The Statutory Accounting Principles Working Group (SAPWG) began the “Investment Classification Project” in 2013 with the intent to undertake a comprehensive project to review the investment Statements of Statutory Accounting Principles (SSAP). The purpose was to clarify definitions, scope and the accounting methods and related reporting. The SAPWG met virtually on March 2, 2022, to discuss the progress of this project since August 2021 and to expose a draft issue paper which contains updates to the proposed principles-based bond definition. The following report summarizes the key updates to the previous bond definition exposed in August 2021 and key aspects on which the issue paper requests comments.
Readers are encouraged to review our earlier article on the background of this project and the draft issue paper in addition to the summary below. The issue paper does not contain proposed SSAP revisions and notes that that guidance will be needed to address investments that do not qualify as bonds. SAPWG plans to consider revisions to SSAP No. 26R - Bonds and SSAP No. 43R - Loan-Backed and Structured Securities after it reviews comments from this exposure. The comment deadline for this exposure is May 6, 2022.
Exposed edits to the principles-based bond definition:
- U.S. Treasury Inflation-Indexed Securities (U.S. TIPS) explicitly included in the bond definition: U.S. TIPS are variable-based on an inflation component (without the risk of loss), so a specific exemption was added to clarify their treatment as a bond. A similar exception currently exists in SSAP No. 26R.
- Clarification of the pass-through investments permitted as issuer credit obligations: The prior definition identified equipment trust certificates, enhanced equipment trust certificates and credit-tenant loans that were fully supported by a lease as issuer credit obligations. The definition is now more generic and clarifies that “fully supported” requires cash flows for the repayment of all interest and 95% of the principal.
- Removal of hybrid securities reference: edits clarify that hybrid securities (e.g., trust preferred and Yankee bonds) are not prohibited from reporting on Schedule D-1, but that such items shall be reviewed in accordance with the bond definition and reported on Schedule D-1 only if they qualify.
- Clarification of “returns” in investments: an investment with the potential for “additional returns” must be assessed as if the “additional returns” are a component of the investment’s interest.
- Deletion of stapling restriction: the prior exposure included an example where “equity interests” from a tranche (such as residuals) were required to be held by a reporting entity when holding debt tranches. All holdings under such situations, including the debt tranches, would not qualify as creditor relationships under the prior definition and would not qualify for bond reporting. This example was deleted as the study group of industry and regulators concluded that tranches which separately qualify as bonds should be reported as bonds even if other tranches from a structure that do not qualify as bonds are also held by the reporting entity.
- Revisions to example involving portfolio of equity interests as creditor relationships: the example for when a reporting entity invests in a debt instrument issued from a special-purpose vehicle that owns underlying equity interests has been revised to provide information to assist users in determining whether the structure qualifies under the rebuttable presumption that a debt instrument collateralized by equity interests does not qualify as a bond.
Aspects the issue paper requests comments on:
- Are there investments that will not qualify as bonds that should be considered for reporting on a different schedule than Schedule BA? Comments on key investment characteristics that would appropriately distinguish these investments are requested.
- For investments that are captured on Schedule BA, should consideration occur to permit an amortized cost approach rather than a lower of cost or fair value measurement method? For investments in which an amortized cost approach is supported, what characteristics can be used to identify/support this measurement method? Should use of NAIC designations be permitted to drive the Schedule BA measurement method for these securities?
- Comments are requested on whether other SSAPs will also be impacted and need to be revised. In addition to SSAP No. 26R and SSAP No. 43R, revisions are also expected to:
- SSAP No. 2R - Cash, Cash Equivalents, Drafts, and Short-Term Investments: as the issue paper proposes that asset-backed securities (ABS) be restricted from reporting as short-term or cash equivalents.
- SSAP No. 103R - Transfers and Servicing of Financial Assets and Extinguishments of Liabilities: to clarify that only beneficial interests that qualify as ABS will be accounted for under SSAP No. 43R.
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