IRS Private Letter Ruling Regarding Assumption Reinsurance
On October 24, the IRS publicly released a Private Letter Ruling (PLR-122451-14) relating to whether an assumption reinsurance transaction for life insurance policies would constitute a “material change” or require re-testing for compliance with section 7702.
The PLR was obtained by a parent company of two life insurance subsidiaries. The parent has decided to focus exclusively on other business activities, and, accordingly, it intends to pursue an assumption reinsurance contract with a potential reinsurer.
Not surprisingly, the IRS ruled that an assumption reinsurance contract does not constitute a material change or an exchange of contracts for new policies for purposes of §§ 72, 101(f), 101(j), 264, 7702, and 7702A. As such, the assumption reinsurance agreement will not (1) affect the date the Contracts were issued; (2) require retesting the Contracts; or (3) require the start of new test periods.
Among others, the parent made the following representation to the IRS:
Other than substituting a new insurer for LifeSub1 or LifeSub2, as applicable, the Contracts will not be modified or restructured as a result of the assumption transaction, and all terms of the Contracts will remain unchanged, including the amount and pattern of death benefit, the premium pattern, the rate or rates, and mortality and expense charges guaranteed under the Contracts.
FRB CCAR Stress Testing
On October 23, the Federal Reserve Board released its supervisory scenarios (including baseline, adverse, and severely adverse scenarios) that will be used in the 2015 capital planning and stress testing program. The program includes the Comprehensive Capital Analysis and Review (CCAR), for which 31 bank holding companies (those with $50 billion or more in total consolidated assets) participate. For 2015, the capital plans must be submitted by January 5, 2015.
On October 17, the FRB announced the adoption of a final rule that will modify future stress testing cycles. Beginning next year, the cycle will be pushed back one calendar quarter (i.e., supervisory scenarios will be provided no later than 2/15 and plans must be complete by 4/5).
We would be happy to discuss our views on stress testing BOLI programs under this exercise and how BOLI is reflected in the FR Y-14A reporting forms with any interested parties.
DFA Stress Test Scenarios
On October 23, the OCC released the economic and financial market scenarios that will be used in the next round of stress tests for large financial institutions. The scenarios include baseline, adverse, and severely adverse scenarios, as described in the OCC’s final rules that implement stress test requirements of the Dodd-Frank Act.
Section 165(i)(2) of the Dodd-Frank Act requires certain financial companies, including national banks and federal savings associations with total consolidated assets of more than $10 billion, to conduct annual stress tests.
Consistent with its final guidance released in October 2013, the economic variables released by the OCC this year are the same as those released by the FRB for the CCAR stress testing.
Wholesale Risk Weighting Parameters
On October 23, the FRB and the OCC released substantively identical guidance [FRB Guidance and OCC Guidance] relating to aspects of implementing the Advanced Approaches risk-weighting for Wholesale and Retail exposures. This guidance may have implications for BOLI programs because: 1) General Account BOLI exposures are treated as wholesale exposures under the Advanced Approaches; and 2) underlying exposures within BOLI Separate Accounts oftentimes include wholesale exposures.
The regulators provided guidance regarding the selection of reference data periods (particularly to ensure the data captures a mix of economic conditions, including downturn conditions) and approaches that can be taken in order to address data deficiencies when quantifying retail and wholesale risk parameters. Specifically, the guidance addresses expectations for determining probabilities of default (PDs), Loss Given Default (LGD), and Exposure at Default (EAD).
U.S. Regulators Finalize Credit Risk Retention Rules
Beginning on October 21, each applicable regulatory body approved a final rule implementing the credit risk retention requirements of the Dodd-Frank Act (section 941) which requires securitizers to retain at least 5% of the credit risk in a securitization.
The risk retention rules were initially proposed in March 2011 and re-proposed in August 2013. The final rule will become effective one year after it is published in the Federal Register.
Basel Committee Finalizes Net Stable Funding Ratio (NSFR)
On October 31, the Basel Committee on Banking Supervision (“Committee”) released the final Net Stable Funding Ratio (NSFR) standard. The NSFR is one of two minimum standards developed recently to address short term liquidity and funding risks. The standards are designed to achieve two separate but complementary objectives:
- Liquidity Coverage Ratio (or “LCR”): To promote the short-term resilience of a bank’s liquidity risk profile by ensuring that it has sufficient high-quality liquid assets (HQLA) to survive a significant stress scenario lasting for 30 days.
- NSFR: To reduce funding risk over a longer time horizon by requiring banks to fund their activities with sufficiently stable sources of funding in order to mitigate the risk of future funding stress.
The NSFR will become a minimum standard by January 2018.