary to support establishing or not establishing a valuation allowance adjustment, determined in accordance with paragraphs 228 and 229 of FAS 109. For purposes of this accounting statement, consideration of reversal patterns does not require scheduling beyond that necessary to support establishing or not establishing a valuation allowance adjustment.

Paragraph 228 of FAS 109 generally holds that a company may need to schedule its temporary differences to determine the particular years in which the reversal of temporary differences is expected to occur. As discussed in Question 5b, paragraph 229 of FAS 109 indicates that future originating temporary differences and their subsequent reversal should be considered in determining the existence of future taxable income.

2.7 Although a reporting entity may need to consider the reversal pattern of temporary differences in evaluating the need for a statutory valuation allowance adjustment, scheduling the reversal pattern of such differences is not required in every instance. Under SSAP No. 101 and consistent with FAS 109, a general understanding of reversal patterns is, in many cases, relevant in assessing the need for a valuation allowance. Judgment is crucial in making this assessment. The amount of scheduling, if any, that will be required will depend on the facts and circumstances of each situation. For example, a reporting entity which relies upon future taxable income exclusive of reversing temporary differences and carryforwards5

for realization of DTAs is not required to schedule the reversal pattern of its existing temporary differences. This is consistent with guidance provided by the Financial Accounting Standards Board (FASB) in its answer to question 2 of A Guide to Implementation of Statement 109 on Accounting for Income Taxes: Question and Answers (Special Report on Statement 109) which states that scheduling of existing temporary differences is unnecessary for purposes of determining the need for a valuation allowance “where it can be easily demonstrated that future taxable income will more likely than not be adequate to realize future tax benefits of existing deferred tax assets.” In contrast, a reporting entity which

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relies upon the future reversal of existing taxable temporary differences to realize the tax benefits of its deductible temporary differences and carryforwards may be required to consider the reversal patterns of its taxable temporary differences.6 The degree of scheduling required, however, depends on the facts and circumstances of each situation and the relative magnitude of the taxable and deductible temporary differences. In certain situations, the ability to reasonably conclude that reversing taxable temporary differences will more likely than not create sufficient taxable income to realize reversing deductible temporary differences can be done without detailed scheduling.7

5 One of the four possible sources of taxable income that can be used to realize a tax benefit. See paragraph 13.b. of SSAP No. 101.

6 For example, due to the relatively short loss carryback periods (or, in the case of entities taxed as life insurance companies, no carryback of operating losses) under existing current tax law, such consideration may be appropriate when taxable temporary differences are expected to reverse in a short number of future years while the deductible temporary differences are expected to reverse over a long number of future years. In addition, for “indefinite-lived” intangible assets (i.e., intangible assets like those discussed in paragraph 11 of FAS 142 for which no legal, regulatory, contractual, competitive, economic, or other factors limit their useful lives), predicting reversal of temporary differences related to such assets would be inconsistent with financial reporting assertions that the assets are indefinite-lived. In such a case, the reversal of taxable temporary differences with respect to such indefinite-lived intangible assets should not be considered a source of future taxable income when determining the statutory valuation allowance adjustment for entities taxed as non-life insurance companies. On the other hand, entities taxed as life insurance companies may, under current tax law, carry forward operating losses with no expiration period, subject to a utilization limit of 80% of taxable income (before the loss carry forward) in the carry forward year. In such case, the reversal of taxable temporary differences with respect to indefinite-lived intangible assets may be considered a source of taxable income, subject to the applicable tax law limitations.


2.8 If scheduling is considered necessary, the amount of scheduling required will depend on the particular facts and circumstances and be subject to judgment. There may be more than one acceptable approach. The FASB’s answer to question 1 of the Special Report on Statement 109 indicates that the following concepts underlie the determination of reversal patterns under Statement 109:

a. The particular years in which temporary differences result in taxable or deductible amounts generally are determined by the timing of the recovery of the related asset or settlement of the related liability’ (paragraph 228).

b. The tax law determines whether future reversals of temporary differences will result in taxable and deductible amounts that offset each other in future years’ (paragraph 227).

In addition, the FASB noted that “minimizing complexity is an appropriate consideration in selecting a method for determining reversal patterns”8, but that the methods used must be systematic and logical and should be consistently applied for all similarly categorized temporary differences and from year to year. Furthermore, the same method should be utilized in determining the reversal patterns in every taxing jurisdiction for which the temporary difference exists.

Grouping of Assets and Liabilities for Measurement

2.9 The manner in which an entity groups its assets and liabilities for measurement shall be conducted in a reasonable and consistent manner. For instance, an entity may group its invested assets into Annual Statement classifications (stocks, bonds, preferred stocks, etc.) or other reasonable groupings (lines of business for grouping its reserves). Entities have the option of recognizing the DTA and DTL within each grouping on a net or gross basis. For instance, a portfolio of common stocks will have both unrealized gain and unrealized losses associated with them. The reporting entity may elect to combine the unrealized gains and losses and compute a single DTA or DTL or it may elect to segregate the unrealized

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gains from the unrealized losses and compute separate DTAs and DTLs. This option might also arise with respect to depreciable assets. Regardless of which method an entity elects, it is crucial that consistency is maintained to and within each grouping from period to period. An entity shall retain internal documentation to support its grouping in addition to the methodologies employed to arrive at such. An entity is permitted to modify its groupings should events or circumstances change from a previous period. Examples include a change in materiality of underlying assets and liabilities, administrative costs associated with detailing groupings increases or changes in the computer systems that allow more specificity. Entities that modify their groupings should be prepared to rationalize these changes. These entities should also disclose that a modification was made and general reason for such in the notes to the financial statements.

Measurement of Nonadmitted Assets

2.10 As noted in paragraph 7.b. of SSAP No. 101, temporary differences include nonadmitted assets. The measurement of these types of assets is not addressed in FAS 109 in that the concept of nonadmission is unique to statutory accounting. For assets that are nonadmitted for statutory accounting purposes, DTAs and DTLs should be measured after nonadmission.

Illustration:

Statutory

Before Nonadmit (Info

Statutory After Nonadmit

Tax

Basis Difference9

Tax Effect DTA (DTL) (2135%)


9 Difference is computed from the “Statutory After Nonadmit” balance.

Purpose)

Furniture Fixtures and Equipment

$1,000 0 $1,000

Accumulated Depreciation 200 0 400 Basis $800 0 $600 $600 $126210

2.11 The effect of this illustration is a reduction of surplus by $674590 ($800 decrease for nonadmitted asset and $126210 increase for DTA), provided the resulting DTA meets the admissibility test in paragraph 11 of SSAP No. 101.

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SSAP 101 Q&A 3 3. Q – A reporting entity’s deferred tax assets and liabilities are computed using “enacted tax rates.” What is the meaning of the term “enacted tax rates”? [Paragraph 7.c.]

3.1 A – Paragraph 7.c. of SSAP No.101 provides that total DTAs and DTLs are computed using enacted tax rates.

3.2 Consistent with FAS 109, SSAP No. 101 further requires that deferred tax assets and liabilities be measured using the enacted tax rate that is expected to apply to taxable income in the periods in which the deferred tax asset or liability is expected to be settled or realized. The effects of future changes in tax rates are not anticipated in the measurement of deferred tax assets and liabilities. Deferred tax assets and liabilities are adjusted for changes in tax rates and other changes in the tax law, and the effects of those changes are recognized at the time the change is enacted.

3.3 Tax laws may apply different tax rates to ordinary income and capital gains. In instances where the enacted tax law provides for different rates on income of different character, deferred tax assets and liabilities should be measured by applying the appropriate enacted tax rate based on the type of taxable or deductible amounts expected to be realized from the reversal of existing temporary differences.

3.4 Currently, under U.S. federal tax law, if taxable income (both ordinary and capital gain) exceeds a specified amount, all taxable income is taxed at a single flat tax rate, 35%. Unless graduated tax rates are a significant factor, (i.e., unless the company’s taxable income frequently falls below the specified amount), the enacted tax rate is 35% for both ordinary income and capital gain. Alternative minimum tax and the effect of special deductions, such as the small life deduction, are ignored, except to the extent necessary to estimate future taxable income and therefore the enacted rate applicable to that level of taxable income is used.

3.5 If graduated tax rates are expected to be a significant factor in the determination of taxes payable or refundable in future years, deferred tax assets and liabilities should be measured using the average tax rate (based on currently enacted graduated rates) that is expected to apply to estimated average annual taxable income in the period in which the deferred tax asset or liability is expected to be settled or realized. For example, assume a property and casualty insurance company consistently has taxable income less than $10 million, but in excess of $1 million. The enacted graduated rate applicable to that level of taxable income is 34%. Therefore, the reporting entity should use 34% for the determination of its taxes payable or refundable.[AS1]

3.6 As a reference, FAS 109 paragraphs 18 and 236 provide the following:[AS2]

18. The objective is to measure a deferred tax liability or asset using the enacted tax rate(s) expected to apply to taxable income in the periods in which the deferred tax liability or asset is expected to be settled or realized. Under current U.S. federal tax law, if taxable income exceeds a specified amount, all taxable income is taxed, in substance, at a single flat tax rate. That tax

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rate shall be used for measurement of a deferred tax liability or asset by enterprises for which graduated tax rates are not a significant factor. Enterprises for which graduated tax rates are a significant factor shall measure a deferred tax liability or asset using the average graduated tax rate applicable to the amount of estimated annual taxable income in the periods in which the deferred tax liability or asset is estimated to be settled or realized (paragraph 236). Other provisions of enacted tax laws should be considered when determining the tax rate to apply to certain types of temporary differences and carryforwards (for example, the tax law may provide for different tax rates on ordinary income and capital gains). If there is a phased-in change in tax rates, determination of the applicable tax rate requires knowledge about when deferred tax liabilities and assets will be settled and realized.

236. The following example illustrates determination of the average graduated tax rate for measurement of deferred tax liabilities and assets by an enterprise for which graduated tax rates ordinarily are a significant factor. At the end of year 3 (the current year), an enterprise has $1,500 of taxable temporary differences and $900 of deductible temporary differences, which are expected to result in net taxable amounts of approximately $200 on the future tax returns for each of years 4-6. Enacted tax rates are 15 percent for the first $500 of taxable income, 25 percent for the next $500, and 40 percent for taxable income over $1,000. This example assumes that there is no income (for example, capital gains) subject to special tax rates.

The deferred tax liability and asset for those reversing taxable and deductible temporary differences in years 4-6 are measured using the average graduated tax rate for the estimated amount of annual taxable income in future years. Thus, the average graduated tax rate will differ depending on the expected level of annual taxable income (including reversing temporary differences) in years 4-6. The average tax rate will be:

a. 15 percent if the estimated annual level of taxable income in years 4-6 is $500 or less

b. 20 percent if the estimated annual level of taxable income in years 4-6 is $1,000

c. 30 percent if the estimated annual level of taxable income in years 4-6 is $2,000.

Temporary differences usually do not reverse in equal annual amounts as in the example above, and a different average graduated tax rate might apply to reversals in different future years. However, a detailed analysis to determine the net reversals of temporary differences in each future year usually is not warranted. It is not warranted because the other variable (that is, taxable income or losses exclusive of reversing temporary differences in each of those future years) for determination of the average graduated tax rate in each future year is no more than an estimate. For that reason, an aggregate calculation using a single estimated average graduated tax rate based on estimated average annual taxable income in future years is sufficient. Judgment is permitted, however, to deal with unusual situations, for example, an abnormally large temporary difference that will reverse in a single future year, or an abnormal level of taxable income that is expected for a single future year. The lowest graduated tax rate should be used whenever the estimated average graduated tax rate otherwise would be zero.

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SSAP 101 Q&A 4 4a. Q – How should a reporting entity calculate the amount of its admitted adjusted gross DTAs? [Paragraph 11]

4.1 A – After a reporting entity has calculated the amount of its adjusted gross DTAs and gross DTLs pursuant to paragraph 7, it must determine the amount of its adjusted gross DTAs that can be admitted under paragraph 11. The amount of adjusted gross DTAs is not recalculated under paragraph 11; rather, some or all of the adjusted gross DTA may not be currently admitted.

4.2 Paragraphs 11.a., 11.b. and 11.c. require three interdependent calculations or components that when added together equals the amount of the reporting entity’s admitted adjusted gross DTAs. Each of the calculations starts with the total of the reporting entity’s adjusted gross DTAs, and determines the amount of such adjusted gross DTAs that can be admitted under that part. For example, the consideration of existing temporary differences in the calculation of admitted adjusted gross DTAs under paragraph 11.a., does not prevent the reconsideration of the same temporary differences in the paragraph 11.b.i. calculation. However, to avoid duplication of admitted adjusted gross DTAs when adding the three parts together, the amount of admitted adjusted gross DTAs under paragraph 11.a. must be subtracted from the amount of adjusted gross DTAs in the paragraph 11.b.i. calculation. Similarly, the amount of admitted adjusted gross DTAs under paragraphs 11.a. and 11.b. must be subtracted from the total adjusted gross DTAs in the paragraph 11.c. calculation.

First Component – Admission Based On Previously Paid Taxes [Paragraph 11.a.]

4.3 Under paragraphs 11.a. and 12.b., a reporting entity can admit adjusted gross DTAs to the extent that it would be able to recover federal income taxes paid in the carryback period, by treating existing temporary differences that reverse during a timeframe corresponding with Internal Revenue Code tax loss carryback provisions10, not to exceed three years as ordinary or capital losses that originated in each such subsequent year. The reversing temporary differences are specific to each year in which they reverse, and in turn, to the specific year(s) to which they can be carried back corresponding with tax loss carryback provisions. Reversing temporary differences for unrealized losses and nonadmitted assets are treated as capital or ordinary losses depending on their character for tax purposes. The entity is not required to project an actual net operating loss in future periods. This first component of admission is available to all entities, regardless of whether they meet any of the threshold limitations in paragraph 11.b. for reversals expected to be realized against future taxable income.

4.4 Paragraph 12.b. limits the amount of federal income taxes recoverable under paragraph 11.a. to the amount that would be refunded to the reporting entity if a carryback claim was filed with the Internal Revenue Service (IRS). If some amount of taxes paid in the carryback period is not recovered because of limitations imposed by the Alternative Minimum Tax system in effect in taxable years prior to 2018, the resulting AMT credit is not treated as a newly created DTA. Paragraph 12.c. further limits the amount of federal income taxes recoverable under paragraph 11.a. for a reporting entity that files a consolidated income tax return with one or more affiliates, to the amount that the reporting entity could reasonably expect to have refunded by its parent. See Question 8 for a further discussion of the impact of filing a consolidated federal income tax return.

Second Component – Admission Based On Projected Future Tax Savings [Paragraph 11.b.]

4.5 The amount of a reporting entity’s adjusted gross DTAs that can be admitted pursuant to paragraph 11.b. is in part, dependent on the amount of the reporting entity’s adjusted capital and surplus. Accordingly, a reporting entity must determine which Realization Threshold Limitation Table set forth in paragraph 11.b. is applicable to the reporting entity and then, based on its respective facts, determine what applicable period to apply under paragraph 11.b.i. and applicable percentage to use under paragraph

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11.b.ii. 4.6 If the reporting entity is subject to risk-based capital requirements or is required to file a Risk- Based Capital Report with the domiciliary state, it should use the RBC Reporting Entity Table set forth in paragraph 11.b. Threshold limitations for this table are contingent upon the ExDTA ACL RBC ratio. See Question 4b for a discussion on the ExDTA ACL RBC ratio.

4.7 If the reporting entity is (1) either a mortgage guaranty insurer or financial guaranty insurer that is not subject to risk-based capital requirements, (2) is not required to file a Risk-Based Capital Report with the domiciliary state, and (3) the reporting entity meets the minimum capital and reserve requirements11

for the state of domicile, then it should use the Financial Guaranty or Mortgage Guaranty Non-RBC

10 For example, under the Federal Internal Revenue Code tax loss carryback provisions in effect as of January 1, 2012, ordinary losses can be carried back two years for entities taxed as nonlife insurance companies and three years for life insurance companies, while capital losses for entities taxed both as nonlife and life insurance companies can be carried back three years. For losses arising in tax years after 2017, entities taxed as life insurance companies are not permitted to carryback ordinary losses.[AS3]

11 If a reporting entity is not at the minimum capital and reserve requirements, the admitted adjusted gross DTA for this component is zero.

Reporting Entity Table set forth in paragraph 11.b. Threshold limitations for this table are contingent upon the ratio of ExDTA Surplus to policyholders and contingency reserves. ExDTA Surplus in this ratio includes both capital and surplus for mortgage guaranty and financial guaranty insurers.

4.8 If the reporting entity (1) is not subject to risk-based capital requirements, (2) is not required to file a Risk-Based Capital Report with the domiciliary state, (3) is not a mortgage guaranty or financial guaranty insurer, and (4) meets the minimum capital and reserve requirements12, it should use the Other Non-RBC Reporting Entity Table set forth in paragraph 11.b. Threshold limitations for this table are contingent upon the ratio of adjusted gross DTA less the amount of adjusted gross DTA admitted in paragraph 11.a. to adjusted capital and surplus.

4.9 The amount of admitted adjusted gross DTAs under paragraph 11.b.i., is limited to the amount that the reporting entity expects to realize within the applicable period as determined using the applicable Realization Threshold Limitation Table following the balance sheet date. See Question 6 for a further discussion of the meaning of “expected to be realized.” The amount of admitted adjusted gross DTAs under the paragraph 11.a. calculation is subtracted from the amount of adjusted gross DTAs under paragraph 11.b.i., to prevent the counting of the same admitted adjusted gross DTAs more than once. If the reporting entity expects to realize an amount of adjusted gross DTAs under paragraph 11.b.i. that is equal to or less than the admitted adjusted gross DTAs calculated under paragraph 11.a., then the resulting admitted adjusted gross DTAs under paragraph 11.b.i. will be zero.

4.10 The reference to applicable period following the balance sheet date in 4.9 refers to the paragraph 11.b.i. column of the applicable Realization Threshold Limitation Table, the RBC Reporting Entity Table, the Financial Guaranty or Mortgage Guaranty Non-RBC Reporting Entity Table or the Other Non-RBC Reporting Entity Table.

4.11 The amount of admitted adjusted gross DTAs under paragraph 11.b.i. is also limited to an amount that is no greater than the applicable percentage of adjusted statutory capital and surplus specified in paragraph 11.b.ii. See Question 4c for a discussion of the meaning of “an amount that is no greater than”.

4.12 The reference to an amount no greater than the applicable percentage of statutory capital and surplus in 4.11 refers to the 11.b.ii. column of the applicable Realization Threshold Limitation Table; the RBC Reporting Entity Table, the Financial Guaranty or Mortgage Guaranty Non-RBC Reporting Entity

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Table or the Other Non-RBC Reporting Entity Table. Third Component – Admission Based On Offset Against DTL [Paragraph 11.c.]

4.13 Under paragraph 11.c., a reporting entity can admit adjusted gross DTAs as an offset against gross DTLs in an amount equal to the lesser of: (1) its adjusted gross DTAs, after subtracting the amount of admitted adjusted gross DTAs under paragraphs 11.a. and 11.b., or (2) its gross DTLs. In determining the amount of adjusted gross DTAs that can be offset against existing gross DTLs in the paragraph 11.c. calculation, the character (i.e., ordinary versus capital) of the DTAs and DTLs must be taken into consideration such that offsetting would be permitted in the tax return under existing enacted federal income tax laws and regulations. For example, an adjusted gross DTA related to unrealized capital losses could not be offset against an ordinary income DTL. Ordinary DTAs can be admitted by offset with ordinary DTLs and/or capital DTLs. However, capital DTAs can only be admitted by offset with capital DTLs. In addition to consideration of the character of the DTAs and DTLs, significant and relevant historical and/or currently available information specific to the remaining adjusted gross DTAs and gross DTLs must also be taken into consideration when determining admission by offset with gross DTLs. As stated in paragraph 11.c., “for purposes of this component, the reporting entity shall consider the reversal patterns of temporary differences; however, this consideration does not require scheduling beyond that

12 If a reporting entity is not at the minimum capital and reserve requirements, the admitted adjusted gross DTA for this component is zero.

required in paragraph 7.e.” This consideration requires a scheduling exercise if scheduling is needed for determination of the statutory valuation allowance adjustment and, as a result, should be consistent with the determination of any statutory valuation allowance adjustment, which occurs prior to performing the admissibility calculations.13 As noted in Question 2.7, scheduling reversal patterns of temporary differences in evaluating the need for a statutory valuation allowance adjustment where a reporting entity relies on sources of future taxable income, exclusive of reversals of temporary differences, is not required. In such case, that reporting entity is not required to schedule reversal patterns of temporary differences for purposes of paragraph 11.c. of SSAP No. 101. However, the significant and relevant historical and/or currently available information noted above must be considered and be consistent with the conclusion to admit or nonadmit adjusted gross DTAs under paragraph 11.c. without additional detailed scheduling. See Question 2.5 through 2.8 for further discussion of scheduling for purposes of determining the reporting entity’s statutory valuation allowance adjustment.

Other Considerations

4.14 In certain situations, a reporting entity’s expected federal income tax rate on its reversing temporary differences will are expected to be less than the enacted tax rate used in the determination of its gross DTAs and DTLs. Examples of such entities include: property/casualty insurance companies with large municipal bond portfolios that are AMT taxpayers, Blue Cross-Blue Shield Organizations with section 833(b) deductions, small life insurance companies, reporting entities projecting a tax loss, and entities that file in a consolidated federal income tax return that cannot realize the full amount of their adjusted gross DTAs under the existing intercompany tax sharing or tax allocation agreement. Pursuant to paragraphs 231, 232 and 238 of FAS 109, such entities are required to report their gross DTLs at the enacted tax rate, and cannot take into consideration the impact of o t h e r a d j u s t me n t s s u c h a s the AMT, section 833(b) deduction, or the small life insurance company deduction to reduce their gross DTLs.

4.15 For those entities, the amount of admitted adjusted gross DTAs calculated under paragraphs 11.a. and 11.b. will reflect the actual tax rate in the carryback period under paragraph 11.a. and the expected tax rate in the applicable period as discussed in 4.10 above under paragraph 11.b., which takes into

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consideration the impact in the carryback years of the AMT[AS4], and special deductions, and as well as the provisions of the intercompany tax sharing or allocation agreement. Likewise, the amount of admitted adjusted gross DTAs calculated under paragraph 11.b. will reflect the expected tax rate in the applicable period as discussed in 4.14 above[AS5], which takes into consideration the impact of special deductions and the provisions of the intercompany tax sharing or allocation agreement. See Question 6 for further discussion of this issue. As such, the entity’s admitted adjusted gross DTAs under paragraphs 11.a. and 11.b. may be less than its adjusted gross DTAs on temporary differences at the enacted rate. Any unused amount of DTAs resulting from a ratethis differential under paragraphs 11.a. and 11.b. can be used under paragraph 11.c. to offset existing DTLs.

4.16 The above principles can be illustrated by the following examples:

4.17 Facts:

RBC Reporting Entity Example

1. Life Insurance Company ABC[AS6]14 has $912,500,000 of deductible temporary differences ($6,000,000 ordinary and $3,500,000 capital) at 12-31-20X2 that generate $1,995,4,375,000 of gross DTAs ($1,2602,100,000 Oordinary, $7352,275,000 Ccapital), at the enacted federal income tax rate of 21%35%. ABC has sufficient evidence of projected future taxable income exclusive of reversing temporary differences and carryforwards to support a conclusion that i t will realize the full amount of i ts ordinary gross DTAs, and it was unnecessary in reaching that conclusion (i .e. , that no valuation allowance adjustment need be established for ordinary DTAs) to consider reversal patterns of temporary differences. However, management has concluded, after considering all four sources of taxable income described in paragraph 13 of SSAP No. 101, that a statutory valuation allowance adjustment should be recognized for $168,000 o f c a p i t a l D T A s , reducing capital DTAs from $735,000 to $567,000. [AS7] Thus, in total, mManagement has concluded that ABC will more likely than not realize gross DTAs of $1,8274,100,000 ($1,2602,100,000 Oordinary, $5672,000,000 Ccapital) related to its $9,500,00012.5 million of deductible temporary differences. Based on management’s conclusion, a statutory valuation allowance adjustment was recognized for $275,000 reducing

13 Footnote 1 of SSAP No. 101 provides that a reporting entity “shall consider reversal patterns of temporary differences to the extent necessary to support establishing or not establishing a valuation allowance adjustment.” (Emphasis added).

14 ABC does not qualify for the small life insurance company deduction. Please note the results in this example may be different due to differences in the applicable carryback periods if ABC was a P&Ctaxed as a non-life insurance company.

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capital DTAs from $2,275,000 to $2,000,000. ABC also has $4,000,000 of taxable temporary differences ($2,800,000 ordinary and $1,200,000 capital) resulting in $8401,400,000 ($5881,000,000 Oordinary, $252400,000 Ccapital) of gross DTLs.

2. ABC has determined that $2,000,000 of its $6,000,000 existing deductible ordinary temporary differences will reverse in 12-31-20X3, another $1,500,000 will reverse in 12-31- 20X4, and another $2,000,000 will reverse in 12-31-20X5. The remaining $500,000 of ABC’s existing deductible ordinary temporary differences will reverse in years 20X6 or later. None of ABC’s has determined that $200,000, $300,000, and $400,000 of its $3,500,000 deductible capital temporary differences are expected to reverse within the applicable periodin 20X3, 20X4, and 20X5, respectively, and the remaining $2,600,000 will reverse in years 20X6 or later.

3. ABC reported $400,000 ($300,000 ordinary, $100,000 capital) and $1,000600,000 ($800,000 ordinary, $200,000 capital) of taxable income in 20X0 and 20X1, respectively. ABC reported $84140,000 ($63,000 ordinary, $21,000 capital) and $210,000 ($168,000 ordinary, $42,000 capital) of tax expense on its 20X0 and 20X1 federal income tax returns, respectively. It has also projected taxable income of $1,5001,200,000 ($1,200,000 ordinary, $300,000 capital) and $315420,000 ($252,000 ordinary, $63,000 capital) of federal income taxes for 20X2 that have been reflected in its current statutory income tax provision calculation. There are no differences between its regular and alternative minimum taxable income during 20X0 through 20X2.

4. ABC is projecting an income tax rate of 35% in 20X3, as well as in years 20X4 and 20X5 based on its estimated taxable income and federal income tax liability. ABC expects to realize15 a federal income tax benefit of 2135% from 20X3 through 20X5 related to reversing ordinary temporary differences. ABC does not anticipate any capital gain income in 20X3 through 20X5.

5. ABC has an ExDTA ACL RBC Ratio at 12-31-20X2 of 600%. Adjusted statutory capital and surplus under paragraph 11.b.ii. is $7,000,000 at 12-31-20X2, and was computed by subtracting the admitted balances of net DTA’s, goodwill and EDP from the current period statutory surplus. Statutory surplus is defined in paragraph 2 of SSAP 72. 6. The above facts are summarized in the following table: [AS8] Ordinary Capital Total 20X2 – Current Year Taxable Income & Tax:

Taxable Income in CY $ 1,200,000 $ 300,000 $ 1,500,000 Tax Provision @ 21% $ 252,000 $ 63,000 $ 315,000 Deductible Temporary Differences $ 6,000,000 $ 3,500,000 $ 9,500,000 DTA @21% $ 1,260,000 $ 735,000 $ 1,995,000 Taxable Temporary Differences $ 2,800,000 $ 1,200,000 $ 4,000,000 DTL @21% $ 588,000 $ 252,000 $ 840,000 Valuation Allowance $ 168,000 $ 168,000 Carryback Taxable Income & Tax: 20X0 Taxable Income $ 300,000 $ 100,000 $ 400,000 Tax $ 63,000 $ 21,000 $ 84,000 20X1 Taxable Income $ 800,000 $ 200,000 $ 1,000,000 Tax $ 168,000 $ 42,000 $ 210,000 Reversal of Deductible Temp Differences:

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20X3 $ 2,000,000 $ 200,000 $ 2,200,000 20X4 $ 1,500,000 $ 300,000 $ 1,800,000 20X5 $ 2,000,000 $ 400,000 $ 2,400,000 20X6 and later $ 500,000 $ 2,600,000 $ 3,100,000 Total (before valuation allowance) $ 6,000,000 $ 3,500,000 $ 9,500,000

4.18 Calculation of ABC’s Admitted Adjusted Gross DTAs:

1. Paragraph 11.a. calculation. ABC cannot admit $726,000 ($132,000 + $198,000 + $396,000) of a n y o r d i n a r y adjusted gross DTAs under paragraph 11.a., because entities taxed as life insurance companies are not permitted to carry back ordinary tax losses under existing Federal income tax law. all of which are ordinary in tax character. However, ABC can admit capital adjusted gross DTAs of $126,000 under paragraph 11.a. because all capital losses are permitted a 3-year carryback under existing Federal income tax law and ABC paid taxes on capital gains in each year 20X0-20X2.

a. ABC first carries $400100,000 of the hypothetical net operatingcapital loss16 of $2,000200,000 from 20X3 back to 20X0 recovering $13221,000 in taxes paid. The difference between the total 20X0 taxes paid at 35% ($140,000) and the amount recoverable ($132,000) through carryback of the $400,000 represents an $8,000 AMT credit generated as a result of the 90% AMT net operating loss17 limitation. This AMT credit is not treated as a new DTA as of 12-31-20X2. The remaining $1,600100,000 of the 20X3 hypothetical net operatingcapital loss ($2,000200,000 – $400100,000) is available for utilization in years 20X1 and 20X2.

b. ABC would carry an additionalthe remaining $600100,000 of the remaining hypothetical net operatingcapital loss of $1,600,000 from 20X3 back to 20X1 recovering $19821,000 in taxes

15 See Question 6 for discussion on the admittance calculation under paragraph 11.b.i. and what is meant by the phrase: “expected to be realized.”

16 It should be noted that if ABC’s hypothetical 20X3 carryback was insufficient to fully offset all positive taxablecapital gain income in 20X0, the company would not be allowed to carryback any of the hypothetical loss from 20X4 or 20X5 to 20X0 per paragraph 11.a., as 20X0 is outside of the timeframe corresponding with tax capital loss carryback provisions for an life insurance company.

17 A life insurance company incurs an “operating loss deduction” rather than a “net operating loss”. The term “net operating loss” or “NOL” will be used generically throughout this document to refer to any operating loss incurred or expected to be incurred by the reporting entity.

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paid. In addition, ABC would carry back $100,000 of hypothetical capital loss from 20X4 to 20X1 to recover another $21,000 of taxes paid.18 The remaining $200,000 of the 20X4 hypothetical capital loss ($300,000 - $100,000) is available for utilization in year 20X2. The difference between the total taxes paid at 35% ($210,000) and the amount recoverable ($198,000) through carryback of the $600,000 represents a $12,000 AMT credit generated as a result of the 90% AMT NOL limitation. Again, this AMT credit is not treated as a new DTA as of 12-31-20X2. The remaining $1,000,000 of hypothetical net operating loss ($1,600,000 – $600,000) is available for utilization in 20X2.

c. ABC would carry the remaining $1,000200,000 of the hypothetical net operatingcapital loss from 20X43 plus an additional $200100,000 of the hypothetical net operatingcapital loss from 20X54 back to 20X2, recovering $39663,000 in taxes projected to be paid.19 The difference between the total taxes projected to be paid at 35% ($420,000) and the amount recoverable ($396,000) through carryback of the $1,200,000 represents a $24,000 AMT credit generated as a result of the 90% AMT NOL limitation. As noted previously, this AMT credit is not treated as a new DTA as of 12-31-20X2.

The fact that the full $6005,500,000 of reversing deductible ordinary capital temporary differences available for carryback were not used in the paragraph 11.a. calculation does not prevent their inclusion in the paragraph 11.b. and 11.c. calculations, subject to reduction to prevent double counting (see Question 4.2).

2. Paragraph 11.b. calculation. ABC can admit $1,050,000 of adjusted gross DTAs under paragraph 11.b. Since ABC has an ExDTA ACL RBC ratio of 600%, the Realization Threshold Limitation Table provides that the company can use the thresholds of 3 years for projected realization and 15% of adjusted capital and surplus. The company expects to realize a federal income tax benefit of $1,1551,925,000 ($5,500,000 X 2135%) in 20X3 through 20X5 related to its reversing ordinary deductible temporary differences and $126,000 ($600,000 X 21%) in 20X3 through 20X5 related to its reversing capital deductible temporary differences (through carryback to 20X0-20X2).1 The $1,2811,925,000 amount ($1,155,000 + $126,000) must be reduced by the $726126,000 of admitted adjusted gross DTAs under paragraph 11.a. to prevent double counting of the same income tax benefit. As a result, ABC has projected adjusted gross DTAs available for admission under this component of $1,155,199,000 ($1,9251,281,000 – $726126,000), all of which is are ordinary in tax character. However, 15% of adjusted capital and surplus is a limiting factor in this example. As such, even though ABC has sufficient sources of future taxable income exclusive of reversing taxable temporary differences to realize a federal income tax benefit of $1,155,000 in 20X3 through 20X5 related to its reversing ordinary deductible temporary differences, admission of reversing deductiblethose temporary differences that are projected to be realized during 20X3 through 20X5 is limited to $1,050,000 ($7,000,000 X 15%).

3. Paragraph 11.c. calculation. ABC can admit $462724,000 ($210324,000 Oordinary, $252400,000 Ccapital) of adjusted gross DTAs under paragraph 11.c. Even though ABC has $1,8272,324,000 of adjusted gross DTAs available for admission under this component ($4,100,000 – $726,000 – $1,050,000) ( the fact that reversing deductible temporary differences were used in the paragraph 11.a. and 11.b. calculations does not prevent their inclusion in the paragraph 11.c. calculation) and only $1,400,000 DTLs., Tthese DTAs are made up of $1,260324,000 Oordinary DTAs ($2,100,000 – $726,000 – $1,050,000) and $5672,000,000 of Ccapital DTAs. Thus, the tax character of the DTAs and DTLs becomes the limiting factor for this component. [AS9]To prevent double counting of the same tax benefit, the

1 Because ABC projects no capital gain income in 20X3 through 20X5, it is not able to realize a federal income tax benefit on the remaining $300,000 of capital temporary differences reversing in that 3-year period.

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$1,260,000 of ordinary DTAs must be reduced by the $1,050,000 admitted under paragraph 11.b., leaving $210,000 for admission under paragraph 11.c. Likewise, the $567,000 of capital DTAs must be reduced by the $126,000 admitted under paragraph 11.a., leaving $441,000 for admission under paragraph 11.c. There areis $5881,000,000 of Oordinary DTLs available to offset against the $210324,000 of Oordinary DTAs. There areis $252400,000 of Ccapital DTLs ava i lable to offset against the $4412,000,000 cCapital DTAs. However, the tax character of the DTAs and DTLs becomes a limiting factor for this component. While ordinary DTAs can be offset against both ordinary and capital DTLs, the reverse is not allowed in the tax return (see Question 4.13). B e c a u s e A B C d i d n o t r e l y o n r e v e r s a l o f e x i s t i n g t e m p o r a r y d i f f e r e n c e s i n d e t e r m i n i n g t h a t n o v a l u a t i o n a l l o w a n c e w a s n e c e s s a r y f o r g r o s s o r d i n a r y D T A s , i t n e e d n o t c o n s i d e r r e v e r s a l p a t t e r n s o f t e m p o r a r y d i f f e r e n c e s f o r a d m i s s i o n o f o r d i n a r y D T A s i n i t s p a r a g r a p h 1 1 . c . c a l c u l a t i o n . O n t h e o t h e r h a n d , b e c a u s e A B C w a s r e q u i r e d t o c o n s i d e r a l l f o u r s o u r c e s o f t a x a b l e i n c o m e s p e c i f i e d i n p a r a g r a p h 1 3 o f S S A P N o . 1 0 1 ( i n c l u d i n g f u t u r e r e v e r s a l s o f e x i s t i n g t a x a b l e c a p i t a l t e m p o r a r y d i f f e r e n c e s ) i n e s t a b l i s h i n g a v a l u a t i o n a l l o w a n c e f o r g r o s s c a p i t a l D T A s , i t i s r e q u i r e d t o c o n s i d e r r e v e r s a l p a t t e r n s o f t e m p o r a r y d i f f e r e n c e s f o r a d m i s s i o n o f c a p i t a l D T A s i n i t s p a r a g r a p h 1 1 . c . c a l c u l a t i o n , b u t t h i s c o n s i d e r a t i o n d o e s n o t r e q u i r e s c h e d u l i n g b e y o n d t h a t r e q u i r e d b y p a r a g r a p h 7 . e . o f S S A P N o . 1 0 1 ( a g a i n s e e Q u e s t i o n 4 . 1 3 ) , In this situation, after the required consideration, ABC can admit $210324,000 and $252400,000 of its oOrdinary and cCapital DTAs, respectively.

18 If ABC would not have had sufficient hypothetical NOL capital loss from 20X3 20X4 to carryback to 20X1, the company would not have been able to carryback its hypothetical NOL capital loss of $1,500400,000 from 20X4 20X5 back to 20X1 pursuant to the applicable tax loss carryback provisions.

19 If ABC would not have had sufficient hypothetical NOL from 20X4 to carryback to 20X2, the company would have been able to carryback is hypothetical NOL of $2,000,000 from 20X5 back to 20X2 pursuant to the applicable tax loss carryback provisions.

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4.19 Summary of ABC’s Admitted Gross DTA Calculation:[AS10]

Gross DTAs at Enacted Tax Rate $4,375,000 Less: Statutory Valuation Allowance Adjustment 275,000

Adjusted Gross DTAs at Enacted Tax Rate 4,100,000 Admitted Gross DTAs (paragraph 11.a.) $ 726,000 Admitted Gross DTAs (paragraph 11.b.) 1,050,000 Admitted Gross DTAs (paragraph 11.c.) 724,000 Total Admitted Adjusted Gross DTAs(sum of 11.a., 11.b., and 11.c.) 2,500,000 (2,500,000) Nonadmitted Adjusted Gross DTAs 1,600,000 Admitted DTA 2,500,000 Gross DTL (1,400,000) Net Admitted DTA/DTL $1,100,000

Ordinary Capital Total Gross DTAs at Enacted Tax Rate $1,260,000 $ 735,000 $ 1,995,000 Less: Statutory Valuation Allowance $ 168,000 $ 168,000 Adjusted Gross DTAs at Enacted Tax Rate $1,260,000 $ 567,000 $ 1,827,000 Admitted Gross DTAs (paragraph 11.a.) 0 $ 126,000 $ 126,000 Admitted Gross DTAs (paragraph 11.b.) $ 1,050,000 0 $ 1,050,000 Admitted Gross DTAs (paragraph 11.c.) $ 210,000 $ 252,000 $ 462,000 Total Admitted Adjusted Gross DTAs (sum of 11.a, 11.b., and 11.c)

$ 1,260,000 $ 378,000 $ 1,638,000

Nonadmitted Adjusted Gross DTAs 0 $ 239,000 $ 239,000 Admitted DTA $ 1,260,000 $ 378,000 $ 1,638,000 Gross DTL $ (588,000) $ (252,000) $ (840,000) Net Admitted DTA/DTL $ 672,000 $ 126,000 $ 798,000

4.20 Facts:

Financial Guaranty or Mortgage Guaranty Non-RBC Reporting Entity Example

1. Financial Guaranty Insurance Company DEF has the same facts as Life Insurance Company ABC except:

a. DEF is not a RBC reporting entity and therefore does not calculate a RBC percentage. DEF is a financial guaranty insurer and has an ExDTA Surplus/Policyholders and Contingency Reserve ratio of 105%.

b. DEF reported $1,000,000 of taxable income and $210350,000 of tax expense on its 20X1 federal income tax return. It has also projected taxable income of $1,5001,200,000 and $315420,000 of federal income taxes for 20X2 that hasve been reflected in its current statutory income tax provision calculation. DEF recognized no capital gain income in 20X1 or 20X2, so all of its taxable income in those years was ordinary in character. But DEF has $1,000,000 less deductible capital temporary differences than ABC and so, after considering all four sources of taxable income specified in paragraph 13 of SSAP No. 101, DEF establishes the same valuation allowance against gross capital DTAs as ABC. After the valuation allowance, DEF has $357,000 ($2,500,000 gross capital DTAs x 21% = $525,000 less $168,000 valuation allowance = $357,000) of adjusted gross capital DTAs.There are no differences between its regular and alternative minimum taxable income in 20X1 or 20X2.

4.21 Calculation of DEF’s Admitted Adjusted Gross DTAs:

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1. Paragraph 11.a. calculation. DEF can admit $525726,000 ($210330,000 + $315396,000) of adjusted gross DTAs under paragraph 11.a, all of which are ordinary in tax character.

a. As an entity taxed as a nonlife insurance company, DEF, unlike ABC, is permitted to carry back ordinary tax losses. DEF first carries $1,000,000 of the hypothetical net operating loss20 of $2,000,000 from 20X3 back to 20X1 recovering $210330,000 in taxes paid. The difference between the total 20X1 taxes paid at 35% ($350,000) and the amount recoverable ($330,000) through carryback of the $1,000,000 represents a $20,000 AMT credit generated as a result of the 90% AMT net operating loss limitation. This AMT credit is not treated as a new DTA as of 12-31-20X2. The remaining $1,000,000 of the hypothetical net operating loss ($2,000,000 – $1,000,000) is available for utilization in 20X2.

b. DEF would carry the remaining $1,000,000 of the hypothetical net operating loss from 20X3 plus an additional $500200,000 of the hypothetical net operating loss from 20X4 back to 20X2 recovering $315396,000 in taxes projected to be paid.21 The difference between the total taxes projected to be paid at 35% ($420,000) and the amount recoverable ($396,000) through carryback of the $1,200,000 represents a $24,000 AMT credit

20 It should be noted that if DEF’s hypothetical 20X3 carryback was insufficient to fully offset all positive taxable income in 20X1, the company would not be allowed to carryback any of the hypothetical loss from 20X4 or 20X5 to 20X1 per paragraph 11.a., as 20X1 is outside of the timeframe corresponding with the tax loss carryback provisions for a non-life insurance company.

21 If DEF would not have had sufficient hypothetical NOL from 20X43 to carryback to 20X2, the company would not have been able to carryback is hypothetical NOL of $2,0001,500,000 from 20X54 back to 20X2 pursuant to the applicable tax loss carryback provisionsas 20X2 is outside of the timeframe corresponding with the tax loss carryback provisions for a nonlife insurance company.

generated as a result of the 90% AMT net operating loss limitation. As noted previously, this AMT credit is not treated as a new DTA as of 12-31-20X2.

The fact that the full $2,5003,500,000 of reversing deductible ordinary temporary differences available for carryback were not used in the paragraph 11.a. calculation does not prevent their inclusion in the paragraph 11.b. and 11.c. calculations, subject to reduction to prevent double counting (see Question 4.2).

2. Paragraph 11.b. calculation. DEF cannot admit any additional adjusted gross DTAs under paragraph 11.b. Since DEF has an ExDTA Surplus/Policyholders and Contingency Reserves ratio of 105%, the Realization Threshold Limitation Table provides that the company can use the thresholds of 1 year for projected realization and 10% of adjusted capital and surplus. The company expects to realize a federal income tax benefit of $420700,000 ($2,000,000 X 2135%) in 20X3 related to its reversing deductible temporary differences. The $420700,000 amount must be reduced by the $525726,000 of admitted adjusted gross DTAs under paragraph 11.a. to prevent double counting of the same income tax benefit. DEF admitted $10526,000 ($525,000 - $420,000) more adjusted gross DTAs based on carryback of the hypothetical net operating losses under paragraph 11.a. than is projected to be realized within the 1- year applicable threshold limitation. As a result, there is $0 of expected additional reversing deductible differences available for admission under paragraph 11.b.

3. Paragraph 11.c. calculation. DEF can admit $8401,400,000 ($5881,000,000 Oordinary, $252400,000 Ccapital) of adjusted gross DTAs under paragraph 11.c. Even though DEF has $1,6173,374,000 of adjusted gross DTAs available for admission under this component ( the fact

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29

that reversing deductible ordinary temporary differences were used in the paragraph 11.a. calculation does not prevent their inclusion in the paragraph 11.c. calculation). ($4,100,000 – $726,000), Tthese DTAs are made up of $1,2601,374,000 Oordinary DTAs ($2,000,000 – $726,000) and $3572,000,000 of Ccapital DTAs. Thus, the tax character of the DTAs and DTLs must be considered as a potential limiting factor for this component. To prevent double counting of the same tax benefit, the $1,260,000 of ordinary adjusted gross DTAs must be reduced by the $525,000 admitted under paragraph 11.a., leaving $735,000 for admission under paragraph 11.c. There areis $5881,000,000 of Oordinary DTLs to offset against the $7351,374,000 of Oordinary DTAs. There areis $252400,000 of Ccapital DTLs to offset against the $3572,000,000 Ccapital DTAs. ThusHowever, the tax character of the DTAs and DTLs must be considered as a potential limiting factor for this component because, . wWhile Oordinary DTAs can be offset against both Oordinary and Ccapital DTLs, the reverse is not allowed in the tax return (see Question 4.13). In this situation, DEF can admit $5881,000,000 and $252400,000 of its Oordinary and Ccapital DTAs, respectively.2 If DEF’s adjusted gross DTAs, after reduction for the amount of adjusted gross DTAs admitted under paragraphs 11.a. and 11.b., were less than $8401,400,000 in this example, DEF would be limited to the balance of its adjusted gross DTAs in the paragraph 11.c. calculation, subject to the rules of offset under existing enacted federal income tax laws and regulations.

4.22 Summary of DEF’s Admitted Gross DTA Calculation:[AS11]

Gross DTAs at Enacted Tax Rate $4,375,000 Less: Statutory Valuation Allowance Adjustment 275,000 Adjusted Gross DTAs at Enacted Tax Rate 4,100,000 Admitted Gross DTAs (paragraph 11.a.) $ 726,000 Admitted Gross DTAs (paragraph 11.b.) 0 Admitted Gross DTAs (paragraph 11.c.) 1,400,000 Total Admitted Adjusted Gross DTAs (sum of 11.a., 11.b., and 11.c.) 2,126,000 (2,126,000) Nonadmitted Adjusted Gross DTAs 1,974,000 Admitted DTA 2,126,000 Gross DTL (1,400,000) Net Admitted DTA/DTL $726,000

Ordinary Capital Total Gross DTAs at Enacted Tax Rate $1,260,000 $ 525,000 $ 1,785,000 Less: Statutory Valuation Allowance $ 168,000 $ 168,000 Adjusted Gross DTAs at Enacted Tax Rate $1,260,000 $ 357,000 $ 1,617,000 Admitted Gross DTAs (paragraph 11.a.) $ 525,000 $ 0 $ 525,000 Admitted Gross DTAs (paragraph 11.b.) $ 0 0 $ 0 Admitted Gross DTAs (paragraph 11.c.) $ 588,000 $ 252,000 $ 840,000 Total Admitted Adjusted Gross DTAs (sum of 11.a, 11.b., and 11.c)

$ 1,113,000 $ 252,000 $ 1,365,000

Nonadmitted Adjusted Gross DTAs $ 147,000 $ 105,000 $ 352,000 Admitted DTA $ 1,113,000 $ 252,000 $ 1,365,000 Gross DTL $ (588,000) $ (252,000) $ (840,000) Net Admitted DTA/DTL $ 525,000 $ 0 $ 525,000

4.23 Facts:

Other Non-RBC Reporting Entity Example

2 DEF’s required consideration of reversal patterns of temporary differences is the same as ABC’s. See Question 4.18.3.

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30

1. Title Insurance Company GHI has the same facts as Life Insurance Company ABC except:

a. GHI is not a RBC reporting entity and therefore does not calculate a RBC percentage. GHI is also not a financial guaranty or mortgage guaranty insurer. As such, GHI must use the Other Non-RBC Reporting Entity Threshold Limitation Table under paragraph 11.b.

b. GHI reported $1,000,000 of taxable income and $210350,000 of tax expense on its 20X1 federal income tax return. It has also projected taxable income of $1,5001,200,000 and $315420,000 of federal income taxes for 20X2 that hasve been reflected in its current statutory income tax provision calculation. GHI recognized no capital gain income in 20X1 or 20X2, so all of its taxable income in those years was ordinary in character. But GHI has $1,000,000 less deductible capital temporary differences than ABC and so, after considering all four sources of taxable income specified in paragraph 13 of SSAP No. 101, GHI establishes the same valuation allowance against gross capital DTAs as ABC. After the valuation allowance, DEF has $357,000 ($2,500,000 gross capital DTAs x 21% = $525,000 less $168,000 valuation allowance = $357,000) of adjusted gross capital DTAs.There are no differences between its regular and alternative minimum taxable income in 20X1 or 20X2.

4.24 Calculation of GHI’s Admitted Adjusted Gross DTAs:

1. Paragraph 11.a. calculation. GHI can admit $525726,000 ($210330,000 + $315396,000) of adjusted gross DTAs under paragraph 11.a, all of which are ordinary in tax character.

a. As an entity taxed as a nonlife insurance company, GHI, unlike ABC, is permitted to carry back ordinary tax losses. GHI first carries $1,000,000 of the hypothetical net operating loss22 of $2,000,000 from 20X3 back to 20X1 recovering $210330,000 in taxes paid. The difference between the total 20X1 taxes paid at 35% ($350,000) and the amount recoverable ($330,000) through carryback of the $1,000,000 represents a $20,000 AMT credit generated as a result of the 90% AMT net operating loss limitation. This AMT credit is not treated as a new DTA as of 12-31-20X2. The remaining $1,000,000 of the hypothetical net operating loss ($2,000,000 – $1,000,000) is available for utilization in 20X2.

b. GHI would carry the remaining $1,000,000 of the hypothetical net operating loss from 20X3 plus an additional $500200,000 of the hypothetical net operating loss from 20X4 back to 20X2 recovering $315396,000 in taxes projected to be paid.23 The difference between the total taxes projected to be paid at 35% ($420,000) and the amount recoverable ($396,000) through carryback of the $1,200,000 represents a $24,000 AMT credit generated as a result of the 90% AMT net operating loss limitation. As noted previously, this AMT credit is not treated as a new DTA as of 12-31-20X2.

The fact that the full $2,5003,500,000 of reversing deductible ordinary temporary differences available for carryback were not used in the paragraph 11.a. calculation does not prevent their inclusion in the paragraph 11.b. and 11.c. calculations, subject to reduction to prevent double counting (see Question 4.2).

2. Paragraph 11.b. calculation. GHI can admit $6301,050,000 of adjusted gross DTAs under paragraph 11.b. Since GHI has an Adjusted Gross DTA to Adjusted Capital and Surplus ratio of 15.648% ($1,0923,374,000/$7,000,000), the Realization Threshold Limitation Table provides that the company can use the thresholds of 3 years for projected realization and 15% of adjusted capital and surplus. The company expects to realize a federal income tax benefit of $1,1551,925,000 ($5,500,000 X 2135%) in 20X3 through 20X5 related to its reversing deductible temporary differences. The $1,1551,925,000 amount must be reduced by the $525726,000 of admitted adjusted gross DTAs under paragraph 11.a. to prevent double

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31

22 It should be noted that if GHI’s hypothetical 20X3 carryback was insufficient to fully offset all positive taxable income in 20X1, the company would not be allowed to carryback any of the hypothetical loss from 20X4 or 20X5 to 20X1 per paragraph 11.a., as 20X1 is outside of the timeframe corresponding with the tax loss carryback provisions for a non-life insurance company.

23 If GHI would not have had sufficient hypothetical NOL from 20X43 to carryback to 20X2, the company would not have been able to carryback is hypothetical NOL of $2,0001,500,000 from 20X54 back to 20X2 pursuant to the applicable tax loss carryback provisionsas 20X2 is outside of the timeframe corresponding with the tax loss carryback provisions for a nonlife insurance company.

counting of the same income tax benefit. As a result, GHI has projected adjusted gross DTAs available for admission under this component of $6301,199,000 ($1,1551,925,000 – $525726,000), all of which is ordinary in tax character. However, 15% of adjusted capital and surplus ($7 ,000 ,000 X 15% = $1 ,050 ,000) is no t a limiting factor in this example. As such, admission of reversing deductible temporary differences that are projected to be realized during 20X3 through 20X5 is $630,000 limited to $1,050,000 ($7,000,000 X 15%).

3. Paragraph 11.c. calculation. GHI can admit $357724,000 ($105324,000 Oordinary, $252400,000 Ccapital) of adjusted gross DTAs under paragraph 11.c. Even though GHI has $1,6172,324,000 of adjusted gross DTAs available for admission under this component. ($4,100,000 – $726,000 – $1,050,000), Tthese DTAs are made up of 1 , 2 6 0 $324,000 Oordinary DTAs ($2,000,000 – $726,000 – $1,050,000) and $3572,000,000 of Ccapital DTAs ( the fact that reversing deductible ordinary temporary differences were used in the paragraph 11.a. and 11.b. calculations does not prevent their inclusion in the paragraph 11.c. calculation). Thus, the tax character of the DTAs and DTLs becomes the limiting factor for this component. To prevent double counting of the same tax benefit, the $1,260,000 of ordinary adjusted gross DTAs must be reduced by the $525,000 admitted under paragraph 11.a. and the $630,00 admitted under paragraph 11.b., leaving $105,000 for admission under paragraph 11.c. There is $5881,000,000 of Oordinary DTLs available to offset against the $105324,000 of Oordinary DTAs. There is $252400,000 of Ccapital DTLs to offset against the $3572,000,000 Ccapital DTAs. Accordingly, the tax character of the DTAs and DTLs becomes a limiting factor for this component. While ordinary DTAs can be offset against both ordinary and capital DTLs, the reverse is not allowed in the tax return (see Question 4.13). In this situation, GHI can admit $105324,000 and $252400,000 of its Oordinary and Ccapital DTAs, respectively.3

4.25 Summary of GHI’s Admitted Gross DTA Calculation:

[AS12] Gross DTAs at Enacted Tax Rate $4,375,000 Less: Statutory Valuation Allowance Adjustment 275,000 Adjusted Gross DTAs at Enacted Tax Rate 4,100,000 Admitted Gross DTAs (paragraph 11.a.) $ 726,000 Admitted Gross DTAs (paragraph 11.b.) 1,050,000 Admitted Gross DTAs (paragraph 11.c.) 724,000 Total Admitted Adjusted Gross DTAs (sum of 11.a., 11.b., and 11.c.) 2,500,000 (2,500,000) Nonadmitted Adjusted Gross DTAs 1,600,000 Admitted DTA 2,500,000 Gross DTL (1,400,000) Net Admitted DTA/DTL $1,100,000

Ordinary Capital Total Gross DTAs at Enacted Tax Rate $1,260,000 $ 525,000 $ 1,785,000 Less: Statutory Valuation Allowance $ 168,000 $ 168,000 Adjusted Gross DTAs at Enacted Tax Rate $1,260,000 $ 357,000 $ 1,617,000

3 GHI’s required consideration of reversal patterns of temporary differences is the same as ABC’s. See Question 4.18.3.

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Admitted Gross DTAs (paragraph 11.a.) $ 525,000 $ 0 $ 525,000 Admitted Gross DTAs (paragraph 11.b.) $ 630,000 0 $ 630,000 Admitted Gross DTAs (paragraph 11.c.) $ 105,000 $ 252,000 $ 357,000 Total Admitted Adjusted Gross DTAs (sum of 11.a, 11.b., and 11.c)

$ 1,260,000 $ 252,000 $ 1,512,000

Nonadmitted Adjusted Gross DTAs $ 0 $ 105,000 $ 352,000 Admitted DTA $ 1,260,000 $ 252,000 $ 1,512,000 Gross DTL $ (588,000) $ (252,000) $ (840,000) Net Admitted DTA/DTL $ 672,000 $ 0 $ 672,000

4b. Q – How is the ExDTA ACL RBC ratio calculated? [Paragraph 11.b.i.]

4.26 A – The December 31 ExDTA ACL RBC ratio is calculated in the same manner as in the ACL RBC Ratio computed in the Annual RBC Report, where Total Adjusted Capital (TAC) is divided by ACL RBC. However, for purposes of paragraph 11.b.i., TAC does not include any DTAs of the reporting entity. The ACL RBC would be the amount calculated in the Annual RBC Report.

4.27 The interim period (March 31, June 30, and September 30) ExDTA ACL RBC ratio calculation is discussed in 4.29-4.33.

4.28 For all companies, the TAC will include current period capital and surplus, excluding any DTAs of the reporting entity. Other TAC adjustments are dependent on whether the company is a Life, P&C or Health insurer.

4.29 For life companies, the AVR adjustment is calculated as a required part of the development of capital and surplus each quarter, and is one of the major adjustments to TAC (added back to surplus). As noted on the illustrative interim TAC calculation in 4.33 for life companies, there are other TAC adjustments such as subsidiaries’ dividend liabilities, etc., that are drawn from the Quarterly Statement.

4.30 For P&C and Health companies, except for the AVR and life subsidiaries’ dividend liability amounts (both of which are only applicable to P&C companies with life subsidiaries), which are readily available on the quarter, the prior year’s annual TAC adjustments should be used in the current quarter’s TAC calculation. The P&C and Health interim TAC illustrations in 4.33 provide example details of various interim RBC TAC adjustments.

4.31 The ACL RBC used for the interim RBC calculation is the ACL RBC from the most recently filed Annual Statement for the most recent calendar year. For example, for June 30, 20X3, the ACL for the interim RBC calculation is taken from the 20X2 RBC Report based on the 20X2 Annual Statement.

4.32 In most instances, the prior year’s annual ACL RBC will suffice. A company should only revise its interim ACL RBC for a material change in its risk profile when requested to do so by its domiciliary state or subject to domiciliary state approval.

4.33 The above principles are illustrated below:

Interim Life RBC Example Based on the 20181 Life RBC Report page LR033

Reported Interim Period A/S Source 12/31/20X2 3/31/20X3

Total Adjusted Capital Capital and Surplus Pg. 3, Ln 38 $1,800,000,000 $1,700,000,000

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33

Adjustments: AVR Pg. 3, Ln 24.01 60,000,000 65,000,000 Dividend Liability Pg. 3, Ln 6.1, 6.2 in part 0 0

Sub AVR Pg. 3, Ln 24.01 of subs 5,000,000 4,500,000 Sub Dividend Liability Pg. 3, Ln 6.1, 6.2 in part of subs 0 0 P&C Non-Tabular Discounts and/or Alien Insurance Subsidiary: Other

P&C Subs Pg. 3, Ln 1 & 3 in part

0 0

Hedging Fair Value Adjustment Company Records 0 0 Credit for Capital Notes Pg. 3, Ln 24.11 0 0 Total Adjusted Capital (TAC) 5-Year Historical Data, P22,

C1, L30 1,865,000,000 1,769,500,000

Less: Deferred Tax Asset Pg. 2, Ln 18.2 190,000,000 200,000,000 TAC ExDTA $1,675,000,000 $1,569,500,000

Authorized Control Level RBC 5-Year Historical Data $175,000,000 $175,000,000 *

Total Adjusted Capital ExDTA/Authorized Control Level Risk-

Based Capital 957% 897%

* ACL RBC amount for interim period is the 12/31/20X2 amount

Interim P&C RBC Example (Based on the 20181 P&C RBC Report page PR026

Reported Interim

Period

SOURCE OF THE DATA 12/31/20X2 3/31/20X3

Capital and Surplus P3 C1 L37 (Ann. & Qtrly. Stmt.)

$850,000,000

$765,000,000

Adjustments:

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34

Non-Tabular Discount-Losses SCHEDULE P P1-SUM C32 L12 (Ann. Stmt. Only)

(800,000)

(800,000 )

Non-Tabular Discount-Expense SCHEDULE P P1-SUM C33 L12 (Ann. Stmt. Only)

(60,000 )

(60,000 )

Discount on Medical Loss Reserves Reported as Tabular in Schedule P

Company Records 0

0

Discount on Medical Expense Reserves Reported as Tabular In Schedule P

Company Records 0

0

P&C Subs Non-Tabular Discount-Losses SCHEDULE P P1-SUM C32 L12 (Ann. Stmt. Only)

0

0

P&C Subs Non-Tabular Discount-Expenses SCHEDULE P P1-SUM C33 L12 (Ann. Stmt. Only)

0

0

P&C Subs Discount on Medical Loss Reserves Reported as Tabular in Schedule P

Subs' Company Records 0

0

P&C Subs Discount on Medical Expense Reserves Reported as Tabular In Schedule P

Subs' Company Records 0

0

AVR - Life Subs Subs P3 C1 L24.01 (Ann. & Qtrly. Stmt.)

5,000,000

6,000,000

Dividend Liability - Life Subs Subs P3 C1 L6.1 + 6.2 (Ann. & Qtrly. Stmt.)

0

0

Total Adjusted Capital 5-Year Historical Data P 17 C 1 L28

854,140,000

770,140,000

(Annual/Current calc. on Qtr.)

Less: Deferred Tax Asset P 2 C3 L 18.2 (Ann. & Qtrly. Stmt.)

82,000,000

72,000,000

Total Adjusted Capital ExDTA PR026 (Annual RBC Report/Current Calc. on Qtr.)

772,140,000

698,140,000

Authorized Control Level Risk-Based Capital 5-Year Historical Data P

17 C 1 L29 (Annual)

171,000,000

171,000,000 *

Total Adjusted Capital ExDTA/ Authorized

Control Level Risk-Based Capital

452%

408%


Interim Health RBC Example (Based on the 20181 Health RBC Report page XR024

Reported Interim

Period

SOURCE OF THE DATA 12/31/20X2 3/31/20X3

Capital and Surplus P3 C3 L33 (Ann. & Qtrly. Stmt.)

$850,000,000

$765,000,000

Adjustments: AVR – Life Subs Subs’ Company Records 0 0

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35

Dividend Liability – Life Subs Subs’ Company Records 0 0 Tabular Discounts – P&C subs Subs’ Company Records

0

0

Non-Tabular Discounts – P&C Subs Subs’ Company Records 0

0

Total Adjusted Capital 5-Year Historical Data P 28 C 1 L14 (Annual/ Current calc. on Qtr.)

850,000,000

765,000,000

Less: Deferred Tax Asset P 2 C3 L 18.2 (Ann. & Qtrly. Stmt.)

82,000,000

72,000,000

Total Adjusted Capital ExDTA XR 24 (Annual RBC Report/Current Calc. on Qtr.)

768,000,000

693,000,000

Authorized Control Level Risk-Based Capital 5-Year Historical Data P

28 C 1 L 15 (Annual)

171,000,000

171,000,000 *

Total Adjusted Capital ExDTA/ Authorized

Control Level Risk-Based Capital

449%

405%


4c. Q – What is meant by the phrase “an amount that is no greater than”? [Paragraph 11.b.ii.]

4.34 A – As discussed in 4.11 the amount of admitted adjusted gross DTAs under paragraph 11.b.i. is also limited to an amount that is no greater than the applicable percentage of statutory capital and surplus test specified in paragraph 11.b.ii. For purposes of this test, statutory capital and surplus as shown on the statutory balance sheet of the reporting entity for the current period’s statement filed with the domiciliary state commissioner is adjusted to exclude any net DTAs, EDP equipment and operating system software and any net positive goodwill.

4.35 The phrase “an amount that is no greater than” in paragraph 11.b.ii. allows an entity to utilize an amount lower (e.g., from the reporting entity’s most recently filed statement) than what would be allowed if it utilized the amount of statutory capital and surplus adjusted to exclude any net DTAs, EDP equipment and operating system software and any net positive goodwill as required to be shown on the statutory balance sheet of the reporting entity for the current period’s statement filed with the domiciliary state commissioner. This ability to utilize a lower amount is for administrative ease if a reporting entity’s surplus is increasing.

4.36 For example, at 12/31/20X2 if adjusted capital and surplus is $100M and at 9/30/20X2 it was $80M, the entity may utilize the $80M amount from the prior quarter.

4.37 If instead 12/31/20X2 adjusted capital and surplus were $60M, the entity may not utilize the $80M amount from the prior quarter as that would overstate the limitation under paragraph 11.b.ii.

4.38 If at 12/31/20X2 an entity’s adjusted capital and surplus was initially determined to be $150M, the entity can still utilize that amount under paragraph 11.b.ii., if there is a late accounting adjustment that increases that amount to $160M.

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SSAP 101 Q&A 5 5a. Q – How is the timing of reversals of temporary differences and carryforwards determined for SSAP No. 101 purposes? [Paragraphs 11.a., 11.b.i. and 12.a.]

5.1 A – The timing of temporary difference reversals is critical in determining the amount of admitted adjusted gross DTAs. Determining the reversal of temporary differences impacts the adjusted gross DTA admitted pursuant to paragraphs 11.a., 11.b.i. and potentially 11.c. of SSAP No. 101.

5.2 Paragraph 12.a. of SSAP No. 101 states that “For purposes of paragraph 11.a., existing temporary differences that reverse during a timeframe corresponding with IRS tax loss carryback provisions, not to exceed three years, shall be determined in accordance with paragraphs 228 and 229 of FAS 109.” The timing of reversals of temporary differences and carryforwards for purposes of paragraph 11.b. of SSAP No. 101 shall be determined under similar principles.

5.3 Paragraph 228 of FAS 109 states, in pertinent part, that “[t]he particular years in which temporary differences result in taxable or deductible amounts generally are determined by the timing of the recovery of the related asset or settlement of the related liability.” Question 1 of the FASB’s Special Report on Statement 109 provides additional guidance on scheduling. It defines “scheduling” as the analysis performed to determine the pattern and timing of the reversal of temporary differences. It also provides certain guidelines to be followed, including the need for the method employed to be systematic and logical, that a consistent method be used for each category of temporary differences, and that a change in the method used be considered a change in accounting principle.

5.4 Assume Company A purchases its only asset for $1,000, an asset that is admissible for statutory accounting purposes and depreciated over five years on a straight-line basis. Assume also that the asset is depreciated over seven years for tax purposes using the Modified Accelerated Cost Recovery System (MACRS). The following table summarizes the statutory and tax basis of the asset at the end of each year.

Year Cost

Statutory Depreciation

Statutory

Basis

Tax Depreciation Tax Basis

Deductible/ (Taxable) Temporary Difference

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1 $1,000 $200 $800 $143 $857 $57 2 - 200 600 245 612 12 3 - 200 400 175 437 37 4 - 200 200 125 312 112 5 - 200 - 89 223 223 6 - - - 89 134 134 7 - - - 89 45 45 8 - - - 4524 - -

5.5 At the end of year one, the Company would conclude that $45 ($57 - $12) of the $57 outstanding deductible temporary difference would reverse within one year, leaving a temporary difference of $12 at the end of year two. However, for computing a two or three year reversal, the Company would not project a reversal of the temporary difference by the end of year three or four as the deductible temporary difference is scheduled to increase (from $12 to $37 and from $37 to $112, respectively). If the Company had decided to sell the asset in year two, it may be appropriate to conclude that the outstanding deductible temporary difference of $57 would reverse in year two.

5.6 A similar rationale would apply in the instance of a nonadmitted asset. Assume the same facts as aforementioned, except that the asset is nonadmitted for statutory accounting purposes. The results are summarized in tabular form below.

Year Cost Statutory Statutory Tax Tax Basis Deductible/

24 Due to the mid-year convention applicable to most asset acquisitions for tax purposes, the asset is treated as acquired in mid- year, meaning that a seven (7) year asset is depreciated over eight (8) tax years.

Charge to Surplus

Basis Depreciation (Taxable) Temporary Difference

1 $1,000 $1,000 - $143 $857 $857 2 - - - 245 612 612 3 - - - 175 437 437 4 - - - 125 312 312 5 - - - 89 223 223 6 - - - 89 134 134 7 - - - 89 45 45 8 - - - 45 - -

5.7 In this example, the Company has a steady decline in the deductible temporary difference that is not complicated by competing depreciation regimes. This is due to the fact that the Company took the large surplus charge when the asset was nonadmitted, thereby creating a significant deductible temporary difference. The Company would project a $245 temporary difference reversal in year two (from $857 to $612), a $175 temporary difference reversal in year three (from $612 to $437), and a $125 temporary difference reversal in year four (from $437 to $312). Although the Company will take income statement charges for depreciation on the nonadmitted asset, the statutory basis is nonetheless zero from the moment the asset was nonadmitted. Future statutory depreciation deductions will not impact the statutory basis and have no impact on the analysis.

5.8 The above examples assume a single asset. However, the analysis becomes more complicated when the Company has hundreds or thousands of assets within its fixed asset pool. In this instance, it is expected that management will make its best estimate of the expected reversal pattern determined in a

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manner consistent with the grouping for measurement (see question 2 for more discussion about grouping).

5.9 As indicated above, the timing of the reversal of a particular balance sheet item will depend on the expected recovery of the related asset and liability. For example, the temporary difference associated with property & casualty loss reserves would be expected to reverse in a manner consistent with the payout pattern (“development”) of the underlying loss reserves. Historical loss development triangles may be useful in substantiating a reversal pattern. For instance, assume Company A writes two types of property and casualty policies: auto liability and workers’ compensation. The following table details the components of the statutory and tax reserves for Company A as of December 31, 20X2.4

Private

Passenger Auto Liability

Statutory Reserves

Tax Reserves

Temporary Difference

AY + 0 $1,000 $900 $100 AY + 1 850 690 160 AY + 2 700 580 120 AY + 3 550 490 60 AY + 4 400 385 15 AY + 5 300 275 25 AY + 6 200 175 25 AY + 7 100 90 10 AY + 8 80 75 5 AY + 9 70 65 5 Prior 50 45 5 Total $4,300 $3,770 $530

Workers’ Compensation

Statutory Reserves

Tax Reserves

Temporary Difference

AY + 0 $1,000 $825 $175 AY + 1 900 800 100 AY + 2 850 770 80 AY + 3 790 695 95 AY + 4 725 610 115 AY + 5 695 600 95 AY + 6 655 575 80 AY + 7 605 545 60 AY + 8 575 505 70 AY + 9 550 495 55 Prior 505 450 55 Total $7,850 $6,870 $980

5.10 One option in analyzing the reversal of the temporary difference would be to calculate the historical loss development patterns for the two lines of business by accident year for each year in the applicable reversal period. By applying these development patterns to the individual temporary differences, the Company could estimate the expected reversal of the temporary difference as a whole for each year in the applicable reversal period.

5.11 Another option would be to apply the average development factor by line of business to each reserve for each year in the applicable reversal period. If the average one-year development factor for all accident years for auto liability and workers’ compensation were 70% and 35%, respectively, the one-

4 Under current tax law, the loss payment period extends for more years, but the concepts illustrated herein are unchanged.

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year temporary difference reversal would be $371 ($530 x 70%) for auto liability and $343 ($980 x 35%) for workers’ compensation. The same approach could be used in determining the reversal for any other year in the applicable reversal period.

5.12 The temporary difference related to property and casualty unearned premiums is typically twenty percent (20%) of the outstanding statutory unearned premium reserve. If a company issues only one-year policies, it is reasonable to assume that the entire temporary difference will reverse in one year. If a company writes multi-year contracts, management will be required to estimate the percentage of the unearned premium that will be earned within each year of the applicable reversal period and apply these percentages to the outstanding temporary difference.

5.13 The reversal of the temporary difference related to life insurance reserves may require actuarial assistance, normally involving anticipated development of the statutory and tax reserves for policies issued prior to the end of the current reporting year. In computing the anticipated development, it would be expected that reasonable assumptions be used, which may include cash-flow modeling of the entity’s reserves. Deferred acquisition costs on life insurance policies are amortized over prescribed periods pursuant to federal tax law. The amortization schedules should provide management with the ability to estimate the reversal for each year in the applicable reversal period with reasonable accuracy.

5.14 For those temporary differences that do not have a defined reversal period, such as unrealized losses on common stock or deferred compensation liabilities, management will need to determine when the temporary difference is “expected” to reverse. For instance, assume a company has an unrealized loss of $200 in its equity portfolio and that, on average, the portfolio turns over twenty-percent (20%) per year. It would be appropriate for the company to conclude that $40 of the temporary difference will reverse in each year in the applicable reversal period. When determining when the temporary difference would be “expected” to reverse, management should normally take into account events that are likely to occur using information, facts and circumstances in existence as of the reporting date. The estimates used in this circumstance should not be extended to other tests of impairment. For instance, when the entity assumed a 20% turnover in its equity portfolio, it is not involuntarily required to record an impairment in accordance with paragraph 9 of SSAP No. 30—Investments in Common Stock (excluding investments in common stock of subsidiary, controlled, or affiliated entities).

5.15 In summary, the methodology used to develop the reversal pattern should be consistent, systematic, and rational. Although consistency is encouraged, business conditions may dictate that certain factors be given more or less weight than in previous periods. Factors to be considered include historical patterns, recent trends, and the likely impact of future initiatives (without regard to future originating temporary differences). For instance, if a company has migrated to a more efficient claims management system, outstanding reserves may be settled more quickly than historical payment patterns may indicate. A company that expects to enter into a loss portfolio transfer reinsurance transaction should consider the implications of that treaty in determining the reversal of the loss reserve temporary difference.

5b. Q – How should future originating differences impact the scheduling of temporary difference reversals during the applicable period? [Paragraphs 11.a., 11.b.i. and 12.a]

5.16 A – Future originating differences, and their subsequent reversals, are considered in assessing the existence of future taxable income. However, they should not impact the scheduling of existing temporary difference reversals during the applicable period. Paragraph 229 of FAS 109 provides the following:

229. For some assets or liabilities, temporary differences may accumulate over several years and then reverse over several years. That pattern is common for depreciable assets. Future originating differences for existing depreciable assets and their subsequent reversals are a factor to be considered when assessing the likelihood of future taxable income (paragraph 21(b)) for realization of a tax benefit for existing deductible temporary differences and carryforwards.

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SSAP 101 Q&A 6 6. Q – What is meant by the phrase “expected to be realized”? [Paragraph 11.b.i.]

6.1 A – A reporting entity calculates the amount of its adjusted gross DTAs and gross DTLs under paragraph 7 using the enacted tax rate. The amount of adjusted gross DTAs and gross DTLs is not recalculated under paragraph 11. The purpose of paragraph 11 is to determine the amount of adjusted gross DTAs that can be admitted in the reporting period.

6.2 An excerpt of SSAP No. 4 – Assets and Nonadmitted Assets indicates:

2. For purposes of statutory accounting, an asset shall be defined as: probable25 future economic benefits obtained or controlled by a particular entity as a result of past transactions or events.

6.3 The phrase “expected to be realized” encompasses a reasonable expectation as to the value of the DTAs consistent with SSAP No. 4. This means that if a reporting entity’s management expects that deductible temporary differences that reverse in the applicable period will produce a federal income tax benefit at a rate that is lower than the enacted rate, the expected rate should be taken into consideration in the determination of the amount of admitted adjusted gross DTAs under paragraph 11.b.i. In other words, available evidence causes the reporting entity to expect the asset to be realized at less than the enacted rate. In such cases, it would not be appropriate to calculate the amount of admitted adjusted gross DTAs under paragraph 11.b.i. on the basis of reversing deductible temporary differences at the enacted tax rate.

6.4 The following examples illustrate situations where the amount of admitted adjusted gross DTAs under paragraph 11.b.i. would be less than the adjusted gross DTAs calculated using deductible

25 FASB Statement of Financial Accounting Concepts No. 6, Elements of Financial Statements (CON 6) states, “Probable is used with its usual general meaning, rather than in a specific accounting or technical sense (such as that in FASB Statement No. 5, Accounting for Contingencies, par. 3), and refers to that which can reasonably be expected or believed on the basis of available evidence or logic but is neither certain nor proved.”

temporary differences reversing in the applicable period at the enacted income tax rate. The approach in these examples is to determine the tax savings that the company would expect to realize from its reversing deductible temporary differences. This is accomplished through a calculation of the company’s income tax liability “with and without” these temporary differences. It is assumed that in these examples there are no prudent and feasible tax-planning strategies that would cause the entity to expect the asset to be realized at a rate different than that presented in the examples.

Example 1:

6.5 P&C has a significant portion of its investment portfolio in municipal bonds. It is estimating regular taxable income to be $6,000,000 in 20X3, $4,000,000 in 20X4, and $5,000,000 in 20X5. Included in these amounts are $10,000,000 ($8,500,000 net of 15% “proration”) of excluded tax-exempt interest per year and $2,000,000 of reversing deductible temporary differences per year that were included in P&C’s deferred inventory at 12/31/X2. The Company’s ExDTA ACL RBC percentage is 700% and therefore required to use the three-year applicable period under paragraph 11.b.i.

20X3 Without Reversing

Temporary Differences With Reversing Temporary

Differences Regular Tax AMT Regular Tax AMT Regular Taxable Income $8,000,000 $8,000,000 $8,000,000 $8,000,000

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AMT/ACE Adjustment 6,375,00026 6,375,000

Reversing Temporary Differences (2,000,000) (2,000,000) Taxable Income 8,000,000 14,375,000 6,000,000 12,375,000 Tax (35% regular/20% AMT) 2,800,000 2,875,000 2,100,000 2,475,000 Tax Liability $2,800,000 75,000 $2,100,000 375,000 Total Tax $2,875,000 $2,475,000

20X4 Without Reversing Temporary Differences

With Reversing Temporary Differences

Regular Tax AMT Regular Tax AMT Regular Taxable Income $6,000,000 $6,000,000 $6,000,000 $6,000,000 AMT/ACE Adjustment 6,375,000 6,375,000 Reversing Temporary Differences (2,000,000) (2,000,000) Taxable Income 6,000,000 12,375,000 4,000,000 10,375,000 Tax (35% regular/20% AMT) 2,100,000 2,475,000 1,400,000 2,075,000 Tax Liability $2,100,000 375,000 $1,400,000 675,000 Total Tax $2,475,000 $2,075,000



Regular Tax AMT Regular Tax AMT Regular Taxable Income $7,000,000 $7,000,000 $7,000,000 $7,000,000 AMT/ACE Adjustment 6,375,000 6,375,000 Reversing Temporary Differences (2,000,000) (2,000,000) Taxable Income 7,000,000 13,375,000 5,000,000 11,375,000 Tax (35% regular/20% AMT) 2,450,000 2,675,000 1,750,000 2,275,000 Tax Liability $2,450,000 225,000 $1,750,000 525,000 Total Tax $2,675,000 $2,275,000

26 $10,000,000 x 85% x 75%

Total27 Without Reversing


Differences Regular Tax AMT Regular Tax AMT Regular Taxable Income $21,000,000 $21,000,000 $21,000,000 $21,000,000 AMT/ACE Adjustment 19,125,000 19,125,000 Reversing Temporary Differences (6,000,000) (6,000,000) Taxable Income 21,000,000 40,125,000 15,000,000 34,125,000 Tax (35% regular/20% AMT) 7,350,000 8,025,000 5,250,000 6,825,000 Tax Liability $7,350,000 675,000 $5,250,000 1,575,000 Total Tax $8,025,000 $6,825,000

6.6 Over the three-year applicable period, the reversing deductible temporary differences of $6,000,000 are expected to save P&C income taxes at a rate of 20% or $1,200,000 ($8,025,000 – $6,825,000). The remaining 15% tax benefit represents an additional AMT credit carryover of $900,000 ($1,575,000 – $675,000). Therefore, P&C’s admitted adjusted gross DTAs under paragraph 11.b.i., before reduction for any admitted adjusted gross DTAs under paragraph 11.a. would be $1,200,000,

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which is less than the amount of its adjusted gross DTAs of $2,100,000 ($6,000,000 x 35%) on reversing deductible temporary differences at the enacted rate. However, the $900,000 difference generated by the 15% (35% - 20%) rate differential under paragraph 11.b.i. would be taken into account in the paragraph 11.c. calculation as part of the amount of adjusted gross DTAs, after application of paragraphs 11.a. and 11.b., that can be offset against existing gross DTLs.

6.7 In the above example, if P&C were to be in a regular tax liability during 20X5 (i.e. a year in the applicable period subsequent to the creation of the 20X3 and 20X4 AMT credit carryovers), these credit carryovers may be utilized in determining the 20X5 with and without calculation. This utilization must be within the applicable period and would be limited to the amount allowed under tax law. In Example 1, assuming full utilization of the 20X3 and 20X4 carryovers, in 20X5 the admitted adjusted gross DTAs under paragraph 11.b.i. (before reduction for any admitted adjusted gross DTAs under paragraph 11.a.) would then be equal to the $2,100,000 adjusted gross DTAs on the $6,000,000 of reversing deductible temporary differences because the AMT credit is both generated and fully utilized in the applicable period.

Example 2:

6.8 SL is a small life insurance company with projected assets of less than $500 million at the end of 20X3. SL also estimates that its 20X3 taxable income before the small life insurance company deduction (SLICD) will be $1,300,000. Included in this amount is $400,000 of reversing deductible temporary items that were part of SL’s deferred inventory at 12/31/X2. The Company’s ExDTA ACL RBC percentage is 250% and therefore it is required to use the one-year applicable period under paragraph 11.b.i.

27 The totals are provided for illustration purposes only. The calculations are required to be performed individually each year.

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Regular Tax AMT Regular Tax AMT Regular Taxable Income before SLICD

$1,700,000

$1,700,000

$1,700,000

$1,700,000

Reversing Temporary Differences (400,000) (400,000) Net 1,700,000 1,700,000 1,300,000 1,300,000 Small Life Insurance Company Deduction (60%)

(1,020,000)

(1,020,000)

(780,000)

(780,000)

AMT/ACE Adjustment (75% of SLICD)

765,000

585,000

Taxable Income 680,000 1,445,000 520,000 1,105,000 Tax (35% regular/20% AMT) 238,000 289,000 182,000 221,000 Tax Liability $238,000 51,000 $182,000 39,000 Total Tax $289,000 $221,000

6.9 Since SL is a small life insurance company with less than $3 million of taxable income before the small life insurance company deduction, it is taxed at an effective federal income tax rate of 17%. The $400,000 of reversing deductible temporary differences in 20X3 is expected to save SL $68,000 ($289,000 - $221,000) in federal income taxes at the 17% rate. The tax savings represents a reduction in regular taxes of $56,000 and AMT taxes of $12,000. Under paragraph 11.b.i., SL would admit adjusted gross DTAs of $68,000, before reduction for any adjusted gross DTAs admitted under paragraph 11.a. Any unused amount of adjusted gross DTAs related to the 18% (35% - 17%) rate differential under paragraph 11.b.i. would be taken into account under paragraph 11.c. as part of the amount of adjusted gross DTAs, after reduction for adjusted gross DTAs admitted under paragraphs 11.a. and 11.b., that can be offset against existing gross DTLs. This same approach would be used in 20X4 and 20X5, if the Company instead qualified for the three-year applicable period under paragraph 11.b.i.

Example 13:

6.510 BCBS is a Blue Cross/Blue Shield Organization that expects to fully offset its regular taxable income with available section 833 (b) deductions in 20X2. Prior to considering the section 833 (b) deduction, BCBS projects $8,000,000 of taxable income in 20X3, which includes $3,000,000 of reversing deductible temporary differences that were part of its deferred inventory at 12/31/X2. The Company’s ExDTA ACL RBC percentage is 250% and therefore it is required to use the one-year applicable period under paragraph 11.b.i.



Differences Regular Tax AMT Regular Tax AMT Regular Taxable Income Before 833(b)

$11,000,000

$11,000,000

$11,000,000

$11,000,000

Reversing Temporary Differences (3,000,000) (3,000,000) Net 11,000,000 11,000,000 8,000,000 8,000,000 Section 833 (b) Deduction (11,000,000) (8,000,000) Taxable Income 0 11,000,000 0 8,000,000 Tax (35% regular/20% AMT) 0 2,200,000 0 1,600,000 Tax Liability $0 2,200,000 $0 1,600,000

$2,200,000 $1,600,000

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6.611 BCBS has a 0% effective tax rate on regular taxable income in 20X3 and is taxed at 20% for AMT. Its regular taxable income is $0, both “with and without” the $3,000,000 reversing deductible temporary differences since the section 833 (b) deduction changes by an equal amount. The $600,000 reduction in AMT tax liability related to the $3,000,000 reversing deduction temporary differences is expected to generate a 20% tax savings in 20X3. Therefore, BCBS would admit $600,000 of ze r o adjusted gross DTAs under paragraph 11.b.i., before reduction for any adjusted gross DTAs admitted under paragraph 11.a. Any The unused amount of adjusted gross DTAs related to the 2115% (35% - 20%) rate differential under paragraph 11.b.i. would be taken into account under paragraph 11.c. as part of the amount of adjusted gross DTAs, after reduction for adjusted gross DTAs admitted under paragraphs 11.a. and 11.b., that can be offset against existing gross DTLs. The same approach would be used in 20X4 and 20X5 if the Company instead qualified for the three-year applicable period under paragraph 11.b.i.

Example 34:

6.712 ABC, a insurance company taxed as a nonlife insurance company, is projecting an income tax loss in 20X3 of $20,000,000, which includes $5,000,000 of reversing deductible temporary differences that were part of its deferred inventory at 12/31/X2. ABC expects to pay $0 federal income taxes in 20X3 for both regular and AMT tax purposes as a result of its tax loss. The Company’s ExDTA ACL RBC percentage is 250% and therefore, it is required to use the one-year applicable period under paragraph 11.b.i.



Differences Regular Tax AMT Regular Tax AMT Regular Taxable Income (Loss) ($15,000,000) ($15,000,000) ($15,000,000) ($15,000,000) Reversing Temporary Differences (5,000,000) (5,000,000) Taxable Income (Loss) (15,000,000) (15,000,000) (20,000,000) (20,000,000) Tax (35% regular/20% AMT) $0 $0 $0 $0

6.813 In 20X3, ABC expects to realize no tax benefit related to the $5,000,000 of reversing deductible temporary differences since they simply increase the amount of an NOL. Its expected income tax rate for 20X3 would be 0% and ABC would have $0 admitted adjusted gross DTAs under paragraph 11.b.i. However, if some or all of the reversing temporary differences could be absorbed in the carryback period, ABC would have an admitted adjusted gross DTA under paragraph 11.a.28 The adjusted gross DTAs of $1,0501,750,000 ($5,000,000 x 2135%), related to ABC’s reversing temporary differences, would also be available as part of its total adjusted gross DTAs, after reduction for adjusted gross DTAs admitted under paragraphs 11.a. and 11.b., that can be offset against gross DTLs in the paragraph 11.c. calculation.

6.914 If a company qualified to utilize the three-year applicable period under paragraph 11.b.i. and within that applicable period forecasted a taxable loss in one or more of the years and taxable income in the other years, the loss may be utilized in determining the with and without calculation. This loss utilization must be within the applicable period and would be limited to the amount allowed to be carried back or carried forward under applicable tax law.

28 For purposes of determining the amount of admitted adjusted gross DTAs under paragraph 11.a., ABC would look to the amount of existing temporary differences that reverse during a timeframe corresponding with the tax loss carryback provisions allowed by the applicable tax law, not to exceed three yearsin this case 2 years, notwithstanding that it is limited to a one-year applicable period for purposes of paragraph 11.b.i.

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SSAP 101 Q&A 7 7. Q – SSAP No. 101 provides that a reporting entity may admit deferred tax assets in an amount equal to federal income taxes paid in prior years that can be recovered through loss carrybacks for existing temporary differences that reverse during a timeframe corresponding with IRS tax loss carryback provisions, not to exceed three years, including any amounts established in accordance with the provisions of SSAP No. 5R as described in paragraph 3.a. of this statement related to those periods. What is the meaning of the term “taxes paid”? [Paragraph 11.a.]

7.1 A – Under paragraph 11.a. of SSAP No. 101, the term “taxes paid” means the total tax (both regular and AMT, but not including interest and penalties), that was or will be reported on the reporting entity’s federal income tax returns for the periods included in theapplicable carryback period including any amounts established in accordance with the provision of SSAP No. 5R as described in paragraph 3.a. of SSAP No. 101 related to those periods. If a federal income tax return in the applicable carryback period has been amended, or adjusted by the IRS, “taxes paid” would reflect the impact of the amended tax return, or settlement with the IRS.

7.2 In applying the term “taxes paid” to a reporting entity that is party to a consolidated federal income tax return, the term “taxes paid” means the total federal income tax (both regular and AMT) that was paid, or is expected to be paid to the common parent of the reporting entity’s affiliated group, in accordance with the intercompany tax sharing agreement, with respect to the income tax years included in the a p p l i c a b l e carryback period. “Taxes paid” includes amounts established in accordance with the provision of SSAP No. 5R as described in paragraph 3.a. of SSAP No. 101 related to those periods, including current federal income taxes payable (i.e., accrued in the entity’s financial statements) related to the appl icable carryback period. The ability of the reporting entity to recover (through loss or credit carrybacks) taxes that were paid to its common parent is generally governed by the terms and provisions of the affiliated group’s intercompany tax sharing or tax allocation agreement. 7.3 For purposes of paragraphs 7.1 and 7.2, “taxes paid” includes both regular tax and alternative minimum tax for taxable years beginning before January 1, 2018. For taxable years beginning after December 31, 2017, the applicable carryback periods are two years for ordinary losses for entities taxed as nonlife insurance companies, and three years for capital losses for entities taxed both as nonlife and life insurance companies. Entities taxed as life insurance companies are not permitted to carryback ordinary losses arising in tax years after 2017.

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SSAP 101 Q&A 8 8. Q – How is a company’s computation of adjusted gross and admitted adjusted gross deferred tax assets impacted if it joins in the filing of a consolidated federal income tax return? [paragraphs 7, 11, and 12]

8.1 A – For purposes of determining the amount of DTAs and the amount admitted under paragraph 11, the calculation should be made on a separate company, reporting entity basis. Under paragraph 7, a reporting entity’s gross deferred tax assets and liabilities are determined by identifying its temporary differences. These temporary differences are measured using a “balance sheet” approach by comparing statutory and tax basis balance sheets for that entity. Once a reporting entity determines its gross DTAs, they are reduced for any statutory valuation allowance adjustment that may be necessary to determine the adjusted gross DTAs. The amount of adjusted gross DTAs that are admitted is determined in accordance with paragraph 11.

8.2 Under paragraph 11.a., an entity shall determine the amount of “federal income taxes paid in prior years that can be recovered through loss carrybacks for existing temporary differences that reverse during a timeframe corresponding with IRS tax loss carryback provisions, not to exceed three years.” Such amount shall include any amounts established for tax loss contingencies in accordance with paragraph 3.a. Consistent with guidance promulgated in other EAIWG interpretations, a reporting entity that files a consolidated federal income tax return with its parent should look to the amount of taxes it paid (or were allocable to it) as a separate legal entity in determining the admitted adjusted gross DTAs under paragraph 11.a. Furthermore, the admitted adjusted gross DTAs under paragraph 11.a. may not exceed the amount that the entity could reasonably expect to have refunded by its parent (paragraph 12.c.). The taxes paid by the reporting entity represent the maximum DTAs that may be admitted under paragraph 11.a., although the amount could be reduced pursuant to the group’s tax allocation agreement.

8.3 The amount of admitted adjusted gross DTAs under paragraph 11.b.i. is limited to the amount that the reporting entity expects to realize within the applicable period (refer to the 11.b.i. column of the applicable Realization Threshold Limitation Table in paragraph 11.b.) following the balance sheet date on a separate company basis. The entity must estimate its separate company taxable income and the tax benefit that it expects to receive from reversing deductible temporary differences in the form of lower tax payments to its parent. If the reporting entity has reversing adjusted gross DTAs during the applicable period for which it does not expect to realize a benefit under paragraph 11.b. on a separate company basis, the reporting entity cannot admit an amount related to such DTAs under paragraph 11,b., even though the reporting entity may be paid a tax benefit for such items pursuant to its tax allocation agreement.

8.4 The following examples reflect this analysis and assume that the surplus limitation of paragraph 11.b.ii. is not applicable:

Example 1:

8.5 Assume Company A, an entity taxed as a n o n life insurance company, joins in the filing of a consolidated federal income tax return. Consolidated taxes paid in prior carryback years total $150, of which Company A paid $100. Company A has existing temporary differences that reverse by the end of the third second calendar year following the balance sheet date29 that, on a separate company reporting entity basis and following the applicable carryback provisions of the Internal Revenue Code for each year in which temporary differences reverse, would give rise to a tax recovery of $125.

8.6 Under paragraph 11.a., Company A could record an admitted DTA under 11.a. of $100, equal to the taxes it paid. Additionally, under paragraph 11.b.i., Company A could admit an additional $25, assuming it expects to realize such tax benefit based on its separate company analysis. Due to the consolidated return filing, the $100 admitted under paragraph 11.a. could only be admitted provided this amount could reasonably be expected to be refunded by the parent [paragraph 12.c.] and would be available pursuant to a written income tax allocation agreement [paragraph 16.b.]. Additionally, assume

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Company A’s ExDTA ACL RBC exceeds 300%, and under paragraph 11.b.i., Company A could admit an additional $25, assuming that it expects to realize $175 such tax benefitfrom 3 years of DTA reversals, based on its separate company analysis. A 3 year period is applicable for paragraph 11.b.i., notwithstanding that only 2 years of DTA reversals may be taken into account under paragraph 11.a. due to tax law limitations on operating loss carrybacks. In such case, Company A could admit an additional $75 under paragraph 11.b.i. ($175 less the $100 admitted under paragraph 11.a.).

Example 2:

8.7 Assume the same facts as in Example 1, except consolidated taxes paid in prior carryback years that could be recovered are $70 and, pursuant to a written income tax allocation agreement, taxes recoverable through loss carrybacks may not exceed consolidated taxes paid in prior carryback years.

8.8 In this situation, Company A would admit a DTA of $70 under paragraph 11.a. (recoverable taxes limited to consolidated taxes paid which could be refunded by the parent). In addition, $10555 ($175125-$70) of DTA may be admitted under paragraph 11.b.i., if Company A expected to realize this tax benefit on the basis of its Company A’s separate company estimated taxable income and temporary differences that are expected to be realized within the applicable 3 year period following the balance sheet date.

Example 3:

8.9 Parent Company P files a consolidated federal income tax return with its nonlife insurance subsidiaries, R, S and T. Assume consolidated taxes that could be recovered through loss carryback total $450. However, in the prior carryback years $200 was paid by each of the subsidiaries, R, S and T. The difference between the amount paid by the subsidiaries ($600) and the amount available through loss carryback ($150) is attributable to interest expense incurred by Company P. Pursuant to the group’s written income tax allocation agreement, in the case of loss carrybacks, taxes recoverable are limited to the consolidated taxes paid in the carryback years.

8.10 Because the adjusted gross DTA admitted under paragraph 11.a. for each reporting entity cannot exceed what each entity paid and could reasonably be expected to be refunded by P, no more than $450 in total may be admitted by the subsidiaries (under paragraph 11.a.). If the adjusted gross DTA associated with the subsidiaries’ temporary differences that reverse in the 11.a. period exceed the $450 of taxes recoverable through loss carryback on a consolidated basis, the adjusted gross DTA admitted by the insurance subsidiaries under paragraph 11.a. should be allocated among the subsidiaries, consistent with

29 Corresponds to the timeframe permitted by the Internal Revenue Code for carrybacks of tax losses for a n o n life insurance company. Please note that the applicable carryback period for a non-life insurance company may be different. For tax years beginning after 2017, entities taxed as life insurance companies are not permitted to carry back ordinary tax losses. However, entities taxed both as life insurance and nonlife insurance companies are permitted to carry back capital losses three taxable years. Accordingly, if this example involved a capital loss, it could apply either to an entity taxed as a life insurance company or as a nonlife insurance company. the principles of its written income tax allocation agreement. This allocation would, in most instances, be based on each subsidiary’s share of reversing temporary differences.

8.11 Under paragraph 11.c., an entity may admit its adjusted gross DTAs, after application of paragraphs 11.a. and 11.b., based upon offset against its own existing gross DTLs and not against gross DTLs of other members of the affiliated or consolidated group.

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SSAP 101 Q&A 9 9a. Q – Current income taxes are defined by paragraph 3.a. to include tax loss contingencies for current and all prior years, computed in accordance with SSAP No. 5R, including the modifications in paragraphs 3.a.i, 3.a.ii., and 3.a.iii. How does the modification provided in paragraph 3.a.iii. impact the calculation of the tax contingencies recorded?

9.1 A – Paragraph 3.a.iii. provides the following rule: If the estimated tax loss contingency is greater than 50% of the tax benefit originally recognized, the tax loss contingency recorded shall be equal to 100% of the original tax benefit recognized.

9.2 For example, assume that a company claimed a deduction in its current year federal income tax return that resulted in a $100 permanent tax benefit30. Management must assume that the tax position will be examined by a taxing authority that has full knowledge of all relevant information (paragraph 3.a.ii.). In addition, management has determined that the probability of a liability is more likely than not (a likelihood of more than 50% pursuant to paragraph 3.a.i.) and that the liability can be reasonably estimated. Management’s best estimate of the loss of the tax benefit is $40 (an amount not greater than 50% of the tax benefit originally recognized). Under these facts, the company would establish a current tax liability in the amount of $40, increasing its current income tax expense by $40.

DR Current income tax expense $40

CR Liability for current income tax $40

9.3 Assume the same facts as 9.2, except that management determines the best estimate of the liability to be $60 (an amount greater than 50% of the tax benefit originally recorded). Under paragraph 3.a.iii., the company would be required to record a tax contingency of $100 offsetting the entire original tax benefit recorded. Under these facts, the company would establish a current tax liability in the amount of $100, increasing its current income tax expense by $100.



9b. Q – What impact, if any, does the inclusion of tax contingencies as a component of current income taxes have on the determination of deferred income taxes? [Paragraph 3.c.]

9.4 A – The purpose of this interpretation is to address when such contingencies should be “grossed- up” and reflected in the calculation of both statutory current and deferred federal income taxes.

9.5 Gross deferred tax assets and liabilities are determined in accordance with paragraph 7 of SSAP No. 101, and reflect the changes in temporary differences taken into account in estimating taxes currently payable and are manifested in the enterprise’s tax basis balance sheet. If gross tax loss contingencies associated with temporary differences have been included in taxes currently payable, a corresponding adjustment must be made to the tax basis balance sheet used in the determination of gross deferred tax assets and liabilities. Deferred tax assets and liabilities are not adjusted for tax contingencies not associated with temporary differences (i.e. permanent differences).

30 The treatment of tax contingencies related to temporary differences is discussed in Question 9b.

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9.6 For example, assume that a company determines, in accordance with SSAP No. 5R, including the modifications in paragraph 3.a. of SSAP No. 101, a tax loss contingency is required to be established for a $100 deduction claimed in a prior year federal income tax return. Assuming a 2135% tax rate, the company would establish a current tax liability in the amount of $2135, increasing its current income tax expense by $2135.



35

9.7 If the $100 deduction was associated with a temporary difference such as reserves, the company would make a corresponding adjustment to deferred taxes. The company would increase its gross deferred tax asset for reserves by $2135 to reflect the future tax benefit associated with that reserve deduction. Any gross deferred tax asset recorded would still be subject to the admissibility requirements of paragraph 11.

DR Gross deferred tax asset $213

CR Change in net deferred tax (surplus) $21

35

9.8 If the $100 deduction was associated with a permanent item such as meals and entertainment expenses, the company would make no corresponding adjustment to the deferred tax assets.

9.9 In determining the timing of when a tax loss contingency for a temporary item should be grossed up, paragraph 3.c. of SSAP No. 101 provides the following guidance:

3.c. In determining when tax loss contingencies associated with temporary differences should be included in current income taxes under Paragraph 3.a., and therefore included in deferred taxes under paragraph 7, a reporting entity is not required to “gross-up” its current and deferred taxes until such time as an event has occurred that would cause a re-evaluation of the contingency and its probability of assessment, e.g., the IRS has identified the item as one which may be adjusted upon audit. Such an event could be the reporting entity’s (or its affiliate or parent in a consolidated income tax return) receipt of a Form 5701, Proposed Audit Adjustment, or could occur earlier upon receipt of an Information Document Request. At such time, the company must reassess the probability of an adjustment, reasonably re-estimate the amount of tax contingency as determined in accordance with paragraph 3.a., make any necessary adjustment to deferred taxes, and re-determine the admissibility of any adjusted gross deferred tax asset as provided in paragraph 11.

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SSAP 101 Q&A 10 10a. Q – If the reporting entity adjusts the amount of regular taxable income and capital gains reported on a prior year income tax return from the amount originally determined for financial reporting purposes, how is the effect of the change reported in the current year? [Paragraph 19]

10.1 A – Paragraph 19 of SSAP No. 101 indicates that “income taxes incurred or received during the current year attributable to prior years shall be allocated, to the extent not previously provided, to net income in accordance with SSAP No. 3—Accounting Changes and Corrections of Errors (SSAP No. 3) unless attributable, in whole or in part, to realized capital gains or losses, in which case, such amounts shall be apportioned between net income and realized capital gains and losses, as appropriate”. Paragraph 19 also indicates that income taxes incurred are to be allocated to ordinary income and realized capital gains consistent with paragraph 38 of FAS 109. Paragraph 38 of FAS 109 provides, in general, that the portion of the total income tax expense remaining after allocation to ordinary income would be allocated to realized capital gains or losses.

10.2 In accordance with paragraph 19, the amount of additional federal income taxes incurred in the current year with respect to the prior year would be allocated between ordinary income and realized capital gain items. The amount of additional federal income tax expense allocated to ordinary income should be determined by comparing the amount of additional tax expense actually incurred to the amount of tax expense that would have been incurred had the adjustment to ordinary income been zero (a “with and without” computation). The remaining amount of additional federal income tax expense would then be allocated to realized capital gains. The amounts of additional federal income tax expense allocated to ordinary income and realized capital gains would be included in the current period’s federal income tax expense and not as a direct adjustment to surplus.

10.3 As an example, assume Company X files its 20X1 federal income tax return and reports $1,000,000 of taxable income comprised of $800,000 of ordinary income and $200,000 of capital gain income. Since the company is subject to taxation at a 2134 percent tax rate on all its income, it incurred federal income tax expense of $210340,000. In preparing its 20X1 statutory income tax provision, the company estimated that its liability for 20X1 federal income tax would be $147238,000 based on $600,000 of ordinary income and $100,000 realized capital gains.

10.4 In determining the amount of “income taxes incurred” for its 20X2 financial statement, Company X must include the additional $63102,000 of income tax expense incurred on its 20X1 federal income tax return ($210340,000 actual tax incurred less $147238,000 originally reported) in net income for 20X2 pursuant to paragraph 19 of SSAP No. 101 and not as a surplus adjustment. The $63102,000 additional expense would be allocated to federal income taxes on net income and realized capital gains and losses as follows:

Total additional income tax expense $63102,000 Tax expense allocated to operations ($200,000 additional income x 34%) 4268,000 Tax expense allocated to realized gains $ 2134,000

The tax expense allocated to operations was determined as follows:

Total recomputed tax expense $210340,000 Tax expense with only capital gain changes 168272,000 31

Tax expense allocated to operations $ 4268,000

10.5 For all purposes of computing and allocating federal income taxes between operations and capital gains and losses, the character of the income or loss item as determined for statutory accounting purposes

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should be followed. Thus, if an income item is treated as a capital gain for statutory accounting purposes but as ordinary income for tax purposes, the federal income tax allocable to such income would be considered tax expense attributable to capital gains.

10b. Q – What is meant by the phrase in paragraph 18 “a reporting entity’s unrealized gains and losses shall be recorded net of any allocated DTA or DTL”? [Paragraph 18]

10.6 A – Pursuant to Paragraph 18 of SSAP No. 101, a reporting entity’s unrealized gains and losses shall be recorded net of any allocated DTA or DTL in accordance with paragraph 35 of FAS 109. Paragraph 35 of FAS 109 indicates that income taxes incurred are to be allocated between various items, including gains from operations and items charged or credited directly to shareholders’ equity, such as the change in unrealized gains and losses.

10.7 To the extent a reporting entity’s admitted DTA or its DTL changes during the year, the portion of such change allocable to changes in unrealized gains and losses during the year should be determined. The portion so allocable would be reported with, and netted against, the related change in unrealized gains and losses reported as a component of changes in surplus. The remaining portion of the change in DTA or

31 This is a company with less than $10 million of taxable income therefore $600,000 of original ordinary income plus $200,000 recomputed capital gains equals $800,000 taxable income times 34 percent applicable tax rate equals $272,000.

DTL allocable to other temporary differences should be reported as a separate component of changes in surplus and/or change in nonadmitted assets.

10.8 For example, assume the reporting entity has DTAs of $1,000 relating to temporary differences other than unrealized losses, and a $100 DTL relating to unrealized gains as of the beginning of the year. Since the entity is subject to tax at 2135 percent and all of its DTAs are expected to reverse within one year, the entity recorded a $900 net admitted DTA as of the beginning of the year.

10.9 During the current year, the DTAs relating to temporary differences other than unrealized losses did not change, but the DTL relating to the entity’s unrealized gains increased by $100 (unrealized gains increased by $476285 during the year). As a result, the amount of the entity’s net admitted DTAs decreased by $100.

10.10 Pursuant to paragraph 18 of SSAP No. 101, the $100 decrease in the DTA during the year is to be allocated between changes attributable to temporary differences other than unrealized gains and losses and those attributable to unrealized gains and losses. Since the DTA relating to temporary differences other than unrealized gains and losses did not change during the year, the entire decrease is allocable to the change in unrealized gains. Therefore, the $100 decrease is to be allocated and netted against the $476285 change in unrealized gains reported in change in surplus, resulting in a $376185 net increase in surplus relating to its unrealized gains. If a portion of the unrealized loss DTA is determined to be nonadmitted, that amount is not recorded separately from the operating differences DTA. The change in the total nonadmitted DTA from period to period is recorded in surplus as a Change in Nonadmitted Assets.

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SSAP 101 Q&A 11 11. Q – How are current and deferred income taxes to be accounted for in interim periods? [Paragraphs 12.d. and 20]

11.1 A – In setting forth the methodology for the computation of current income taxes (income taxes incurred) in interim periods, paragraph 20 states:

20. Income taxes incurred in interim periods shall be computed using an estimated annual effective current tax rate for the annual period in accordance with the methodology described in paragraphs 19 and 20 of Accounting Principles Board Opinion No. 28, Interim Financial Reporting. Estimates of the annual effective tax rate at the end of interim periods are, of necessity, based on estimates and are subject to subsequent refinement or revision. If a reliable estimate cannot be made, the actual effective tax rate for the year-to-date may be the best estimate of the annual effective tax rate. If an insurer is unable to estimate a part of its “ordinary” income (or loss) or the related tax (or benefit) but is otherwise able to make a reliable estimate, the tax (or benefit) applicable to the item that cannot be estimated shall be reported in the interim period in which the item is reported.

11.2 As a result, to the extent a reliable estimate can be made of an expected annual effective tax rate, reporting entities should apply this rate to net income before federal and foreign income taxes, in the case of property and casualty insurers and health insurers, and net income and realized capital gains before federal and foreign income taxes in the case of life insurers. If a reliable estimate of the expected annual effective tax rate cannot be made, reporting entities should compute current and deferred taxes at interim reporting dates using the most reliable information that is available.

11.3 The following examples illustrate the estimation process for income taxes incurred using the estimated annual effective rate:

Projected statutory net income32 for current year $10,000,000 Estimated annual permanent differences (2,800,000) Estimated annual temporary differences: 2,000,000 Projected taxable income for current year $9,200,000

Projected federal tax for current year (at 2135%) $1,9323,220,000 Estimated annual effective tax rate 19.3232.2%

11.4 As a result, assuming that during the calendar year the reporting entity’s expectations as to its statutory and taxable income do not change, income tax incurred will be recorded on a quarterly basis as follows:

Quarter

Statutory Income (Loss)

Income Taxes Incurred

1 $(2,000,000) $(386,400644,000) 2 4,000,000 772,8001,288,000 3 6,000,000 1,159,2001,932,000 4 2,000,000 386,400644,000

Total $10,000,000 $1,9323,220,000

11.5 If the reporting entity’s expectations as to its statutory and taxable income change in the second quarter so that it expects that its annual effective rate will increase from 32.219.32% to 2034%, it will record income taxes incurred in the second quarter of $786,4001,324,000 (cumulative statutory income at

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end of the second quarter of $2,000,000 at 2034% or $400680,000 less $386,400644,000 tax benefit recorded in first quarter).

11.6 As noted above, life insurers must estimate their annual effective tax rate and record income taxes incurred based on net income and realized capital gains before federal and foreign income taxes. With regard to intraperiod tax allocation, paragraph 19 states in relevant part:

19. Income taxes incurred shall be allocated to net income and realized capital gains or losses in a manner consistent with paragraph 38 of FAS 109.

11.7 As a result of the above and where the reporting entity expects realized capital gains or losses for the annual period, income taxes incurred must be allocated using a “with and without” methodology to net income before taxes and realized capital gains (see Question 10.4 for further discussion).

32 For all examples in Question 11, statutory net income represents operating and capital gain income before federal and foreign income taxes.

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11.8 An example of this “with and without” methodology is as follows:

Projected statutory net income for current year $10,000,000 Realized gains included above (1,000,000)

9,000,000 Estimated annual permanent differences: (2,800,000) Estimated annual temporary differences: 2,000,000 Projected ordinary taxable income for current year $8,200,000 Projected ordinary federal tax for current year (at 2135%) $1,7222,870,000 Projected capital gain federal tax for current year (at 2135%) 210350,000 Projected total federal tax for current year $1,9323,220,000 Estimated ordinary annual effective tax rate ($1,7222,870,000 / $9,000,000) 19.1331.9% Estimated capital gain annual effective tax rate ($210350,000 / $1,000,000) 2135.0%

Estimated total annual effective tax rate ($1,9323,220,000 / $10,000,000) 19.3232.2%

11.9 As a result, assuming that during the calendar year the reporting entity’s expectations as to its statutory and taxable income (including the amounts of ordinary and capital income) do not change, income tax incurred will be recorded on a quarterly basis as follows:

Quarter

Ordinary Income (Loss)

Capital Income (Loss)

Ordinary Taxes Incurred

Capital Taxes Incurred

1 $(1,000,000) $(1,000,000) $(191,333319,000) $(210350,000) 2 3,000,000 1,000,000 573,999956,000 210350,000 3 5,000,000 1,000,000 956,6671,595,000 210350,000 4 2,000,000 0 383,667638,000 0

Total $9,000,000 $1,000,000 $1,7222,870,000 $210350,000

11.10 With respect to the recording of deferred taxes on an interim basis paragraph 12.d. states:

12.d. The phrases “reverse during a timeframe corresponding with IRS tax loss carryback provisions, not to exceed three years,” “realized within one year of the balance sheet date” and “realized within three years of the balance sheet date” are intended to accommodate interim reporting dates and reporting entities that file on an other than calendar year basis for federal income tax purposes.

11.11 When considered in the context of paragraph 20, this paragraph requires the use of the annual effective rate when determining deferred taxes at an interim reporting date. As such, a reporting entity’s admitted adjusted gross DTAs are determined in accordance with paragraph 11 by reference to the adjusted gross DTAs that will reverse each year in the applicable period. Note however, that due to the inherent unpredictability, and general inability to project changes in capital gains and losses on a quarter by quarter basis, the deferred tax implications of the changes in unrealized gains and losses should be recorded on a discrete period basis (i.e., based on the change in the amounts on a quarter by quarter basis). For example in determining its admitted adjusted gross DTAs at March 31, 20X2, the reversal period referred to above is calendar years 20X3, 20X4 and 20X5 (i.e., expected adjusted gross DTAs at December 31, 20X2 that are expected to reverse in 20X3, 20X4 and 20X5).

11.12 This methodology is illustrated by the following example:

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In this example, XYZ Co. is a nonlife insurance company33 that has a threetwo-year carryback potential and also has an ExDTA ACL RBC percentage of 700%.

Projected statutory net income for 20X3 $10,000,000 Estimated annual permanent differences: (2,800,000) Estimated annual temporary differences: 2,000,000 Projected ordinary taxable income for current year $9,200,000

Temporary differences at December 31, 20X2: $5,000,000

Estimated temporary differences at December 31, 20X3: $7,000,000

Taxable income in carryback period (taxes paid at 2135%):

Year ended December 31, 20X0 $800,000 ($280,000) Year ended December 31, 20X1 2,000,000 ($420700,000) Year ended December 31, 20X2 3,000,000 (6301,050,000) Year ended December 31, 20X3 $9,200,000 ($1.9323,220,000)

Note: Year ended December 31, 20X3 taxable income and taxes paid considered in the calculation of its interim tax accruals are based on the reporting entity’s estimate of its annual taxable income and taxes to be paid. This amount may differ from the quarterly federal income tax estimates it expects to make during the year.

Reversing Period 20X3 20X4 20X5

December 31, 20X2 Temporary difference reversals: $2,000,000 $1,500,000 $1,500,000 20X4 20X5 20X6

December 31, 20X3 Temporary difference reversals: $3,000,000 $2,000,000 $2,000,000

Admitted deferred tax assets at December 31, 20X2: Paragraph 11.a. 20X0 $800,000 20X1 $2,000,000 20X2 1,5002,200,000 $3,5005,000,000 Taxes paid at 2135% $7351,750,000 Paragraph 11.b. 315,0000 Paragraph 11.c. 0 Total admitted $1,0501,750,000

Note: The recovery of federal income taxes paid in prior years under paragraph 11.a. is calculated in this example by carrying back 20X3’s temporary difference reversals of $2,000,000 to offset 20X0’s taxable income of $800,000 and $1,200,000 of 20X1’s taxable income of $2,000,000; then carrying back 20X4’s temporary difference reversals o f $1 ,500 ,000 to offset 20X1’s remaining taxable income of $800,000 and $1,500700,000 of 20X2’s taxable income of $3,000,000; finally, carrying back 20X5’s temporary difference reversals to offset $1,500,000 of 20X2’s taxable income. Since all gross DTAs were admitted under paragraph 11.a., paragraphs 11.b.and 11.c. need not be considered. XYZ’s projected taxable income for 20X3 ($9,200,000) is more than adequate to allow the remaining $315,000 of the $1,050,000 expected to be realized from temporary difference reversals in 20X3-20X5 ($5,000,000 x 21% = $1,050,000) to be recognized under paragraph 11.b.

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Admitted deferred tax assets at December 31, 20X3:

Paragraph 11.a. 20X1 $2,000,000 20X2 $3,000,000

33 XYZ Co. does not qualify for the small life insurance company deduction. Please note the results in this example may could be different due to differences in the applicable carryback periods if XYZ Co. was a P&Clife insurance company because, under current Federal income tax law, life insurance companies are not permitted to carry back net operating losses. In such case, XYZ would not admit any deferred tax assets under paragraph 11.a. However, if XYZ were able to admit deferred tax assets for all of its 20X3-20X5 temporary difference reversals at December 31, 20X2 and for all of its 20X4-20X6 temporary difference reversals at December 31, 20X3 under paragraph 11.b. (based on adequate sources of projected taxable income in those reversal periods), then the results in this example would be unchanged.

20X3 2,000,000 $57,000,000 Taxes paid at 2135% $1,0502,450,000 Paragraph 11.b. 420,0000 Paragraph 11.c. 0 Total admitted $1,4702,450,000

Note: The recovery of federal income taxes paid in prior years under paragraph 11.a. is calculated in this example by carrying back 20X4’s temporary difference reversals o f $ 3 , 0 0 0 , 0 0 0 to offset 20X1’s taxable income of $2,000,000 and $1,000,000 of 20X2’s taxable income of $3,000,000; then carrying back 20X5’s temporary difference reversals o f $ 2 , 0 0 0 , 0 0 0 to offset $2,000,000 of 20X32’s remaining taxable income of $2,000,000. ; finally, carrying back 20X6’s temporary difference reversals to offset $2,000,000 of 20X3’s taxable income. Since all gross DTAs were admitted under paragraph 11.a., paragraphs 11.b. and 11.c. need not be considered. It is assumed for this example that XYZ has more than adequate amounts of projected income for 20X4-20X6 to allow the remaining $420,000 of the $1,470,000 expected to be realized from temporary difference reversals in 20X4-20X6 ($7,000,000 x 21% = $1,470,000) to be recognized under paragraph 11.b.

Total estimated federal taxes for 20X3:

Income taxes incurred (current tax) ($9,200,000 X 2135%) $1,9323,220,000 Change in deferred tax ($1,470750,000 – $1,0502,450,000) (420700,000) $1,5122,520,000

11.13 As a result of the above, the annual effective tax rate for current and deferred income taxes is as follows:

Current ($1,9323,220,000/$10,000,000) 19.3232.2% Deferred (($420700,000)/$10,000,000) (4.27.0)% Total annual effective rate 15.1225.2%

Quarter

Statutory Income (Loss)

Income Taxes Incurred

Deferred Taxes

1 $(2,000,000) $(386,400644,000) $84140,000 2 4,000,000 772,8001,288,000 (168280,000) 3 6,000,000 1,159,2001,932,000 (252420,000) 4 2,000,000 386,400644,000 (84140,000)

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Total $10,000,000 $1,9323,220,000 $(420700,000)

11.14 To the extent that a reporting entity’s estimated year end34 admitted adjusted gross deferred tax assets are limited by its surplus pursuant to paragraph 11.b.ii., the annual effective deferred tax rate must be adjusted to consider the impact of this limitation on a quarterly basis.

34 In the previous example, year end is December 31, 20X3.

SSAP 101 Q&A 12 12. Q – How do you present deferred taxes in the Annual Statement? [Paragraphs 8, 18, 21-28, and 36]

12.1 A This answer is divided into four three different parts.

Change in Accounting Principle

12.2 As required by paragraph 36 of SSAP No. 101, balances of current and deferred federal and foreign income taxes resulting from the adoption of SSAP No. 101 effective January 1, 2012 shall be presented in the Annual Statement as a Cumulative Effect of Changes in Accounting Principles. SSAP No. 3 provides the following:

3. A change in accounting principle results from the adoption of an accepted accounting principle, or method of applying the principle, which differs from the principles or methods previously used for reporting purposes. A change in the method of applying an accounting principle shall be considered a change in accounting principle.

4. A characteristic of a change in accounting principle is that it concerns a choice from among two or more statutory accounting principles. However, a change in accounting principle is neither (a) the initial adoption of an accounting principle in recognition of events or transactions occurring for the first time or previously immaterial in their effect, nor (b) the adoption or modification of an accounting principle necessitated by transactions or events that are clearly different in substance from those previously occurring.

5. The cumulative effect of changes in accounting principles shall be reported as adjustments to unassigned funds (surplus) in the period of the change in accounting principle. The cumulative effect is the difference between the amount of capital and surplus at the beginning of the year and the amount of capital and surplus that would have been reported at that date if the new accounting principle had been applied retroactively for all prior periods.

12.3 In accordance with an interpretation from the Emerging Accounting Issues Working Group, INT 01-27: Accounting Change versus Correction of Error, adjustments to amounts recorded as of January 1, 2012 would be recorded as a modification to the changes in accounting principle account rather than corrections of an error through the period of 2012.

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Illustration A Assumptions:

12.4 On January 1, 2012, as a result of applying paragraph 11.b. requirements to use current period statutory capital and surplus rather than prior quarter statutory capital and surplus as required by previous guidance, the AlphaBeta P/C Company computed the following balances related to deferred taxes:

1/1/12 12/31/11 Gross DTA $200,000 $200,000 Statutory Valuation Allowance Adjustment 0 0 Adjusted Gross DTA 200,000 200,000 Deferred Tax Assets Nonadmitted 25,000 10,000 Admitted Adjusted Gross DTA 175,000 190,000 Gross DTL 100,000 100,000 Net Admitted Adjusted Gross DTA $75,000 $90,000

There was no change in the amount of the current tax liability recorded by AlphaBeta as a result of the adoption of SSAP No. 101.

12.5 The Cumulative Effect of Changes in Accounting Principles line shown in the surplus section of the Annual Statement would show a decrease of $15,000 ($90,000 – $75,000) on 1/1/2012. In addition, during the second quarter of 2012, the Company determined that it incorrectly computed its Net Admitted Adjusted Gross DTA as of 1/1/2012 under SSAP No. 101 and modified its opening balance as follows (note that modifications were not a result of changes in circumstances or events which occurred during 2012):

Revised 1/1/12

Gross DTA $200,000

Statutory Valuation Allowance Adjustment 0 Adjusted Gross DTA 200,000 DTA Nonadmitted 35,000 Admitted Adjusted Gross DTA 165,000 Gross DTL 100,000 Net Admitted Adjusted Gross DTA $65,000

12.6 The Company would record the following balances in its 3/31/12 financial statements:

1/1/12

Revised 1/1/12

Increase (Decrease)

Gross DTA $200,000 $200,000 $0 Statutory Valuation Allowance Adjustment 0 0 0 Adjusted Gross DTA 200,000 200,000 0 DTA Nonadmitted 25,000 35,000 10,000

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Admitted Adjusted Gross DTA 175,000 165,000 (10,000) Gross DTL 100,000 100,000 0 Net Admitted Adjusted Gross DTA $75,000 $65,000 ($10,000)

12.7 The additional $10,000 decrease in net admitted adjusted gross DTA would also be recorded through the Cumulative Effect of Changes in Accounting Principles line shown in the surplus section of the Annual Statement.

Unrealized Capital Gains and Losses

12.28 SSAP No. 101 paragraph 18 states:

14. In accordance with paragraph 35 of FAS 109, a reporting entity's unrealized gains and losses shall be recorded net of any allocated DTA or DTL. The amount allocated shall be computed in a manner consistent with paragraph 38 of FAS 109.

12.39 The following illustrates the presentation of such requirement in the Annual Statement:

Illustration AB Assumptions:

12.410 Entity grouped its investments in a reasonable and consistent manner and calculated the following gross amounts attributable to appreciation and depreciation in the fair value of its common stocks during 20X2 (see question 2 regarding grouping of assets and liabilities for measurement):

Gross Carrying

Value

Rate Tax effected DTA (DTL)

Common stock carrying value 1/1/X2 $800,000 Unrealized (loss) ($714,286428,571) 2135% $150,000 Unrealized gain 571,429342,857 2135% (120,000) Net (loss) gain (142,85785,714) $30,000 Common stock carrying value 12/31/X2 $657,143714,286

12.511 The journal entries need to present unrealized losses and gains net of tax are:

12/31/X2 DR Change in unrealized capital gains and losses $142,85785,714 CR Common stock ($142,85785,714) Recognition of net depreciation in FV of common stock

12/31/X2 DR Deferred tax asset $150,000

CR Deferred tax liability ($120,000) CR Change in deferred income taxes ($30,000) Recognition of gross deferred tax amounts

12/31/X2 DR Change in deferred income taxes $30,000

CR Change in unrealized capital gains and losses ($30,000) Reclass tax effect of net unrealized loss per paragraph 18 of SSAP No. 101

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12.612 Condensed 12/31/X2 Balance Sheet:

AS

20X2

20X1

LIABILITIES, SURPLUS AND OTHER FUNDS

20X2

20X1

Common Stock Net deferred tax asset

$657,143714,286 30,000

$800,000 Surplus: $800,000

(112,85755,714)3

Beginning of year

Change in UNL Total Assets $687,143744,286 $800,000 Liabilities & Surplus $687,143744,286 $800,000

Annual Statement Presentation

12.713 In accordance with SSAP No. 101, DTAs and DTLs shall be offset and presented as a single amount on the statement of financial position. The following illustrates this requirement:

Illustration BC Assumptions:

12.814 The entity had the following balances (1/1/X2 balances carried forward from Illustration A):

1/1/X2 12/31/X2 Change Gross DTA $200,000 $510,000 $310,000 Statutory Valuation Allowance Adjustment 0 10,000 10,000 Adjusted Gross DTA 200,000 500,000 300,00036

DTA Nonadmitted 25,000 150,000 125,000 Admitted Adjusted Gross DTA 175,000 350,000 175,000 Gross DTL 100,000 200,000 100,000 Net Admitted Adjusted Gross DTA $75,000 $150,000 $75,000 Current FIT Recoverable $18,000 $20,000 $2,000

12.915 Illustrative 12/31/X2 Balance Sheet for Illustration BC:

35 Computed at $142,85785,714 (total change in UNG/UNL) - $30,000 tax effect

36 Includes $30,000 resulting from net unrealized losses as shown in Illustration AB. As such the change in net deferred income taxes at 12/31/X2 is $170,000 ($300,000 (gross change in DTA) – $100,000 (gross change in DTL) – $30,000 reclass to net unrealized capital gains (losses)).

ASSETS Current Year Prior Year

1

Assets

2

Nonadmitted Assets

3 Net Admitted

Assets (Cols. 1 - 2)

4 Net Admitted Assets

Current Federal and foreign income tax recoverable and interest thereon

$20,000

$0

$20,000

$18,000

Net deferred tax asset $300,000 $150,000 $150,000 $75,000

12.106 Illustrative 12/31/X2 Income Statement for Illustration BC:

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61

STATEMENT OF INCOME (P/C) SUMMARY OF OPERATIONS (Life & Health) STATEMENT OF REVENUES AND EXPENSES (Health)

1

Current Year

2

Prior Year Gains and (losses) in surplus Change in net unrealized capital gains (losses) less capital gains tax of $30,000 ($112,85755,714) 0 Change in net deferred income tax $170,000 0 Change in nonadmitted assets ($125,000) 0

12.117 Illustrative 12/31/X2 Exhibit of Nonadmitted Assets for Illustration BC:

1 End of Current

Year

2 End of

Prior Year

3 Changes for Year (Increase) Decrease

Net deferred tax asset $150,000 $25,000 ($125,000) Total $150,000 $25,000 ($125,000)

Illustration CD Assumptions:

12.128 The entity had the following balances (1/1/20X2 balances carried forward from Illustration BA):

1/1/X2 12/31/X2 Change Gross DTA $200,000 $510,000 $310,000 Statutory Valuation Allowance Adjustment 0 10,000 10,000 Adjusted Gross DTA 200,000 500,000 300,00037

DTA Nonadmitted 25,000 150,000 125,000 Net Admitted Adjusted Gross DTA 175,000 350,000 175,000 Gross DTL 100,000 200,000 100,000 Net Admitted Adjusted Gross DTA $75,000 $150,000 $75,000 Current FIT Liability $7,000 $12,000 $5,000

12.139 Illustrative 12/31/X2 Balance Sheet for Illustration CD:


1

Assets

2

Nonadmitted Assets

3 Net Admitted

Assets (Cols. 1 - 2)

4 Net Admitted Assets

Net deferred tax asset $300,000 $150,000 $150,000 75,000

37 Includes $30,000 resulting from net unrealized losses as shown in Illustration AB. As such the change in net deferred income taxes at 12/31/X2 is $170,000 ($300,000 (gross change in DTA) – $100,000 (gross change in DTL) – $30,000 reclass to net unrealized capital gains (losses)).

LIABILITIES, SURPLUS AND OTHER FUNDS 1

Current Year 2

Prior Year Current Federal and foreign income taxes (including $0 on realized capital gains (Losses))

$12,000 $7,000

12.1420 Illustrative 12/31/X2 Income Statement for Illustration CD:

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62

STATEMENT OF INCOME (P/C) SUMMARY OF OPERATIONS (Life & Health) STATEMENT OF REVENUES AND EXPENSES (Health)

1 Current Year

2 Prior Year

Gains and (losses) in surplus Change in net unrealized capital gains (losses) less capital gains tax of $ ($112,85755,714) 0 Change in net deferred income tax $170,000 0 Change in nonadmitted assets ($125,000) 0

12.1521 Illustrative 12/31/X2 Exhibit of Nonadmitted Assets for Illustration CD:

1

End of Current Year

2 End of

Prior Year

3 Changes for

Year (Increase) Decrease

Net deferred tax asset $150,000 $25,000 ($125,000) Total $150,000 $25,000 ($125,000)

Notes to the Financial Statements Disclosures:

12.1622 SSAP No. 101 paragraphs 21-28 include extensive disclosure requirements. Although some of these amounts are presented on the face of the financial statements or in schedules or exhibits to the Annual Statement, they will be included in the Notes to the Financial Statements both in the Annual Statement and in the Annual Audited Financial Statements.

12.1723 This section provides specific examples that illustrate the disclosures required in SSAP No. 101. The formats in the illustrations are not requirements. Some of the disclosure paragraphs of SSAP No. 101 are not specific as to whether the entity should disclose the nature of certain items or whether the entity should disclose specific amounts. The illustrations included herein use a combination of each method. The NAIC encourages a format that provides the information in the most understandable manner in the specific circumstances. The following illustrations are for a single hypothetical insurance enterprise, referred to as AlphaBeta Property & Casualty Insurance Company.38

12.24 All of the disclosures would be completed in the year-end Annual Statement and audited statutory financial statements. The disclosures of paragraphs 22-24, and 25 (on a prospective basis) and 26-28 should be presented in accordance with paragraph 61 of the Preamble on the initial adoption of SSAP No. 10, a predecessor of SSAP No. 101, therefore these notes would only be presented in the first, second and third Quarterly Statements if the underlying data changed significantly.

12.1825 Selected AlphaBeta P/C Company Financial Data at December 31, 20X2 (Balance Sheet information carried forward from Illustration BC):


1 Assets

2 Nonadmitted Assets

3 Net Admitted Assets (Cols. 1 - 2)

4 Net

Admitted Assets

Current federal and foreign income tax recoverable and interest thereon

$20,000

$0

$20,000

$18,000

38 In applying the illustrative examples to the 2012 calendar year, prior year balances would include any adjustments required from the cumulative change in accounting principle required as a result of the adoption of SSAP No. 101.

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Net deferred tax asset $300,000 $150,000 $150,000 $75,000

CAPITAL AND SURPLUS ACCOUNT

1 Current Year

2 Prior Year

Change in net unrealized capital gains (losses)less capital gains tax of $30,000 ($112,85755,714) 0 Change in net deferred income tax $170,000 0 Change in nonadmitted assets ($125,000) 0

EXHIBIT OF NONADMITTED ASSETS

1 End of Current

Year

2 End of

Prior Year

3 Changes for Year (Increase) Decrease

Net deferred tax asset $150,000 $25,000 ($125,000)

STATEMENT OF INCOME 20X2 UNDERWRITING INCOME

Premiums earned $5,250,000 DEDUCTIONS:

Losses incurred 3,550,000 Loss adjustment expenses incurred 1,750,000 Other underwriting expenses incurred 525,000 Net underwriting gain (loss) (575,000)

INVESTMENT INCOME Net investment gain (loss) 1,350,000

OTHER INCOME Total other income 125,000 Net income before dividends to policyholders, after capital gains tax and before all other federal and foreign income taxes

900,000

Dividends to policyholders 200,000 Net income, after dividends to policyholders, after capital gains tax and before all other federal and foreign income taxes

700,000

Federal and foreign income taxes incurred 220,000 Net income $480,000

Paragraph 22 Illustration:

12.1926 The components of the net DTA recognized in the Company’s Assets, Liabilities, Surplus and Other Funds are as follows:

12/31/20X2 12/31/20X1 Change

Ordinary Capital Total Ordinary Capital Total Ordinary Capital Total Gross Deferred Tax Assets Statutory Valuation Allowance Adjustments

$375,000

0

$135,000

10,000

$510,000

10,000

$93,000

0

$107,000

0

$200,000

0

$282,000

0

$28,000

10,000

$310,000

10,000 Adjusted Gross Deferred Tax Assets Deferred Tax Assets Nonadmitted

375,000 150,000

125,000 0

500,000 150,000

93,000 20,000

107,000 5,000

200,000 25,000

282,000 130,000

18,000 (5,000)

300,000 125,000

Subtotal Net Admitted Deferred Tax Asset Deferred Tax Liabilities

225,000 21,000

125,000 179,000

350,000 200,000

73,000 15,000

102,000 85,000

175,000 100,000

152,000 6,000

23,000 94,000

175,000 100,000

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Net Admitted Deferred Tax Asset/(Net Deferred Tax Liability) Admission Calculation Components SSAP No. 101 (Paragraph 11)

a. Federal Income Taxes Paid In Prior Years Recoverable Through Loss Carrybacks.

$204,000

$85,000

($54,000)

$5,000

$150,000

$90,000

$58,000

$45,000

$17,000

$5,000

$75,000

$50,000

$146,000

$40,000

($71,000) 0

$75,000

$40,000

12/31/20X2 12/31/20X1 Change

Ordinary Capital Total Ordinary Capital Total Ordinary Capital Total b. Adjusted Gross Deferred Tax Assets

Expected To Be Realized (Excluding The Amount Of Deferred Tax Assets From a, above) After Application of the Threshold Limitation. (The Lesser of b.i. and b.ii. Below)

i. Adjusted Gross Deferred Tax Assets Expected to be Realized Following the Balance Sheet Date.

ii. Adjusted Gross Deferred Tax Assets Allowed per Limitation Threshold.

c. Adjusted Gross Deferred Tax Assets (Excluding The Amount Of Deferred Tax Assets From a. and b. above) Offset by Gross Deferred Tax Liabilities.

50,000 10,000 60,000 13,000 12,000 25,000 37,000 (2,000) 35,000

NA NA 60,000 NA NA 25,000 NA NA 35,000 NA NA 900,000 NA NA 750,000 NA NA 150,000

90,000 110,000 200,000 15,000 85,000 100,000 75,000 25,000 100,000

Deferred Tax Assets Admitted as the result of application of SSAP No. 101.Total (a. + b. + c.)

$225,000 $125,000 $350,000 $73,000 $102,000 $175,000 $152,000 $23,000 $175,000

20X2 Percentage

20X1 Percentage

Ratio Percentage Used To Determine Recovery

Period And Threshold Limitation Amount39

Amount Of Adjusted Capital And Surplus Used To Determine Recovery Period And Threshold Limitation40

600%

$6,000,000

500% $5,000,000

The Company’s tax-planning strategies include the use of reinsurance-related tax-planning strategies.

Impact of Tax Planning Strategies 12/31/20X2 12/31/20X1 Change Adjusted Gross DTAs (% of Total Adjusted Gross DTAs) Net Admitted Adjusted Gross DTAs (% of Total Net Admitted Adjusted Gross DTAs)

Ordinary Percent

6%

14%

Capital Percent

7%

15%

Total Percent41

13%

29%

Ordinary Percent

7%

15%

Capital Percent

7%

15%

Total Percent

14%

30%

Ordinary Percent

-1%

-1%

Capital Percent

0%

0%

Total Percent

-1%

-1%


12.207 The Company has not recognized a deferred tax liability of approximately $30,000 of foreign withholding taxes for the undistributed earnings of its 100 percent owned foreign subsidiaries that arose in 20X2 and prior years because the Company does not expect those unremitted earnings to reverse and become taxable to the Company in the foreseeable future. A deferred tax liability will be recognized when the Company expects that it will recover those undistributed earnings in a taxable manner, such as through receipt of dividends or sale of the investments. As of December 31, 20X2, the undistributed earnings of these subsidiaries were approximately $20088,000.

Paragraph 24

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65

Illustration:

39 Disclose the ratio used by the reporting entity from the applicable Realization Threshold Limitation Table in paragraph 11.b. of SSAP No. 101 to determine the appropriate limitations of paragraph 11.b. In the event that late immaterial modifications to a reporting entity’s statutory financial statements occur subsequent to initial completion of the statutory financial statements but prior to filing or similar deadline, these immaterial changes do not need to be reflected in this ratio if such modifications do not cause the reporting entity to change the threshold limitation from the applicable Realization Threshold Limitation Table.

40 Provide the amount of adjusted capital and surplus used to calculate the limitation under paragraph 11.b.ii.

41 The total percentage should be separately calculated and is not intended to be a summation of the percentages by tax character.

2.218 The provisions for incurred taxes on earnings for the years ended December 31 are:

20X2 20X1 Federal $180,000 $135,000 Foreign 40,000 15,000

220,000 150,000 Federal income tax on net capital gains 52,000 36,000 Utilization of capital loss carry-forwards (52,000) (36,000) Federal and foreign income taxes incurred $220,000 $150,000

12.229 The tax effects of temporary differences that give rise to significant42 portions of the deferred tax assets and deferred tax liabilities are as follows:

Deferred Tax Assets: 12/31/20X2 12/31/20X1 Change Ordinary Discounting of unpaid losses 30,000 10,000 20,000 Unearned premium reserve 235,000 50,000 185,000 Investments 25,000 15,000 10,000 Pension accrual 65,000 15,000 50,000 Other (including items <5% of total ordinary tax assets) 20,000 3,000 17,000

Subtotal 375,000 93,000 282,000 Statutory valuation allowance adjustment 0 0 0 Nonadmitted 150,000 20,000 130,000 Admitted ordinary deferred tax assets 225,000 73,000 152,000

Capital Investments 125,000 45,000 80,000 Net capital loss carry-forward 10,000 62,000 (52,000) Other (including items <5% of total capital tax assets) 0 0 0

Subtotal 135,000 107,000 28,000 Statutory valuation allowance adjustment 10,000 0 10,000 Nonadmitted 0 5,000 (5,000) Admitted capital deferred tax assets 125,000 102,000 23,000 Admitted deferred tax assets 350,000 175,000 175,000

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Deferred Tax Liabilities: Ordinary Investments 10,000 5,000 5,000 Fixed assets 6,000 5,000 1,000 Other (including items <5% of total ordinary tax liabilities)

5,000 5,000 0

Subtotal 21,000 15,000 6,000 Capital: Investments 110,000 55,000 55,000 Real estate 64,000 25,000 39,000 Other (including items <5% of total capital tax liabilities) 5,000 5,000

Subtotal 179,000 85,000 94,000 Deferred tax liabilities 200,000 100,000 100,000

42 Significant is defined as any amount in excess of 5% of the total applicable DTAs or DTLs.

Net deferred tax assets/liabilities 150,000 75,000 75,000

12.2330 The change in net deferred income taxes is comprised of the following (this analysis is exclusive of nonadmitted assets as the Change in Nonadmitted Assets is reported separately from the Change in Net Deferred Income Taxes in the surplus section of the Annual Statement):

Dec. 31, 20X2

Dec. 31, 20X1

Change

Adjusted gross deferred tax assets $500,000 $200,000 $300,000 Total deferred tax liabilities 200,000 100,000 100,000 Net deferred tax assets (liabilities) $300,000 $100,000 200,000 Tax effect of unrealized gains (losses) (30,000) Change in net deferred income tax $170,000

Paragraph 25 Illustration43:

12.2431 The provision for federal and foreign income taxes incurred is different from that which would be obtained by applying the statutory Federal income tax rate to income before income taxes. The significant items causing this difference are as follows:

Dec. 31, 20X2 Effective Tax Rate

Provision computed at statutory rate $147245,000 2135.0% Tax exempt income deduction (61,000102,000) (8.714.6)

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Dividends received deduction (50,00084,000) (7.112.0) Tax differentials on foreign earnings (21,00034,000) (3.04.8) Change in statutory valuation allowance adjustment 10,000 1.4 Nondeductible goodwill 8,000 1.1 Other 17,000 2.41.0 Total $50,000 7.1%

Federal and foreign income taxes incurred $220,000 31.4% Change in net deferred income taxes44

(170,000) (24.3) Total statutory income taxes $50,000 7.1%


43 This illustration includes both the rate reconciliation and the tax effected amounts although only one of these is required to be disclosed under SSAP No. 101.

44 As reported in the surplus section of the Annual Statement. The change in net deferred income taxes is before nonadmission of any DTA. The change in nonadmitted DTA is reported together with the total change in nonadmitted assets and presented as a separate component of surplus.

2532 The Company has net capital loss carryforwards which expire as follows: 20X5, $9,000; 20X6,; $1,000.


12.2633 The Company believes it is reasonably possible that the liability related to any federal or foreign tax loss contingencies may significantly increase within the next 12 months. However, an estimate of the reasonably possible increase cannot be made at this time.


12.2734 The Company is included in a consolidated federal income tax return with its parent company, Alpha Corporation. The Company has a written agreement, approved by the Company’s Board of Directors, which sets forth the manner in which the total combined federal income tax is allocated to each entity which is a party to the consolidation. Pursuant to this agreement, the Company has the enforceable right to recoup federal income taxes paid in prior years in the event of future net losses, which it may incur, or to recoup its net losses carried forward as an offset to future net income subject to federal income taxes.

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SSAP 101 Q&A 13 13. Q – How are tax-planning strategies to be considered in determining adjusted gross DTAs [Paragraph 7.e.] and admitted adjusted gross DTAs [Paragraphs 11.a. and 11.b.i.]?

Overview:

13.1 A – Paragraph 14 of SSAP No. 101 states:

In some circumstances, there are tax-planning strategies (including elections for tax purposes) that (a) are prudent and feasible, (b) a reporting entity ordinarily might not take, but would take to prevent an operating loss or tax credit carryforward from expiring unused, and (c) would result in realization of deferred tax assets. A reporting entity shall consider tax-planning strategies in (1) determining the amount of the statutory valuation allowance adjustment necessary under paragraph 7.e. and (2) the realization of deferred tax assets when determining admission under paragraph 11…

13.2 Paragraph 248 of FAS 109 additionally states that:

Tax-planning strategies also may shift the estimated pattern and timing of future reversals of temporary differences…. A tax-planning strategy to accelerate the reversal of deductible temporary differences in time to offset taxable income that is expected in an early future year might be the only means to realize a tax benefit for those deductible temporary differences if they otherwise would reverse and provide no tax benefit in some later future year(s).

13.3 As also provided in paragraph 14 of SSAP No. 101, if a tax-planning strategy is used to accelerate the reversal or realization of an item, any significant net-of-tax potential costs or losses associated with the implementation of the strategy should reduce the adjusted gross or admitted DTA.

13.4 When considering a prudent and feasible tax-planning strategy that is more likely than not to enable realization of all or part of an adjusted gross DTA or admitted DTA, paragraph 15 of SSAP No. 101 states that “paragraph 3 of this statement related to tax loss contingencies shall be applied in determining admissibility of deferred tax assets under paragraph 11 of this statement.” Accordingly, a reporting entity must evaluate the likelihood, if a tax-planning strategy were implemented, of whether a tax loss contingency would be required to be recorded under paragraph 3.a. If so, the admitted tax benefit of a tax-planning strategy must be reduced by the amount of tax loss contingency so required. For example, if a tax-planning strategy provided a $100 admitted DTA, but the reporting entity estimated that tax loss contingency reserve of $40 would be required if the strategy was implemented, the admitted DTA resulting from the tax-planning strategy would be reduced by $40. Since the admitted DTA would be net of any applicable tax loss contingencies, no separate tax loss contingencies would actually be recorded for these items.

Statutory Valuation Allowance Adjustment:

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13.5 As discussed in Question 2.5, future realization of gross DTAs ultimately depends on the existence of sufficient taxable income of the appropriate character within the carryback or carryforward period available under the tax law. In determining adjusted gross DTAs, a reporting entity shall consider the four sources of taxable income that may be available under the tax law, one of which is tax-planning strategies45. As noted in paragraph 13 of SSAP No. 101, a reporting entity is not required to consider all four sources of taxable income if one or more sources are alone sufficient to support the conclusion that the entity will realize the tax benefits of its adjusted gross DTAs (i.e., a conclusion that no statutory valuation allowance is necessary). Accordingly, tax-planning strategies need not be considered if the other sources of taxable income are sufficient to realize the benefits of reversing existing DTAs. However, the reporting entity is required to consider the impact of tax planning strategies to determine the amount of the adjustment if a conclusion is reached that a statutory valuation allowance adjustment is necessary.

Tax-Planning Strategies for Admission of DTAs:

13.6 In order for a tax-planning strategy to support admission of adjusted gross DTAs under paragraph 11, the reporting entity must demonstrate that (1) the admitted DTAs would be realized either within a period that would give rise to a carryback of tax losses under the Internal Revenue Code, not to exceed three years (for admission under paragraph 11.a.), or within the applicable period (refer to the 11.b.i. column of the applicable Realization Threshold Limitation Table in paragraph 11) and (2) it would have the ability to implement the strategy. In such circumstances an entity may recognize, as admitted assets, the related DTAs that are realizable as a result of the available tax-planning strategy in accordance with paragraphs 11.a., 11.b.i., and 11.c. of SSAP No. 101. Using tax-planning strategies in determining the admissible DTA is analogous to the use of tax-planning strategies in determining the amount of the statutory valuation allowance adjustment required under paragraph 7.e. of SSAP No. 101 and paragraph 22 of FAS 109. Although a reporting entity may use tax-planning strategies in determining the portion of its adjusted gross DTAs that are admissible, it is not required to do so.

13.7 The requirement in paragraph 11.a. and 11.b.i. of SSAP No. 101 to consider only those DTAs that reverse or are realized within a period that would give rise to a carryback of losses under the Internal Revenue Code not to exceed three years (paragraph 11.a.) or within the applicable period following the balance sheet date (paragraph 11.b.i.) causes those DTAs which would otherwise reverse beyond such period to potentially provide no tax benefit (unless admitted under paragraph 11.c.). The potential reversal beyond the appropriate period is comparable to an expiring net operating loss or tax credit carryforward[AS13], in that the deduction would not provide a tax benefit under SSAP No. 101. Thus, to the extent prudent and feasible tax-planning strategies exist to accelerate the reversal or realization of these DTAs, these strategies are comparable to those contemplated in paragraph 248 of FAS 109 above.

13.8 An example of a prudent and feasible tax-planning strategy is as follows:

13.9 Company A, a property/casualty insurance company for federal income tax purposes, has paid federal income taxes of $500,000 in each of calendar years 20X1 and 20X2. The company has an ExDTA ACL RBC percentage of 250% and therefore is required to use the one-year applicable period under 45 See paragraph 13 of SSAP No. 101 and paragraph 21 of FAS 109. Examples of tax-planning strategies as provided in paragraph 13.d. are (1) accelerate taxable amounts to utilize expiring carryforward, (2) change the character of taxable or deductible amounts from ordinary income or loss to capital gain or loss, and (3) switch from tax-exempt to taxable investments.

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paragraph 11.b.i. of SSAP No. 101. It has capital and surplus for purposes of paragraph 11.b.ii. of SSAP No. 101 of $20,000,000. Company A has an obligation to provide post-retirement health benefits to its employees. At December 31, 20X2, Company A has included a liability for $1,000,000 on its statutory- basis financial statements for post-retirement health benefits. This liability is not currently deductible for federal income tax purposes, and only $25,000 reverses within each of the next two calendar years. This is Company A’s only DTA under SSAP No. 101, and there are no DTLs. Company A, absent any tax- planning strategies, would compute a DTA of $210350,000 ($1,000,000 X 2135%), and would admit $1017,500 ($50,000 X 2135%) under paragraph 11.a., and has no additional admitted DTA under paragraph 11.b.

13.10 Company A could implement a welfare benefit fund for tax purposes, and contribute assets to the fund to cover qualifying welfare benefits. The contribution, subject to limitations, would be deductible for federal income tax purposes, and would have the effect of accelerating the deduction for Company A’s post-retirement health benefits. Company A has computed that $300,000 could be contributed during 20X3 to the welfare benefit fund, and to implement this strategy, it would cost $15,000 on an after-tax basis. Company A management believe that this strategy is prudent and feasible, and the Company would be able to implement this strategy if necessary. Company A would be able to admit an additional $4890,000 of DTAs ($300,000 X 2135%, or $63105,000, less $15,000 in costs) under paragraph 11.a., with no additional admitted DTA under paragraph 11.b.

13.11 A tax-planning strategy would not be considered prudent or feasible if use of the strategy would be inconsistent with assumptions inherent in statutory or other accounting basis financial statements. For instance, a tax-planning strategy to sell securities identified as “held to maturity” for GAAP-basis financial statements at a loss would not be prudent or feasible. Additionally, if a potential tax planning strategy were to involve selling debt securities at a loss, it would not be prudent or feasible if the securities had not been identified as impaired and the loss recognized for statutory-basis financial statements. Additionally, a tax-planning strategy that could not be implemented to realize a tax benefit within the requisite period following the balance sheet date or is inconsistent with management’s business plan objectives, would not be prudent and/or feasible.

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April 6, 2019 ROLL CALL - National Association of ...€¦ · Ref #2018-35: ASU 2018-07, Improvements t o Share-Based Payment Accounting 3. Ref #2018-36: ASU 2018-13, Changes to the