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Legislative Focus:
The NAIC Modernization Framework: Will it Get by With a Little Help From the Feds?

by ~ John Matosky (Email) (Web Site)

The idea of federal regulation of reinsurance, or some other form of coordinated regulation, has gained traction in recent years, largely in response to issues of competition and fairness in an increasingly international marketplace. The National Association of Insurance Commissioners (NAIC) has attempted to "modernize" reinsurance regulation by eliminating or lessening the difficulties inherent in the current system of state-by-state approaches and the exclusive reliance on indirect regulation of foreign reinsurers (i.e., by the various state credit-for-reinsurance rules). Somewhat similar legislation was introduced during the most recent Congress. With states such as New York and Florida already taking steps in favor of implementing the recently-adopted NAIC proposals, it appears that a centralized approach to reinsurance regulation, may not be too far off in the future.

NAIC's Modernization Framework

At its winter meeting in December 2008, the NAIC adopted a conceptual framework to "modernize" reinsurance regulation by: (1) introducing a means of coordinating single-state regulation of domestic and foreign reinsurers; (2) simplifying the methods of recognizing foreign jurisdictions and potentially promoting a system of mutual recognition; and (3) liberalizing collateral requirements for reinsurers with strong financial ratings.

Currently, there is a multi-state system for reinsurance regulation using two methods. First, states directly regulate US reinsurers by licensing companies and, thereby, subjecting them to state solvency laws and regulations that also apply to direct insurers. Second, states indirectly regulate non-US reinsurers, and domestic reinsurers not licensed in the ceding insurer's domicile state, by defining the conditions under which the ceding insurer may claim a credit for reinsurance against its insurance liabilities on its financial statements.

The new NAIC framework creates two new classes of reinsurers in the United States: (1) National Reinsurers and (2) Port of Entry ("POE") Reinsurers. A National Reinsurer is licensed in its domicile state and is approved by that state (its "home state") to transact assumed reinsurance business nationwide. It submits solely to the regulatory authority of its home state supervisor. A POE Reinsurer is a non-US assuming reinsurer that is certified in a single state (the "POE state") and approved by it to provide creditable reinsurance to the entire US market. A POE Reinsurer's certification by a POE state supervisor depends upon its organization in, and licensure by, an eligible non-US jurisdiction as determined by a newly-formed NAIC body, the Reinsurance Supervision Review Department ("RSRD").

The RSRD will evaluate the reinsurance supervisory regimes of other countries and establish standards for POE states to be certified to regulate reinsurance on a cross-border basis. The NAIC has identified two guiding principals for the RSRD: (1) that it should be a publicly accountable entity composed of state insurance regulators; and (2) that, in determining approvals of home states or POE states, it will not discriminate against states strictly on the basis of low ceded premium volume. The NAIC also contemplates tasking the RSRD with developing purposes and procedures manuals for home and POE state supervisors as well as developing sample agreements for recognition and cooperation between POE states and non-US jurisdictions.

Since the NAIC model is intended to be an optional framework, reinsurers will be free to continue operating under the current state-by-state regulatory system, including the existing 100% collateral rules. In order to qualify for the reduced collateral requirements, a reinsurer must maintain a minimum financial strength rating with at least two SEC-approved ratings agencies. The reinsurer's home or POE state supervisor will assign it a rating corresponding with its lowest financial strength rating. The supervisor may make downward adjustments to the reinsurer's rating to reflect negative experience with the reinsurer's business practices in dealing with cedents, its reputation for failing to make prompt payments of valid claims, or based on the fact that there have been regulatory actions against it.

State Efforts - Florida and New York

Perhaps the most interesting aspect of the NAIC framework is the need for state, and likely federal, legislative coordination. To date, two states (Florida and New York) have undertaken changes to their reinsurance regulatory rules in the direction of the NAIC framework. The new Florida rule, 69O-144.007, F.S., which was adopted in September 2008, allows eligible reinsurers to post reduced collateral if they (1) are in good standing with their domestic regulators; (2) maintain a surplus in excess of $100 million and (3) meet certain credit ratings. Similar to the NAIC framework, collateral requirements are reduced for qualifying reinsurers based on financial strength ratings, such that the very highest rated companies need not post any collateral. Any reinsurer not meeting the eligibility requirements will still need to post 100% collateral as under the former rule.

Under current New York law, unauthorized insurers are required to post 100% collateral. A pending New York proposal, an amendment to 11 NYCRR 125 (Regulation No. 20), would make changes similar to the Florida rule except that New York would require the reinsurer to maintain a $250 million surplus. Both the Florida rule and the New York proposal contain requirements that the reinsurance contracts contain certain provisions such as insolvency clauses and service-of-suit clauses.

Federal Efforts

The NAIC is forthright with its acknowledgement that full implementation of its modernization framework will require federal legislation. The need is two-fold. First, federal legislation may be required in order to ensure universal participation by the states-and to eliminate the risk that one or a few recalcitrant or dilatory states could get in the way by failing to adopt the framework. Second, there are constitutional concerns created by the possibility of states entering into agreements with each other or with foreign governments. The Compact Clause of the US Constitution, Art. I,  10, requires Congressional consent before states enter into such agreements.

During the 110th Congress (January 3, 2007 to January 3, 2009), four bills affecting reinsurance received consideration: (1) the Nonadmitted Insurance & Reinsurance Act of 2007; (2) the National Insurance Act of 2007; (3) the Insurance Information Act of 2008; and (4) the Reinsurance International Solvency Standards Evaluation Board Act of 2008. None of these bills was successful. The Nonadmitted Insurance & Reinsurance Act came the closest -- having been passed unanimously by the House but having failed in the Senate. But collectively they provide a likely preview of what may be in store from future federal legislative efforts.

Looking Ahead

With the adoption of the NAIC modernization framework, federal regulation of reinsurance appears to be a growing possibility. Federal regulation is not a foregone conclusion, however, as demonstrated by the recent legislative failures. Yet, the prospects for a federal role may have received a boost in light of the White House's recent proposal for financial regulatory reform. Although light on specifics, the Obama Administration's plan contemplates the creation of an Office of National Insurance, within the Treasury Department, which would "monitor" the insurance industry domestically and would be authorized to represent the US in international discussions related to insurance. Additionally, the recent efforts in Florida and New York have set gears to work toward a coordinated regulatory system. The industry and, importantly, other state regulators will be watching the experience of those two key states, as well as the recent federal developments, closely.The quality of these hermes birkin bag,replica bvlgari watches,replica porsche design watches and porsche design replica watches are excellent.

John Matosky may be reached at jmatosky@PrinceLobel.com.

 2009 Prince Lobel Glovsky & Tye LLP. All Rights Reserved.

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