A significant shift towards principles-based bond definitions is on the horizon, carrying profound implications for the treatment of bonds within the insurance investing sector. Sabrina Wilson, a global regulatory policy expert, provides essential insights into the forthcoming changes that teams must grasp.
Bonds serve as a crucial element in providing stability against underwriting results for insurers, constituting more than 62% of investment portfolios, as reported by the National Association of Insurance Commissioners (NAIC) at the close of 2022. However, as financial markets become increasingly intricate, heightened scrutiny is being applied to insurer bond investments and transparency. This has prompted the NAIC to initiate the principles-based bond definition (PBBD) project.
Commencing in 2019, the PBBD project aims to refine the definition of bonds, addressing instances where reported “bonds” on Schedule D did not align with the NAIC’s criteria. The objective is to enhance clarity in bond definitions, preventing investments from being erroneously labeled as bonds. The culmination of this effort resulted in the overhaul of two crucial statements of statutory accounting principles (SSAPs): No. 26R, “Issuer Credit Obligation,” and No. 43R, “Asset-Backed Securities.”
The repercussions of these revised SSAPs will extend far into the future, fundamentally altering how bonds are managed in the insurance investing sector. Bonds meeting the criteria outlined in these SSAPs will retain their place on Schedule D after 2024, while those falling short will be relocated to Schedule BA. The correct attribution of these changes poses a substantial challenge for financial teams, consuming time and influencing financial reporting and costs on a broad scale.
Key considerations for stakeholders navigating these shifts include:
1. Focus for Accounting and Back-Office Teams:
- Private structured products, such as collateralized fund obligations, feeder funds, and asset-backed securities backed by non-financial assets, will demand thorough examination.
- Allocation of substantial time is necessary to transition these products from Schedule D Part 1 to Schedule BA before 2025 or gather evidence to retain questionable securities on Schedule D Part 1 post-2024.
2. C-suite Awareness:
- Assessment of D-1 securities is a top priority for front- and back-office teams approaching year-end.
- Asset reclassification triggers heightened risk-based capital requirements, necessitating strategic decisions by the C-suite regarding the retention, transfer, or sale of reclassified securities to optimize the organization’s financial position.
3. Refining Front-Office to Back-Office Workflow:
- Synergy between investment decision-makers and accounting teams becomes crucial.
- A reevaluation of established processes facilitates a smoother transition, emphasizing early communication to identify data requirements for accurate accounting and reporting during the reclassification process.
In conclusion, while the reclassification process poses challenges, organizations can establish an efficient foundation by considering these factors. This proactive approach enables informed decisions for the organization’s short-, medium-, and long-term future.