Tuesday, April 10, 2018

No. 261: Long-Term Care Insurance—More on the Kansas Insurance Department's Bailout of General Electric

In No. 258 (posted March 19, 2018) I reported on the Kansas Insurance Department's use of a "permitted accounting practice" to spread over several years the impact of a huge charge taken by General Electric Company (GE) relating to an old run-off block of long-term care (LTC) insurance policies. Readers immediately informed me of other dimensions of the subject, which I discuss in this follow-up.

Here I also discuss two incidents, one in 1990 regarding Life Assurance Company of Pennsylvania (LACOP) and the other in 1993 regarding The Prudential Insurance Company of America. In both incidents major differences occurred between an accounting practice used by a domiciliary state and an accounting practice used by another state.

A Serious Disclosure Issue
Employers Reassurance Corporation (ERAC) is one of the Kansas-domiciled GE subsidiaries that reinsured the old block of GE's LTC insurance policies. ERAC asked the Kansas department for a "permitted accounting practice to spread and delay over seven years" the full recognition of the $15 billion increase in reserves that otherwise would have been required under statutory accounting principles promulgated by the National Association of Insurance Commissioners.

Yet GE, in documents filed with the Securities and Exchange Commission (SEC), did not disclose the name of the reinsurer. Instead GE said the reinsurer is "North American Life and Health." There is no such company. The nondisclosure is serious because the only detailed description of the "permitted practice" appears in a note in the 2017 statutory financial statement ERAC filed in Kansas and other states.

In response to my inquiry, the Kansas department said GE has two Kansas-domiciled life-health subsidiaries, ERAC and Union Fidelity Life Insurance Company (UFLIC). The department said "North American Life and Health" is a term used by GE to discuss the results of its run-off insurance operations including both ERAC and UFLIC. The department said that, while UFLIC increased reserves, the company did so in the usual way and therefore did not request a permitted accounting practice. In other words, while the department approved a permitted accounting practice for ERAC, there was no need for UFLIC to request or for the department to approve a permitted accounting practice for UFLIC.

After No. 258 was posted, a reader sent me a transcript of GE's "insurance update call" held January 16, 2018. That was the day GE disclosed, in a filing with the SEC, the shocking news of the need for $15 billion of additional reserves for the old LTC block. In the call GE officials mentioned "North America Life & Health" eight times, but did not mention ERAC. Note that the second word of the company name used in the update call was "America," but in the SEC filing was "American."

Another Serious Disclosure Issue
When I asked the Kansas department some questions about ERAC, the department said that ERAC requested the "permitted accounting practice" on December 29, 2017, and that the department approved it on January 11, 2018. After No. 258 was posted, a reader (not the one who sent me the transcript of the update call) pointed out something I had missed. January 16, 2018 was the date on which GE first disclosed the need for the $15 billion increase in reserves. Yet ERAC requested the permitted practice on December 29, 2017.

I asked the Kansas department whether GE knew of the need for the $15 billion of additional reserves on December 29. I said I was asking the question because GE did not publicly disclose the $15 billion figure until January 16. In response, the department mentioned the confidentiality of such matters under Kansas law and suggested I contact GE.

The LACOP Incident
Pennsylvania-domiciled LACOP reinsured a substantial amount of business with Oklahoma-domiciled American Standard Life and Accident Insurance Company (ASLAIC). In 1988 the Oklahoma insurance commissioner placed ASLAIC under state supervision. LACOP at the time was licensed in 37 states, including California. In April 1990 the California insurance commissioner disallowed the credit LACOP had taken for the reinsurance with ASLAIC, declared LACOP insolvent, and barred LACOP from selling new business in California.

In October 1990, about two weeks after LACOP terminated all its agents and stopped selling new business altogether, the Pennsylvania insurance commissioner issued an order barring LACOP from selling new business anywhere. In November 1990 the Pennsylvania commissioner filed a court petition seeking approval to liquidate LACOP. In short, there was a period of about six months during which LACOP was barred from selling new business in California but was allowed to sell new business in other states, including its domiciliary state of Pennsylvania.

The Prudential Incident
In 1993 New Jersey-domiciled Prudential issued $300 million of surplus notes, thereby launching what I call the "surplus note revolution." Prior to that time, only small amounts of surplus notes had been issued by small mutual insurance companies that were in serious financial trouble. Prudential, which was not in financial trouble, issued the surplus notes for income tax reasons. The action set off a stampede of a total of more than $3 billion of surplus notes issued in 1993 and 1994 by many major mutual insurance companies.

State surplus note laws require the prior permission of the domiciliary regulator before interest or principal payments may be made. The New Jersey insurance commissioner deviated from that requirement by merely requiring the company to meet certain financial tests. The New York superintendent of insurance objected to that weakening of the rules and required Prudential to include the $300 million of surplus notes as a liability rather than as surplus in the company's statutory financial statement filed in New York. The New York action was not widely known, because it was reflected only in the New York version of the financial statement. The official New Jersey version of the statement was circulated to other states, to rating firms, and to other interested parties.

General Observations
In No. 258 I expressed skepticism about the Kansas department's explanation for GE's failure to mention ERAC in its January 16 SEC filing. Now, after seeing the transcript of the update call, it is my opinion that GE omitted ERAC's name to avoid calling attention to the first note in the "Notes to Financial Statements" in ERAC's 2017 statutory financial statement. That note, to my knowledge, is the only public disclosure of the details of the permitted accounting practice to spread and delay over seven years the $15 billion of additional reserves for the old LTC block.

With regard to the timing of the disclosure of the $15 billion reserve shortfall, I do not understand why GE delayed for at least 18 days the disclosure of the size of the shortfall. I plan to contact GE about the matter after this item is posted.

Available Material
I am offering a 28-page complimentary package consisting of the transcript of GE's January 16 insurance update call (11 pages), selected pages from ERAC's 2017 statutory financial statement (11 pages), The Insurance Forum article about the 1990 LACOP incident (4 pages), and the Forum article about the 1993 Prudential incident (2 pages). Email jmbelth@gmail.com and ask for the April 2018 package about GE's old LTC insurance block.