Surplus Notes

  • 1989 - SOA - Securitization of Assets, Society of Actuaries - 10p
  • 1995 - SOA - Survival Strategies for Mutuals, Society of Actuaries - 14p
  • 2015 - Book - The Insurance Forum: A Memoir, contains a chapter (Chapter 25) devoted to the subject of surplus notes.,  by Joseph Belth - 11p
  • 2016 0710 - IAIS - Risk-based Global Insurance Capital Standard, Version 1.0 - Public Consultation Document - Comments due by 19 October 2016 - 175p
    • 5 Capital resources - 149p
  • Treatment of Surplus Notes
  • First, the proposed rule indicates there will be limitations placed on the recognition of surplus notes as available capital starting November 2020.
    • As you are undoubtedly aware, surplus notes are an important source of capital for mutual insurance groups and other non-stock companies, some of which are also Savings and Loan Holding Companies.
    • The proposed limitations could require such companies to increase capital in other ways.
  • However, given their structure, the primary alternative source of capital for these companies outside of issuing surplus notes is to raise premium rates.
  • At bare minimum, this could have an adverse impact on policyholders, but could potentially also reduce the availability of certain insurance products.
  • As the primary stewards of policyholder protection, our hope would be to avoid such outcomes.
  • This limitation on surplus notes is also inconsistent with our proposed GCC.

2019 1219 - NAIC to FRB - Re: Docket No. R-1673; RIN 7100-AF 56: Regulatory Capital Rules: Risk-Based Capital Requirements for Depository Institution Holding Companies Significantly Engaged in Insurance Activities - 3p

  • Senator Howard Metzenbaum (D-OH): A surplus note is, in effect, as I understand it, the IOU issued by the insurance company to a lender when the insurance company borrows money from the lender.
    • In other words, the insurance company gets a loan from a bank or from somebody else.
    • The loan is used to make the company look economically healthy when it otherwise might be in trouble. 
  • Now, what I can't believe is that insurance law allow these loans to be entered on the balance sheet as an asset rather than as both an asset and a liability, since the loan must ultimately be paid back.
  • By 1988, surplus notes had inflated the capital of insurance companies by $4.4 billion.
  • Professor Belth of the Insurance Forum says that 35 life insurance companies would be insolvent today without the use of surplus notes to inflate their reserves.
  • Senator Metzenbaum.  Mr. Lennon, I want to tell you I think I read balance sheets-pretty well and P and L sheets pretty well.
    • I have looked-at insurance company statements and I never had any idea what a surplus note was until I got into the intricacies of this hearing, and I am just amazed at what a surplus note is and the fact that it is permitted.
      • I think it comes pretty close to fraudulent misrepresentation.

1990 1210 - GOV (Senate) - Insurance Company Solvency:  Insurance Company Solvency and Reporting Methods, Howard Metzenbaum (D-OH)

  • Every successful life insurance company has to deal with the problem of maintaining its statutory surplus at a time when its sales are increasing.
  • As for surplus notes, because of regulatory restrictions, they are used almost exclusively between affiliated companies.
    • They are of little value to mutual companies (except to capitalize their own subsidiaries).

--  Alan R. Badanes, not a member of the Society, is Vice President of Chase Manhattan Bank in New York

1989 - SOA - Securitization of Assets, Society of Actuaries - 10p

  • 2016 - IAIS - ACLI Comments - FINAL_ACLI response to the IAIS Insurance Capital Standard consultation (Version 1.0) - 16p
    • Q77. - Do existing financial instruments issued by mutual IAIGs (for example, but not limited to surplus notes, Kikin, and other forms of subordinated financial instruments) absorb losses on a going concern basis? Please identify which instrument and explain.
    • A-ACLI - Surplus notes that are issued by mutual IAIGs in the United States can absorb losses on a going concern basis.
      • If the issuing insurance company is in good financial condition, the insurer would make applicable interest and principal payments when due and as permitted by the applicable financial regulator.
      • However, as discussed above, in times where the issuing insurance company is under financial stress, the financial regulator will disallow payments of interest and principal on the surplus notes.
      • When payments are disallowed, the surplus notes and other obligations of the company will not go into default, there is no requirement for a receivership proceeding, and the company can continue to operate in a normal fashion, i.e., the issuing insurance company can still be solvent when the financial regulator determines that no distributions should be allowed.
      • If the insurance company’s financial condition improves, the financial regulator may permit distributions to be made, but while distributions are not permitted, the insurance company can continue to operate as a going concern.
      • There are examples of this type of scenario in the marketplace today.