Securities Commission - Discussion on Life Insurance and Law Practices


	PART I - BACKGROUND Main Contents Glossary Part I - Background Part II - Life Industry Law and Practices Part III - Public Policy Discussion Appendices	The Commission and the Insurance Industry Introduction Our statutory authority The purpose and structure of this paper Brief overview of the New Zealand life insurance industry A brief summary of the regulation of the New Zealand life insurance industry prior to 1989 The enactment of sections 7A and 7B of the Securities Act 1978 Background to the enactment of sections 7A and 7B The general conditions of authorisation under section 7A and 7B The Commission's approach to the authorisation of individual life insurance companies under section 7A An overview of the authorisation process Comment on our authorisation role The effect of the revocation of sections 7A and 7B Comment on the structure of the life insurance industry

1 THE COMMISSION AND THE LIFE INSURANCE INDUSTRY

Introduction

1.1 The life insurance industry is an important repository of savings in New Zealand with aggregate assets (including managed funds and superannuation) at 30 June 1997 of some $20.68 billion.¹
¹

1.2 The Commission has been statutorily involved with the life insurance industry since our establishment in 1979. However our relationship with the industry has changed over the years as the status of life insurance policies under the Securities Act 1978 ("the Securities Act") has changed.

1.3 We have prepared this paper with the benefit of our experience of the administration of securities law, particularly as that law has related to the life insurance industry since 1989.

Our statutory authority

1.4 We are publishing this paper in terms of one of our primary statutory functions, that of (section 10(c) of the Securities Act) "[keeping] under review practices relating to securities, and [commenting] thereon to any appropriate body."

1.5 The quorum of Members responsible for this paper comprised:
Mr E.H. Abernethy, Chairman
Ms E.M. Hickey
Mr D.J. Stock
Mr M.R.H. Webb.

The purpose and structure of this paper
Purpose

1.6 On the basis of our experience we believe there are important issues concerning the life insurance industry which need to be discussed more widely and more fully in the community, particularly having regard to the current attention which is being given to the desirability and responsibility of individuals to save for their retirement.

1.7 The purpose of this paper is to identify these issues, and to raise questions concerning the life insurance industry which we believe need to be addressed by the Government, the industry, the accounting profession, the actuarial profession and the investing public. We identify actual or potential issues arising from the current business practices of, and regulatory and financial reporting regimes relating to, the life insurance industry.

1.8 It is not our purpose to provide answers to the questions we identify in this paper, nor does this paper attempt to identify and address all issues relating to life insurance regulation and operations. We think a comprehensive review of the Life Insurance Act 1908 is called for. We believe responses received to the issues identified in this paper will provide a valuable input into such a review.

1.9 We are aware that financial reporting by life insurance companies is already under detailed review with a draft financial reporting standard for life insurance companies² currently on issue.

Structure

1.10 In Part I of our paper, after an overview of the New Zealand life insurance industry and of the application of the Securities Act to life insurance contracts, we look at the nature of life insurance contracts and the regulatory environment for the selling of life insurance policies.

1.11 In Part II of our paper we review and discuss a number of key areas of life company operations and structure. For each of these subject areas we discuss our experience of the New Zealand life insurance industry, we refer to the existing legislative environment affecting that aspect of life company operations and we summarise the legislative approaches in Australia and the United Kingdom. We make a number of comments concerning each issue.

1.12 We illustrate some of our comments by use of examples drawn from our experience with the "authorisation" of life insurance companies. The examples are drawn from companies both large and small, both New Zealand and overseas owned. In using these examples in relation to particular topics in this paper the Commission is expressing no view as to the appropriateness or merits of those transactions themselves or on the parties involved. In a number of cases those examples are also parts of wider transactions and views as to those transactions may not be able to be based on the examples alone.

1.13 We have chosen to analyse the approaches taken by overseas regulatory regimes, particularly those in Australia and the United Kingdom, to the issues discussed. We have done this because the New Zealand life insurance industry has been dominated, with a few exceptions, by life insurance companies incorporated in, founded in, or directed from, Australia and the United Kingdom. We do not have a view as to whether the approaches followed by the United Kingdom and Australia (or any other jurisdiction) are the models on which future New Zealand life insurance regulation should be based.

1.14 In Part III we discuss various elements of public policy in relation to the regulation of the New Zealand life insurance industry. We raise various questions for consideration about the issues discussed in Part II.

1.15 We are inviting comments on the questions raised in this paper. When these have been considered we will report to the Minister of Commerce.

Brief overview of the New Zealand life insurance industry

1.16 The life insurance industry has been a feature of New Zealand commercial life for well over a century. Life insurance business in this country was originally undertaken by United Kingdom companies, but in the late 1800s the major Australian mutual companies established branches in New Zealand. The Government established its own life insurance office in 1869 to augment the "very inadequate"³ life insurance facilities existing at the time.

1.17 The retail life insurance industry now comprises around 30 companies. The three large Australian mutuals have already converted to, or are in the process of converting to, widely-held proprietary⁴ companies, with their newly formed parent companies becoming or intended to become listed public companies. With some exceptions New Zealand owned life insurance companies have tended to be fairly small proprietary companies.

1.18 United Kingdom life insurance companies have always had a significant presence in New Zealand, with two of the companies having recently "domesticated" what were formerly branch operations into locally incorporated subsidiaries. More recently life insurance companies from the United States of America and Sweden have commenced operations in New Zealand.

1.19 In addition to aggregate assets under their control of around $20.0 billion (see para 1.1) the life companies operating in New Zealand had "in-force" New Zealand business at 30 June 1997 (including life insurance and superannuation) with annual premiums of $1.565 billion⁵. This is a measure of the companies' expected annual cash flow from premiums on existing policies without regard to new business or policy surrenders and cancellations. At the same date the companies were obligated to pay annuities in New Zealand at a rate of $28.8 million per annum.

A brief summary of the regulation of the New Zealand life insurance industry prior to 1989

1.20 The first New Zealand legislation directly related to the life insurance industry was the Life Insurance Companies Act 1873.

1.21 The Life Insurance Act 1908 ("the Life Act"), which consolidated the 1873 Act and other life insurance legislation then in force, has been the principal source of statutory authority governing the operation and oversight of the life insurance industry in New Zealand since its enactment.

1.22 Under section 10 of the Life Act the Registrar of Companies may not issue a certificate of incorporation to any company that proposes to carry on the business of insurance upon human life unless that company, before commencing to carry on that business, deposits with the Public Trustee approved securities of an aggregate value of not less than $500,000. There are no other barriers to entry into the New Zealand life insurance industry apart from (for overseas companies) compliance with overseas investment legislation.

1.23 The Life Act includes requirements for the depositing of various annual returns with the Secretary of Commerce (formerly with the Secretary of Justice) and for the undertaking by an actuary of an annual investigation of the financial condition of each company (see para 4.8 onwards). The returns filed with the Secretary are all passed to the Government Actuary for his review.

1.24 When the Securities Act was originally enacted on 20 October 1978 contracts of life or endowment assurance, although "securities", were exempted, by section 5(1)(a), from the provisions of Part II of that Act. This meant that life insurance contracts were exempted from the prospectus, trustee, statutory supervisor and advertising requirements of the Securities Act. This situation changed in 1989⁶

The enactment of sections 7A and 7B of the Securities Act 1978

1.25 With effect from 1 July 1989⁷ section 5(1)(a) of the Securities Act was revoked and sections 7A and 7B inserted. The text of sections 7A and 7B is set out in Appendix One to this paper.

1.26 The effect of the new sections was that life insurance contracts became subject to the normal rules of law relating to the offering of securities to the public, but the Commission was empowered by section 7A(2) to "authorise" life insurance companies, that is, to exempt them from the prospectus and trustee/statutory supervisor provisions, but not the advertising provisions, of the Securities Act. The Commission was also empowered to set terms and conditions of authorisation.

Background to the enactment of sections 7A and 7B

1.27 Enactment of sections 7A and 7B followed closely on the Court of Appeal decision in the Marac case (see para 2.2) which ruled that Marac's life insurance bonds, basically term deposits with an insurance element (covering early repayment in the event of the death of the investor), were life insurance contracts for the purposes of the Securities Act. A particular concern was that in the absence of legislative amendment unsatisfactory business practices would affect the debt security type market of the life companies as well as the more traditional life insurance market.

1.28 The Hon Philip Woollaston, Associate Minister of Justice, in introducing a Supplementary Order Paper to the Securities Law Reform Bill into the House of Representatives on 18 October 1988 said (Hansard p. 7409):
... The Securities Act 1978 exempts life insurance policies from Part II of the Act. In recent times, however, the distinction between investments to which the Act applies and life insurance policies has become blurred and provides a means of avoiding the requirements of the Act. As a result of the Court of Appeal decision in the Marac Life Assurance Ltd case the exemption applies not only to traditional life insurance products but to life insurance products that in legal form are life assurance but in economic substance are ordinary investments. In that case, which also involved taxation matters, the life bonds - as they were called - were indistinguishable from ordinary investment except that they were described in life insurance terms and the investor's death accelerated the repayment of the investment.
In recent times a trend has emerged circumventing the Securities Act requirements by using the life insurance exemption for what would otherwise be ordinary investment. That position is not desirable, and should be stopped. To that end the supplementary order paper repeals the exemption for life insurance policies, and empowers the Securities Commission to grant an exemption from the Act's prospectus requirements by way of designating life insurance companies as authorised life insurance companies issuing policies in accordance with the authorisation. That approach has been taken because of the difficulty, if not the impossibility, of defining in advance the life insurance policies that are regarded as life insurance proper policies and the life insurance policies that are regarded as an investment in substance.
...

1.29 It was recognised by the industry, the Commission and the Government that much needed to be done to improve the business practices of the life insurance industry. Of particular relevance to the Commission was improving the disclosure obligations of life insurance companies.

1.30 It was accepted that the industry was not ready at that time to move to a full prospectus-based issuing regime. Improvement was needed in the procedures for selling life insurance contracts and in the information provided at the time of sale. Financial reporting by life insurance companies, based as it was on the schedules to the Life Act, was inconsistent between companies and generally unsatisfactory. There was no accounting standard applicable to life insurance business at that time.

The general conditions of authorisation under sections 7A and 7B

1.31 Authorisations were subject to a number of general conditions imposed by the Commission under sections 7A(3) and 7B. One of the principal conditions of authorisation, applying throughout the period the two sections were in force, was a limitation of 12 months on each company's period of authorisation. This meant that each company had to apply for renewed authorisation each year.

1.32 The second main condition of authorisation was that life insurance companies agreed to abide by the Code of Business Practices for Life Insurance Companies ("the Code")⁸. The Code, which was formulated by the industry and approved by the Commission, regulated many aspects of life company selling practice, including information, such as financial statements and policy details, required to be disclosed to policyholders and prospective policyholders.

1.33 A third condition of authorisation, introduced in 1995, related to a "directors' statement". It contained a declaration as to the directors' knowledge of any adverse circumstances which had arisen between the date of the company's last financial statements and the date of signature of the statement. It effectively imposed an obligation on the directors of life insurance companies to affirm in a document provided to investors that they had addressed the financial condition of their companies mid-way through the year. (Life insurers, unlike other continuous issuers of securities at the time, were not required to prepare half-yearly financial statements.)

The Commission's approach to the authorisation of individual life insurance companies under section 7A

1.34 The Commission's approach to the "authorisation" of life insurance companies was to approve authorisation for a period of twelve months where Commission Members were satisfied, on the basis of staff review of each life insurance company's:

latest audited financial statements;

Sixth Schedule statutory return, prepared by the company's actuary, which indicated the applicant's "actuarial" profit (solvency basis) and any surplus or deficit in the "life insurance fund";

Twentieth Schedule statutory return, which indicated the business being written by the company;

that the affairs of the company were reported in an orderly manner in accordance with the law and that there were not aspects of the company's activities or operations which should be drawn to the attention of prospective investors either through requiring the company to issue a prospectus or by some supplementary means of disclosure.

1.35 We required the financial and other information to be supplied to us within four and a half months of balance date (as compared to the nine months allowed under the Life Act for the returns and the five months allowed for the auditing and registration of the financial statements under the Financial Reporting Act 1993 ("the FRA")) in order to ensure that (1) we would be making our authorisation decision on the basis of timely information, (2) prospective policyholders who exercised their rights to request them would be given financial statements which were reasonably current and (3) we could establish an orderly and predictable annual procedure for the authorisation of companies.

1.36 In reviewing the information available to us we paid attention to various factors including:

the amount of profit as disclosed in the Sixth Schedule return (and also disclosed sometimes, but not often, in the financial statements);

the level of the company's reported shareholders funds and reserves (or, in the case of mutual companies, their reserves);

any surplus in the valuation balance sheet between the actuarially computed amount of the company's liabilities to its policyholders and the stated amount of its "policyholders' funds" as disclosed in the company's financial statements;

the nature and spread of the company's assets, including exposures to related parties; and

any external debt, guarantees or other contingent obligations.

1.37 Where the Sixth Schedule abstract indicated that there were matters about which the company's actuary was concerned we sought the actuary's full Financial Condition Report⁹.

1.38 We routinely discussed individual cases with the Government Actuary. In one case the Commission retained an international firm of consulting actuaries to give an expert analysis of an applicant's solvency.

1.39 Where review of a company's financial statements and actuarial reports indicated there could be something about the company's performance, structure or assets which should be brought to the attention of prospective investors we sought further information and invited comment from the company. These indications sometimes lead to the imposition of pre-conditions on the authorisation, generally although not always about the disclosure of additional information, or to an application being declined. Sometimes approval was granted on a short term basis, say three months, to allow a particular situation to be remedied before an application was granted in full.

1.40 In a few instances we believe our interest in requiring a company to disclose information on its financial position may have encouraged that company to increase its level of paid up share capital. However it has not been the Commission's role to prescribe minimum or appropriate levels of capital or solvency.

1.41 The Commission also had the power under section 7A(4) to vary or revoke existing authorisations. For this purpose we reviewed existing authorisations in circumstances where:

There appeared to be matters about the company's financial position which should be drawn to the attention of prospective investors and which had come to light since the most recent application for authorisation was approved by the Commission; or

The company's current financial statements appeared to be misleading as a result of factors which had come to light or events which had occurred since the most recent application for authorisation was approved; or

Some other factor or factors material to the company's status as an authorised life insurance company had come to the attention of the Commission.

An overview of the authorisation process

1.42 In the first year of operation of section 7A (year ended 30 June 1990) the Commission declared 40 companies to be authorised life insurance companies, of which 39 remained authorised at year end. In the year ended 30 June 1991 38 companies were authorised, of which 36 remained in force at year end. The number of authorisations then remained at 35 for several years but dropped to 34 by June 1997.

1.43 All but one authorisation was in respect of all the life insurance policies sold by the authorised company. One company was authorised for several years in respect of life insurance policies other than those policies secured by mortgage securities given over company property and issued in terms of a registered prospectus.

1.44 Since 1990 we have reviewed the existing authorisations of several life companies outside of the routine reauthorisation procedures. These reviews were prompted by a variety of factors, including concerns expressed by the Government Actuary, identification of potential difficulties arising from relationships with related parties, financial statements which did not comply with the FRA, and the pledging of a life company's assets to an external financier. In one case we revoked the authorisation of the company concerned.

Comment on our authorisation role

1.45 Life insurance authorisation was a difficult area for us because it involved our taking a view about the adequacy of information available to prospective investors in individual life insurance companies in the absence of the company being obliged to issue a registered prospectus which would have had to be provided to each prospective investor.

1.46 Our main emphasis was on promoting adequate disclosure of product and institutional information, including financial information, to prospective life insurance policyholders. We believe our approach to authorisation reflected the underlying policy of sections 7A and 7B.

1.47 We did not supplant the important statutory role of the Government Actuary. However he considered that his role in relation to life companies was limited in practice to that of last-resort intervention.

1.48 The Commission had concerns at some of the inherent difficulties of any "authorisation" process. Because of these concerns the Commission advocated the removal of the authorisation process with the advent of the now current investment adviser and product disclosure regime.

The effect of the revocation of sections 7A and 7B

1.49 The position of life insurance policies under securities legislation changed again from 1 October 1997 with the revocation of sections 7A and 7B. Issuers of life insurance policies are now, subject to certain transitional arrangements¹⁰, required to comply with the full prospectus, investment statement¹¹ and advertising provisions of the Securities Act, although the trustee/statutory supervisor and trust deed/deed of participation provisions of the Act do not apply. Moreover the Investment Advisers (Disclosure) Act 1996 (which also came into force on 1 October 1997) generally applies to investment advisers promoting life insurance policies.

Comment on the structure of the life insurance industry

1.50 The life insurance companies currently operating in New Zealand include companies incorporated in, or subsidiaries of companies incorporated in, a number of different countries, including New Zealand, Australia, the United Kingdom, the United States of
America, Sweden, and Bermuda.

1.51 The operations of the companies incorporated in New Zealand are regulated primarily by the statutory requirements of New Zealand. However the locally incorporated subsidiaries of overseas life companies, could, we understand, also follow regulatory standards imposed in the home jurisdictions if those standards were imposed by direction of the parent company. Branches of overseas life companies operating in New Zealand are regulated primarily by the statutory requirements of their home countries, although they are also subject to New Zealand law.

1.52 These regulatory differences may have implications for New Zealand resident policyholders as well as for the efficacy or otherwise of New Zealand life insurance regulation

Footnotes

Source: Reserve Bank of New Zealand. When managed funds and superannuation schemes administered by life insurance companies are excluded the life companies were responsible for administering assets of some $10.4 billion at 30 June 1997.
ED-79, "Financial Reporting of Life Insurance Business", issued by the then New Zealand Society of Accountants in July 1996.
Source: New Zealand Official 1990 Yearbook, p 577
Shareholder owned companies
Source: Investment Savings & Insurance Association of NZ Inc
A general prohibition on misleading statements in an advertisement also applied from 1983 when the Securities Regulations 1983 came into force.
The date of the coming into force of section 44 of the Securities Amendment Act 1988.
The Code was first issued by Life Office Association of New Zealand in 1989. See paragraph 3.5 onwards for further discussion on the Code.
This is the report of the annual investigation the actuary is required to undertake pursuant to section 18 of the Life Insurance Act 1908.
Under the transitional provisions of the Securities Amendment Act 1996 some life insurance policies may not be subject to the full provisions of the new law until 1 April 1998.
Investment statements are offer documents required for all offerings of securities made after 1 October 1997 (subject to the transitional provisions referred to above). The investment statement is designed (section 38D Securities Act) to provide key information to assist the prudent but non-expert person to decide whether or not to subscribe for securities.

Main Contents

Glossary

Part I - Background

Part II - Life Industry Law and Practices

Part III - Public Policy Discussion

Appendices
INDEX || BACK || FORWARD

Introduction
1.1	The life insurance industry is an important repository of savings in New Zealand with aggregate assets (including managed funds and superannuation) at 30 June 1997 of some $20.68 billion.¹ ¹
1.2	The Commission has been statutorily involved with the life insurance industry since our establishment in 1979. However our relationship with the industry has changed over the years as the status of life insurance policies under the Securities Act 1978 ("the Securities Act") has changed.
1.3	We have prepared this paper with the benefit of our experience of the administration of securities law, particularly as that law has related to the life insurance industry since 1989.
Our statutory authority
1.4	We are publishing this paper in terms of one of our primary statutory functions, that of (section 10(c) of the Securities Act) "[keeping] under review practices relating to securities, and [commenting] thereon to any appropriate body."
1.5	The quorum of Members responsible for this paper comprised: Mr E.H. Abernethy, Chairman Ms E.M. Hickey Mr D.J. Stock Mr M.R.H. Webb.
The purpose and structure of this paper *Purpose*
1.6	On the basis of our experience we believe there are important issues concerning the life insurance industry which need to be discussed more widely and more fully in the community, particularly having regard to the current attention which is being given to the desirability and responsibility of individuals to save for their retirement.
1.7	The purpose of this paper is to identify these issues, and to raise questions concerning the life insurance industry which we believe need to be addressed by the Government, the industry, the accounting profession, the actuarial profession and the investing public. We identify actual or potential issues arising from the current business practices of, and regulatory and financial reporting regimes relating to, the life insurance industry.
1.8	It is not our purpose to provide answers to the questions we identify in this paper, nor does this paper attempt to identify and address all issues relating to life insurance regulation and operations. We think a comprehensive review of the Life Insurance Act 1908 is called for. We believe responses received to the issues identified in this paper will provide a valuable input into such a review.
1.9	We are aware that financial reporting by life insurance companies is already under detailed review with a draft financial reporting standard for life insurance companies² currently on issue.
*Structure*
1.10	In Part I of our paper, after an overview of the New Zealand life insurance industry and of the application of the Securities Act to life insurance contracts, we look at the nature of life insurance contracts and the regulatory environment for the selling of life insurance policies.
1.11	In Part II of our paper we review and discuss a number of key areas of life company operations and structure. For each of these subject areas we discuss our experience of the New Zealand life insurance industry, we refer to the existing legislative environment affecting that aspect of life company operations and we summarise the legislative approaches in Australia and the United Kingdom. We make a number of comments concerning each issue.
1.12	We illustrate some of our comments by use of examples drawn from our experience with the "authorisation" of life insurance companies. The examples are drawn from companies both large and small, both New Zealand and overseas owned. In using these examples in relation to particular topics in this paper the Commission is expressing no view as to the appropriateness or merits of those transactions themselves or on the parties involved. In a number of cases those examples are also parts of wider transactions and views as to those transactions may not be able to be based on the examples alone.
1.13	We have chosen to analyse the approaches taken by overseas regulatory regimes, particularly those in Australia and the United Kingdom, to the issues discussed. We have done this because the New Zealand life insurance industry has been dominated, with a few exceptions, by life insurance companies incorporated in, founded in, or directed from, Australia and the United Kingdom. We do not have a view as to whether the approaches followed by the United Kingdom and Australia (or any other jurisdiction) are the models on which future New Zealand life insurance regulation should be based.
1.14	In Part III we discuss various elements of public policy in relation to the regulation of the New Zealand life insurance industry. We raise various questions for consideration about the issues discussed in Part II.
1.15	We are inviting comments on the questions raised in this paper. When these have been considered we will report to the Minister of Commerce.
Brief overview of the New Zealand life insurance industry
1.16	The life insurance industry has been a feature of New Zealand commercial life for well over a century. Life insurance business in this country was originally undertaken by United Kingdom companies, but in the late 1800s the major Australian mutual companies established branches in New Zealand. The Government established its own life insurance office in 1869 to augment the "very inadequate"³ life insurance facilities existing at the time.
1.17	The retail life insurance industry now comprises around 30 companies. The three large Australian mutuals have already converted to, or are in the process of converting to, widely-held proprietary⁴ companies, with their newly formed parent companies becoming or intended to become listed public companies. With some exceptions New Zealand owned life insurance companies have tended to be fairly small proprietary companies.
1.18	United Kingdom life insurance companies have always had a significant presence in New Zealand, with two of the companies having recently "domesticated" what were formerly branch operations into locally incorporated subsidiaries. More recently life insurance companies from the United States of America and Sweden have commenced operations in New Zealand.
1.19	In addition to aggregate assets under their control of around $20.0 billion (see para 1.1) the life companies operating in New Zealand had "in-force" New Zealand business at 30 June 1997 (including life insurance and superannuation) with annual premiums of $1.565 billion⁵. This is a measure of the companies' expected annual cash flow from premiums on existing policies without regard to new business or policy surrenders and cancellations. At the same date the companies were obligated to pay annuities in New Zealand at a rate of $28.8 million per annum.
A brief summary of the regulation of the New Zealand life insurance industry prior to 1989
1.20	The first New Zealand legislation directly related to the life insurance industry was the Life Insurance Companies Act 1873.
1.21	The Life Insurance Act 1908 ("the Life Act"), which consolidated the 1873 Act and other life insurance legislation then in force, has been the principal source of statutory authority governing the operation and oversight of the life insurance industry in New Zealand since its enactment.
1.22	Under section 10 of the Life Act the Registrar of Companies may not issue a certificate of incorporation to any company that proposes to carry on the business of insurance upon human life unless that company, before commencing to carry on that business, deposits with the Public Trustee approved securities of an aggregate value of not less than $500,000. There are no other barriers to entry into the New Zealand life insurance industry apart from (for overseas companies) compliance with overseas investment legislation.
1.23	The Life Act includes requirements for the depositing of various annual returns with the Secretary of Commerce (formerly with the Secretary of Justice) and for the undertaking by an actuary of an annual investigation of the financial condition of each company (see para 4.8 onwards). The returns filed with the Secretary are all passed to the Government Actuary for his review.
1.24	When the Securities Act was originally enacted on 20 October 1978 contracts of life or endowment assurance, although "securities", were exempted, by section 5(1)(a), from the provisions of Part II of that Act. This meant that life insurance contracts were exempted from the prospectus, trustee, statutory supervisor and advertising requirements of the Securities Act. This situation changed in 1989⁶

The enactment of sections 7A and 7B of the Securities Act 1978
1.25	With effect from 1 July 1989⁷ section 5(1)(a) of the Securities Act was revoked and sections 7A and 7B inserted. The text of sections 7A and 7B is set out in Appendix One to this paper.
1.26	The effect of the new sections was that life insurance contracts became subject to the normal rules of law relating to the offering of securities to the public, but the Commission was empowered by section 7A(2) to "authorise" life insurance companies, that is, to exempt them from the prospectus and trustee/statutory supervisor provisions, but not the advertising provisions, of the Securities Act. The Commission was also empowered to set terms and conditions of authorisation.
Background to the enactment of sections 7A and 7B
1.27	Enactment of sections 7A and 7B followed closely on the Court of Appeal decision in the Marac case (see para 2.2) which ruled that Marac's life insurance bonds, basically term deposits with an insurance element (covering early repayment in the event of the death of the investor), were life insurance contracts for the purposes of the Securities Act. A particular concern was that in the absence of legislative amendment unsatisfactory business practices would affect the debt security type market of the life companies as well as the more traditional life insurance market.
1.28	The Hon Philip Woollaston, Associate Minister of Justice, in introducing a Supplementary Order Paper to the Securities Law Reform Bill into the House of Representatives on 18 October 1988 said (Hansard p. 7409): ... The Securities Act 1978 exempts life insurance policies from Part II of the Act. In recent times, however, the distinction between investments to which the Act applies and life insurance policies has become blurred and provides a means of avoiding the requirements of the Act. As a result of the Court of Appeal decision in the Marac Life Assurance Ltd case the exemption applies not only to traditional life insurance products but to life insurance products that in legal form are life assurance but in economic substance are ordinary investments. In that case, which also involved taxation matters, the life bonds - as they were called - were indistinguishable from ordinary investment except that they were described in life insurance terms and the investor's death accelerated the repayment of the investment. In recent times a trend has emerged circumventing the Securities Act requirements by using the life insurance exemption for what would otherwise be ordinary investment. That position is not desirable, and should be stopped. To that end the supplementary order paper repeals the exemption for life insurance policies, and empowers the Securities Commission to grant an exemption from the Act's prospectus requirements by way of designating life insurance companies as authorised life insurance companies issuing policies in accordance with the authorisation. That approach has been taken because of the difficulty, if not the impossibility, of defining in advance the life insurance policies that are regarded as life insurance proper policies and the life insurance policies that are regarded as an investment in substance. ...
1.29	It was recognised by the industry, the Commission and the Government that much needed to be done to improve the business practices of the life insurance industry. Of particular relevance to the Commission was improving the disclosure obligations of life insurance companies.
1.30	It was accepted that the industry was not ready at that time to move to a full prospectus-based issuing regime. Improvement was needed in the procedures for selling life insurance contracts and in the information provided at the time of sale. Financial reporting by life insurance companies, based as it was on the schedules to the Life Act, was inconsistent between companies and generally unsatisfactory. There was no accounting standard applicable to life insurance business at that time.
The general conditions of authorisation under sections 7A and 7B
1.31	Authorisations were subject to a number of general conditions imposed by the Commission under sections 7A(3) and 7B. One of the principal conditions of authorisation, applying throughout the period the two sections were in force, was a limitation of 12 months on each company's period of authorisation. This meant that each company had to apply for renewed authorisation each year.
1.32	The second main condition of authorisation was that life insurance companies agreed to abide by the Code of Business Practices for Life Insurance Companies ("the Code")⁸. The Code, which was formulated by the industry and approved by the Commission, regulated many aspects of life company selling practice, including information, such as financial statements and policy details, required to be disclosed to policyholders and prospective policyholders.
1.33	A third condition of authorisation, introduced in 1995, related to a "directors' statement". It contained a declaration as to the directors' knowledge of any adverse circumstances which had arisen between the date of the company's last financial statements and the date of signature of the statement. It effectively imposed an obligation on the directors of life insurance companies to affirm in a document provided to investors that they had addressed the financial condition of their companies mid-way through the year. (Life insurers, unlike other continuous issuers of securities at the time, were not required to prepare half-yearly financial statements.)
The Commission's approach to the authorisation of individual life insurance companies under section 7A
1.34	The Commission's approach to the "authorisation" of life insurance companies was to approve authorisation for a period of twelve months where Commission Members were satisfied, on the basis of staff review of each life insurance company's: latest audited financial statements; Sixth Schedule statutory return, prepared by the company's actuary, which indicated the applicant's "actuarial" profit (solvency basis) and any surplus or deficit in the "life insurance fund"; Twentieth Schedule statutory return, which indicated the business being written by the company; that the affairs of the company were reported in an orderly manner in accordance with the law and that there were not aspects of the company's activities or operations which should be drawn to the attention of prospective investors either through requiring the company to issue a prospectus or by some supplementary means of disclosure.
1.35	We required the financial and other information to be supplied to us within four and a half months of balance date (as compared to the nine months allowed under the Life Act for the returns and the five months allowed for the auditing and registration of the financial statements under the Financial Reporting Act 1993 ("the FRA")) in order to ensure that (1) we would be making our authorisation decision on the basis of timely information, (2) prospective policyholders who exercised their rights to request them would be given financial statements which were reasonably current and (3) we could establish an orderly and predictable annual procedure for the authorisation of companies.
1.36	In reviewing the information available to us we paid attention to various factors including: the amount of profit as disclosed in the Sixth Schedule return (and also disclosed sometimes, but not often, in the financial statements); the level of the company's reported shareholders funds and reserves (or, in the case of mutual companies, their reserves); any surplus in the valuation balance sheet between the actuarially computed amount of the company's liabilities to its policyholders and the stated amount of its "policyholders' funds" as disclosed in the company's financial statements; the nature and spread of the company's assets, including exposures to related parties; and any external debt, guarantees or other contingent obligations.
1.37	Where the Sixth Schedule abstract indicated that there were matters about which the company's actuary was concerned we sought the actuary's full Financial Condition Report⁹.
1.38	We routinely discussed individual cases with the Government Actuary. In one case the Commission retained an international firm of consulting actuaries to give an expert analysis of an applicant's solvency.
1.39	Where review of a company's financial statements and actuarial reports indicated there could be something about the company's performance, structure or assets which should be brought to the attention of prospective investors we sought further information and invited comment from the company. These indications sometimes lead to the imposition of pre-conditions on the authorisation, generally although not always about the disclosure of additional information, or to an application being declined. Sometimes approval was granted on a short term basis, say three months, to allow a particular situation to be remedied before an application was granted in full.
1.40	In a few instances we believe our interest in requiring a company to disclose information on its financial position may have encouraged that company to increase its level of paid up share capital. However it has not been the Commission's role to prescribe minimum or appropriate levels of capital or solvency.
1.41	The Commission also had the power under section 7A(4) to vary or revoke existing authorisations. For this purpose we reviewed existing authorisations in circumstances where: There appeared to be matters about the company's financial position which should be drawn to the attention of prospective investors and which had come to light since the most recent application for authorisation was approved by the Commission; or The company's current financial statements appeared to be misleading as a result of factors which had come to light or events which had occurred since the most recent application for authorisation was approved; or Some other factor or factors material to the company's status as an authorised life insurance company had come to the attention of the Commission.
An overview of the authorisation process
1.42	In the first year of operation of section 7A (year ended 30 June 1990) the Commission declared 40 companies to be authorised life insurance companies, of which 39 remained authorised at year end. In the year ended 30 June 1991 38 companies were authorised, of which 36 remained in force at year end. The number of authorisations then remained at 35 for several years but dropped to 34 by June 1997.
1.43	All but one authorisation was in respect of all the life insurance policies sold by the authorised company. One company was authorised for several years in respect of life insurance policies other than those policies secured by mortgage securities given over company property and issued in terms of a registered prospectus.
1.44	Since 1990 we have reviewed the existing authorisations of several life companies outside of the routine reauthorisation procedures. These reviews were prompted by a variety of factors, including concerns expressed by the Government Actuary, identification of potential difficulties arising from relationships with related parties, financial statements which did not comply with the FRA, and the pledging of a life company's assets to an external financier. In one case we revoked the authorisation of the company concerned.
Comment on our authorisation role
1.45	Life insurance authorisation was a difficult area for us because it involved our taking a view about the adequacy of information available to prospective investors in individual life insurance companies in the absence of the company being obliged to issue a registered prospectus which would have had to be provided to each prospective investor.
1.46	Our main emphasis was on promoting adequate disclosure of product and institutional information, including financial information, to prospective life insurance policyholders. We believe our approach to authorisation reflected the underlying policy of sections 7A and 7B.
1.47	We did not supplant the important statutory role of the Government Actuary. However he considered that his role in relation to life companies was limited in practice to that of last-resort intervention.
1.48	The Commission had concerns at some of the inherent difficulties of any "authorisation" process. Because of these concerns the Commission advocated the removal of the authorisation process with the advent of the now current investment adviser and product disclosure regime.
The effect of the revocation of sections 7A and 7B
1.49	The position of life insurance policies under securities legislation changed again from 1 October 1997 with the revocation of sections 7A and 7B. Issuers of life insurance policies are now, subject to certain transitional arrangements¹⁰, required to comply with the full prospectus, investment statement¹¹ and advertising provisions of the Securities Act, although the trustee/statutory supervisor and trust deed/deed of participation provisions of the Act do not apply. Moreover the Investment Advisers (Disclosure) Act 1996 (which also came into force on 1 October 1997) generally applies to investment advisers promoting life insurance policies.
Comment on the structure of the life insurance industry
1.50	The life insurance companies currently operating in New Zealand include companies incorporated in, or subsidiaries of companies incorporated in, a number of different countries, including New Zealand, Australia, the United Kingdom, the United States of America, Sweden, and Bermuda.
1.51	The operations of the companies incorporated in New Zealand are regulated primarily by the statutory requirements of New Zealand. However the locally incorporated subsidiaries of overseas life companies, could, we understand, also follow regulatory standards imposed in the home jurisdictions if those standards were imposed by direction of the parent company. Branches of overseas life companies operating in New Zealand are regulated primarily by the statutory requirements of their home countries, although they are also subject to New Zealand law.
1.52	These regulatory differences may have implications for New Zealand resident policyholders as well as for the efficacy or otherwise of New Zealand life insurance regulation