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SUBCHAPTER A. Examination and Financial Analysis

28 TAC §7.84

SUBCHAPTER D. Risk-Based Capital and Surplus

28 TAC §§7.401 and 7.410

The Texas Department of Insurance proposes new §7.401 and amended §§7.84 and 7.410 concerning examination and financial analysis and risk-based capital and surplus requirements. The proposal addresses the minimum risk-based capital and surplus requirements for property and casualty insurers as well as for all life insurance companies, fraternal benefit societies, mutual life insurance companies, and stipulated premium companies. The proposal also concerns the frequency of examination of insurance carriers. The proposed new and amended sections are necessary to enable the department to more efficiently and effectively utilize existing resources in the review of companies' financial condition, for the efficient solvency regulation of the aforementioned insurers, to allow the Texas Department of Insurance to adopt a new risk-based capital formula, and to implement the most current risk-based capital requirements. Simultaneously with this proposal the department is proposing the repeal of §7.401, which is published elsewhere in this issue of the Texas Register. A risk-based capital requirement is a method of ensuring that an insurer has an appropriate level of policyholders' surplus after taking into account the underwriting, financial, and investment risks of an insurer. The formulas proposed by new §7.401 and by amended §7.410 will provide the department with a more widely used regulatory tool to identify the minimum amount of capital and surplus appropriate for an insurance company to support its overall business operations in consideration of its size and risk exposure. The department is proposing the adoption by reference of the 2000 NAIC Life Risk-Based Capital Report Including Overview and Instructions for Companies and the 2000 NAIC Property and Casualty Risk-Based Capital Report Including Overview and Instructions for Companies. Furthermore, the department has determined that current §7.84 does not provide the necessary flexibility for the appropriate allocation of resources. Thus, the proposed amendment to §7.84 removes several conditions that were to be met before the approval of an examination deferral and restates the risk-based capital condition that a carrier must meet prior to a deferral. It is anticipated that a greater number of companies will be eligible for deferment as a result of this proposal. The proposed amendment of §7.84 focuses the conditions for an examination deferral on those items that are more reliable for predicting financial stability and removes those conditions that are redundant in actual application.

The department will consider amendments to 28 TAC §§7.84, 7.401 and 7.410 in a public hearing under Docket No. 2464, scheduled for November 7, 2000, 10:00 a.m. in Room 100 of the William P. Hobby State Office Building, 333 Guadalupe Street in Austin, Texas. Copies of the documents proposed for adoption by reference are available for inspection in the Financial Division of the Texas Department of Insurance, William P. Hobby Jr. State Office Building, 333 Guadalupe, Austin, Texas.

Ms. Betty Patterson, Senior Associate Commissioner, Financial Program, has determined that, for the first five years the proposed sections are in effect, there will be no fiscal implications for state or local government as a result of the proposal and there will be no measurable effect on local employment or local economy.

Ms. Patterson has also determined that, for each year of the first five years the new §7.401 and amended §§7.84 and 7.410 are in effect, the sections will provide for the efficient regulation of insurance and greater assurance of the financial solvency of insurers for the protection of policyholders. The department does not anticipate any additional costs to industry resulting from the proposed risk-based capital formulas as companies are currently required comply with risk-based capital requirements. The cost to complete the risk-based capital report varies from insurer to insurer. Each insurer subject to the proposed sections would be required to acquire a risk-based capital kit from the National Association of Insurance Commissioners at a cost of $350. The labor cost to transfer the information from an insurer´s records to the applicable report will vary depending on the size of the insurer and the character of its investments. If an insurer uses special software to prepare its annual report, and if that software can be linked to the risk-based capital formula, the department estimates that the information can be transferred and the formula completed in four hours or less. If the software cannot be linked to the risk-based capital formula, the department estimates an insurer can transfer the information from its records to the risk-based formula in 8-16 hours. The department´s estimations are based upon discussions with industry representatives who are responsible for maintaining accounting records. Based upon the department´s experience, an insurer would utilize an employee who is familiar with the accounting records of the company and accounting practices in general and who is compensated from $17 to $30 an hour. On the basis of cost per hour of labor, there is no anticipated difference in the cost of completing the formula between insurers who are micro, small, and large businesses. After the completion of the formula, it will likely be reviewed by an officer of the insurer who is responsible for the preparation of the financial reports of the insurer. In small insurers such officers are compensated at approximately $40 per hour, while such officers at large insurers are compensated at approximately $100 per hour. Based on the department´s experience, the cost of compliance for small insurers would be less than the cost of compliance for large insurers in reviewing the risk-based capital formula. Therefore, it is the department's position that the adoption of the proposed sections will have no adverse economic effect on small or micro businesses. The department does not expect the new formulas to require a level of capital that is significantly different from the current capital requirements. For those companies previously subject to the risk-based capital requirements, the department does not anticipate any material increase in cost resulting from a required capital contribution. However, the formulas' intended function, to protect policyholders from the effects of insolvency, will require some companies to increase capital. Those companies so required will incur the cost of the additional capital contribution. There will be no additional costs as a result of the amendment to §7.84 as insurance companies must currently permit the department to conduct examinations and the department anticipates that more insurers will be eligible for deferment. Indeed, the department anticipates costs for the industry as a whole will decrease as a result of the amendment to §7.84 as the rule will allow more insurers to be eligible for an examination deferral. Regardless of the fiscal effect, the requirements of these rules are mandated by the underlying state statutes, and considering the statutes' purposes, it is neither legal nor feasible to waive or modify the requirements of these sections for small and micro businesses, as doing so would result in a disparate effect on policyholders and other persons affected by these rules.

To be considered, all comments on the proposal must be received in writing no later than 5:00 p.m. on November 13, 2000. All comments should be submitted to Lynda H. Nesenholtz, General Counsel and Chief Clerk, Mail Code 113-2A, Texas Department of Insurance, P. O. Box 149104, Austin, Texas 78714-9104. An additional copy of the comments should be simultaneously submitted to Betty Patterson, Senior Associate Commissioner - Financial Program, Mail Code 305-2A, P. O. Box 149104, Austin, Texas 78714-9104.

The new and amended sections are proposed under the Insurance Code Articles 1.10, 1.15, 1.32, 2.01, 2.02, 2.20, 3.02, 21.21, 22.13 and §36.001. Article 1.10, §5 addresses the duties of the department when an insurer´s solvency is impaired. Article 1.15 authorizes the commissioner to adopt rules for the determination of an insurance company´s financial strength in order to establish the appropriate examination interval for that insurance company. Article 1.15 also provides that the Commissioner of Insurance may conduct examinations of companies at intervals not to exceed five years. Article 1.32 authorizes the commissioner to fix standards for evaluating the financial condition of an insurer. Articles 2.01, 2.02 and 2.20 provide that the commissioner may adopt rules to require an insurer to maintain capital and surplus levels in excess of statutory levels to assure financial solvency of insurers for the protection of policyholders and insurers. Article 3.02 authorizes the commissioner to issue rules designed to ensure the financial solvency of companies for the protection of policyholders. Article 21.21, §13 authorizes the commissioner to adopt rules necessary to regulate trade practices in the business of insurance. Article 22.13 authorizes the commissioner to adopt rules and regulations regarding the minimum capital and surplus for certain insurers. Section 36.001 authorizes the commissioner to adopt rules for the conduct and execution of the duties and functions of the department.

The following statutes are affected by this proposal: Articles 1.15, 1.32, 3.02, and 22.13 1.10, 1.32, 2.01, 2.02, 2.20, 21.21, and 21.44

§7.84. Examination Frequency.

(a) (No change.)

(1)-(2) (No change.)

(b) Applicability. This section applies only to those carriers that have been incorporated or organized for more than three years and are due for a regular examination as of December 31, 1999 [ 1993], or later.

(c) Deferment of regular examination. Two years following each carrier´s regular examination, [ Annually, each carrier due for a regular examination to be conducted in the following year shall be reviewed by the associate commissioner for] the Financial Program of the Texas Department of Insurance shall review the carrier´s financial information to determine whether the carrier's financial strength justifies a deferment of the regular examination. The commissioner may defer the regular examination of a carrier for a period not to exceed five years from that carrier´s previous regular examination, provided[ one year if the carrier has undergone a regular examination within the preceding four years and] the following conditions are [ have been] met at the time such deferral is considered [ all times subsequent to that last regular examination]:

(1) (No change.)

(2) the carrier is subject to the requirements of the Insurance Code[ ,] Article 1.15A, and has filed, on or before June 30 th, [ or otherwise provides annually to the department] an audit of its financial condition conducted by an independent certified public accountant which does [ , and the annual audits by its accountant did] not indicate the existence of any material adverse financial conditions in the carrier;

(3) the carrier has not been the subject of administrative or regulatory actions taken by the Texas Department of Insurance as provided by the Insurance Code[ ,] Articles [ 1.10A,] 1.32, [ or] 21.28-A , or §83.051 within the previous five year period; and [ , or similar actions taken by any other regulatory body]

(4) meets one of the following: [ all changes in control of the carrier have been properly approved by the Texas Department of Insurance as required by the Insurance Code, Article 21.49-1;]

(A) the carrier is subject to risk-based capital and surplus requirements and, if the carrier is a life or accident and health insurer, has at least 400% of the authorized control level as calculated in accordance with the risk-based capital and surplus requirements contained in §7.401 (relating to Minimum Risk-Based Capital and Surplus Requirements for Life, Accident and Health Insurers), or if the carrier is a property and casualty insurer, has at least 400% of the authorized control level as calculated in accordance with the risk-based capital and surplus requirements contained in §7.410 (relating to Minimum Risk-Based Capital and Surplus Requirements for Property and Casualty Insurers); or

(B) the carrier is subject to the requirements of Insurance Code Article 2.20(f) (relating to Requirements for Non-stock Property and Casualty Insurers) and reinsures substantially all of its business to one or more affiliates, as defined by Insurance Code Article 21.49-1, if the assuming affiliates have at least 400% of the authorized control level as required by §7.610 (relating to Letters of Credit); or

(C) the carrier is subject to the requirements of Insurance Code Article 2.20(f) and maintains free surplus or guaranty fund and free surplus in an amount equal to 400% of the authorized control level that would be required if the carrier was subject to §7.610 (relating to Letters of Credit). Further, to qualify for an examination deferral under this subparagraph, a carrier must first calculate the amount of risk-based capital that would be required if the carrier was subject to §7.610 (relating to Letters of Credit) and report the results in the five year historical exhibit of its annual statement in accordance with the NAIC Annual Statement Instructions, as adopted by the Department.

[ (5) the carrier has the amount of minimum risk-based capital and surplus required by §7.401 of this title (relating to Minimum Risk-Based Capital and Surplus Requirements for Life, Accident and Health Insurers) or §7.410 of this title (relating to Minimum Risk-Based Capital and Surplus Requirements for Stock Property and Casualty Insurers), or meets the requirements of the Insurance Code, Article 2.20, §(f) (concerning Requirements for Non-stock Property and Casualty Insurers);]

[ (6) the carrier's unassigned funds (surplus) account is a positive balance;]

[ (7) the carrier has not experienced an operational (net) loss for any calendar year equal to or greater than 10% of its capital and surplus accounts at the beginning of such calendar year;]

[ (8) the carrier's capital and surplus accounts have not decreased 15% or more during any calendar year;]

[ (9) the carrier's investment in bonds designated as Class 3, 4, 5, or 6 by the Securities Valuation Office of the National Association of Insurance Commissioners is less than 200% of the carrier's capital and surplus accounts;]

[ (10) the carrier's net written accident and health insurance premiums (annualized) are less than 350% of its capital and surplus accounts;]

[ (11) the net written premiums (annualized) of a property and casualty carrier are less than 250% of its capital and surplus accounts;]

[ (12) the National Association of Insurance Commissioners has not deemed the carrier to be a priority one company; and]

[ (13) the carrier has not appeared as one of the top 10 insurers on the complaint ratio listing maintained by the department at any time during the year of the annual review provided for in this subsection. ]

(d) This section does not apply to health maintenance organizations.

(e) Nothing in this section shall be construed to limit the commissioner's authority to examine a carrier as frequently as the commissioner deems necessary.

§7.401. Minimum Risk-Based Capital and Surplus Requirements for Life, Accident, and Health Insurers.

(a) Definitions. The following words and terms, when used in this section, shall have the following meanings, unless the context clearly indicates otherwise.

(1) Annual financial statement -- The annual statement to be used by life insurance companies, as promulgated by the National Association of Insurance Commissioners (NAIC) and as adopted by the Texas Department of Insurance under this chapter (relating to Corporate and Financial Regulation) or any other annual statement blank adopted by the Texas Department of Insurance or requested to be filed by the Texas Department of Insurance.

(2) Authorized control level -- The number determined under the Risk-Based Capital (RBC) formula in accordance with the RBC instructions.

(3) Commissioner -- The commissioner of insurance of the Texas Department of Insurance.

(4) NAIC -- National Association of Insurance Commissioners.

(5) RBC formula -- NAIC risk-based capital formula.

(6) RBC instructions -- 2000 NAIC Life Risk-Based Capital Report Including Overview and Instructions for Companies published by the NAIC.

(7) Total adjusted capital -- An insurer´s statutory capital and surplus as determined in accordance with the statutory accounting applicable to the annual financial statements required to be filed pursuant to the Insurance Code, and such other items, if any, as the RBC instructions provide.

(b) Scope. This section applies to any insurer authorized to do business in Texas as an insurance company that writes or assumes life insurance, annuity contracts or liability on, or indemnifies any one person for, any risk under a health, accident, sickness, or hospitalization policy, or any combination of those policies, in an amount in excess of $10,000 including: capital stock companies, mutual life companies, fraternal benefit societies, and stipulated premium companies doing business in other states. This section does not apply to stipulated premium companies doing business in Texas only.

(c) Purpose. The purpose of implementing a risk-based capital and surplus provision is to require a minimum level of capital and surplus to absorb the financial, underwriting, and investment risks assumed by an insurer. In determining the adequacy of its capital and surplus, an insurer that establishes an asset valuation reserve and an interest maintenance reserve will be allowed credit for these reserves.

(d) Adoption of RBC formula by reference and filing requirements. The commissioner adopts by reference the 2000 NAIC Life Risk-Based Capital Report Including Overview and Instructions for Companies which includes the RBC formula and the required diskettes. All companies subject to this section are required to file the diskettes with the NAIC in accordance with and by the due date specified in the RBC instructions.

(e) Conflicts. In the event of a conflict between the Insurance Code, any rule of the department or any specific requirement of this section, and the RBC formula and/or the RBC instructions, the Insurance Code, rule or specific requirement of this section shall take precedence and in all respects control. It is the express intent of this section that the adoption by reference of the 2000 NAIC Life Risk-Based Capital Report Including Overview and Instructions for Companies not repeal or modify or amend any rule of the department or any provision of the Insurance Code.

(f) Actions of commissioner. The commissioner of insurance may take the following actions against an insurer who fails to maintain, at a minimum, 70% of the authorized control level risk-based capital in the RBC Report as calculated in accordance with the RBC instructions:

(1) place the insurer in supervision or conservation;

(2) determine the insurer to be in hazardous financial condition as provided by the Insurance Code Article 1.32, and §8.3 of this title (relating to Hazardous Conditions) regardless of percentage of assets in excess of liabilities;

(3) determine the insurer to be impaired as provided by the Insurance Code Article 3.60; or

(4) subject the insurer to any other applicable sanctions provided by rules of the department.

(g) Prohibition on announcements. Except as otherwise required under the provisions of this section, the making, publishing, disseminating, circulating or placing before the public, or causing, directly or indirectly to be made, published, disseminated, circulated or placed before the public, in a newspaper, magazine or other publication, or in the form of a notice, circular, pamphlet, letter or poster, or over any radio or television station, or in any other way, an advertisement, announcement or statement containing an assertion, representation or statement with regard to any component derived in the calculation, by any insurer, agent, broker or the person engaged in any manner in the insurance business would be misleading and is, therefore, prohibited.

(h) Prohibition on use in ratemaking. The RBC instructions and any related filings are intended solely for use by the commissioner in monitoring the solvency of insurers subject to this section and in taking corrective action with respect to insurers and shall not be used by the commissioner for ratemaking nor considered or introduced as evidence in any rate proceeding nor used by the commissioner to calculate or derive any elements of an appropriate premium level or rate of return for any line of insurance which an insurer or any affiliate is authorized to write.

(i) Limitations. In no event shall the requirements of this section reduce the amount of capital and surplus otherwise required by provisions of the Insurance Code or the Texas Administrative Code, or by authority of the commissioner of insurance.

§7.410. Minimum Risk-Based Capital and Surplus Requirements for Property/Casualty Insurers.

(a) Definitions. The following words and terms, when used in this section, shall have the following meanings, unless the context clearly indicates otherwise .

(1) - (5) (No change.)

(6) RBC instructions - 2000 [ 1997] NAIC Property and Casualty Risk Based Capital Report including Overview and Instructions for Companies published by the NAIC.

(7) (No change.)

(b) - (c) (No change.)

(d) Adoption of RBC formula by reference and filing requirements. The commissioner adopts by reference the 2000 [ 1997] NAIC Property and Casualty Risk-Based Capital Report including Overview and Instructions for Companies which includes the RBC formula and the required diskettes. All companies subject to this section are required to file the diskettes with the NAIC in accordance with and by the due date specified in the RBC instructions.

(e) - (i) (No change.)



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