Porter 11

Question 1

List 4 regulatory activities to ensure solvency

Answer 1

• maintaining a uniform system of financial reporting (annual statement)
• monitoring insurer solvency (financial examination)
• monitoring capital adequacy though RBC
• accreditation of state insurance departments

Question 2

3 advantages that the RBC model provides

Answer 2

• system provides consistency among states regarding capitalization requirements
• capitalization requirements reflect an estimate of the actual risks to which an insurer is exposed
• it also establishes specific requirements for both regulators and insurers if required capitalization levels not maintained

Question 3

Examples of provisions that accredited states must adopt in their Laws & Regulations

Answer 3

• regulator’s authority to examine insurers whenever necessary
• minimum capital & surplus requirement
• diversity and liquidity requirements for portfolios
• minimum standards for reserves
• required annual audits by independent CPAs

Question 4

Examples of measures that the Regulatory Practices & Procedures address for accredited states

Answer 4

• financial analysis
• financial exams
• communications with states
• reporting of regulatory actions

Question 5

Examples of Organizational and Personnel Practices of the DOI

Answer 5

• DOIs have sufficient staff to be able to examine all insurers periodically
• staff who are regularly involved in financial regulation should undergo periodic performance reviews
• DOIs should require minimum education and experience levels, provide competitive pay, and provide funding for staff to travel to NAIC meetings and training sessions

Question 6

Explain why solvency regulation is more important for insurance than other industries

Answer 6

The insurance product is a contractual guaranty of future financial performance, contingent on occurrence of insured event resulting in loss, sold for a specific price. Insurance transactions involve a considerable amount of risk. As the likelihood of insurer insolvency increases, the risks retained by the insured and others also increase.

Question 7

Identify two objectives of an effective examination system

Answer 7

• detecting as early as possible those insurers in financial trouble and/or engaging in unlawful and improper activities
• developing information needed for timely, appropriate regulatory action

Question 8

Identify 3 consequences insurance consumers may face from the insolvency of an insurance company

Answer 8

• costs spread to entire industry - assessments of guaranty funds
• insured often lose premiums paid for coverage not yet provided
• delay in claim payments

Question 9

Define the terms “technical insolvency” and “bankruptcy”

Answer 9

Technical insolvency: cannot pay the bill when due

Bankruptcy: Liability > Asset

Question 10

Provide one example of when an insurer would be considered insolvent but not technically insolvent or bankrupt

Answer 10

When it has capital below the minimum capital requirements (did not meet RBC requirements) but still pay the bills and assets > liabilities

Question 11

Briefly describe 2 types of risk usual to all business

Answer 11

• business risk - firm’s inability to maintain a competitive position and stable growth in earnings
• financial risk - firm’s inability to cover fixed debt obligations as they become due

Question 12

State two types of risk unique to insurance

Answer 12

• price inadequacy
• reserve error
• underwriting risk

Question 13

Briefly describe Full Scope, Limited Scope, and Special Association Examinations

Answer 13

Full Scope:

• very broad and encompass a thorough review of insurer’s records and financial position
• emphasis laced on risk-based analysis to identify potential problems

Limited Scope:

• should be scheduled between regularly scheduled full scope exams
• occur when regulator needs to validate info or review operations in response to requests by other regulators or unusual complains

Special Association:

• circumstances justify direct intervention by the NAIC
• generally 3 situations:
  
  • written reports from zone examiners indicate examination conducted by state of domicile inadequate
  • domiciliary state is reluctant to schedule and exam when IRIS results or other info indicate need
  • state in which company is licensed requests it

Question 14

Describe 4 reasons for insurance regulation related to solvency concerns

Answer 14

• there are risks inherent in the insurance product. Since costs are unknown in amount and in timing, risk of becoming insolvent in misplacing is very high
• opportunities to mismanage financials of company exist to greater extent in insurance than in other industries. Large inflows of cash from premiums need to be properly invested to ensure outflows at uncertain times and in uncertain amounts are sufficiently supported
• consumers’ general inability to evaluate insurers’ financial condition and long-term viability due to complexity of insurance industry
• insolvencies affect all market participants - assessments passed on in the form of higher rates for all or may cause more insolvencies if the insurer can’t pass it on

Question 15

Identify the 4 dimensions of an insurer’s financial condition that IRIS ratios are designed to evaluate

Answer 15

• overall financial condition
• profitability
• liquidity
• reserves

Question 16

Briefly describe FAST ratios

Answer 16

• ratios for the FAST system, a set of ratios that include some of the original IRIS ratios plus additional ratios
• FAST ratios provide a total score for an insurer based on points assigned to various ratios
  
  • higher score indicates a higher risk of future insolvency
  • focus on profitability, asset quality, investments, reserves, reinsurance, liquidity, cash flows, leverage

Question 17

Describe the purpose of the Financial Analysis Working Group (FAWG)

Answer 17

• provide peer review of domiciliary regulation of nationally significant insurers
• provides additional assurance that insurers displaying indications of financial difficulty will not fall through the crack and escape examination process

Question 18

Briefly describe State Regulators’ Bench Audits

Answer 18

• review annual statements for accuracy and compliance with statutory accounting requirements
• place particular emphasis on conducting ratio analyses to identify unusual relationships among financial variables that might indicate a troubled company

Question 19

Briefly describe Priority Examination Scheduling

Answer 19

• regulators receive priority recommendations from the examination team and the FAWG, which are developed during the analytical phase of IRIS
• many factors considered when assigning one of five examination priorities (e.g. IRIS ratios, ratios of key financial variables, financial leverage, abnormally good results, asset portfolio appearing inadequate)