OGC Op. No. 10-08-02
The Office of General Counsel issued the following opinion August 4, 2010, representing the position of the New York State Insurance Department.
RE: Minimum Capital/Minimum Surplus to Policyholders Investments and Permitted Reserve Investments of a Domestic Property/Casualty Insurer
Will an investment by a domestic property/casualty insurer in the Quality Portfolio qualify as either a minimum capital/minimum surplus to policyholders investment or as a “United States government obligation”-type permitted reserve investment?
No. An investment in the Quality Portfolio would not qualify as either a minimum capital/minimum surplus to policyholders investment or a “United States government obligation”-type permitted reserve investment for a domestic property/casualty insurer.
The inquiry involves the question of whether the Quality Portfolio would qualify as a permissible minimum capital/minimum surplus to policyholders investment or a permitted reserve investment for a domestic property/casualty insurer. According to the materials the inquirer submitted with the inquiry, the assets comprising the Quality Portfolio consist exclusively of United States Treasury obligations; obligations of United States government agencies, such as the United States Small Business Administration; and certain government sponsored entities, such as the Federal National Mortgage Association and the Government National Mortgage Association.
The requirements for an investment to qualify as either a minimum capital/minimum surplus to policyholders investment or a permitted reserve investment are set forth, respectively, in New York Insurance Law §§ 1402 and 1404 (McKinney 2006). Section 1402 provides, in pertinent part, as follows:
(a) Before investing its funds in any other investments, every domestic insurer shall invest and maintain an amount equal to the greater of the minimum capital required by law or the minimum surplus to policyholders required to be maintained by law for a domestic stock corporation authorized to transact the same kinds of insurance, only in investments of the types specified in this section which are not in default as to principal or interest. Investments equal in value, determined pursuant to section one thousand four hundred fourteen of this article, to such amount and of such types shall at all times be maintained free and clear from any security interest other than as impressed upon a deposit with any government within the United States for the security of all policyholders or all policyholders and creditors of the insurer or upon trusteed assets held in trust for the security of all policyholders and creditors of the insurer.
(b) Not less than sixty percent of the amount of the required minimum capital or surplus to policyholder investments shall consist of the types specified in paragraphs one and two hereof:
(1) Obligations of the United States or of any agency thereof provided such agency obligations are guaranteed as to principal and interest by the United States.
(2) Direct obligations of this state or of any county, district or municipality thereof.
(3) Direct obligations of any state of the United States.
(4) Obligations secured by first mortgage loans which meet the standards specified in paragraph four of subsection (a) of section one thousand four hundred four of this article on property located in this state.
Section 1404 provides, in pertinent part, as follows:
(a) … [T]he reserve investments of a domestic insurer authorized to make investments under the authority of this section shall consist of the following:
(1) Government obligations. Obligations which are not in default as to principal or interest, which are valid and legally authorized, and which are issued, assumed, guaranteed or insured by:
(A) the United States or by any agency or instrumentality thereof,
(B) any state of the United States,
(C) any territory or possession of the United States or any other governmental unit in the United States, or
(D) any agency or instrumentality of any governmental unit referred to in subparagraphs (B) and (C) of this paragraph… .
(2) Obligations of American institutions.
(A) Obligations which are issued by any solvent American institution or which are assumed or guaranteed by any solvent American institution (other than an insurance company) and which are not in default as to principal or interest … .
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(3) Preferred or guaranteed shares of American institutions.
(A) Preferred or guaranteed shares issued or guaranteed by a solvent American institution… .
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(4) Loans secured by real property. (A) Loans secured by first or second mortgages which are liens on improved real property in the United States (including leasehold estates having an unexpired term of not less than twenty years, inclusive of the term or terms which may be provided by enforceable terms of renewal)… .
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(8) Equity interests. (A) Investments in common shares or partnership interests of any solvent American institution, if:
(i) all its obligations and preferred shares, if any, are eligible as investments under this subsection and
(ii) such equity interests of any such institution except an insurance company are registered on a national securities… .
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Based upon the representations made in our telephone discussion and the “Portfolio Holdings” Appendix to the Quality Portfolio’s Fourth Quarter 2009 Review submitted with the inquiry, it appears that most of the assets1 comprising the Quality Portfolio are United States government agency obligations or United States government guaranteed obligations that would, if held directly by a domestic property/casualty insurer, qualify as either minimum capital/minimum surplus to policyholders investments under Insurance Law § 1402(b)(1) or permitted reserve investments under Insurance Law § 1404(a)(1)(A).
However, an insurer’s ownership interest in the Quality Portfolio is not equivalent to the direct ownership of the underlying assets constituting the Quality Portfolio. This is consistent with the Department’s continually held position of strictly construing the quantitative and qualitative requirements of Article 14 of the Insurance Law. Nothing in the language of Insurance Law §§ 1402 and 1404 can be construed to provide that the indirect ownership of any given asset through an intermediary vehicle is the equivalent of direct ownership of that asset.
Under the Insurance Law, an insurer’s ownership of an interest in any investment vehicle is to be accounted for as an ownership interest in that vehicle and not as the ownership of a pro rata share of the assets held by that investment vehicle. See Insurance Law § 1404(a)(10), which recognizes investment companies (i.e., mutual funds) as distinct investment vehicles. In addition, when analyzing an insurer’s asset positions, the Department does not “look through” intermediate entities. That is, it will not disregard the ownership interest in one entity in order to account for the assets held by that entity. See Office of General Counsel Opinion (March 6, 2002) (noting that an investment in any entity is viewed only as an investment in that entity and not as an aggregation of the holdings of that entity). There are sound policy reasons for this position. For example, a “look through” approach would be administratively impractical, as it would require significant investigation and surveillance into the downstream holdings of any entities or other investment vehicles that an insurer owned.
Accordingly, an investment in the Quality Portfolio would not qualify either as a minimum capital or minimum surplus to policyholders investment or as a United States government agency or United States government guaranteed obligation permitted reserve investment for a domestic property/casualty insurer. An investment in the Quality Portfolio may, however, qualify as a permitted reserve investment pursuant to Insurance Law § 1404(a)(2), as an obligation of an American institution.
For further information you may contact Michael Campanelli at the New York City Office.
1 At least two of the Quality Portfolio’s holdings are corporate debt instruments, specifically, certain high yield notes issued by ABC, Inc. and XYZ, Inc.