Accounting Standard Updates

Negative IMR May Get a Temporary Sabbatical…to your advantage!

Article reading time: 4 minutes

Hot Take:

Hot Take

The NAIC Statutory Accounting Principles Working Group (SAPWG) conducted its spring National meeting on March 22, 2023, in Louisville, Kentucky. Among the varied items discussed was a requested change to the long-established statutory financial reporting handling of net negative Interest Maintenance Reserve. This topic garnered a surprisingly heavy allocation of the SAPWG meeting timeline. SAPWG has now floated a temporary proposal for comment that would admit a portion of negative IMR under certain circumstances and qualifications. Why? Read on…

Full Article

Guys like me have been around the insurance industry since the actual invention of the Interest Maintenance Reserve (IMR). From that perspective, the IMR has become an ancient standard, always there, never changing. What is IMR? Why does it exist?

The IMR was designed and effective in 1992 for statutory accounting. Rather than being reflected in income immediately, the IMR concept requires realized fixed income gains or losses traceable to changes in interest rates (excluding gains/losses that are credit related) to be amortized into income over the remaining term-to-maturity of the fixed-income investments sold (including related hedging programs). Why was this deferral step necessary?  The concept of life insurance reserving and investing assumes the matching of anticipated policy reserve maturities with investment durations supporting those reserve liabilities. At the time of the IMR design, concerns arose that some companies were not consistently working within the spirit of the asset-liability matching concept and selling securities to recognize gains to meet net income/surplus targets, yet leaving those investments with unrealized losses in the portfolio and carrying them at book value under statutory principles.

Digital graph representing interest gains and losses.The IMR approach is to defer net interest-related realized gains as a liability and amortize it over the remaining life of the securities sold. Now, here is the kicker. In the event of a net negative IMR (i.e., overall realized losses exceed realized gains), one, in essence, creates an asset via the mechanics of the IMR formula. Without further actions, an entity would create a positive surplus by taking interest-related losses on investments sold. That was not the intended notion of the IMR philosophy. So, the added requirement during the original design of the IMR formula was to non-admit any negative IMR (i.e., a created asset). This step maintained the statutory concept of conservatism and solvency. Negative IMR is to be reported as a miscellaneous other-than-invested asset and then non-admitted.

So, What’s the Rub?
  • We have experienced a relatively short timeframe of rapidly rising interest rates following 30 years of FED-induced declining (or stable-to-declining) interest rates. My friend and national investment newsletter writer, Jared Dillian, notes, ”The current level of interest rates is actually normal – the low-interest rates we had before were abnormal.”  The U.S. has not experienced rising interest rates of the present nature since the 1970s; the current generation of most insurance investment departments has not been faced with this scenario.
  • Any entity (insurance, banks, etc.) currently holding long-term, fixed income bonds is stinging from the change in their bond portfolio market values due to the rapid rise in interest rates (as interest rates rise, market values for bonds held decline due to the availability of current issue bonds at the prevailing rate). Consequently, higher interest rates are favorable to the financial well-being of the life insurance industry. In this situation, the ride up has been a bit painful in the unrealized loss column as the market value adjusts with each rate increase.
  • Keep in mind that life insurance statutory accounting for bonds typically allows for those bonds to be carried at book value if they are investment grade and not in default (i.e., NAIC 1-5). This contrasts with the GAAP realm handling to be carried at market value with coinciding adjustments to Other Comprehensive Income (OCI) (ASC 320);
  • Enter the American Council of Life Insurers (ACLI), representing the largest life insurance companies in the nation. In October 2022, the ACLI submitted its opinion to the SAPWG, laying out the concern of its constituents that large accumulations of negative IMR “will give the inappropriate perception of decreased financial strength through lower surplus and risk-based capital ratios.” The contention is that the consideration received from the securities sold is invested in higher-yielding assets and the statutory handling of negative IMR (i.e., non-admission) penalizes that concept. The ACLI suggested changes to the negative IMR concept, along with what are termed “guardrails,” to avoid the industry’s misuse of revised negative IMR concepts.
SAPWG’S Proposed Temporary Solution

SAPWG’s initial impressions at the Spring meeting to an IMR change appeared mixed, but the group was willing to give the matter further consideration and proposed additional study and potential involvement of other NAIC committees (actuarial, RBC).

On April 10, 2023, the SAPWG e-voted to expose INT 2023-01T – Net Negative (Disallowed) IMR for public comment by May 5, 2023. This date was further extended to June 9 in a subsequent notice.

INT 2023-01T provides a 2023 short-term solution by establishing a temporary, optional statutory accounting change to SSAP 7 – Asset Valuation Reserve and Interest Maintenance Reserve and the statutory annual statement instructions.  Net negative IMR would be admitted under the following qualifying guardrails and/or parameters:

  • Only applies to the general account – no separate account application currently;
  • RBC must be greater than 300% – if less than 300% entity is disqualified;
  • Admit 5% of capital and surplus adjusted to exclude net positive goodwill, EDP equipment and operating software, net DTAs, and admitted net negative IMR;
  • Admitted net negative IMR must be generated from losses sustained through the sale of bonds or other qualifying fixed-income investments that were reported at amortized cost prior to the sale, and the proceeds from those sales must have been immediately used to acquire bonds or other qualifying fixed-income investments that will be carried at amortized cost;
  • Explicitly excludes derivative losses reported at fair value and allocated to IMR;
  • Special annual statement write-in, line-item reporting to asset page, and special surplus;
  • Additional statutory note disclosures detailing the individual net negative IMR components.

This is out for exposure. Stay tuned for the final recipe.