Regulatory Update: National Association of Insurance Commissioners Fall 2023 National Meeting

a. NAIC Adopts Model Bulletin Regarding the Use of AI by the Insurance Industry

During the Joint Meeting of Executive (EX) Committee and Plenary, the NAIC adopted the NAIC Model Bulletin: Use of Artificial Intelligence Systems by Insurers (AI Model Bulletin). The AI Model Bulletin was adopted by the Innovation, Cybersecurity, and Technology (H) Committee earlier at the Fall Meeting. Individual state insurance departments will now consider the AI Model Bulletin for adoption with respect to insurers domiciled in such states.

As adopted, the AI Model Bulletin reflects the (H) Committee’s view that AI is a means by which the insurance industry engages in conduct already subject to regulatory standards (including, among others, regulations relating to underwriting, rating, and unfair trade practices).

The AI Model Bulletin describes regulatory expectations for the use of AI by insurers (including both governance and enterprise risk management standards) and provides standards for insurance regulators to oversee and examine the use of AI by insurance carriers. It articulates standards at a high level and applies to the use of AI-supported decision making in general.

Specifically, the AI Model Bulletin states that insurers must (i) ensure that AI-supported decisions affecting consumers are accurate and do not violate unfair trade practice laws or other legal standards; (ii) maintain a governance framework, risk management framework, and internal controls for oversight of AI systems; and (iii) maintain standards for the use of third-party AI systems (including required contractual terms).

With regard to oversight, the AI Model Bulletin clarifies that regulators’ general examination authority may include (i) requesting information on an insurer’s compliance with the terms of the AI Model Bulletin and (ii) requesting documentation related to AI systems developed by third parties that are used by an insurer.

As adopted, the AI Model Bulletin omits a definition for the term “bias” that had been included in a prior version. The (H) Committee removed that definition in response to industry concerns that the AI Model Bulletin referenced a term that had not been previously legislated. As a result, the AI Model Bulletin, which continues to include “bias analysis and minimization” among the data practices and accountability procedures expected of insurers, leaves such term undefined.

b. NAIC Continues Development of the New Insurance Consumer Privacy Protections Model Law

At the Fall Meeting, the Privacy Protections (H) Working Group (Privacy Working Group) provided a status update with respect to the New Privacy Model Law. A revised draft of the New Privacy Model Law is expected to be exposed early in 2024 for a 60-day comment period to address comments received from interested parties since the previous draft was exposed for comment on July 11, 2023.

Due to the volume of comments received, the Privacy Working Group obtained approval from the (H) Committee to extend its timeline for developing the New Privacy Model Law. The Privacy Working Group now anticipates presenting the New Privacy Model Law to the (H) Committee for approval at the NAIC 2024 Fall National Meeting. The extended timeline is intended to allow regulators and interested parties an opportunity to review the revised draft thoroughly and to provide the working group with time to carefully consider input from all stakeholders.

c. NAIC Completes AI/Machine Learning Life Survey

At the Fall Meeting, the Big Data and Artificial Intelligence (H) Working Group received a report on its AI/machine learning (ML) life insurer survey (AI/ML Life Survey), which was intended to allow regulators to gain a better understanding of (i) how life insurance companies are deploying AI/ML technologies in pricing and underwriting, marketing, and loss prevention and (ii) the current level of risk and exposure associated with the industry’s use of AI and ML and how the industry is managing or mitigating that risk.

Out of 161 companies completing the survey, 94 companies currently use, plan to use, or plan to explore using AI/ML as defined in the survey. This equates to approximately 68% of reporting companies. For comparison, approximately 88% of the companies responding to the auto insurer survey, and 70% of companies responding to the home insurer survey reported they currently use, plan to use, or plan to explore using AI/ML.

Among insurer operations areas, companies reported varying levels of AI/ML use, from 11% in the risk management area to 36% in marketing. In order from maximum to minimum use, the percentage of companies using AI/ML by insurer function were marketing, 36%; underwriting, 34%; pricing, 18%; and risk management, 11%.

The top two reasons reported for not using, not planning to use, and not exploring use of AI/ML were “no compelling business reason” and “waiting for regulatory guidance.” 

The AI/ML Life Survey was issued to a total of 179 life insurance companies meeting the following criteria: life insurance companies with more than $250 million in premiums on individual policies in 2021, term writers that have issued policies on more than 10,000 lives, and selected insurtech companies. The survey was conducted from May 3 to June 30, 2023, during which time the responses were solicited from insurers in 14 requesting states (Colorado, Connecticut, Illinois, Iowa, Louisiana, Minnesota, Nebraska, North Dakota, Oregon, Pennsylvania, Rhode Island, Vermont, Virginia, and Wisconsin).

a. NAIC Continues Progress on Principles-Based Bond Definition Project

At the NAIC’s Summer 2023 National Meeting (2023 Summer Meeting), the SAP Working Group adopted revisions to SSAP No. 26R — Bonds, SSAP No. 43R — Loan-Backed and Structured Securities and other SSAPs related to the SAP Working Group’s principles-based bond definition project (Bond Project). In connection therewith, the SAP Working Group also exposed revisions to SSAP No. 21R to provide guidance for debt securities that do not qualify as bonds under the new definition as well as to detail the accounting for residual tranches. The exposure also included an issue paper to detail the historical discussions on the Bond Project.

The exposed revisions to SSAP No. 21R incorporate a new measurement method for residual interests. The revisions incorporate industry’s proposal of an “effective yield with a cap” method as well as a practical expedient to allow the “cost recovery” method. These revisions were exposed for a comment period ending January 22, 2024, to allow the SAP Working Group to consider their adoption before the Blanks (E) Working Group considers adoption of Schedule BA: Other Long-Term Invested Assets (Schedule BA) revisions from the Bond Project.

NAIC staff also intends to address clarification and/or consistency issues among SSAP No. 21R, SSAP No. 26R, SSAP No. 43R, and the recently adopted language on the definition of residual tranches in SSAP No. 48 — Joint Ventures, Partnerships, and Limited Liability Companies.

No comments were received on the bond project issue paper, which NAIC staff will continue to update consistent with ongoing discussions on SSAP No. 21R.

b. NAIC Exposes Revisions to SSAPs Related to the Reporting of Collateral Loans on Schedule BA

The SAP Working Group exposed revisions to SSAP No. 21R and the definitions for the annual statement reporting categories of SSAP No. 48 and residual interests on Schedule BA for a shortened comment period until January 22, 2024. The revisions to SSAP No. 21R are intended to expand the transparency of reporting for collateral loans on Schedule BA to enable state insurance regulators to quickly identify the type of collateral that supports admittance of collateral loans. The revisions are also intended to further define for consistency purposes the investments captured as nonregistered private funds, joint ventures, partnerships or limited liability companies, or residual interests, which are to be reported based on the underlying characteristics of assets.

The proposed revisions to SSAP No. 21R would expand reporting for collateral loans on Schedule BA in response to comments that the current reporting detail on Schedule BA does not provide sufficient clarity on the type of collateral used in support of admittance of collateral loans. These changes would also be consistent with the NAIC’s recent adoption of changes to SSAP No. 20 —Non-Admitted Assets and SSAP No. 21R that clarified that the underlying collateral for admitted collateral loans must reflect a qualifying investment, meaning that it would qualify for admittance if held directly by the insurer. The proposed disclosure requirement under SSAP No. 21R would separate collateral loans by the type of collateral investment that secures the loan. 

The SAP Working Group also exposed updates to incorporate more detailed definitions for the annual statement reporting categories of SSAP No. 48 and Schedule BA. Such investments are reported on designated lines divided by the reporting entity’s classification as to the underlying asset characteristics, which include bonds/fixed-income instruments, common stocks, real estate, mortgage loans, and other. Following recent discussions on residual tranches, the NAIC identified that variations exist across industry on the types of investments that should be captured within each of these categories. The proposed revisions are intended to improve consistency in reporting for both ease of industry classifications and for regulator assessment of the type and volume of investment types. The proposed revisions will be used to sponsor a blanks annual statement instruction change but will not result in statutory accounting revisions.

c. NAIC Adopts Revisions for Investments Permitted to be Reported as Cash Equivalent and Short-Term Reporting

The SAP Working Group adopted revisions to SSAP No. 2R that will further restrict the investments permitted for cash equivalent and short-term reporting with an effective date of January 1, 2025. The revisions exclude all Schedule BA investments and mortgage loans.

The revisions were drafted in response to concerns regarding certain types of investments, particularly collateral loans or other Schedule BA items, which are viewed as being designed specifically to meet the parameters for short-term reporting; in particular, concerns regarding reporting entities that were effectively ending short-term collateral loan investments, only to reissue those collateral loans from other lenders in the same group to qualify as short-term for reporting on Schedule BA.

The intent of the change is to retain the guidance in SSAP No. 2R that prevents cash equivalent or short-term reporting for related party investments if the reporting entity does not reasonably expect to terminate the investment, the original maturity time has passed, and the reporting entity reacquired a substantially similar investment. This change to SSAP No. 2R, combined with the prior revisions to SSAP No. 2R to exclude certain rolling short-term investments, is intended to effectively eliminate investments (other than money market mutual funds and cash pooling dynamics) from being reported as cash equivalents or short-term investments unless they would qualify under SSAP No. 26R as an issuer credit obligation.

d. NAIC Establishes Long-Term Project for Accounting Guidance on AVR and IMR 

At the Fall Meeting, the SAP Working Group began the process to establish a long-term project to capture accounting guidance for AVR and IMR in SSAP No. 7.

Historically, SSAP No. 7 included a brief overview of AVR and IMR with the calculation and reporting guidance determined as directed by individual SSAPs or in accordance with the annual statement instructions. The new agenda item is intended to ensure accounting concepts are within the SSAPs and address disconnects with current guidance.

It is anticipated that this project will take time, particularly with the assessment of admittance and nonadmittance for negative IMR as a long-term concept, and interim revisions will be proposed to ensure progress to address potential areas where credit losses may be reported as IMR.

The movement of the accounting guidance to SSAP No. 7, and any revisions from the annual statement instructions incorporating the guidance, will be captured as a new SAP concept and therefore a corresponding issue paper will be drafted to detail the revisions.

e. NAIC Discusses Guidance on Scottish Re Liquidation

During the Fall Meeting, the SAP Working Group exposed revisions to INT 23-04T: Scottish Re Life Reinsurance Liquidation Questions (Scottish Re Guidance) that provides accounting and reporting guidance for ceding entities with the life reinsurance counterparty Scottish Re, which is in liquidation.

The Scottish Re Guidance was developed after the SAP Working Group received questions from industry and regulators in respect of Scottish Re’s liquidation and guidance on impairment, reporting, and admissibility of reinsurance recoverables. The Scottish Re Guidance was first exposed for comment in October 2023 and was originally drafted to apply generically to any life insurer liquidation. In response to comments from regulators, the Scottish Re Guidance was revised to apply specifically to Scottish Re. The SAP Working Group noted that while its intent is generally to avoid company-specific guidance, because Scottish Re had been in run off for a number of years prior to its liquidation, the SAP Working Group felt more comfortable offering guidance specific to Scottish Re in this case.

Under the proposed Scottish Re Guidance, (i) unpaid claims and other amounts that are in dispute or not collateralized by a credit for reinsurance trust are nonadmitted, while (ii) (a) undisputed claims incurred before contract cancellation, and paid before the reporting period, and (b) undisputed amounts secured by a credit for reinsurance trust, in each case, may be admitted. The Scottish Re Guidance was exposed for further comment until December 29, 2023, with further discussion intended to follow in January 2024.

AG 53 was adopted in 2022 with the purpose of helping regulators to ensure an insurer’s claims-paying ability if complex assets held by the insurer do not perform as expected. AG 53 requires annual disclosures and asset-related information for most life insurers. The first submissions were received earlier in 2023 from approximately 246 life insurers.

The Macroprudential Working Group has been closely following review of the AG 53 results in connection with its review of the list of Regulatory Considerations for Private Equity Owned Insurers (List of PE Considerations) which was developed to address, among other things, any regulatory gaps with respect to the increase in private equity ownership of insurers, the role of asset managers more generally in insurance, and the increase in private investments in insurers’ portfolios. A copy of the current List of PE Considerations can be found here.

Review of the AG 53 disclosures has been conducted by a group formed by the Valuation Analysis Working Group consisting of actuaries, investment experts, and other financial staff. Regulators have been conducting targeted reviews of the disclosures provided under AG 53 to ensure that long-term liabilities are appropriately supported and that complex and/or privately structured securities’ risks are appropriately modeled. The review process started with company prioritization, based on prior knowledge and template information, and companies with outlier yield assumptions have been identified. The review group has been engaging with regulators on the review of such companies, with the goal of decreasing the highest net yield assumptions to remove companies from the outlier list.

The review group will continue these discussions with companies and their regulators and plans to add conservatism to outlier net yield assumptions and work to better understand reinsurance collectability areas of comfort and vulnerability. The review group will also coordinate a review of investment expense assumptions and reasonability in 2024.

The VOS Task Force discussed its initial draft of the proposed amendment to the P&P Manual at the 2023 Summer Meeting. A number of comments to the initial draft were received from interested parties which, in addition to reiterating concerns regarding the uncertainty that the process could impose on insurers and the financial markets, included suggested revisions to the procedures to clarify whether the SVO’s review will focus on a specific security or an entire class of securities and to request the opportunity for additional time in the process for insurers to provide information as the SVO would be making its decision based on incomplete information.

In response to those comments, the VOS Task Force directed SVO staff to consider the feedback and update the proposal. During the Fall Meeting, the VOS Task Force presented a revised version of the amendment that implemented the actionable comments received from VOS Task Force members and interested parties.

The following is a summary of those revisions, in relevant part:

• When an SVO staff member identifies an FE security for review, the SVO will convene the Senior Credit Committee to meet and determine whether it agrees that the rating appears to be an unreasonable assessment of risk and, if so, place the security under review.
• If the security is placed under review, an information request will be sent to the insurer(s) holding such security to request additional information. Upon receipt of such additional information, the SVO would perform a full analysis of the security and coordinate with the insurer(s) on any questions or issues.
• Following the completion of the analysis, the SVO Senior Credit Committee will reconvene and determine whether, based on the full analysis, the NAIC designation from the FE process is three or more notches different than the committee’s opinion. If so, the security will be removed from FE. The Senior Credit Committee will present its analysis to a subgroup of the VOS Task Force to provide oversight of the FE removal process and to enable the VOS Task Force to provide feedback to the SVO.
• An anonymized summary of each unique issue or situation will be published on the SVO webpage or some other insurer accessible location for transparency. In addition, the SVO Director will summarize FE discretion actions taken during the preceding year at every NAIC Spring National Meeting.
• An insurer may appeal to the VOS Task Force chair if they believe the SVO did not follow the procedures set forth in the P&P Manual.
  
  
• The insurer will also have the right to appeal the SVO’s determination, through an assessment by an independent third party who may conduct a blind review of the security (i.e., without knowledge of the SVO or credit rating provider’s (CRP’s) assessment) with the information provided through the information request process. If the independent third party determines that the NAIC designation is one or more notches different than the FE NAIC designation, the SVO’s opinion will be overridden by the reinstatement of the CRP rating(s). If the independent third party determines that the NAIC designation is three or more notches different than the FE NAIC designation, the SVO’s decision will remain.

VOS Task Force Chair Carrie Mears (IA) reiterated that these changes align with the charges given to the task force by the Financial Condition (E) Committee ((E) Committee) to identify improvements to the use of CRP ratings in the FE process to ensure greater consistency, uniformity, and appropriateness; implement policies to oversee the NAIC staff’s administration of rating agency ratings; and establish criteria to permit staff’s discretion over the assignment of NAIC designations for securities subject to the FE process.

The VOS Task Force exposed these revisions until January 26, 2024. The SVO is currently recommending adoption of the proposed amendment effective January 1, 2025, which may be delayed if needed for full implementation within certain NAIC applications.

The (E) Committee received 16 comment letters in response to the initial draft of the Investment Framework. While many of the commenters agreed that reform is necessary for how investment risk is evaluated, many comment letters raised concerns regarding discretion provided to the SVO without appropriate transparency and due process. Commenters noted that while regulators have been appropriately focused on reducing the industry’s “blind reliance” on CRP ratings, the use of CRP ratings should continue, with proper oversight to ensure that resources of the SVO are best utilized.

The Investment Framework also sets a goal to create a consistent approach in calculating C-1 capital across a diverse set of asset classes and structures. Many comment letters were supportive of this goal but raised concerns with the consistency of undertaking this review of the Investment Framework in light of various ongoing related projects at the NAIC. Commenters called for the (E) Committee to reevaluate the timelines for certain of these projects and in particular called for the delay of the modeling of collateralized loan obligations and to generally revisit the role of existing working groups, task forces, and ad hoc groups currently engaged on related issues to determine how to facilitate an overarching workstream.

One comment letter noted that the Investment Framework should supplement risk-based capital (RBC) C-1 capital charges with concentration factors and included a recommendation that the NAIC adopt a system of concentration factors to distinguish among asset-backed security collateral types. Earlier this year, the Risk Evaluation Ad Hoc Group established three Ad Hoc Subgroups to focus on different risk assessments, including an Asset Concentration Ad Hoc Subgroup. The Asset Concentration Ad Hoc Subgroup has been meeting regularly to discuss the concepts of asset concentrations, brainstorm issues related to asset concentrations, and review whether there is adequate data at the NAIC for potential asset concentration considerations. The subgroup members have been tasked with reviewing the inventory further and providing feedback during the next meeting and are also developing a decision tree to help deliberate whether RBC is the right solution for any asset concentration risk identified.

While the (E) Committee members did not discuss the comment letters during the Fall Meeting, Chair Beth Dwyer (RI) stated that an update from the (E) Committee on this project could be expected sometime in January 2024.

a. NAIC Task Force Adopts National Climate Resilience Strategy for Insurance

At the Fall Meeting, the Climate and Resiliency (EX) Task Force (Climate Task Force) adopted the National Climate Resilience Strategy for Insurance (Climate Strategy), a strategy document intended to show how insurance regulators collaborate to strengthen climate resilience.

Pursuant to the Climate Strategy, the NAIC intends to prioritize predisaster mitigation and will take new steps on data collection and solvency tools. The Climate Strategy focuses on five primary regulatory actions: (i) closing protection gaps, (ii) creating a blueprint for the future of flood insurance, (iii) filling long-term insurance data gaps to improve understanding of how coverages are changing within and among jurisdictions, (iv) creating and coordinating new resilience tools to assist all state regulators, and (v) expanding insurance regulators’ leadership on new solvency tools.

In response to comments from industry members and consumer representatives focusing on a perceived lack of transparency in the development of the Climate Strategy, the Climate Task Force agreed to receive additional comments on the document before it is submitted to the Executive (EX) Committee and Plenary for adoption.

b. NAIC Committee Continues Development of Property Insurance Data Call

At the Fall Meeting, the Property and Casualty Insurance (C) Committee ((C) Committee) provided an update on the development of a state insurance regulator data call that seeks to collect insurer data to better assess homeowners insurance markets (Property Insurance Data Call).

The Property Insurance Data Call was initially announced at the 2023 Summer Meeting, during which the (C) Committee formed a drafting group to prepare a data call in furtherance of its charge to “[a]ssist state insurance regulators in better assessing their markets and insurer underwriting practices by developing property market data intelligence so regulators can better understand how markets are performing in their states, and identify potential new coverage gaps, including changes in deductibles and coverage types, and affordability and availability issues.”

The NAIC has been monitoring dynamics that are making property insurance availability and affordability more challenging for a growing number of regions across the country, including increasing frequency and severity of weather events, rising reinsurance costs, and inflationary pressures. The Property Insurance Data Call is intended to allow insurance regulators to understand the impact of these forces on insurers’ solvency and investments and to assess the strength and resilience of the industry.

Once it is determined which states will participate in the data call, a letter is expected to be sent to requested insurers. The (C) Committee expects that the top 80% of national homeowners insurers will be included.

The Improper Marketing of Health Insurance (D) Working Group (Improper Marketing of Health Insurance Working Group) was charged with reviewing and updating NAIC models and guidelines that address the use of lead generators for sales of health insurance products and to identify models and guidelines that need to be updated or developed to address regulator concerns regarding current market activity. Following up on its review, the Improper Marketing of Health Insurance Working Group proposed revisions to the Unfair Trade Practices Act to incorporate revisions to provide state insurance regulators with broader authority to regulate health insurance lead generators, which would not otherwise be subject to the same unfair practice restrictions as insurers.

Notably, the revisions include a new definition of health insurance lead generator and clarify that health insurance lead generators are prohibited from engaging in unfair trade practices set forth in the model. Under Section 2 of the Unfair Trade Practices Act, “Health Insurance Lead Generator” includes any person that uses a lead-generating device to (i) publicize the availability of what is, or purports to be, a health insurance product or service that the person is not licensed to sell directly to consumers, (ii) identifies consumers who may want to learn more about a health insurance product, or (iii) sells or transmits consumer information to insurers or producers for follow-up contact and sales activity.

In response to the draft revisions to the Unfair Trade Practices Act, industry representatives commented that the definition of “Insurance Lead Generator” was too broad and inadvertently encompassed several persons who are not acting as lead generators. Revisions were made prior to the adoption of the Unfair Trade Practices Act by the (D) Committee to address those concerns by replacing the term “entity” with “person,” which is already defined in Section 2.

The revisions to the Unfair Trade Practices Act will be on the agenda for adoption by the Executive (EX) Committee and Plenary at the NAIC’s Spring 2024 National Meeting.

As adopted, the amendments to the Guaranty Association Model Act provide that guaranty fund coverage for policyholders subject to IBTs and CDs will be preserved if such coverage existed before an IBT or CD transaction. With regard to cybersecurity insurance, the amendments also include (i) clarification that cybersecurity insurance is included within guaranty association coverage; (ii) an optional definition of “cybersecurity insurance,” which is not defined in the current Guaranty Association Model Act; (iii) a coverage limitation of $500,000 per single cybersecurity incident and an authorization for the guaranty association’s engagement of service providers to mitigate losses from a cybersecurity incident; and (iv) optional pay and recovery language for guaranty association coverage that is subject to net worth exclusions.

In December 2020, the NAIC adopted revisions to the Holding Company Model Act and Holding Company Model Regulation to implement (i) the group capital calculation (GCC) for the purpose of group solvency supervision for U.S. insurance groups and (ii) the liquidity stress test (LST) for macroprudential surveillance of certain large life insurance companies that meet the in-scope criteria outlined in the Holding Company Model Act. The GCC is intended to comply with the requirements under the bilateral agreements between the U.S. and the EU and between the U.S. and the UK (Covered Agreements), which require that states have a “worldwide group capital calculation” in place, with the initial deadline of November 7, 2022, or otherwise be subject to the imposition of Solvency II requirements by such group’s supervisors in the EU or UK.

The NAIC previously exposed, for a one-year public comment period that ended on December 31, 2022, the significant elements of the December 2020 revisions to the Holding Company Model Act that states would be required to adopt in order to maintain their NAIC accreditation. While the December 2020 revisions require that a group file an initial GCC before it may seek an exemption from further filings, the significant elements for the Accreditation Standard were modified to allow state regulators to grant exemptions to groups meeting the qualifications set forth in the Holding Company Model Regulation without the requirement to file a GCC at least once.

The effective date for the Accreditation Standard is January 1, 2026; however, to date, approximately 27 states have adopted the December 2020 revisions to the Holding Company Model Act, and approximately 15 states have adopted the revisions to the Holding Company Model Regulation, as the NAIC previously encouraged all states with a group affected by the covered agreements with the EU and UK to adopt the GCC revisions to the Holding Company Model Act and Holding Company Model Regulation (prior to the November 7, 2022 deadline under the Covered Agreements) and all states with a group affected by the LST to adopt the relevant revisions to the Holding Company Model Act as soon as possible.