SSAP No. 71 & SSAP No. 25 Recent Revisions May Want You!
Occasionally, NAIC statutory accounting and reporting activity requires more than just a quick mention recommending industries follow up on their own for more information. And the NAIC occasionally produces work that is considered a bit controversial in nature. In March, two newly adopted accounting guidelines hit the “more information needed” category, and one of them also triggered the “controversial” reaction button. The good news is neither of these issues applies to all companies; maybe you are one of the lucky ones.
Let’s review the double-hitter first—revisions to SSAP No. 71 – Policy Acquisition Costs and Commissions. Here is a little history for clarity: SSAP No. 71 allows insurers to use funding arrangements with a third party to make commission payments to agents. The third party is then repaid by the insurer over time, creating a levelized commission situation for the insurer, at least as far as cash flow is concerned. However, to use these arrangements, the insurer is required to establish a liability for the full unpaid amount, including interest. This is nothing new. SSAP No. 71 has been effective since January 1, 2001, but the funding arrangement policy has actually been around since 1998. To complicate things even more, some insurers using the third-party arrangements are not recognizing their commission expense correctly. In general, commissioners are to be recognized and expensed immediately, not spread out over the life of the policy. For example, traditional life insurance policies typically have a larger first-year commission than renewal commission. Some insurers using the funding arrangements with levelized repayments were not expensing that full first-year premium at acquisition but were recognizing it over time.
Now let’s fast forward to somewhere in the very recent past when an insurance examiner conducting an insurance examination found the insurer was not recognizing the full liability to repay funding arrangements. In fact, at least part of it was being handled as an off-balance sheet liability. In addition, the reporting entity argued that levelized commission obligations related to policy persistency commissions were not required to be accrued until the policy anniversary year-end had passed. The examiner brought this situation to the attention of the Statutory Accounting Principles Working Group (SAPWG). SAPWG decided to draft language intended to be very explicit regarding correct statutory accounting and reporting of the funding agreements and the expensing of commissions. That process started in August 2019. On March 15, 2021, the language was adopted and put in place.
The language is not the controversial issue of the adoption, as it really is a clarification, not an accounting change. The controversy surrounds the implementation date. Because this was considered a clarification of existing guidelines, SAPWG deemed it to be a nonsubstantive revision that is effective upon adoption. But industry and some regulators were concerned about the effect to surplus this change would have on companies that had been incorrectly reporting the agreements. They felt it was a substantive change and industry needed more time for implementation. Industry was pushing for a phased-in implementation period. As kind of a compromise, when adopted, the effective date was pushed out until December 31, 2021.
But that may not necessarily be the end. It was decided that when the minutes from SAPWG were presented and adopted as they made their way up the NAIC ladder of committees, this particular issue would be voted on separately. As a result, at the meeting of the Accounting Practices and Procedures Task Force, the revision was adopted again with no change in implementation, but only after a lengthy discussion. None of the discussion was new, and several insurance commissioners and ex-insurance commissioners were involved. The next step will be a review by the Financial Condition (E) Committee scheduled on April 13 and then the Executive/Plenary meeting later this summer. Again, the language has been adopted; it’s the implementation that is still uncertain.
By the way, expect to see a new General Interrogatory in the Annual Statement to identify companies using third-party arrangements to pay commission expenses.
One more quick comment. Companies using funding arrangements that are not in compliance with SSAP No. 71 should take steps to correct that. Now your auditors and state examiners are more informed.
Let’s move on to the newly crafted, clarifying definition of a related party for SSAP No. 25 – Affiliates and Other Related Parties. Those of you who thought you had no related-party transactions or who have disclaimers of control or affiliation in place should pay attention to this one.
Although this item does reject several FASB Accounting Standards Updates regarding variable interest entities, it also:
- Indicates SSAP No. 25 applies to all related-party transactions with parties that own 10 percent or more of the reporting entity
- Clarifies that noncontrolling ownership of more than 10 percent results in the classification of a related party regardless of any disclaimer of control or disclaimer of affiliation
- Indicates that a disclaimer of control or affiliation does not eliminate the classification as a related party for the material transactions disclosure
Added to the examples of related parties are directors and officers, any immediate family members of a principal owner, director, or executive officer, entities that share common control, and those with direct or indirect ownership greater than 10 percent regardless of any disclaimer of control or disclaimer of affiliation.
Beginning this year-end, be on the lookout for a new Schedule Y – Part 3 to list all entities with ownership greater than 10 percent, the ultimate controlling parties of those owners and other entities the ultimate controlling party controls.
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