Reinsurance Regulation

TENNESSEE REVISES RULES REGARDING CAPTIVE INSURANCE COMPANIES

November 9, 2017 by Rob DiUbaldo

The Tennessee Department of Commerce and Insurance has substantially revised its rules for captive insurance companies. Significant changes include:

a requirement that captive insurance companies use the OPTins system to file premium tax, penalty, and interest forms and payments;
a requirement that annual financial reporting be done using a form included in the appendix to the new rules;
revisions to the rules regarding the required financial reports, audits, and examinations of captive insurance companies, including the addition of requirements specific to “protected cell captive insurance companies,” which may omit from their financial reports individual cells for which no premiums were collected or policies written during the relevant year;
authorization for the commissioner to order “limited scope examinations” to be conducted upon captive insurance companies “when questions arise about a captive insurance company’s solvency, governance, operating practices, or other” areas determined by the commissioner;
a provision allowing a captive insurance company to request that the commissioner or a designee conduct an “informal visitation” of such company, for which a report making suggestions and recommendations will be issued.

These rules will become effective December 21, 2017, and will be codified at Tenn. Comp. R. & Regs. 0780-01-41-.01 through 0780-01-41-.15.

This post written by Jason Brost.

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TEXAS PASSES REDUCED COLLATERAL CREDIT FOR REINSURANCE LAW PERTAINING TO FOREIGN REINSURERS

November 8, 2017 by Carlton Fields

This past summer, the Texas legislature passed and the Governor signed a law that allows Texas insurers to negotiate reinsurance contracts with foreign reinsurers that do not require 100% collateral before the insurer can receive a “credit” for reinsurance on their financial statements. Prior to the passage of Senate Bill 1070 (“SB 1070”), Texas insurance law required reinsurers domiciled in other countries to post 100% collateral before the Texas insurer could receive the credit, regardless of the foreign reinsurer’s financial strength. The law evens the playing field between domestic reinsurers—who did not have to post 100% collateral before Texas insurers could claim the credit—and foreign reinsurers, paving the way for more access by Texas insurers to the world’s strongest reinsurers located abroad.

SB 1070 enacted a number of substantive changes to the Texas Insurance Code to effectuate that broad mandate, including:

authorizing insurers authorized to engage in business in Texas to provide reinsurance on any line of insurance in which the insurer is authorized to engage in the state (previously, the authorization to provide reinsurance was limited to only those insurers authorized to write property and casualty insurance);
authorizing credit for reinsurance ceded as an asset or a deduction from liability for assuming insurers certified as reinsurers in Texas that maintain adequate collateral as determined by the commissioner;
requiring the assuming insurers meet certain criteria, before the credit will be allowed, such as:
- certification by the commissioner;
- domicile and license to transact insurance or reinsurance in a qualified jurisdiction;
- minimum capital and surplus;
- sufficient financial strength ratings; and others
authorizing associations of incorporated and individual unincorporated underwriters to act as certified reinsurers;
requiring the commissioner to develop a list of qualified jurisdictions in which an assuming insurer must be licensed and domiciled in order to be certified for the credit-for-reinsurance provisions above;
requiring the commissioner to assign a rating to certified reinsurers based on financial strength rating and to publish a list of those ratings; and
amending the Insurance Code’s trust requirements.

The law’s effective date was September 1, 2017; but the changes are only applicable to reinsurance contracts entered into or renewed after January 1, 2018. A legislative analysis also has been published.

This post written by Thaddeus Ewald .
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TAX COURT DISALLOWS DEDUCTIONS FOR PAYMENTS TO CAPTIVE INSURANCE COMPANY

November 7, 2017 by Carlton Fields

A husband and wife who paid $1.54 million in premiums to their captive insurance company and $720,000 in premiums to another insurer over two years, almost all of which ended up back in their bank accounts, have had their tax deductions for those payments disallowed in a lengthy opinion by the United States Tax Court.

The couple, Benyamin and Orna Avrahami, own a set of businesses and commercial properties in the Phoenix, Arizona area. In 2007, they set up a captive insurance company called Feedback, incorporated in St. Kitts and for which they elected treatment as a small insurance company under Internal Revenue Code section 831(b). While their total insurance expense in the year before they set up Feedback was $150,000, the Avrahamis’ businesses paid Feedback insurance premiums of $730,000 in 2009 and $810,00 in 2010. One of those businesses also paid Pan American Reinsurance Company $360,000 in both years for terrorism risk insurance, while Feedback participated in a “risk distribution program,” under which Pan American paid Feedback $360,000 in both years. The Avrahamis then deducted all of these premiums—$1.09 million in 2019 and $1.17 million in 2010—as business expenses.

The IRS began an audit of the Avrahamis in 2012, ultimately disallowing their deductions for insurance expenses paid to Feedback and Pan American. The IRS took the position that the payments to Feedback and Pan American were not actually insurance premiums, and the Tax Court agreed. The court found that Feedback did not meet the essential insurance characteristic of distributing risk because it only issued 7 policies insuring 3 stores, had 2 key employees, 35 other employees, and 3 commercial properties, all in the Phoenix area, in the relevant years. Feedback’s purported reinsurance relationship with Pan American did not help to distribute that risk, the court found, because Pan American was not a bona fide insurance company. The Court based this on its findings that: (1) the premiums Pan American charged were “grossly excessive” when compared with what was available on the market—particularly when the Avrahamis’ own witness could not identify a single event in history to which its terrorism insurance would provide coverage; (2) Pan American distributed virtually all of the premiums it received back to its policyholders or related entities; and (3) it was unlikely that it could actually pay claims if they arose. The court also found that Feedback did not operate like an insurance company—it issued policies with unclear and contradictory terms, paid no claims until the IRS began its audit, unreasonably invested the premiums in unsecured loans to related parties, and charged “utterly unreasonable” premiums—and thus the premiums paid to it were not actually for insurance.

As a result, the court sustained the IRS’s finding that the Avrahami’s could not deduct the premiums they paid to Feedback and Pan American. However, the court found that these disallowed deductions did not justify imposing penalties on the Avrahamis, despite the fact that much of the advice they received was from an attorney who qualified as a promoter of these transactions, because, in setting up Feedback and taking those deductions, they also reasonably relied on the advice of another attorney who was not a promoter. The court also found that, because it was not actually an insurer, Feedback did not qualify for treatment as a small insurer under section 831(b), but this also meant that, as a St. Kitts entity, it did not owe any U.S. taxes.

Avrahami et al. v. Commissioner of Internal Revenue, Docket Nos. 17594-13 and 18274-13 (U.S. Tax Ct. Aug. 21, 2017).

This post written by Jason Brost.
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NATIONAL FLOOD INSURANCE PROGRAM REAUTHORIZED THROUGH DECEMBER 8, 2017

November 1, 2017 by Michael Wolgin

On September 8, 2017, Congress passed legislation extending the National Flood Insurance Program until December 8, 2017. The program was set to expire at the end of September. The extension was part of a continuing resolution raising the debt limit and funding the U.S. government. No changes to the flood insurance program were made, although reforms may be coming in the future. US HR 601 (Sept. 8, 2017).

This post written by Michael Wolgin.

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U.S. COVERED AGREEMENT POLICY STATEMENT AFFIRMS U.S. STATE-BASED REGULATION OF INSURANCE

October 30, 2017 by Michael Wolgin

We have posted several times on the negotiation and finalization of the Covered Agreement (“the Agreement”) negotiated by the Obama Administration and approved by the Trump Administration with the European Union. The agreed text of the Agreement was released in January of this year, and the House Financial Services Committee held a hearing on the Agreement the following month. The Trump Administration’s decision to sign the Agreement was announced in July, and included a statement that the U.S. would issue a “U.S. policy statement on implementation.” That statement intrigued many, prompting speculation as to the positions that would be taken in that policy statement. We posted an analysis of the complicated timeline for the implementation of the Agreement later that month.

In conjunction with the signing of the Agreement on September 22, the U.S. released the anticipated policy statement. The policy statement is not remarkable, and is based upon a theme that the Agreement affirms, preserves, and builds upon the U.S. state-based structure for the regulation of the business of insurance. The policy statement summarizes various provisions of the Agreement, stating in part that the Agreement:

with respect to the collateral requirement, “does not prevent a state insurance regulator from imposing non-collateral requirements that do not have substantially the same regulatory impact as collateral requirements as conditions for ceding companies to enter into reinsurance agreements with EU reinsurers or to allow credit for such reinsurance, if the state insurance regulator applies the same requirements in the case of reinsurance agreements with U.S. reinsurers domiciled in that state;”
does not prevent parties to reinsurance agreements to contractually require collateral for reinsurance;
excludes the US parent of US-domiciled reinsurers from the need to comply with the requirements of Solvency II just because it has an affiliate doing business in the EU; and
preserves the authority of the states (in conjunction with the NAIC) to set capital requirements for US insurance groups.

The principal text of the Conclusion section of the policy statement provides:

The Agreement supports the principles specified in the Presidential Executive Order on Core Principles for Regulating the United States Financial System (Feb. 3, 2017) by enabling U.S. companies to be competitive with foreign firmshttps://www.reinsurancefocus.com/wp-admin/edit.php in domestic and foreign markets; advancing U.S. interests in international financial regulatory negotiations and meetings; and making regulation efficient, effective, and appropriately tailored. The United States looks forward to promoting the interests of U.S. stakeholders, U.S. insurance regulators, and the U.S. economy as the Agreement is implemented. The United States also shares with the EU the goal of protecting insurance and reinsurance consumers while respecting one another’s system for supervision and regulation.

This post written by Rollie Goss.
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