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Legislation Alert: Will Massachusetts Follow The Pack on Credit For Reinsurance?

by ~ Anne-Marie Regan (Email) (Web Site)

The Massachusetts Legislature is currently considering an amendment to the state’s credit-for-reinsurance statute, Massachusetts General Laws, Chapter 175, Section 20A. Massachusetts House Bill 4326, “An Act Relative to Credit for Reinsurance Requirements,” is pending before the Massachusetts Senate Committee on Ways and Means. House Bill 4326 is a revised draft of House Bill 4030, which was passed by the House on July 31, 2014, with amendments, and was referred to the Senate Committee on Ways and Means on August 4, 2014. See H.R. 4030, 188th General Court (Mass. 2014); H.R. 4326, 188th General Court (Mass. 2014). This bill would ease the burden on foreign reinsurers currently securing their obligations to Massachusetts cedents with full collateral. Should the bill pass, Massachusetts will be more aligned with several other states, making reinsurance transactions – both domestic and foreign – more efficient and predictable.

The current Massachusetts law and its proposed revisions closely follow the credit-for-reinsurance model laws prepared by the National Association of Insurance Commissioners (“NAIC”). The NAIC created the model act to address collateral issues hindering cross-jurisdictional reinsurance relationships – recognizing the need for foreign reinsurance capacity, while protecting U.S. cedents from potentially insolvent reinsurers that are not subject to direct regulation by the cedent’s jurisdiction.

Under the NAIC’s original model act, a cedent receives “credit” (an asset or reduction from liability) for its reinsurance protections in a limited set of circumstances. For example, credit may be given (i) where the reinsurer is licensed or accredited in the cedent’s state of domicile; (ii) where the reinsurer is domiciled in, or has entered as a U.S. branch of an alien insurer through, a state with credit-for-reinsurance standards substantially similar to those of the cedent’s domiciliary jurisdiction; or (iii) where the reinsurer has provided full collateral for its payment obligations. The existing Massachusetts law, with certain exceptions, allows a cedent to take credit for its reinsurance if the reinsurer is licensed and domiciled in Massachusetts; if the reinsurer is accredited in Massachusetts; or if the reinsurer maintains a trust fund in a qualified U.S. financial institution, meeting, among other things, minimum surplus requirements. See G.L. c. 175, § 20A (2010).

In November 2011, the NAIC revised its model act to reduce the collateral requirements for “certified” reinsurers that are licensed and domiciled in “qualified” jurisdictions. See Revised Credit for Reinsurance Model Law and Revised Credit for Reinsurance Model Regulation, adopted by the NAIC 11/6/2011. The revised model act sets out the eligibility criteria for reinsurer certification and for qualified jurisdictions, and utilizes a ratings-based standard for purposes of setting the collateral amounts. Massachusetts House Bill 4326 (“HB 4326”) follows the NAIC’s revised model in several significant respects.

Certified Reinsurer

Under the NAIC revised model and HB 4326, to be eligible for certification, a reinsurer must (in addition to any requirements by the commissioner) be domiciled and licensed in a qualified jurisdiction; maintain minimum capital and surplus requirements; maintain financial strength ratings from at least two approved rating agencies; agree to submit to the state’s jurisdiction; appoint the commissioner as agent for service of process in the state and agree to provide security for 100 per cent of its liabilities attributable to reinsurance ceded by U.S. ceding insurers if it resists the enforcement of a final U.S. judgment; and agree to certain information filing requirements.

Qualified Jurisdiction

For purposes of certification, both the NAIC’s revised model act and HB 4326 provide that the commissioner will publish a list of qualified jurisdictions where a reinsurer that is domiciled and licensed is eligible to be considered for certification. Both also provide that jurisdictions that meet the NAIC’s accreditation standards will be accepted as “qualified” jurisdictions. In determining whether a reinsurer’s domicile is a qualified jurisdiction, the model act proposes that a state either apply NAIC standards to assess non-U.S. jurisdictions, or rely on the list published by the NAIC.

HB 4326 requires that the Commissioner consider the NAIC list in determining whether a jurisdiction is qualified. If a jurisdiction is not on the list, the Commissioner must provide documented justification for deeming the jurisdiction qualified. In determining qualification, the NAIC’s revised model act and HB 4326 both consider the foreign reinsurance supervisory system, the extent of reciprocal recognition afforded U.S. reinsurers, and any agreements to share information and cooperate with a state’s commissioner with respect to all certified reinsurers domiciled in the non-U.S. jurisdiction. Both schemes prohibit a jurisdiction from being deemed qualified if the commissioner determines that the jurisdiction does not adequately and promptly enforce U.S. final judgments and arbitration awards.

Collateral Amounts

Under the NAIC model act, once the reinsurer is deemed certified, the state’s commissioner sets collateral amounts based on the reinsurer’s financial strength ratings and certain other factors. These “other factors” include the reinsurer’s business practices; its annual statements (or foreign equivalents); its reputation for timely payment of claims; any regulatory actions against it; independent auditor reports; and, for non U.S. reinsurers, audited financial statements, regulatory filings and actuarial opinions filed in the foreign jurisdiction; and other information the insurance commissioner considers relevant. The NAIC’s model act proposes a multi-level rating system, specifying the ratings and their percentage collateral requirements.

By contrast, HB 4326 does not specify the precise formula for setting collateral amounts, leaving the matter to the discretion of the Massachusetts insurance commissioner:

“(4) The commissioner shall assign a rating to each certified reinsurer, giving due consideration to the financial strength ratings that have been assigned by rating agencies deemed acceptable to the commissioner pursuant to regulation. The commissioner shall publish a list of all certified reinsurers and their ratings.

(5) A certified reinsurer shall secure obligations assumed from U.S. ceding insurers under this subsection at a level consistent with its rating, as specified in regulations promulgated by the commissioner.”

H.R. 4326, 188th General Court §§ 2(E)(4)-(5) (Mass. 2014). As noted, HB 4326 proposes changes that closely follow the NAIC revised model. Most significantly, the bill allows a cedent to take full credit for its reinsurance, with less than full security, where the reinsurer is certified. Under both the NAIC revised model act and HB 4326, as under the prior schemes, a cedent can continue to take full credit for reinsurance where the reinsurer maintains a trust, meeting the extensive requirements delineated.

To date, nearly 20 states have adopted the NAIC’s revised model act, in whole or part. By joining these states as proposed in HB 4326, U.S. insurers are one step closer to a more predictable and efficient system of protecting their payment obligations to policyholders through the prudent purchase of reinsurance.

Notably, the NAIC’s revised model act and the Massachusetts proposed bill, while detailed, leave significant discretion to the state Commissioner, allowing for potential inconsistencies. While many contend that consistency is paramount and a unified national system would be the most effective way to accomplish consistency, those in favor of the proposed laws argue that an individual state must retain discretion in order to safeguard its own cedent and policyholder needs. Under the proposed Massachusetts legislation, the Commissioner would be able to ascertain the strength of Massachusetts cedents’ foreign reinsurers, considering the reinsurers’ regulators and the financial standards imposed, and gauging the extent to which the foreign jurisdiction would reciprocate, cooperate and enforce a U.S. judgment or award. Provided that the reinsurer is certified, the Commissioner could adopt collateral requirements that are far less onerous than requiring the reinsurer to post full security. The categories would clearly be delineated so as not to discourage reinsurers from doing business with Massachusetts cedents.

© 2014 Prince Lobel Tye LLP. All rights reserved.

Anne-Marie Regan is Of Counsel in the Boston office of Prince Lobel Tye LLP. She can be reached at amregan@princelobel.com.

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