Under the changes to the P&P Handbook previously outlined, any investment that meets the criteria of a structured stock and a fund would not qualify for the filing exemption, and an insurance company investing in a structured stock issue and funds would be required to provide sufficient information for the SVO to perform a thorough analysis and credit risk assessment. The Proposed Changes were previously exposed for a 60-day public comment period ending February 13, 2023. In response to this exposure, the VOS Working Group received three comment letters raising various concerns regarding the Proposed Changes.
The SVO proposed the amendments in response to its recent review of several private letter filings (PLRs) for investments in notes issued by, and equity or limited partnership interests in a special purpose entity, trust, a limited liability company, a limited partnership, or any other legal entity which operates as a feeder fund which itself invests, directly or indirectly, in one or more funds or other participations. The SVO cited a number of concerns about these investments, including (i) the possibility of circumventing regulatory guidelines established by the VOS Task Force, SAP Task Force and Capital Adequacy Task Force by with respect to the reporting of equity investments, (ii) the reporting of such investments as bonds in order to receive favorable RBC treatment, and (iii) the lack of transparency regarding the true underlying risks, l credit exposure and the nature of the investment.
The Proposed Amendments define “shares and structured funds” as “a note issued by, or an interest in or interest in a limited partnership in a special purpose entity, trust, limited liability partnership, limited partnership or other type of legal entity, as an issuer, whose promised payments are wholly dependent, directly or indirectly, on payments or distributions from one or more underlying investments in shares or funds. The SVO noted that any structure that circumvents the definition (including through the inclusion of one or more intervening legal entities between the issuer of structured equity and fund investments and the underlying equity or fund(s) underlyings), which achieves substantially the same purposes or presents the same risk, will be considered as a structured fund and equity.
In comment letters received in response to the earlier exposure of the proposed changes, interested parties noted that the proposed change to the P&P Handbook definition could potentially encompass more traditional fixed income securities, which the industry believes , were not intended to be targeted and could be difficult for the SVO to assess. Stakeholders also raised concerns that a lack of transparency and consistency applied with SVO’s designation methodologies would lead to significant capital uncertainties and inconsistent designations. Additionally, interested parties noted confusion about how to respond to the exposure due to the proposed changes overlapping with other ongoing initiatives and exposures at the NAIC, particularly the Task Force Bonds Project. SAP which includes the determination of eligibility for reporting on Schedule D (described above) and the activities of the RBC Investment Working Group, including the ongoing project to determine the appropriate RBC fees for residual slices.
After reviewing the issues raised by interested parties, the VOS working group decided to defer action on the proposed amendment to the P&P Manual and instructed NAIC staff to draft a reference to the SAP working group so that the SAP working group is reviewing the definition of equities and structured funds. in its guidance regarding residual slices so that the VOS WG can consider these items as this workflow continues. Citing stakeholders’ demand for consistency, including the need for a clear and documented process for insurers to challenge ratings, the VOS task force also asked SVO staff to draft an amendment that would create a more separate process. on how PLR filings can be reviewed and what steps insurers could take to challenge these ratings.
As part of this work, at the spring meeting of the RBC Investment Task Force, there were significant discussions among regulators and stakeholders on developing an interim solution to address residual tranches, which is expected to take effect on January 1, 2024 and remain in place until a long-term solution can be developed for structured assets. The parties discussed the need for an interim solution, but Iowa noted that companies were required, for the first time, to report residual tranches separately in their 2022 annual statutory financial statements and urged the group to Investment RBC is working to review the newly collected data to assess the materiality of the issue to better inform next steps.
An industry representative, speaking on behalf of a coalition of private equity-owned life insurance companies, opposed the interim solution and called on the RBC Investment task force to focus its efforts on developing the right long-term solution. In contrast, another industry representative, speaking on behalf of traditional life insurance companies, supported efforts to implement an interim solution and suggested that 45% would be the appropriate factor to apply to purposes of the interim solution. The RBC Investment Task Force has decided that it will hold calls only to regulators to assess the newly reported residual tranche data, but will simultaneously continue to develop an interim solution. To this end, the RBC Investment Working Group has set out for a comment period ending April 12, 2023, both a revised structural proposal (with one factor rather than three factors) and a proposed ACLI stress test for help determine the appropriate factor to apply. for the purpose of the interim solution.