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You are here: Home . rules . 2006 . 1107-059

SUBCHAPTER A. Examination and Financial Analysis

28 TAC §7.7

1. INTRODUCTION. The Commissioner of Insurance adopts amendments to §7.7, concerning subordinated indebtedness of insurers. The amendments are adopted without change to the proposal published in the September 22, 2006 issue of the Texas Register (31 TexReg 8075).

2. REASONED JUSTIFICATION. The adopted amendments are necessary to add a new paragraph (3) to existing §7.7(f) to acknowledge that insurers may purchase, acquire, own, and hold as an admitted asset a subordinated indebtedness of a non-affiliated insurer that meets the requirements for rated and non-rated notes under the NAIC's Accounting Practices and Procedures Manual, Statement of Statutory Accounting Principles No. 41.

The amendments are also necessary to: (i) define the term affiliate or affiliated in subsection (a)(1) (Definitions); (ii) clarify the definition of subordinated indebtedness in subsection (a)(3) (Definitions); (iii) delete superfluous language in subsection (b)(2) (General Provisions) that is redundant of the statute; (iv) clarify in subsection (c)(5) that, in the event of liquidation, any payment of interest and repayment of principal under the written agreement shall be made in accordance with the provisions of the Insurance Code Chapter 21A; (v) in subsection (d)(1)(G), require that the affidavit contain an affirmation that the insurer agrees to issue the subordinated indebtedness and receive funding within 15 days of the date the order of the Commissioner is entered approving the subordinated indebtedness, and that the executive officer agrees to provide the Texas Department of Insurance with written evidence that the subordinated indebtedness has been funded; (vi) clarify in subsection (f)(4) that an insurer may invest in, purchase, acquire, own and hold a subordinated indebtedness of an affiliated insurer and may report it as an admitted asset on its financial statements in an amount equal to the amount then due and payable under the terms of the subordinated indebtedness agreement; (vii) update obsolete references throughout the section due to the enactment of the nonsubstantive Insurance Code revision by the Legislature; and (viii) correct grammatical errors.

3. HOW THE SECTION WILL FUNCTION. The adopted new §7.7(f)(3) requires insurers to calculate subordinated indebtedness pursuant to the NAIC's Accounting Practices and Procedures Manual, Statement of Statutory Accounting Principles No. 41. The new paragraph permits an insurer to report a subordinated indebtedness of a non-affiliated insurer as an admitted asset on its financial statements in an amount authorized by the Insurance Code.

The adopted amendment to subsection (f)(4) clarifies that an insurer may invest in, purchase, acquire, own and hold a subordinated indebtedness of an affiliated insurer and may report it as an admitted asset on its financial statements in an amount equal to the amount then due and payable under the terms of the subordinated indebtedness agreement.

The adopted amendment to subsection (d)(1)(G) requires that the affidavit contain an affirmation that the insurer agrees to issue the subordinated indebtedness and receive funding within 15 days of the date the order of the Commissioner is entered approving the subordinated indebtedness, and that the executive officer agrees to provide the Texas Department of Insurance with written evidence that the subordinated indebtedness has been funded.

The adopted amendments also: (i) provide that the term affiliate or affiliated in subsection (a)(1) (Definitions) has the same meaning as in the Insurance Code §823.003; (ii) clarify that the terms surplus notes, surplus debenture, contribution certificates, surplus capital notes, and premium income notes, bonds, or debentures have the same meaning as the term subordinated indebtedness is defined in subsection (a)(3) (Definitions); (iii) delete superfluous language relating to notice of a subordinated indebtedness agreement in subsection (b)(2) (General Provisions) that is redundant of the statute; (iv) clarify in subsection (c)(5) that, in the event of liquidation, any payment of interest and repayment of principal under the written agreement shall be made in accordance with the provisions of the Insurance Code Chapter 21A; (v) update obsolete references throughout the section due to the enactment of the nonsubstantive Insurance Code revision by the Legislature; and (vi) correct grammatical errors.

4. SUMMARY OF COMMENTS AND AGENCY RESPONSE.

Comment: A commenter expressed support for the proposed amendments, stating that the amendments have the effect of correcting unintended consequences in the current rule. Commenters expressing support also stated that the amendments are consistent with and/or subject to the requirements of the NAIC's Accounting Practices and Procedures Manual, Statement of Statutory Accounting Principles No. 41.

Agency Response: The Department appreciates the supportive comments.

5. NAMES OF THOSE COMMENTING FOR AND AGAINST THE PROPOSAL.

For: American National Insurance Company and Texas Association of Life & Health Insurers.

Against: None.

6. STATUTORY AUTHORITY. The amendments are adopted under the Insurance Code Article 1.39 and §36.001. Article 1.39 provides that the Commissioner may adopt rules as necessary to implement Article 1.39 (Subordinated Indebtedness). Section 36.001 provides that the Commissioner may adopt any rules necessary and appropriate to implement the powers and duties of the Department under the Insurance Code and other laws of this state.

7. TEXT.

§7.7. Subordinated Indebtedness, Surplus Debentures, Surplus Notes, Premium Income Notes, Bonds, or Debentures, and Other Contingent Evidences of Indebtedness.

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

(1) Affiliate or affiliated--Has the same meaning as the term affiliate is used, defined, or applied in the Insurance Code §823.003.

(2) Minimum surplus or floor--The amount of surplus specified in the written agreement evidencing the subordinated indebtedness which may not be used for payments or repayments of subordinated indebtedness and which amount must exceed the greater of the following:

(A) a minimum surplus stated and fixed in the agreement; or

(B) a minimum surplus of $500,000 for that insurer.

(3) Subordinated indebtedness, surplus notes, surplus debenture, contribution certificates, surplus capital notes, and premium income notes, bonds, or debentures--Any contingent indebtedness issued by an insurer for which such insurer assumes a subordinated liability for repayment of principal and payment of interest pursuant to a written agreement providing for payment only out of that portion of an insurer's surplus that exceeds a minimum surplus stated in such agreement. Subordinated indebtedness includes advances or loans made in accordance with the Insurance Code §§882.253, 883.162, 912.309, 942.158, and 961.206.

(b) General Provisions.

(1) A subordinated indebtedness agreement issued by an insurer on or after September 1, 1995, is subject to the prior approval of the commissioner, as to form and content, regardless of amount.

(2) An insurer may not issue a subordinated indebtedness until the commissioner has approved the subordinated indebtedness agreement under Insurance Code, Chapter 823, Subchapter C or Article 1.39.

(3) All written applications and notices contemplated by this section shall be filed with Financial Analysis/Examinations, Mail Code 303-1A, Texas Department of Insurance, P.O. Box 149104, 333 Guadalupe, Austin, Texas 78714-9104.

(4) The consideration received by an insurer in return for the issuance of subordinated indebtedness shall be in the form of cash, cash equivalent securities, or other assets that have a readily determinable value and are satisfactory to the commissioner. In the instance of an issuer required by the department to increase its surplus as regards policyholders, the subordination of a current liability owed by the issuer to the prospective holder of the subordinated indebtedness, may be considered in an amount acceptable to the commissioner.

(c) Written Agreements. When issuing subordinated indebtedness, the insurer must execute a written agreement with the creditor, providing the following:

(1) the creditor may be paid only out of the portion of the insurer's surplus that exceeds the minimum surplus stated in the agreement;

(2) the minimum surplus or floor shall exceed the greater of the following:

(A) a minimum surplus stated and fixed in the agreement; or

(B) a minimum surplus of $500,000 for that insurer;

(3) repayment provisions shall be clearly set forth in the written agreement;

(4) if the subordinated indebtedness is in the form of a premium note, bond, or debenture, which includes a provision for the payment or repayment only out of a sinking fund established by the insurer by setting aside a specified amount during a specified period, all payments must be made from the established sinking fund, subject to the minimum surplus stated in the written agreement, and such amount accumulated and held in the sinking fund shall be a legal liability and financial statement liability of the insurer.

(5) in the event of liquidation, any payment of interest and repayment of principal under the written agreement shall be made in accordance with the provisions of the Insurance Code Chapter 21A.

(d) Written Application.

(1) The written application for approval of the issuance of the subordinated indebtedness agreement shall include information including, but not limited to, the following:

(A) the identity of all parties to the transaction;

(B) the nature and purpose of the transaction including a description of how the subordinated indebtedness relates to the future business plans of the insurer;

(C) a description of the consideration to be received by the insurer in exchange for the issuance of the subordinated indebtedness;

(D) a description of how the value of the consideration was determined;

(E) a statement as to whether any officers or directors of a party are pecuniarily interested in the transaction;

(F) a copy of the proposed written agreement; and

(G) a signed and notarized affidavit of an executive officer of the insurer which states that the insurer is aware of the requirements of the Insurance Code, Article 1.39(e) and subsection (e) of this section regarding notices to the Texas Department of Insurance relating to the payment of interest or the repayment of principal corresponding to subordinated indebtedness and agrees to comply with such requirements. The affidavit shall contain an affirmation that the insurer agrees to issue the subordinated indebtedness and receive funding within 15 days of the date the order of the commissioner is entered approving the subordinated indebtedness, and that the executive officer further agrees to provide the Texas Department of Insurance with written evidence that the subordinated indebtedness has been funded.

(2) No application for the issuance of subordinated indebtedness shall be deemed filed with the commissioner until the date that all material listed in subsection (d)(1) of this section has been provided.

(e) Payments of Interest and Repayments of Principal.

(1) An insurer may not repay principal or pay interest on a subordinated indebtedness issued under either the Insurance Code, Chapter 823, Subchapter C or Article 1.39, on or after September 1, 1995, unless either:

(A) such payment or repayment complies with a specific schedule of payments contained within the terms of the previously approved written agreement; or

(B) written notice is provided to the commissioner at least 15 days before the date scheduled for any payment or repayment if either a schedule of payments is not contained within the terms of the previously approved agreement, or such payment or repayment does not comply with the specific schedule of payments contained within the terms of the previously approved agreement.

(2) Notice required by this subsection

(f) Accounting Requirements.

(1) A loan or advance made under the written agreement, and any interest accruing on the loan or advance, is a legal liability and financial statement liability of the insurer only to the extent provided by the terms and conditions of the loan or advance agreement, and the loan or advance may not otherwise be a legal liability or financial statement liability of the insurer. Such a loan or advance agreement, whether or not containing a provision for a minimum sum certain payable, repayment schedule, maturity date, prepayment or any combination thereof, shall not be considered a legal liability or financial statement liability of the insurer, and shall be considered a subordinated indebtedness to be recorded with the capital and surplus items in the financial statements of the insurer. If such a written agreement provides specific terms for the payment of principal and interest, and only after such payment of principal or interest is due, and the minimum surplus requirements for such payment of principal and interest have been met, then there shall be a financial statement liability only to the extent of such payment that is due of principal or interest and only to the extent the minimum surplus requirements have been met. Assuming such terms have been satisfied, then any provision providing that no financial statement liability exists shall be considered to be in conflict with the specific terms for the payment of principal and interest; and, for financial statement purposes, the terms for the payment of principal and interest shall result in the reflection of a financial statement liability.

(2) All agreements shall be clearly reported in an insurer's "Notes to Financial Statements" of the Annual Statement and shall disclose all pertinent aspects of payment and prepayment provisions.

(3) An insurer may invest in, purchase, acquire, own, and hold as an admitted asset a subordinated indebtedness of a non-affiliated insurer that meets the requirements for rated and non-rated notes under the NAIC's Accounting Practices and Procedures Manual, Statement of Statutory Accounting Principles No. 41. An insurer shall calculate such subordinated indebtedness pursuant to the NAIC's Accounting Practices and Procedures Manual, Statement of Statutory Accounting Principles No. 41. An insurer may report such subordinated indebtedness as an admitted asset on its financial statements in an amount authorized by the Insurance Code.

(4) An insurer may invest in, purchase, acquire, own, and hold a subordinated indebtedness of an affiliated insurer and may report it as an admitted asset on its financial statements in an amount equal to the amount then due and payable under the terms of the subordinated indebtedness agreement.

(g) Applicability to Foreign Insurers. The provisions of this section shall apply to insurers domiciled in another state unless such other state regulates the issuance of subordinated indebtedness under laws, rules, or bulletins that the commissioner finds are substantially similar in substance and effect to Texas law and rules. To pursue this exception, the insurer shall provide, upon request, to the commissioner evidence of similarity in the form of statutes, regulations, and interpretation of the standards utilized by the state of domicile.



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