BILL ANALYSIS Ó ----------------------------------------------------------------- |SENATE RULES COMMITTEE | SB 696| |Office of Senate Floor Analyses | | |(916) 651-1520 Fax: (916) | | |327-4478 | | ----------------------------------------------------------------- UNFINISHED BUSINESS Bill No: SB 696 Author: Roth (D) Amended: 8/28/15 Vote: 27 SENATE INSURANCE COMMITTEE: 7-0, 4/22/15 AYES: Roth, Gaines, Berryhill, Hernandez, Liu, Mitchell, Wieckowski NO VOTE RECORDED: Hall SENATE JUDICIARY COMMITTEE: 6-0, 4/28/15 AYES: Jackson, Anderson, Hertzberg, Leno, Monning, Wieckowski NO VOTE RECORDED: Moorlach SENATE APPROPRIATIONS COMMITTEE: 6-0, 5/28/15 AYES: Lara, Beall, Hill, Leyva, Mendoza, Nielsen NO VOTE RECORDED: Bates SENATE FLOOR: 38-1, 6/1/15 AYES: Allen, Anderson, Bates, Beall, Berryhill, Block, Cannella, De León, Fuller, Gaines, Galgiani, Glazer, Hall, Hancock, Hernandez, Hertzberg, Hill, Huff, Jackson, Lara, Leno, Leyva, Liu, McGuire, Mendoza, Mitchell, Monning, Moorlach, Morrell, Nielsen, Pan, Pavley, Roth, Runner, Stone, Vidak, Wieckowski, Wolk NOES: Nguyen NO VOTE RECORDED: Hueso ASSEMBLY FLOOR: 78-0, 9/8/15 - See last page for vote SUBJECT: Insurance: principle-based valuation SOURCE: Association of California Life & Health Insurance Companies SB 696 Page 2 California Department of Insurance DIGEST: This bill conforms California law to the model Standard Valuation Law, adopted by the National Association of Insurance Commissioners (NAIC), and replaces the current method of calculating reserves for most life insurance products with a new method known as Principle-Based Reserving (PBR) applicable to contracts issued on or after the effective date, as specified. Assembly Amendments (1) delay the effective date of some definitions specific to PBR until the operative date of the valuation manual (VM); (2) authorize the Insurance Commissioner (IC) to adjust the initial assessment amount based on revisions to the VM; (3) make the effective date of the VM contingent on certification by the IC to the Senate and Assembly Committees on Insurance that the California Department of Insurance (CDI) has sufficient resources to implement the standards established by the VM; (4) create the Office of Principle-Based Reserving headed by an officer selected by the IC and appointed by the Governor; and (5) clarify provisions related to the confidential treatment of data, documents, and materials provided to the IC for the purpose of complying with the valuation requirements. ANALYSIS: Existing law: 1) Requires every life insurer doing business in California to annually submit to the IC the opinion of a qualified actuary as to whether the "reserves," assets set aside to pay future claims, are calculated appropriately, based on assumptions that satisfy contractual provisions, consistent with prior reported amounts, and in compliance with applicable state law. 2) Requires insurers to use a prescribed formula, specified mortality tables approved by the IC, and method for calculating the applicable interest rates for the purpose of determining reserves required by law for various types of life insurance contracts. SB 696 Page 3 3) Sets minimum benefit values when policies are surrendered or lapsed (referred to as "nonforfeiture benefits"). This bill: 1) Requires insurers to calculate reserves according to specified manual of valuation instructions as adopted by the NAIC, known as the VM, that incorporates a new method known as PBR to be used for most policies issued on or after the operative date of the VM. 2) Provides that the VM goes into effect on January 1 of the year following the first July 1 by which states representing greater than 75 percent of the direct premiums written and at least 42 of the 55 NAIC jurisdictions have enacted laws that conform to the model Standard Valuation Law as amended by the NAIC in 2009. 3) Provides that the VM shall not be operative until the IC certifies to the Chairs of the Assembly and Senate Insurance Committees that funding and other resources are available to carry out the duties imposed by this bill. 4) Establishes a process for amending the VM and for determining the effective date of the amended version of the VM. 5) Requires that the VM include minimum valuation standards, establish criteria to determine whether the PBR method applies, and provide for standards for products not subject to PBR that are either consistent with the minimum standard of valuation prior to the operative date of the VM or that satisfy other criteria designed to ensure funding under reasonably unfavorable conditions. SB 696 Page 4 6) Requires an insurer to annually submit an actuarial opinion governed by the VM and other applicable standards as to whether the reserves are calculated appropriately and as to whether the reserves held in support of the policies make adequate provision for the insurer's obligations. a) Requires the insurer to submit a memorandum in support of each actuarial opinion. b) Provides that the actuary is liable for negligent or tortious conduct. c) Authorizes the IC to define disciplinary action against the company or actuary by regulation. 7) Authorizes the IC to engage an actuary, at the expense of the insurer, to perform an independent actuarial examination of the insurer. 8) Authorizes the IC to require an insurer to change any assumption or method necessary to comply with the VM or applicable law, and adjust the reserves as required. 9) Requires an insurer to submit mortality, morbidity, policyholder behavior, or expense experience, and other data as prescribed in the VM. 10)Describes appropriate sources of data acceptable when establishing assumptions not otherwise prescribed in the VM. 11)Requires an insurer to establish reserves subject to PBR that meet specified conditions in the VM, establish procedures for corporate governance and oversight of the SB 696 Page 5 actuarial valuation function consistent with the VM, submit an annual certification to the IC on the effectiveness of internal controls with respect to PBR, and file with the IC, upon request, a principle-based valuation report that complies with standards prescribed in the VM. 12)Exempts specified documents and information submitted in accordance with the valuation process, with some exceptions, from subpoena, disclosure under the Public Records Act, civil discovery as applied to the IC, and prohibits documents and information from being admitted into evidence in a civil proceeding. 13)Creates the Office of Principle-Based Reserving within the CDI and authorizes the IC to hire and assign staff, including one exempt position selected, and whose salary is fixed, by the IC and appointed by the Governor to head the office. 14)Authorizes the IC to retain outside actuaries and other consultants to assist in the implementation of PBR. 15)Establishes an annual assessment on each participating insurer according to the insurer's volume of business. 16)Coordinates the assumptions used to determine nonforfeiture benefits with those used to determine reserves under PBR when applicable. 17)Makes numerous, clarifying, technical, and stylistic changes. Background In order to make sure that life insurers have sufficient funds to pay future claims, they are required by law to set aside SB 696 Page 6 sufficient assets, "reserves," to pay anticipated liabilities. It is not necessary to set aside funds equivalent to the entire life insurance benefit, but enough to ensure payment of future claims given the probabilities related to claims, investment income on the assets, future premium to be received, reinsurance agreements (where one insurer assumes risks from another insurer) and other factors. Existing law establishes methods required by law to calculate reserves that apply in a similar manner to all insurers and most products, and that operates on standardized assumptions, such as life expectancies established by mortality tables developed using industry-wide data and formulas used to anticipate investment income. The current method has worked well for many products, especially traditional whole life products with basic terms. However, life insurers offer many types of products that involve a variety of complexity and different risks. For example, term life insurance policies expire after a specified period and appeal to consumers who are more likely to give up the policy as they get older; they also cost less for the same death benefit because they pose less risk of loss to the insurer. Insurers and regulators recognize that the current method does not accurately measure reserving needs of some products and results in excessive reserving for some products and under-reserving for others. This bill codifies the PBR method, a new process defined in the Model Standard Valuation Law adopted by the NAIC, intended to determine more accurate reserving requirements. The language lays out a framework but the actual method is structured according to a detailed manual, the VM. The most current version of the VM was adopted by the NAIC in December of 2012. Under PBR, the insurer proposes a valuation method and reserve requirement based on its experience and other factors specific to the product and insurer. The insurer's proposal would include detailed modelling and data that has been run through numerous simulations reflecting a variety of economic conditions. The IC must review and approve the model, figures, data, and assumptions. Because PBR is much more labor intensive for CDI, SB 696 Page 7 this bill establishes an assessment on each participating insurer, set according to the insurer's volume of business, to offset the additional workload. SB 696 also empowers the IC to hire independent actuaries for additional analysis at the insurer's expense, require insurers to change assumptions or methods inconsistent with the VM or applicable law, and establish specific valuation requirements when needed. Two studies, one sponsored by the NAIC and one by the American Council of Life Insurers suggest that PBR would lower reserves for term life insurance, have mixed results for universal life insurance with secondary guarantees (ULSG), and would not affect many other types of products. (ULSG are sophisticated policies that provide the policyholder flexibility to adjust premium amount and frequency, as well as the death benefit, but also contain a lapse protection feature.) States would not implement PBR until the VM goes into effect, which would not occur until at least 42 of the 55 NAIC jurisdictions (including Guam, Puerto Rico, etc.) representing 75% of total U.S. premium adopt the NAIC model and the IC certifies that CDI is ready to implement it. According to the NAIC, as of August 4, 2015, 36 jurisdictions have adopted the model act totaling about 60% of the national premium. Most of the non-PBR related provisions, including the assessment and IC's authority to hire staff, would go into effect with this bill. FISCAL EFFECT: Appropriation: No Fiscal Com.:YesLocal: No According to the Assembly Appropriations Committee: 1)Costs to CDI of $550,000 in fiscal year (FY) 2015-16, $1.9 million in FY 2016-17 and $1.4 million in FY 2017-18 and ongoing to review and approve all participating companies' detailed modeling and analysis justifying their reserve estimates (Insurance Fund). 2)Projected revenues of $1.2 million annually, based on an assessment schedule included in this bill for a special assessment on insurers to support PBR-related regulatory SB 696 Page 8 activities (Insurance Fund). SUPPORT: (Verified 9/8/15) Association of California Life & Health Insurance Companies (co-source) California Department of Insurance (co-source) Affordable Life Insurance Alliance American Council of Life Insurers Pacific Life Insurance Company United Services Automobile Association OPPOSITION: (Verified9/8/15) Department of Finance ARGUMENTS IN SUPPORT: The Association of California Life & Health Insurance Companies and the American Council of Life Insurers state that PBR would provide a uniform approach to reserve calculations that more realistically reflects the risks, variables, and changes in consumer behavior that affect the value of cash reserve calculations. This in turn leads to more flexible product designs, greater consumer choice, and could improve pricing. ARGUMENTS IN OPPOSITION:According to the Department of Finance (DOF), the Legislature had already approved 4.0 positions and $463,000 in 2015-16 and ongoing to implement the new PBR methodology. While this bill represents the implementing legislation, it does not appropriate the additional funds to make up the difference between the estimated costs to CDI in 2014-15 and today's estimated costs. DOF opposes this bill because it results in costs not included in the Administration's fiscal plan. ASSEMBLY FLOOR: 78-0, 9/8/15 SB 696 Page 9 AYES: Achadjian, Alejo, Travis Allen, Baker, Bigelow, Bloom, Bonilla, Bonta, Brough, Brown, Burke, Calderon, Campos, Chang, Chau, Chiu, Chu, Cooley, Cooper, Dababneh, Dahle, Daly, Dodd, Frazier, Beth Gaines, Gallagher, Cristina Garcia, Eduardo Garcia, Gatto, Gipson, Gomez, Gonzalez, Gordon, Gray, Grove, Hadley, Harper, Roger Hernández, Holden, Irwin, Jones, Jones-Sawyer, Kim, Lackey, Levine, Linder, Lopez, Low, Maienschein, Mathis, Mayes, McCarty, Medina, Melendez, Mullin, Nazarian, Obernolte, O'Donnell, Olsen, Patterson, Perea, Quirk, Rendon, Ridley-Thomas, Rodriguez, Salas, Santiago, Steinorth, Mark Stone, Thurmond, Ting, Wagner, Waldron, Weber, Wilk, Williams, Wood, Atkins NO VOTE RECORDED: Chávez, Eggman Prepared by:Hugh Slayden / INS. / (916) 651-4110 9/8/15 21:55:22 **** END ****