Notice2022-02383
Framework for the Supervision of Insurance Organizations
Primary source
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Published
February 4, 2022
Issuing agencies
Federal Reserve System
Abstract
The Board is seeking comment on a new supervisory framework for depository institution holding companies significantly engaged in insurance activities, or supervised insurance organizations. The proposed framework would provide a supervisory approach that is designed specifically to reflect the differences between banking and insurance. Within the framework, the application of supervisory guidance and the assignment of supervisory resources would be based explicitly on a supervised insurance organization's complexity and individual risk profile. The proposed framework would formalize the ratings applicable to these firms with rating definitions that reflect specific supervisory requirements and expectations. It would also emphasize the Board's policy to rely to the fullest extent possible on work done by other relevant supervisors, describing, in particular, the way it will rely more fully on reports and other supervisory information provided by state insurance regulators to minimize the burden associated with supervisory duplication.
Full Text
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[Federal Register Volume 87, Number 24 (Friday, February 4, 2022)]
[Notices]
[Pages 6537-6549]
From the Federal Register Online via the Government Publishing Office [<a href="http://www.gpo.gov">www.gpo.gov</a>]
[FR Doc No: 2022-02383]
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FEDERAL RESERVE SYSTEM
[Docket No. OP-1765]
Framework for the Supervision of Insurance Organizations
AGENCY: Board of Governors of the Federal Reserve System (Board).
ACTION: Proposed guidance; request for comments.
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SUMMARY: The Board is seeking comment on a new supervisory framework
for depository institution holding companies significantly engaged in
insurance activities, or supervised insurance organizations. The
proposed framework would provide a supervisory approach that is
designed specifically to reflect the differences between banking and
insurance. Within the framework, the application of supervisory
guidance and the assignment of supervisory resources would be based
explicitly on a supervised insurance organization's complexity and
individual risk profile. The proposed framework would formalize the
ratings applicable to these firms with rating definitions that reflect
specific supervisory requirements and expectations. It would also
emphasize the Board's policy to rely to the fullest extent possible on
work done by other relevant supervisors, describing, in particular, the
way it will rely more fully on reports and other supervisory
information provided by state insurance
[[Page 6538]]
regulators to minimize the burden associated with supervisory
duplication.
DATES: Comments must be received no later than April 5, 2022.
ADDRESSES: You may submit comments, identified by Docket No. OP-1765,
by any of the following methods:
Agency website: <a href="https://www.federalreserve.gov">https://www.federalreserve.gov</a>. Follow the
instructions for submitting comments at <a href="https://www.federalreserve.gov/apps/foia/proposedregs.aspx">https://www.federalreserve.gov/apps/foia/proposedregs.aspx</a>.
Email: <a href="/cdn-cgi/l/email-protection#b2c0d7d5c19cd1dddfdfd7dcc6c1f2d4d7d6d7c0d3dec0d7c1d7c0c4d79cd5ddc4"><span class="__cf_email__" data-cfemail="e496818397ca878b8989818a9097a48281808196858896819781969281ca838b92">[email protected]</span></a>. Include docket and RIN
numbers in the subject line of the message.
Fax: (202) 452-3819 or (202) 452-3102.
Mail: Ann E. Misback, Secretary, Board of Governors of the Federal
Reserve System, 20th Street and Constitution Avenue NW, Washington, DC
20551.
All public comments are available from the Board's website at
<a href="https://www.federalreserve.gov/generalinfo/foia/ProposedRegs.cfm">https://www.federalreserve.gov/generalinfo/foia/ProposedRegs.cfm</a> as
submitted, unless modified for technical reasons or to remove
personally identifiable information at the commenter's request.
Accordingly, comments will not be edited to remove any identifying or
contact information. Public comments may also be viewed in-person in
Room M-4365A, 2001 C St. NW, Washington, DC 20551, between 9:00 a.m.
and 5:00 p.m. during federal business weekdays.
FOR FURTHER INFORMATION CONTACT: Thomas Sullivan, Senior Associate
Director, (202) 475-7656; Matt Walker, Manager, (202) 872-4971; Brad
Roberts, Lead Insurance Policy Analyst, (202) 452-2204; or Joan
Sullivan, Senior Insurance Policy Analyst, (202) 912-4670, Division of
Supervision and Regulation; or Charles Gray, Deputy General Counsel,
(202) 872-7589; Andrew Hartlage, Senior Counsel, (202) 452-6483; or
Christopher Danello, Senior Attorney, (202) 736-1960, Legal Division,
Board of Governors of the Federal Reserve System, 20th and C Streets
NW, Washington, DC 20551.
SUPPLEMENTARY INFORMATION:
Table of Contents
I. Background
II. Summary of the Proposal
III. Applicability, Timing, and Implementation
IV. Other Related Developments
V. Regulatory Analysis
VI. Proposed Text of the Framework
A. Proportionality--Supervisory Activities and Expectations
1. Complex and Noncomplex Supervised Insurance Organizations
2. Supervisory Expectations
a. Governance & Controls
b. Capital Management
c. Liquidity Management
B. Supervisory Ratings
C. Incorporating the Work of other Supervisors
I. Background
The Board of Governors of the Federal Reserve System (Board)
supervises and regulates companies that control one or more banks (bank
holding companies) and companies that are not bank holding companies
that control one or more savings associations (savings and loan holding
companies, and together with bank holding companies, depository
institution holding companies). Congress gave the Board regulatory and
supervisory authority for bank holding companies through the enactment
of the Bank Holding Company Act of 1956 (BHC Act).\1\ The Board's
regulation and supervision of savings and loan holding companies began
in 2011 when provisions of the Dodd-Frank Wall Street Reform and
Consumer Protection Act (Dodd-Frank Act) \2\ transferring supervision
and regulation of savings and loan holding companies from the Office of
Thrift Supervision to the Board took effect.\3\ Upon this transfer, the
Board became the federal supervisory agency for all depository
institution holding companies, including a portfolio of savings and
loan holding companies significantly engaged in insurance activities
(supervised insurance organizations).\4\
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\1\ Ch. 240, 70 Stat. 133.
\2\ Public Law 111-203, 124 Stat. 1376 (2010).
\3\ Dodd-Frank Act tit. III, 124 Stat. at 1520-70.
\4\ Although currently all supervised insurance organizations
are savings and loan holding companies, the proposed framework would
apply to any depository institution holding company that meets the
criteria of a supervised insurance organization.
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The Board has a long-standing policy of supervising holding
companies on a consolidated basis. Consolidated supervision encompasses
all legal entities within a holding company structure and supports an
understanding of the organization's complete risk profile and its
ability to address financial, managerial, operational, or other
deficiencies before they pose a danger to its subsidiary depository
institution(s). The Board's current supervisory approach for
noninsurance depository institution holding companies assesses holding
companies whose primary risks are related to the business of banking.
The risks arising from insurance activities, however, are materially
different from traditional banking risks. The top-tier holding company
for some supervised insurance organizations is an insurance
underwriting company, which is subject to supervision and regulation by
the relevant state insurance regulator as well as consolidated
supervision from the Board; for all of these firms, the state insurance
regulators supervise and regulate the business of insurance
underwriting companies. Additionally, instead of producing consolidated
financial statements based on generally accepted accounting principles,
many of these firms only produce legal entity financial statements
based on Statutory Accounting Principles (SAP) established by states
through the National Association of Insurance Commissioners (NAIC).
In view of these differences, the Board has sought to tailor its
supervision and regulation of supervised insurance organizations. For
example, in 2013, when the Board implemented the Basel III capital
standard in the United States, the Board determined not to apply it to
this group of companies, stating that it would ``explore further
whether and how the proposed rule should be modified for these
companies in a manner consistent with section 171 of the Dodd-Frank Act
and safety and soundness concerns.'' \5\ In 2019, the Board invited
comment on a proposal to establish a risk-based capital framework
designed specifically for supervised insurance organizations, termed
the Building Block Approach, that would adjust and aggregate existing
legal entity capital requirements to determine an enterprise-wide
capital requirement.\6\ In addition, in 2018, the Board did not apply
to these firms the supervisory rating systems applicable to other
depository institution holding companies.\7\ As described in the
Supplementary Information, the proposed supervisory framework
(proposal) represents a significant step in the continuation of the
Board's tailored approach to supervision and regulation for supervised
insurance organizations.
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\5\ Regulatory Capital Rules: Implementation of Basel III, 78 FR
62017, 62027 (October 11, 2013).
\6\ Regulatory Capital Rules: Risk-Based Capital Requirements
for Depository Institution Holding Companies Significantly Engaged
in Insurance Activities, 84 FR 57240 (October 24, 2019).
\7\ See Large Financial Institution Rating System; Regulations K
and LL, 83 FR 58724 (November 21, 2018); Application of the RFI/C(D)
Rating System to Savings and Loan Holding Companies, 83 FR 56081
(November 9, 2018).
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II. Summary of the Proposal
The proposal would establish a transparent framework for
consolidated supervision of supervised insurance organizations. A
depository institution holding company is considered to be a supervised
insurance organization if it
[[Page 6539]]
is an insurance underwriting company or if over 25 percent of its
consolidated assets are held by insurance underwriting subsidiaries.
The proposed framework is designed specifically to account for the
unique risks and business profiles of supervised insurance
organizations resulting mainly from their insurance business. The
framework consists of a risk-based approach establishing supervisory
expectations, assigning supervisory resources, and conducting
supervisory activities; the formalization of a supervisory rating
system; and a description of how examiners would work with state
insurance regulators to limit the burden associated with supervisory
duplication.
A. Proportionality
The proposed supervisory framework describes a supervisory approach
that is proportional to the risks of each supervised insurance
organization. This approach is designed to address the unique features
of insurance activities and thereby not replicate the standards for the
supervision of banking activities. The proposed supervisory framework
would result in supervisory activities and the application of
supervisory guidance that look beyond the size of the institution and
instead focus on the material risks that could pose a threat to the
organization's safety and soundness and, in particular, its ability to
serve as a source of strength for its depository institution(s).
To achieve this, Federal Reserve staff would first classify
supervised insurance organizations as either complex or noncomplex
based on their risk profile. Supervisory activities would vary based on
this determination and also based on each firm's individual risk
profile. Complex supervised insurance organizations have a higher level
of risk and therefore require more frequent and intense supervisory
attention. Noncomplex supervised insurance organizations, due to their
lower risk profile, require less intense supervisory oversight. In
making this classification, the Federal Reserve would consider at least
the factors listed in the proposal, which include: quality and level of
capital and liquidity, size of its depository institution(s),
organizational structure, unregulated and/or unsupervised activities,
international exposure, product and portfolio risks, supervisory
ratings and opinions, and interconnectedness.
Riskier firms would be classified as complex, which would result in
the assignment of a dedicated team responsible for consolidated
supervision of the organization. Complex firms would be subject to
routine continuous monitoring and targeted examinations as necessary to
properly understand and assess the firm. Less risky firms would be
classified as noncomplex. Noncomplex firms would be subject to an
annual examination to assess the firm and assign ratings. This approach
make it possible for a firm with over $100 billion in total assets to
be classified as noncomplex if, for example, most of those assets were
a result of traditional insurance activities, it had a small depository
institution, it had a history of maintaining relatively large capital
and liquidity buffers, and it was viewed overall as well run with
little risk to its depository institution. Supervisory activities would
also be adapted among complex firms to reflect the actual risk profile
of the firm and to focus on risks that are most likely to threaten the
holding company's ability to act as a source of strength for its
depository institution(s).
Applicable practices, as described in supervisory guidance, that
are consistent with the Board's expectations for organizations
operating in a safe and sound manner, would also vary based on the
complexity classification and based on each firm's risk profile. The
firm's risk profile would be reassessed by the Federal Reserve annually
and Federal Reserve examiners would inform the firm if different
supervisory guidance had become more relevant as a result of a material
change to the firm's risk profile.
Question 1. What additional factors, if any, should the Board
consider when considering the complexity of supervised insurance
organizations?
Question 2. What other considerations beyond those outlined in this
proposal should be considered in the Board's assessment of whether a
supervised insurance organization has sufficient financial and
operational strength and resilience to maintain safe and sound
operations?
Question 3. What additional clarity, if any, is needed to describe
the supervisory guidance related to the evaluation of a firm's
governance and controls, capital management, and liquidity management
under the proposed framework?
Question 4. What additional differences exist between supervised
insurance organization and bank holding companies that should be
considered and reflected in the framework? What additional measures, if
any, could the Board take to appropriately tailor its approach to
supervising these firms?
B. Ratings
Since 2011, supervised insurance organization have been assigned
indicative ratings under the Board's RFIC/(D) framework (RFI
framework).\8\ The proposal would establish a unique supervisory rating
system that, if adopted, would replace the indicative RFI ratings for
all supervised insurance organizations. Under the proposed framework,
firms would be rated annually in each of three components: Capital
Management, Liquidity Management, and Governance and Controls. Firms
would be assigned one of four ratings for each of the three components.
The ratings are Broadly Meets Expectations, Conditionally Meets
Expectations, Deficient-1, and Deficient-2 and would reflect how
consistent a firm's practices are with the Board's expectations for
safe and sound operations. As described above, despite rating the same
components for all supervised insurance organizations and using the
same ratings, applicable supervisory guidance would be based on each
firm's specific risk profile and would vary significantly between the
smallest, least risky firms and the largest, riskiest firms. The
proposed ratings are modeled after the LFI framework, although they
have been modified in structure and application to support their use
for supervised insurance organizations of all sizes and risk profiles.
For example, instead of emphasizing in the rating components and
definitions the importance of continuing to serve as a financial
intermediary under stress, the proposal stresses the obligation that
supervised insurance organizations operate in a safe and sound manner
and serve as a source of financial and managerial strength for their
depository institution(s).
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\8\ SR 19-4: Supervisory Ratings System for Holding Companies
with Total Consolidated Assets Less Than $100 billion, https://
<a href="http://www.federalreserve.gov/supervisionreg/srletters/sr1904.htm">www.federalreserve.gov/supervisionreg/srletters/sr1904.htm</a>.
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Question 5. What additional clarity, if any, is needed to describe
the ratings process, including the ratings definitions?
Question 6. Should the final framework include a composite rating?
C. Incorporating the Work of Other Supervisors
Effective consolidated supervision requires collaborative
relationships with all relevant supervisors and regulators. The Board
respects the individual statutory authorities and responsibilities of
other supervisors and regulators and works to develop appropriate
information flows and coordination so
[[Page 6540]]
that each supervisor's responsibilities can be carried out effectively
while limiting the burden associated with supervisory duplication. In
developing its overall assessment of a supervised insurance
organization, the proposed framework emphasizes the importance of these
relationships and that Federal Reserve examiners rely to the fullest
extent possible on information available from, and examination reports
by, other relevant supervisors and regulators. Because supervised
insurance organizations have material insurance business lines, the
proposed framework describes how the Federal Reserve would leverage the
work done by the state insurance regulators, including examples of
specifics insurance supervisory reports that will be used as input into
the Federal Reserve's assessment and ratings. With respect to the
business of insurance, the Board specifically leaves to the state
insurance regulators the oversight of pricing and reserving of
insurance liabilities.
Question 7. What additional measures, if any, should the Board take
to fulfill its goal to rely to the fullest extent possible on work of
other relevant supervisors, including the state insurance regulators?
III. Applicability, Timing, and Implementation
Federal Reserve examiners would use the proposed framework as their
basis for the supervision of insurance organizations. A depository
institution holding company is considered to be a supervised insurance
organization if it is an insurance underwriting company or if over 25
percent of its consolidated assets are held by insurance underwriting
subsidiaries. Other depository institution holding companies can also
be designated as supervised insurance organizations if Federal Reserve
staff decides, based on the firm's risk profile, that doing so would
result in more effective supervision.
The Board proposes that the Federal Reserve would classify
supervised insurance organizations as complex or noncomplex and initial
ratings during the calendar year in which the final framework becomes
effective. Due to differences in the timing of supervisory cycles
across the portfolio, firms may receive their initial ratings at
different times during the year.
Consistent with current Federal Reserve practice on the assignment
and communication of supervisory ratings by examiners, ratings under
the proposed framework would be assigned and communicated to firms on
an annual basis, and more frequently as warranted. In accordance with
the Board's regulations governing confidential supervisory information,
ratings assigned under the proposed framework would be communicated by
the Federal Reserve to the firm but not disclosed to other persons
except in accordance with the Federal Reserve Act and the Board's Rules
Regarding Availability of Information.\9\
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\9\ 12 U.S.C. 326; 12 CFR part 261.
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Question 10. What additional clarity, if any, is needed to describe
which firms would be subject to the proposed framework?
IV. Regulatory Analysis
Paperwork Reduction Act
There is no collection of information required by this proposal
that would be subject to the Paperwork Reduction Act of 1995, 44 U.S.C.
3501 et seq.
V. Proposed Text of the Supervisory Framework
This framework describes the Federal Reserve's approach to
consolidated supervision of supervised insurance organizations.\1\ The
framework is designed specifically to account for the unique risks and
business profiles of these firms resulting mainly from their insurance
business. The framework consists of a risk-based approach to
establishing supervisory expectations, assigning supervisory resources
and conducting supervisory activities; a unique supervisory rating
system; and a description of how Federal Reserve examiners will work
with the state insurance regulators to limit the burden associated with
supervisory duplication.
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\1\ In this framework, a ``supervised insurance organization''
is a depository institution holding company that is an insurance
underwriting company, or that has over 25 percent of its
consolidated assets held by insurance underwriting subsidiaries, or
has been otherwise designated as a supervised insurance organization
by Federal Reserve staff.
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A. Proportionality--Supervisory Activities and Expectations
Consistent with the Federal Reserve's approach to risk-based
supervision, supervisory guidance will be applied and supervisory
activities will be conducted in a manner that is proportionate to each
firm's individual risk profile. This begins by classifying each
supervised insurance organization as either complex or noncomplex based
on their risk profile and continues with a tailored application of
supervisory guidance and supervisory activities. Federal Reserve
supervisory teams will conduct a risk assessment each year based on
their current understanding of the firm's risks. Any change in the risk
assessment will be communicated to the firm's board and senior
management, along with potential implications to the relevance of
certain expectations communicated through supervisory guidance.\2\ The
risk assessment also drives supervisory activities, which will be
focused on resolving supervisory knowledge gaps, monitoring the safety
and soundness of the firm, and assessing the firm's management of risks
that could potentially impact its ability to act as a source of
managerial and financial strength for its depository institution(s).
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\2\ This could happen if a firm's risk profile changes
significantly and typically follows a strategic change for the firm
(a material acquisition, divestiture, or product offering change).
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1. Complex and Noncomplex Supervised Insurance Organizations
Each supervised insurance organization is classified by the Federal
Reserve as either complex or noncomplex based on its risk profile. The
classification serves as the basis for determining the level of
supervisory resources dedicated to each firm, as well as the frequency
and intensity of supervisory activities.
Complex: Complex firms have a higher level of risk and therefore
require more frequent and intense supervisory attention. Federal
Reserve dedicated supervisory teams are assigned to execute approved
supervisory plans led by a dedicated Central Point of Contact. The
activities listed in the supervisory plans focus on understanding any
of a firm's risks that could threaten the safety and soundness of the
consolidated organization or a firm's ability to act as a source of
strength for its depository institution(s). These activities typically
include continuous monitoring, targeted topical examinations,
coordinated reviews, and an annual roll-up assessment resulting in
ratings for the three rating components. The focus, frequency, and
intensity of supervisory activities are based on the firm's unique risk
profile and, therefore, can vary among complex firms. The relevance of
certain supervisory guidance also may vary among complex firms based on
each firm's unique risk profile. Supervisory guidance targeted at
smaller bank holding companies, for example, may be more relevant for
complex supervised insurance organizations with limited inherent
exposure to a certain risk.
Noncomplex: Noncomplex firms, due to their lower risk profile,
require less supervisory oversight relative to complex firms. The
supervisory activities for these firms occur primarily
[[Page 6541]]
during an annual full-scope inspection resulting in the assignment of
the three component ratings. The supervision of noncomplex firms relies
more heavily on the reports and opinions of a firm's other relevant
supervisors, although these firms are subject to continuous monitoring
and coordinated reviews as appropriate. The focus and types of
supervisory activities for noncomplex firms are also set based on the
unique risks of each firm.
Factors considered when classifying a supervised insurance
organization as either complex or noncomplex include the organization's
quality and level of capital and liquidity, the size of its depository
institution, the complexity of its organizational structure, the nature
and extent of any unregulated and/or unsupervised activities, any
international exposure,\3\ its product and portfolio risks, ratings and
opinions from its regulatory supervisors, and its potential
interconnectedness with the broader financial system.
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\3\ Supervised insurance organizations designated by their
Group-Wide Supervisor as an Internationally Active Insurance Group
(IAIG) are classified as complex.
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For supervised insurance organizations that are new to Federal
Reserve supervision, the classification as complex or noncomplex is
done and communicated during the application phase after initial
discussions with the firm. The firm's risk profile, including the
characteristics listed above, and the proposed classification are
vetted and decided by staff at the relevant Reserve Bank and the Board.
Large, well-established, and financially strong supervised insurance
organization with relatively small depository institutions can be
classified as noncomplex if Federal Reserve staff considers the
corresponding level of supervisory oversight sufficient to accomplish
its objectives. Although the risk profile is the primary basis for
determining a firm's classification, a firm is automatically classified
as complex if its depository institution's average assets exceed $100
billion.
2. Supervisory Expectations
Supervised insurance organizations are expected to operate in a
safe and sound manner, to comply with all applicable laws and
regulations, and to possess sufficient financial and operational
strength to serve as a source of strength for their depository
institution(s) through a range of stressful yet plausible conditions.
The management and risk management practices necessary to meet these
expectations will vary based on a firm's specific risk profile and will
vary significantly between the smallest, least risky firms and the
largest, riskiest firms. Guidance describing supervisory expectations
for safe and sound practices can be found in Supervision & Regulation
(SR) letters published by the Board and other supervisory material.
Supervisory guidance most relevant to a specific supervised insurance
organization is driven by the unique risk profile of the firm. The
firm's risk profile is reassessed by the Federal Reserve annually.
Federal Reserve examiners will inform the firm if different supervisory
guidance becomes more relevant as a result of a material change to the
firm's risk profile. This is typically only the result of a significant
business decision, like an acquisition, divestiture, or change to the
firm's product offering or asset portfolio. This section describes
general safety and soundness expectations and how the Board has adapted
its supervisory expectations to reflect the unique characteristics of
supervised insurance organization. The section is organized using the
three rating components for--Governance and Controls, Capital
Management, and Liquidity Management.
a. Governance and Controls
The Governance and Controls rating is derived from an assessment of
the effectiveness of a firm's (1) board and senior management
effectiveness, and (2) independent risk management and controls. All
firms are expected to align their strategic business objectives with
their risk appetite and risk management capabilities; maintain
effective and independent risk management and control functions
including internal audit; promote compliance with laws and regulations;
and remain a source of financial and managerial strength for their
depository institution(s). When assessing governance and controls,
Federal Reserve examiners consider a firm's risk management
capabilities relative to its risk exposure within the following areas:
Internal audit, credit risk, legal and compliance risk, market risk,
model risk, and operational risk, including cybersecurity/information
technology and third party risk.
Governance & Controls Expectations
<bullet> Despite differences in their business models and the
products offered, insurance companies and banks are expected to have
effective and sustainable systems of governance and controls to manage
their respective risks. The G&C framework for a supervised insurance
organization should:
[cir] Clearly define roles and responsibilities throughout the
organization;
[cir] Include policies and procedures, limits, requirements for
documenting decisions, and decision-making and accountability chains of
command; and
[cir] Provide timely information about risk and corrective action
for non-compliance or weak oversight, controls, and management.
<bullet> The Board expects the sophistication of the G&C framework
to be commensurate with the size, complexity, and risk profile of the
firm. As such, G&C expectations for complex firms will be higher than
that for noncomplex firms but will also vary based on each firm's
unique risk profile.
<bullet> The enhanced prudential standards rule under Regulation YY
\4\ is not applicable to supervised insurance organizations. Unlike
large banking organizations, these firms are not required by regulation
to maintain a risk committee that periodically reviews and approves the
risk management policies of the firm's operations and oversees the
operation of its risk management framework, nor are they required by
regulation to have a chief risk officer. The Board expects supervised
insurance organization to have a risk management and control framework
that is commensurate with their structure, risk profile, complexity,
activities, and size. For any chosen structure, the firm's board is
expected to have the capacity, expertise, and sufficient information to
discharge risk oversight and governance responsibilities in a safe and
sound manner. The chief risk officer facilitates an enterprise-wide
approach to the identification and management of all risks across the
organization and while the designation of a chief risk officer is not
required, most large insurance companies have found value in having an
independent chief risk officer. The Board cautions boards that they may
be susceptible to undue risk and responsibility without a truly
independent chief risk officer, which may result in safety and
soundness concerns, particularly with complex firms, for whom the Board
may require the designation of an independent chief risk officer. Firms
that do not have a designated chief risk officer should have sufficient
compensating controls in place to ensure that the head of risk
management has adequate independence and stature to provide effective
challenge. Likewise, the Federal Reserve may require a firm's board to
establish a risk committee if it is not clear that the current board
[[Page 6542]]
structure provides sufficient oversight of the firm's risk management
framework and practices.
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\4\ 12 CFR part 252.
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In Assigning a G&C Rating, Federal Reserve Examiners Evaluate
<bullet> Board and Senior Management Effectiveness--The firm's
board is expected to exhibit certain attributes consistent with
effectiveness, including: (i) Setting a clear, aligned, and consistent
direction regarding the firm's strategy and risk appetite; (ii)
directing senior management regarding board reporting; (iii) overseeing
and holding senior management accountable; (iv) supporting the
independence and stature of independent risk management and internal
audit; and (v) maintaining a capable board and an effective governance
structure. As the consolidated supervisor, the Board focuses on the
board of the supervised insurance organization and its committees.
Complex firms are expected to take into consideration the Board's
guidance on board of directors' effectiveness.\5\ In assessing the
effectiveness of a firm's senior management, Federal Reserve examiners
consider the extent to which senior management effectively and
prudently manages the day-to-day operations of the firm and provides
for ongoing resiliency; implements the firm's strategy and risk
appetite; identifies and manages risks; maintains an effective risk
management framework and system of internal controls; and promotes
prudent risk taking behaviors and business practices, including
compliance with laws and regulations such as those related to consumer
protection and the Bank Secrecy Act/Anti-Money Laundering and Office of
Foreign Assets Control (BSA/AML and OFAC). Federal Reserve examiners
evaluate how the framework allows management to be responsible for and
manage all risk types, including emerging risks, within the business
lines. Examiners rely to the fullest extent possible on insurance and
bank supervisors' examination reports and information concerning risk
and management in specific lines of business, including relying
specifically on state insurance regulators to evaluate and assess how
firms manage the pricing, underwriting, and reserving risk of their
insurance operations.
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\5\ SR 21-3: Supervisory Guidance on Board of Directors'
Effectiveness, <a href="https://www.federalreserve.gov/supervisionreg/srletters/SR2103.htm">https://www.federalreserve.gov/supervisionreg/srletters/SR2103.htm</a>.
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<bullet> Independent Risk Management and Controls--In assessing a
firm's independent risk management and controls, Federal Reserve
examiners consider the extent to which independent risk management
effectively evaluates whether the firm's risk appetite framework
identifies and measures all of the firm's risks; establishes
appropriate risk limits; and aggregates, assesses and reports on the
firm's risk profile and positions. Additionally, the firm is expected
to demonstrate that its internal controls are appropriate and tested
for effectiveness and sustainability.
<bullet> Internal Audit is an integral part of a supervised
insurance organization's internal control system and risk management
structure. An effective internal audit function plays an essential role
by providing an independent risk assessment and objective evaluation of
all key governance, risk management, and internal control processes.
Internal audit is expected to effectively and independently assess the
firm's risk management framework and internal control systems, and
report findings to senior management and to the firm's audit committee.
Despite differences in business models, the Board expects the largest,
most complex supervised insurance organizations to have internal audit
practices in place that are similar to those at banking organizations
and as such, no modification to existing guidance is required for these
firms.\6\ At the same time, the Board recognizes that firms should have
an internal audit function that is appropriate to their size, nature,
and scope of activities. Therefore, for noncomplex firms, Federal
Reserve examiners will use the expectations in the insurance company's
domicile state's Annual Financial Reporting Regulation (NAIC Model
Audit Rule 205), or similar state regulation, to assess the
effectiveness of a firm's internal audit function.
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\6\ Regulatory guidance provided in SR 03-05 Amended Interagency
Guidance on the Internal Audit Function and its Outsourcing, <a href="https://www.federalreserve.gov/boarddocs/srletters/2003/sr0305.htm">https://www.federalreserve.gov/boarddocs/srletters/2003/sr0305.htm</a> and SR
13-1 Supplemental Policy Statement on the Internal Audit Function
and Its Outsourcing, <a href="https://www.federalreserve.gov/supervisionreg/srletters/sr1301.htm">https://www.federalreserve.gov/supervisionreg/srletters/sr1301.htm</a>, are applicable to complex supervised insurance
organizations only.
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The principles of sound risk management described in the previous
sections apply to the entire spectrum of risk management activities of
a supervised insurance organization, including but not limited to:
<bullet> Credit risk, which arises from the possibility that a
borrower or counterparty will fail to perform on an obligation. Fixed
income securities, by far the largest asset class for insurance
companies, is the largest source of credit risk. This is unlike banks,
where loans generally make up the largest portion of balance sheet
assets. Life insurer investment portfolios in particular are generally
characterized by longer duration holdings compared to those of banks.
Additionally, an insurance company's reinsurance recoverables/
receivables arising from the use of third-party reinsurance and
participation in regulatory required risk-pooling arrangements expose
the firm to additional counterparty credit risk. The Federal Reserve
will scope examination work based on a firm's level of inherent credit
risk. The level of inherent risk will be determined by analyzing the
composition, concentration, and quality of the consolidated investment
portfolio; the amount of a firm's reinsurance recoverables and the
credit quality of the individual reinsurers; and credit exposures
associated with derivatives, securities lending, or other activities
that may also have off-balance sheet counterparty credit exposures. In
determining the effectiveness of a firm's management of its credit
risk, Federal Reserve examiners will rely, where possible, on the
assessments made by other relevant supervisors for the bank and the
insurance companies. In its own assessment, the Federal Reserve will
determine whether the board and senior management have established an
appropriate credit risk governance framework consistent with the firm's
risk appetite; whether policies, procedures and limits are adequate and
provide for ongoing monitoring, reporting and control of credit risk;
the adequacy of management information systems as it relates to credit
risk; and the sufficiency of internal audit and independent review
coverage of credit risk exposure.
<bullet> Market risk, which arises from exposures to movements in
market prices as a result of underlying changes in, for example,
interest rates, equity prices, foreign exchange rates, commodity
prices, or real estate prices. The Federal Reserve will scope
examination work based on a firm's level of inherent market risk
exposure, which is normally driven by the primary business line(s) in
which the firm is engaged as well as the structure of the investment
portfolio. While interest rate risk (IRR) differs between insurance
companies and banks, the degree of IRR also differs based on the type
of insurance products the firm offers. IRR is a more significant risk
factor for life insurers than for property/casualty (P/C) insurers
since life and annuity products are often spread-based, longer in
duration, may include
[[Page 6543]]
embedded product guarantees, and can pose disintermediation risk. P/C
insurers, especially property insurers, generally offer short-term
contracts with the potential for frequent re-pricing, are subject to
much less disintermediation risk. A firm may be exposed to inherent
market risk due to its investment portfolio or as result of its product
offerings, including variable and indexed life insurance and annuity
products, or asset/wealth management business. Generally foreign
exchange and commodity risk is low for supervised insurance
organizations but could exist for some complex firms. Firms are
expected to have sound risk management infrastructure that adequately
identifies, measures, monitors, and controls any material or
significant forms of inherent market risks to which it is exposed.
<bullet> Model risk is the potential for adverse consequences from
decisions based on incorrect or misused model outputs and reports.
Model risk can lead to financial loss, poor business and strategic
decision-making, or damage to a firm's reputation. Supervised insurance
organizations are often heavily reliant on models for product pricing
and reserving, risk and capital management, strategic planning and
other decision-making purposes. A sound model risk management framework
helps manage this risk.\7\ Federal Reserve examiners will take into
account the firm's size, nature, and complexity, as well as the extent
of use and sophistication of its models when assessing its model risk
management program. Examiners focus on the governance framework,
policies and controls, and aggregated model risk management through a
holistic evaluation of the firm's practices. The Federal Reserve's
review of a firm's model risk management program complements the work
of the firm's other relevant supervisors. A sound model risk management
framework includes three main elements: (1) An accurate model inventory
and an appropriate approach to model development, implementation, and
use; (2) effective model validation and continuous model performance
monitoring; and (3) a strong governance framework that provides
explicit support and structure for model risk management through
policies defining relevant activities, procedures that implement those
policies, allocation of resources, and mechanisms for evaluating
whether policies and procedures are being carried out as specified,
including internal audit review. The Federal Reserve will rely on work
already conducted by other relevant supervisors and appropriately
collaborate with the state insurance regulators on their findings
related to insurance models. With respect to the business of insurance,
Federal Reserve examiners focus on the firm's adherence to its own
policies and procedures and the comprehensiveness of model validation
rather than technical specifications such as the appropriateness of the
model, its assumptions or output. The Federal Reserve may request that
firms provide model documentation or model validation reports for
insurance and bank models when performing transaction testing.
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\7\ SR 11-7 Guidance on Model Risk Management is applicable to
supervised insurance organizations.
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<bullet> Legal risk arises from the potential that unenforceable
contracts, lawsuits, or adverse judgments can disrupt or otherwise
negatively affect the operations or financial condition of a supervised
insurance organization. Compliance risk is the risk of regulatory
sanctions, fines, penalties or losses resulting from failure to comply
with laws, rules, regulations, or other supervisory requirements
applicable to a firm. By offering multiple financial service products
that may include insurance, annuity, banking, services provided by
securities broker-dealers, and asset and wealth management products,
provided through a diverse distribution network, supervised insurance
organizations are inherently exposed to a significant amount of legal
and compliance risk. As the consolidated supervisor, the Board expects
firms to have an enterprise-wide legal and compliance risk management
program that covers all business lines, legal entities, and
jurisdictions of operation. Firms are expected to have compliance risk
management governance, oversight, monitoring, testing, and reporting
commensurate with their size and complexity, and to ensure compliance
with applicable laws and regulations. The principles-based guidance in
existing SR letters related to legal and compliance risk is applicable
to supervised insurance organizations.\8\ For both complex and
noncomplex firms, Federal Reserve examiners rely on the work of the
firm's other supervisors. As described in section C, Incorporating the
Work of Other Supervisors, the opinions, examination results, ratings,
supervisory issues, and enforcement actions from other supervisors will
be incorporated into a consolidated assessment of the enterprise-wide
legal and compliance risk management framework.
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\8\ SR 08-8 Compliance Risk Management Programs and Oversight at
Large Banking Organizations with Complex Compliance Profiles,
<a href="https://www.federalreserve.gov/boarddocs/srletters/2008/SR0808.htm">https://www.federalreserve.gov/boarddocs/srletters/2008/SR0808.htm</a>,
is applicable to complex supervised insurance organizations. For
noncomplex firms, the Federal Reserve will assess legal and
compliance risk management based on the guidance in SR 16-11
Supervisory Guidance for Assessing Risk Management at Supervised
Institutions with Total Consolidated Assets Less than $50 Billion,
<a href="https://www.federalreserve.gov/supervisionreg/srletters/sr1611.htm">https://www.federalreserve.gov/supervisionreg/srletters/sr1611.htm</a>.
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[cir] Money laundering, terrorist financing and other illicit
financial activity risk is the risk of providing criminals access to
the legitimate financial system and thereby being used to facilitate
financial crime. This financial crime includes laundering criminal
proceeds, financing terrorism, and conducting other illegal activities.
Money laundering and terrorist financing risk is associated with a
financial institution's products, services, customers, and geographic
locations. This and other illicit financial activity risks can impact a
firm across business lines, legal entities, and jurisdictions. A
reasonably designed compliance program generally includes a structure
and oversight that mitigates these risks and supports regulatory
compliance with both Bank Secrecy Act/Anti-Money Laundering (BSA/AML)
and Office of Foreign Assets Control (OFAC) requirements. Although OFAC
regulations are not part of the BSA, OFAC compliance programs are
frequently assessed in conjunction with BSA/AML. Supervised insurance
organizations are not defined as financial institutions under the BSA
and, therefore, are not required to have an AML program, unless the
firm is directly selling certain insurance products. However, certain
subsidiaries and affiliates of supervised insurance organizations, such
as insurance companies and banks, are defined as financial institutions
under 31 U.S.C. 5312(a)(2) and must develop and implement a written
BSA/AML compliance program as well as comply with other BSA regulatory
requirements. Unlike banks, insurance companies' BSA/AML obligations
are limited to certain products, referred to as covered insurance
products.\9\ The volume of
[[Page 6544]]
covered products, which the Financial Crimes Enforcement Network
(FinCEN) has determined to be of higher risk, is an important driver of
supervisory focus. In addition, as U.S. persons, all supervised
insurance organizations (including their subsidiaries and affiliates)
are subject to Office of Foreign Assets Control (OFAC) regulations.
Federal Reserve examiners assess all material risks that each firm
faces, extending to whether business activities across the consolidated
organization, including within its individual subsidiaries or
affiliates, comply with the legal requirements of BSA and OFAC
regulations. In keeping with the principles of a risk-based framework
and proportionality, Federal Reserve supervision for BSA/AML and OFAC
primarily focuses on oversight of compliance programs at a consolidated
level and relies on work by other relevant supervisors to the fullest
extent possible. In the evaluation of a firm's risks and BSA/AML and
OFAC compliance program, however, it may be necessary for examiners to
review compliance with BSA/AML and OFAC requirements at individual
subsidiaries or affiliates in order to fully assess material risks of
the supervised insurance organization.
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\9\ ``Covered products'' means: A permanent life insurance
policy, other than a group life insurance policy; an annuity
contract, other than a group annuity contract; or any other
insurance product with features of cash value or investment.
``Permanent life insurance policy'' means an agreement that
contains a cash value or investment element and that obligates the
insurer to indemnify or to confer a benefit upon the insured or
beneficiary to the agreement contingent upon the death of the
insured. ``Annuity contract'' means any agreement between the
insurer and the contract owner whereby the insurer promises to pay
out a fixed or variable income stream for a period of time.
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<bullet> Operational risk is the risk of loss resulting from
inadequate or failed internal processes, people, and systems, or from
external events. Operational resilience is the ability to maintain
operations, including critical operations and core business lines,
through a disruption from any hazard. It is the outcome of effective
operational risk management combined with sufficient financial and
operational resources to prepare, adapt, withstand, and recover from
disruptions. A firm that operates in a safe and sound manner is able to
identify threats, respond and adapt to incidents, and recover and learn
from such threats and incidents so that it can prioritize and maintain
critical operations and core business lines, along with other
operations, services and functions identified by the firm, through a
disruption.
[cir] Cybersecurity/information technology risks are a subset of
operational risk and arise from operations of a firm requiring a strong
and robust internal control system and risk management oversight
structure. Information Technology (IT) and Cybersecurity (Cyber)
functions are especially critical to firms' operations. Examiners of
financial institutions, including supervised insurance organizations,
find detailed guidance on mitigating these risks in the Federal
Financial Institutions Examination Council's (FFIEC) IT Handbooks. In
assessing IT/Cyber risks, Federal Reserve examiners will assess a
firm's board and senior management for effective oversight and support
of IT management; information/cyber security program for strong board
and senior management support, integration of security activities and
controls through business processes, and establishment of clear
accountability for security responsibilities; IT operations for
sufficient personnel, system capacity and availability, and storage
capacity adequacy to achieve strategic objectives and appropriate
solutions: Development and acquisition processes' ability to identify,
acquire, develop, install, and maintain effective IT to support
business operations; and appropriate business continuity management
processes to effectively oversee and implement resilience, continuity,
and response capabilities to safeguard employees, customers, assets,
products, and services. Complex and noncomplex firms will be assessed
in these areas. All supervised insurance organizations are expected to
notify the Federal Reserve of any security breaches involving sensitive
customer information, whether or not the institution notifies its
customers.\10\
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\10\ SR 05-23, Interagency Guidance on Response Programs for
Unauthorized Access to Customer Information and Customer Notice,
applies to all supervised insurance organizations.
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[cir] Third party risk is also a subset of operational risk and
arises from a firm's use of service providers to perform operational or
service functions. These risks may be inherent to the outsourced
activity or be introduced with the involvement of the service provider.
When assessing effective third party risk management, Federal Reserve
examiners will evaluate eight areas: (1) Third party risk management
governance, (2) risk assessment framework, (3) due diligence in the
selection of a service provider, (4) a review of any incentive
compensation embedded in a service provider contract, (5) management of
any contract or legal issues arising from third party agreements, (6)
ongoing monitoring and reporting of third parties, (7) business
continuity and contingency of the third party for any service
disruptions, and (8) effective internal audit program to assess the
risk and controls of the firm's third party risk management
program.\11\
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\11\ SR Letter 13-19, Guidance on Managing Outsourcing Risk,
<a href="https://www.federalreserve.gov/supervisionreg/srletters/sr1319.htm">https://www.federalreserve.gov/supervisionreg/srletters/sr1319.htm</a>,
applies to complex and noncomplex supervised insurance
organizations.
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b. Capital Management
The Capital Management rating is derived from an assessment of a
firm's current and stressed level of capitalization, and the quality of
its capital planning and stress testing. A capital management program
should be commensurate with a supervised insurance organization's
complexity and unique risk profile. In assigning this rating, the
Federal Reserve evaluates the extent to which a firm maintains sound
capital planning practices through effective governance and oversight,
effective risk management and controls, maintenance of updated capital
policies and contingency plans for addressing potential shortfalls, and
incorporation of appropriately stressful conditions into capital
planning and projections of capital positions. The extent to which a
firm's capital is sufficient to comply with regulatory requirements, to
support the firm's ability to meet its obligations, and to enable the
firm to remain a source of strength to its depository institution(s) in
a range of stressful, but plausible, economic and financial
environments is also evaluated.
Insurance company balance sheets are typically quite different from
those of most banking organizations. For insurance companies,
investment strategies focus on cash flow matching to reduce interest
rate risk and provide liquidity to support their liabilities, while for
traditional banks, deposits (liabilities) are attracted to support
investment strategies. Additionally, for insurers, capital provides a
buffer for policyholder claims and creditor obligations, helping the
firm absorb adverse deviations in expected claims experience, and other
drivers of economic loss. The Board recognizes that the capital needs
for insurance activities are materially different from those of banking
activities. Insurers also often face capital fungibility constraints
not faced by banks.
In assessing a supervised insurance organization's capital
management, the Federal Reserve relies to the fullest extent possible
on information provided by the state insurance regulators, including
the firm's ORSA and the state insurance regulator's written assessment
of the ORSA. An ORSA is an internal process undertaken by an insurance
group to assess the adequacy of its risk management and current and
prospective capital position under normal and severe stress scenarios.
As part of the ORSA, insurance groups are required to analyze all
reasonably foreseeable and relevant material risks
[[Page 6545]]
that could have an impact on their ability to meet obligations.
The Board expects supervised insurance organizations to have sound
governance over their capital planning process.\12\ A firm should
establish capital goals that are approved by the board of directors,
and that reflect the potential impact of legal and/or regulatory
restrictions on the transfer of capital between legal entities. In
general, senior management should establish the capital planning
process, which should be reviewed and approved periodically by the
board. The board should require senior management to provide clear,
accurate, and timely information on the firm's material risks and
exposures to inform board decisions on capital adequacy and actions.
The capital planning process should clearly reflect the difference
between the risk profiles and associated capital needs of the insurance
and banking businesses.
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\12\ SR 15-19: Federal Reserve Supervisory Assessment of Capital
Planning and Positions for Firms Subject to Category II and III
Standards, <a href="https://www.federalreserve.gov/supervisionreg/srletters/sr1519.htm">https://www.federalreserve.gov/supervisionreg/srletters/sr1519.htm</a>, is applicable to complex supervised insurance
organizations, however, Federal Reserve focuses on the sections most
relevant for these firms. For example, references to pre-provision
net revenue (PPNR) modeling and risk-weighted asset (RWA)
projections are not applicable to supervised insurance
organizations.
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A firm should have a risk management framework that appropriately
identifies, measures, and assesses material risks and provides a strong
foundation for capital planning. This framework should be supported by
comprehensive policies and procedures, clear and well-established roles
and responsibilities, strong internal controls, and effective reporting
to senior management and the board. In addition, the risk management
framework should be built upon sound management information systems.
As part of capital management, a firm should have a sound internal
control framework that helps ensure that all aspects of the capital
planning process are functioning as designed and result in accurate
assessments of the firm's capital needs. The framework should include
an independent internal audit function as well as other review
functions with appropriate staff expertise, experience, and stature in
the organization to monitor the adequacy of capital risk measurement
and management processes.
The governance and oversight framework should include a written
assessment of the principles and guidelines used for capital planning,
issuance, and usage, including internal post-stress capital goals and
targeted capital levels; guidelines for dividend payments and stock
repurchases; strategies for addressing capital shortfalls; and internal
governance responsibilities and procedures for the capital policy. The
capital policy should reflect the unique capital needs of the insurance
and banking businesses based on their risks, be approved by the firm's
board of directors or a designated committee of the board, and be re-
evaluated periodically and revised as necessary.
A strong capital management program will incorporate appropriately
stressful conditions and events that could adversely affect the firm's
capital adequacy and capital planning. As part of its capital plan, a
firm should use at least one scenario that stresses the specific
vulnerabilities of the firm's activities and associated risks,
including those related to the firm's insurance activities and its
banking activities.
Supervised insurance organizations should employ estimation
approaches that allow them to project the impact on capital positions
of various types of stressful conditions and events, and that are
independently validated. A firm should estimate losses, revenues,
expenses, and capital using a sound method that incorporates
macroeconomic and other risk drivers. The robustness of a firm's
capital stress testing processes should be commensurate with the to its
capital position.
c. Liquidity Management
The Liquidity Management rating is derived from an assessment of
the supervised insurance organization's liquidity position and the
quality of its liquidity risk management program. Each firm's liquidity
risk management program should be commensurate with its complexity and
unique risk profile.
The Board recognizes that insurance companies are typically less
exposed to traditional liquidity risk than are banks. Traditional
banking activity involves a liquidity transformation of liquid demand
deposits into an asset on a banking organization's balance sheet,
notably from the perspective of liquidity risk, illiquid bank loans. In
traditional insurance business, the fact that an occurrence of an
insured event is required for a claim payment, helps reduce liquidity
risk. Insurers minimize liquidity risk by attempting to match expected
asset cash flows against expected claims payments. The Board's
expectations for supervised insurance organizations recognize and
reflect this difference in inherent liquidity risk.
The Board, however, does expect all depository institution holding
companies, including supervised insurance organizations, to adhere to
basic principles for managing liquidity risk.\13\
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\13\ For an explanation of these principles, see SR Letter 10-6,
Interagency Policy Statement on Funding and Liquidity Risk
Management, <a href="https://www.federalreserve.gov/boarddocs/srletters/2010/sr1006.htm">https://www.federalreserve.gov/boarddocs/srletters/2010/sr1006.htm</a>.
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The Federal Reserve's supervision of supervised insurance
organizations focuses on the sections of SR 10-6 that are most relevant
to the liquidity characteristics of these firms. For example, guidance
on intra-day liquidity management would only be applicable for
supervised insurance organizations with material intra-day liquidity
risks. Additionally, specific references to liquid assets in SR 10-6
may be more broadly interpreted to include other asset classes such as
certain investment-grade corporate bonds.
The intensity of the Federal Reserve's supervisory focus on
liquidity risk is influenced by each firm's individual risk profile.
Traditional property and casualty insurance products are typically
short duration liabilities backed by short-duration, liquid assets.
Because of this, they typically present less liquidity risk than
traditional banking products. However, some non-traditional life
insurance and retirement products create liquidity risk through
features that allow payments at the request of policyholders without
the occurrence of an insured event. Risks of certain other insurance
products are often mitigated using derivatives. Any differences between
collateral requirements related to hedging and the related liability
cash flows can also create liquidity risk. The Board expects firms
significantly engaged in these types of insurance activities to have
correspondingly more sophisticated liquidity risk management programs.
A strong liquidity risk management program includes comprehensive
cash flow forecasting with appropriate granularity, preferably for each
major legal entity as well as for the consolidated enterprise. The
firm's suite of quantitative metrics should effectively inform senior
management and the board of directors of the firm's unique liquidity
risk profile and identify liquidity events or stresses that could
detrimentally affect the firm. The metrics used to measure a firm's
liquidity position may vary by type of business.
Federal Reserve examiners rely to the fullest extent possible on
each firm's ORSA, which requires all firms to include a discussion of
the risk management framework and assessment
[[Page 6546]]
of material risks, including liquidity risk.
Supervised insurance organizations are expected to perform
liquidity stress testing at least annually and more frequently if
necessary, based on their risk profile. The scenarios used should
reflect the firm's specific risk profile and include both idiosyncratic
and system-wide stress events. Stress testing should inform the firm on
the amount of liquid assets necessary to meet net cash outflows over
relevant time periods, including at least a one-year time horizon.
Firms should hold a liquidity buffer comprised of highly liquid assets
to meet stressed net cash outflows. The liquidity buffer should be
measured using appropriate haircuts based on asset quality, duration,
and expected market illiquidity based on the stress scenario
assumptions. Stress testing should reflect the expected impact on
collateral requirements.
Fungibility of liquidity is often limited between an insurance
group's legal entities. Large insurance groups can operate with a
significant number of legal entities and many different regulatory and
operational barriers to transferring funds among them. Regulations
designed to protect policyholders of insurance operating companies can
limit the transferability of funds from an insurance company to other
legal entities within the group, including to other insurance operating
companies. Supervised insurance organizations should carefully consider
these limitations in their stress testing and liquidity risk management
framework. Effective liquidity stress testing should include stress
testing at the legal entity level with consideration for intercompany
liquidity fungibility. Furthermore, the firm should be able to measure
and provide an assessment of liquidity at the top-tier depository
institution holding company in a manner that incorporates fungibility
constraints.
The enterprise-wide governance and oversight framework should be
consistent with the firm's liquidity risk profile and include policies
and procedures on liquidity risk management. Policies and procedures
should detail the oversight of liquidity risk through a specific
document such as a Liquidity Policy. Policies and procedures should
include the frequency of liquidity reporting and stress testing. Stress
testing results should be communicated clearly and regularly to senior
management and the board. A comprehensive contingency funding plan,
commensurate with the firm's categorization and liquidity risk profile,
should be maintained to manage liquidity stress events. The contingency
funding plan should detail specific policies, procedures, and actions
for addressing liquidity stress events or breaches of liquidity risk
limits.
Supervised insurance organizations should also have an enterprise-
wide approach for the control and oversight of liquidity risk. This
should include management committee reporting of liquidity risk,
governance, and assumptions for key elements of liquidity risk
management such as stress testing and the firm's liquidity risk
appetite, among others. The risk appetite statement, which should be
approved by the board of directors, should detail and define the level
of impact of a liquidity event or stress that the firm can.
Additionally, the governance framework should detail the process and
policies around liquidity risk identification, measurement, and risk-
mitigating actions.
B. Supervisory Ratings
Supervised insurance organizations are expected to operate in a
safe and sound manner, to comply with all applicable laws and
regulations, and to possess sufficient financial and operational
strength to serve as a source of strength for their depository
institution(s) through a range of stressful yet plausible conditions.
Supervisory ratings and supervisory findings are used to communicate
the assessment of a firm. Each year, the Federal Reserve examiners
assign one of four ratings to each of the three rating components used
to assess supervised insurance organizations. The rating components are
Capital Management, Liquidity Management, and Governance & Controls.
The four potential ratings are Broadly Meets Expectations,
Conditionally Meets Expectations, Deficient-1, and Deficient-2. To be
considered ``well managed,'' a firm must receive a rating of
Conditionally Meets Expectations or better in each of the three rating
components. Each rating is defined specifically for supervised
insurance organizations with particular emphasis on the obligation that
firms serve as a source of financial and managerial strength for their
depository institution(s). High-level definitions for each rating are
below, followed by more specific rating definitions for each component.
Broadly Meets Expectations: The supervised insurance organization's
practices and capabilities broadly meet supervisory expectations. The
holding company effectively serves as a source of managerial and
financial strength for its depository institution(s) and possesses
sufficient financial and operational strength and resilience to
maintain safe-and-sound operations through a range of stressful yet
plausible conditions. The firm may have outstanding supervisory issues
requiring corrective actions, but these are unlikely to present a
threat to its ability to maintain safe-and-sound operations and
unlikely to negatively impact its ability to fulfill its obligation to
serve as a source of strength for its depository institution(s). These
issues are also expected to be corrected on a timely basis during the
normal course of business.
Conditionally Meets Expectations: The supervised insurance
organization's practices and capabilities are generally considered
sound. However, certain supervisory issues are sufficiently material
that if not resolved in a timely manner during the normal course of
business, may put the firm's prospects for remaining safe and sound,
and/or the holding company's ability to serve as a source of managerial
and financial strength for its depository institution(s), at risk. A
firm rated ``Conditionally Meets Expectations'' has the ability,
resources, and management capacity to resolve its issues and has
developed a sound plan to address the issue(s) in a timely manner.
Examiners will work with the firm to develop an appropriate timeframe
during which it will be required to resolve that supervisory issue(s)
leading to this rating.
Deficient-1: Financial or operational deficiencies in a supervised
insurance organization's practices or capabilities put its prospects
for remaining safe and sound, and/or the holding company's ability to
serve as a source of managerial and financial strength for its
depository institution(s), at significant risk. The firm is unable to
remediate these deficiencies in the normal course of business, and
remediation would typically require it to make material changes to its
business model or financial profile, or its practices or capabilities.
A firm with a Deficient-1 rating is required to take timely action to
correct financial or operational deficiencies and to restore and
maintain its safety and soundness and compliance with laws and
regulation. Supervisory issues that place the firm's safety and
soundness at significant risk, and where resolution is likely to
require steps that clearly go beyond the normal course of business--
such as issues requiring a material change to the firm's business model
or financial profile, or its governance, risk management or internal
control structures or practices--would generally warrant assignment of
a Deficient-1 rating. There is a strong presumption that a firm with a
[[Page 6547]]
Deficient-1 rating will be subject to an enforcement action.
Deficient-2: Financial or operational deficiencies in a supervised
insurance organization's practices or capabilities present a threat to
its safety and soundness, have already put it in an unsafe and unsound
condition, and/or make it unlikely that the holding company will be
able to serve as a source of financial and managerial strength to its
depository institution(s). A firm with a Deficient-2 rating is required
to immediately implement comprehensive corrective measures and
demonstrate the sufficiency of contingency planning in the event of
further deterioration. There is a strong presumption that a firm with a
Deficient-2 rating will be subject to a formal enforcement action.
Definitions for the Capital Management Component Rating
Broadly Meets Expectations: Despite the potential existence of
outstanding supervisory issues, the supervised insurance organization's
capital management broadly meets supervisory expectations, supports
maintenance of safe-and-sound operations, and supports the holding
company's ability to serve as a source of financial strength for its
depository institution(s). Specifically:
<bullet> The firm's current and projected capital positions on a
consolidated basis and within each of its material business lines/legal
entities comply with regulatory requirements and support its ability to
absorb potential losses, meet obligations, and continue to serve as a
source of financial strength for its depository institution(s);
<bullet> Capital management processes are sufficient to give
credibility to stress testing results and the firm is capable of
producing sound assessments of capital adequacy through a range of
stressful yet plausible conditions; and
<bullet> Potential capital fungibility issues are effectively
mitigated, and capital contingency plans allow the holding company to
continue to act as a source of financial strength for its depository
institution(s) through a range of stressful yet plausible conditions.
Conditionally Meets Expectations: Capital adequacy meets regulatory
minimums, both currently and on a prospective basis. Supervisory issues
exist but these do not threaten the holding company's ability to act as
a source of financial strength for its depository institution(s)
through a range of stressful yet plausible conditions. Specifically, if
left unresolved, these issues:
<bullet> May threaten the firm's ability to produce sound
assessments of capital adequacy through a range of stressful yet
plausible conditions; and/or
<bullet> May result in the firm's projected capital positions being
insufficient to absorb potential losses, comply with regulatory
requirements, and support the holding company's ability to meet current
and prospective obligations and continue to serve as a source of
financial strength to its depository institution(s).
Deficient-1: Financial or operational deficiencies in a supervised
insurance organization's capital management put its prospects for
remaining safe and sound through a range of plausible conditions at
significant risk. The firm is unable to remediate these deficiencies in
the normal course of business, and remediation would typically require
a material change to the firm's business model or financial profile, or
its capital management processes.
Examples of issues that may result in a Deficient-1 rating include,
but are not limited to:
<bullet> Capital adequacy currently meets regulatory minimums
although there may be uncertainty regarding the firm's ability to
continue meeting regulatory minimums.
<bullet> Fungibility concerns may exist that could challenge the
firm's ability to contribute capital to its depository institutions
under certain stressful yet plausible scenarios.
<bullet> Supervisory issues may exist that undermine the
credibility of the firm's current capital adequacy and/or its stress
testing results.
Deficient-2: Financial or operational deficiencies in a supervised
insurance organization's capital management present a threat to the
firm's safety and soundness, a threat to the holding company's ability
to serve a source of financial strength for its depository
institution(s), or have already put the firm in an unsafe and unsound
condition.
Examples of issues that may result in a Deficient-2 rating include,
but are not limited to:
<bullet> Capital adequacy may currently fail to meet regulatory
minimums or there is significant concern that the firm will not meet
capital adequacy minimums prospectively.
<bullet> Supervisory issues may exist that significantly undermine
the firm's capital adequacy metrics either currently or prospectively.
<bullet> Significant fungibility constraints may exist that would
prevent the holding company from contributing capital to its depository
institution(s) and fulfilling its obligation to serve as a source of
financial strength.
<bullet> The holding company may have failed to act as source of
financial strength for its depository institution when needed.
Definitions for the Liquidity Management Component Rating
Broadly Meets Expectations: Despite the potential existence of
outstanding supervisory issues, the supervised insurance organization's
liquidity management broadly meets supervisory expectations, supports
maintenance of safe-and-sound operations, and supports the holding
company's ability to serve as a source of financial strength for its
depository institutions(s). The firm generates sufficient liquidity to
meet its short-term and long-term obligations currently and under a
range of stressful yet plausible conditions. The firm's liquidity
management processes, including its liquidity contingency planning,
support its obligation to act as a source of financial strength for its
depository institution(s). Specifically:
<bullet> The firm is capable of producing sound assessments of
liquidity adequacy through a range of stressful yet plausible
conditions; and
<bullet> The firm's current and projected liquidity positions on a
consolidated basis and within each of its material business lines/legal
entities comply with regulatory requirements and support the holding
company's ability to meet obligations and to continue to serve as a
source of financial strength for its depository institution(s).
Conditionally Meets Expectations: Certain material financial or
operational weaknesses in a supervised insurance organization's
liquidity management place its prospects for remaining safe and sound
through a range of stressful yet plausible conditions at risk if not
resolved in a timely manner during the normal course of business.
Specifically, if left unresolved, these weaknesses:
<bullet> May threaten the firm's ability to produce sound
assessments of liquidity adequacy through a range of conditions; and/or
<bullet> May result in the firm's projected liquidity positions
being insufficient to comply with regulatory requirements and support
the firm's ability to meet current and prospective obligations and to
continue to serve as a source of financial strength to its depository
institution(s).
Deficient-1: Financial or operational deficiencies in a supervised
insurance organization's liquidity management put the firm's prospects
for remaining safe and sound through a range of stressful yet plausible
conditions at significant risk. The firm is unable to remediate these
deficiencies in the normal course of business, and remediation would
[[Page 6548]]
typically require a material change to the firm's business model or
financial profile, or its liquidity management processes.
Examples of issues that may result in a Deficient-1 rating include,
but are not limited to:
<bullet> The firm is currently able to meet its obligations but
there may be uncertainty regarding the firm's ability to do so
prospectively.
<bullet> The holding company's liquidity contingency plan may be
insufficient to support its obligation to act as a source of financial
strength for its depository institution(s).
<bullet> Supervisory issues may exist that undermine the
credibility of the firm's liquidity metrics and stress testing results.
Deficient-2: Financial or operational deficiencies in a supervised
insurance organization's liquidity management present a threat to its
safety and soundness, a threat to the holding company's ability to
serve as a source of financial strength for its depository
institution(s), or have already put the firm in an unsafe and unsound
condition.
Examples of issues that may result in a Deficient-2 rating include,
but are not limited to:
<bullet> Liquidity shortfalls may exist within the firm that have
prevented the firm, or are expected to prevent the firm, from
fulfilling its obligations, including the holding company's obligation
to act as a source of financial strength for its depository
institution(s).
<bullet> Liquidity adequacy may currently fail to meet regulatory
minimums or there is significant concern that the firm will not meet
liquidity adequacy minimums prospectively for at least one of its
regulated subsidiaries.
<bullet> Supervisory issues may exist that significantly undermine
the firm's liquidity metrics either currently or prospectively.
<bullet> Significant fungibility constraints may exist that would
prevent the holding company from supporting its depository
institution(s) and fulfilling its obligation to serve as a source of
financial strength.
<bullet> The holding company may have failed to act as source of
financial strength for its depository institution when needed.
Definitions for the Governance and Controls Component Rating
Broadly Meets Expectations: Despite the potential existence of
outstanding supervisory issues, the supervised insurance organization's
governance and controls broadly meet supervisory expectations, supports
maintenance of safe-and-sound operations, and supports the holding
company's ability to serve as a source of financial and managerial
strength for its depository institutions(s). Specifically, the firm's
practices and capabilities are sufficient to align strategic business
objectives with its risk appetite and risk management capabilities,
maintain effective and independent risk management and control
functions, including internal audit; promote compliance with laws and
regulations; and otherwise provide for the firm's ongoing financial and
operational resiliency through a range of conditions. The firm's
governance and controls clearly reflect the holding company's
obligation to act as a source of financial and managerial strength for
its depository institution(s).
Conditionally Meets Expectations: Certain material financial or
operational weaknesses in a supervised insurance organization's
governance and controls practices may place the firm's prospects for
remaining safe and sound through a range of conditions at risk if not
resolved in a timely manner during the normal course of business.
Specifically, if left unresolved, these weaknesses may threaten the
firm's ability to align strategic business objectives with its risk
appetite and risk-management capabilities; maintain effective and
independent risk management and control functions, including internal
audit; promote compliance with laws and regulations; or otherwise
provide for the firm's ongoing resiliency through a range of
conditions. Supervisory issues may exist related to the firm's internal
audit function, but internal audit is still regarded as effective.
Deficient-1: Deficiencies in a supervised insurance organization's
governance and controls put its prospects for remaining safe and sound
through a range of conditions at significant risk. The firm is unable
to remediate these deficiencies in the normal course of business, and
remediation would typically require a material change to the firm's
business model or financial profile, or its governance, risk management
or internal control structures or practices.
Examples of issues that may result in a Deficient-1 rating include,
but are not limited to:
<bullet> The firm may be currently subject to, or expected to be
subject to, informal or formal enforcement action(s) by the Federal
Reserve or another regulator tied to violations of laws and
regulations.
<bullet> Significant legal issues may have or be expected to impede
the holding company's ability to act as a source of financial strength
for its depository institution(s).
<bullet> The firm may have engaged in intentional misconduct.
<bullet> Deficiencies within the firm's governance and controls may
limit the credibility of the firm's financial results, limit the board
or senior management's ability to make sound decisions, or materially
increase the firm's risk of litigation.
<bullet> The firm's internal audit function may be considered
ineffective.
<bullet> Deficiencies in the firm's governance and controls may
have limited the holding company's ability to act as a source of
financial and/or managerial strength for its depository institution(s).
Deficient-2: Financial or operational deficiencies in a supervised
insurance organization's governance and controls present a threat to
its safety and soundness, a threat to the holding company's ability to
serve as a source of financial strength for its depository
institution(s), or have already put the firm in an unsafe and unsound
condition.
Examples of issues that may result in a Deficient-2 rating include,
but are not limited to:
<bullet> The firm is currently subject to, or expected to be
subject to, formal enforcement action(s) by the Federal Reserve or
another regulator tied to violations of laws and regulations.
<bullet> Significant legal issues may be impeding the holding
company's ability to act as a source of financial strength for its
depository institution(s).
<bullet> The firm may have engaged in intentional misconduct.
<bullet> The holding company may have failed to act as a source of
financial and/or managerial strength for its depository institution(s)
when needed.
<bullet> The firm's internal audit function is regarded as
ineffective.
C. Incorporating the Work of Other Supervisors
Similar to the approach taken by the Federal Reserve in its
consolidated supervision of other firms, the supervision of supervised
insurance organizations relies, to the fullest extent possible, on work
done by other relevant supervisors. The Federal Reserve collaboratively
coordinates with, communicates with, and leverages the work of the
Office of the Comptroller of the Currency (OCC), Federal Deposit
Insurance Corporation (FDIC), Financial Crimes Enforcement Network
(FinCEN), Internal Revenue Service (IRS), applicable state insurance
regulators, and other relevant supervisors to achieve its supervisory
[[Page 6549]]
objectives and eliminate unnecessary burden.
Existing statutes specifically require the Board to coordinate
with, and to rely to the fullest extent possible on work by the state
insurance regulators. The Board and all state insurance regulators have
entered into Memorandums of Understanding (MOU) allowing supervisors to
freely exchange information relevant for the effective supervision of
supervised insurance organizations. Federal Reserve examiners take the
actions below with respect to state insurance regulators to support
accomplishing the objective of minimizing supervisory duplication and
burden, without sacrificing effective oversight:
<bullet> Routine discussions with state insurance regulatory staff
with greater frequency during times of stress;
<bullet> Discussions around the annual supervisory plan, including
how best to leverage work done by the state and potential participation
by state insurance regulatory staff on relevant supervisory activities;
<bullet> Consideration of the opinions and work done by the state
when scoping relevant examination activities;
<bullet> Documenting any input received from the state and
consideration given to the opinions and work done by the state for
relevant supervisory activities;
<bullet> Sharing and discussing with the state the annual ratings
and relevant conclusion documents from supervisory activities;
<bullet> Collaboratively working with the states and the National
Association of Insurance Commissioners (NAIC) on the development of
policies that affect insurance depository institution holding
companies; and
<bullet> Participating in supervisory colleges.
The Federal Reserve relies on the state insurance regulators to
participate in the activities above and to share proactively their
supervisory opinions and relevant documents. These documents include
the annual Own Risk Solvency Assessment (ORSA),\14\ the state insurance
regulator's written assessment of the ORSA, results from its
examination activities, the Corporate Governance Annual Disclosure, and
other state supervisory material. If the Federal Reserve determines
that it is necessary to perform supervisory activities related to
aspects of the supervised insurance organization that also fall under
the jurisdiction of the state insurance regulator, it will communicate
the rationale and result of these activities to the state insurance
regulator.
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\14\ Nat'l Ass'n of Ins. Comm'rs, Own Risk and Solvency
Assessment (ORSA) Guidance Manual 9 (December 2017), <a href="https://www.naic.org/store/free/ORSA_manual.pdf">https://www.naic.org/store/free/ORSA_manual.pdf</a>.
By order of the Board of Governors of the Federal Reserve
System.
Ann Misback,
Secretary of the Board.
[FR Doc. 2022-02383 Filed 2-3-22; 8:45 am]
BILLING CODE 6210-01-P
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</html>Indexed from Federal Register on February 4, 2022.
This is legal information, not legal advice. Laws vary by jurisdiction and change frequently. Always verify current law with official sources and consult a licensed attorney in your jurisdiction for advice on your specific situation.