| ISSUES IN THE REGULATION OF LIFE INSURANCE
COMPANIES |
| 11.1 |
In this Part of our paper we discuss some of the issues relating to possible forms of regulation of the life insurance industry. We do this to assist readers to respond to the questions set out in section 12. We are not promoting any particular regulatory approach. The Commission at this stage does not have a view as to the appropriate form of regulation, if any, of the life insurance industry.
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11.2
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A fundamental question in any regulatory review is whether there should be any form of regulation of the subject industry or activity at all. The paper does not address that question. We believe the most useful way to consider life insurance regulatory issues at this time is in the context of already-regulated markets. This brings into consideration some "level playing field" arguments as well as questions of the appropriate degree of regulatory input, if any, into various facets of companies' operations.
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11.3
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We are aware there is extensive academic
literature on the economics of regulation. We would expect any comprehensive review
of the Life Act to have proper regard to the literature.
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| 11.4 |
The existing "regulation" of the life insurance
industry is a mix of various inter-dependent components. We discuss the existing
components of life insurance regulation, and some possible additional or alternative
elements, including the possibility of appointing a trustee or statutory supervisor
for life companies, introducing an appointed actuary regime, or introducing a
requirement for compulsory rating of life insurance companies' obligations, in
the remainder of this section.
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| The duties of the directors of life insurance companies
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| 11.5 |
Issues which arise when considering the possible weight to give to reliance on directors' statutory and other duties as means of "regulating" the life insurance industry include:
- the influence of directors' duties is pervasive i.e. it affects all aspects of a company's operation without the need for specific regulation of various components;
- 2 action against directors for breach of their duties is generally a civil
matter taken by shareholders or creditors;
- enforcement action may be too expensive, or too impractical, for individual
policyholders, or shareholders, to undertake;
- policyholders are owed duties as creditors of life companies but may be contractually
vulnerable to the ability of companies to vary the amounts owed to them as creditors;
- different rules of law apply to directors of companies incorporated in New
Zealand and those incorporated overseas but carrying on business in New Zealand;
- the penalties provided in the legislation may not be adequate as a means
of ensuring directors are diligent in carrying out their obligations;
- broadly expressed duties and obligations may be difficult to apply in specific circumstances and ultimately require interpretation by the Courts;
- directors of New Zealand life insurance companies have no obligation to give priority to the interests of policyholders;
- policies tend to be for a long period of time and the policy of directors on conduct of the company's business generally, including investment philosophy and the allocation of benefits to policyholders, may change significantly over the contract period.
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The role of market scrutiny in the regulation of the industry
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11.6 |
Matters which arise in relation to the possible weight
which should be given to market scrutiny as a means of "regulating" the life insurance
industry include:
- the adequacy of disclosures to be made in the prospectuses and investment
statements of life companies;
- the limitations inherent in any prescribed disclosure regime, including the
cost of compliance, the risk of over- or under-prescribing the amount of information
to be provided, and the difficulties of keeping abreast with market developments;
- the responsibility for investment decisions rests with the investor;
- life insurance companies are complex and it is not possible for the prudent
but non-expert investor to adequately comprehend their financial and actuarial
information;
- the nature of investors in or beneficiaries of life insurance policies,
being generally private individuals, often purchasing life insurance at a young
age or when family circumstances may dictate the need for some life insurance
cover;
- disclosures to prospective investors of a life company's investment mix may
be of limited usefulness when a life insurance contract may run as long as 70-80
years;
- knowledge of a company's deteriorating financial performance or position
may be of little benefit to an existing policyholder because of the generally
high cost to the policyholder of surrendering a policy.
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Direct role of the Government and its
agencies
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| 11.7 |
Issues which arise in relation to the possible weight which should be given
to the role of the central government in the "regulation" of the life insurance
industry include:
- Government intervention involves direct costs for the taxpayer, compliance
costs for life companies, and resource allocation costs;
- the effectiveness of the respective present roles of the Secretary for Commerce,
the Government Actuary and the Securities Commission in monitoring and last-resort
intervention is dependent on provision of appropriate resources;
- if the Government contemplated some form of prudential supervision for the life insurance industry, the matters for consideration might include the levels of solvency and capital adequacy, the quality of investments, major transactions such as the pledging of assets and acquisition or sale of businesses. Factors bearing on the costs and benefits of such an approach might include:
- similar factors to those which may limit the effectiveness of market scrutiny
of the industry (see para 11.6 above);
- investors in life insurance products may gain a more reasoned expectation
that life insurance companies will remain solvent in the longer term regardless
of future changes to management or ownership;
- the moral hazard costs arising from the perceived moving of responsibility
for monitoring company performance to the supervisor and the associated reduced
diligence of investors.
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| 11.8 |
Australia and the United Kingdom have rules of law relating to life companies'
processes of profit allocation, setting of fees and charges, and determination
of policy surrender values. Issues arising as to whether such rules of law should
be introduced in this country include:
- while a minimum surrender value standard along Australian lines may give
policyholders greater assurance as to the value of their investments it could
arguably also put a life insurer's solvency at increased risk because the company
would have a reduced capacity to lower the value of its obligations to policyholders
in certain circumstances;
- if a significant share of the risk of investment decisions is passed to the
policyholders this would give the directors of life insurance companies incentives
to engage in somewhat more risky investment or other activities than might otherwise
be the case;
- effective disclosure of profit allocation policies and of fees and charges
should diminish or offset factors such as the weak bargaining position of individual
investors and the difficulty of monitoring companies' compliance with commitments
made to investors in earlier years.
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The segregation of policyholders' funds
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| 11.9 |
Issues which arise in relation to the segregation of policyholders' funds
include:
- the adequacy and clarity of the present provisions of section 15 of the Life
Act regarding the separation of the life insurance assets of a life insurance
company;
- the risks and benefits to policyholders which can arise from the pledging
of life insurance assets to third parties in priority to, or competition with,
the claims of policyholders;
- the creation of separate "statutory funds" for the receipt of policyholders'
premium and other payments and the holding of the corresponding assets should
help to clarify:
- the status of policyholders' funds in the event of the winding up of the
company;
- whether the assets of such funds could be pledged as security to third parties,
and, if so, whether the circumstances in which this is done need to be constrained;
- the terms on which moneys could be transferred out of such funds other than
by way of distribution to policyholders i.e to other funds or to shareholders.
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The change of ownership of life insurance companies and portfolios of life insurance business
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| 11.10 |
Issues which arise in relation to changes of ownership of life insurance companies and portfolios of life insurance business include:
- the adequacy or otherwise of the existing provisions of the Companies Act
and the Listing Rules of the New Zealand Stock Exchange in relation to changes
of company ownership and other major transactions;
- the adequacy or otherwise of the 'financial assistance" provisions of the Companies Act in relation to use of the resources of a life insurance company to finance its own acquisition;
- the favourable and adverse affects for policyholders which could follow from changes of company or portfolio ownership;
- the status of policyholders as creditors of life insurance companies;
- the desirability or otherwise of giving policyholders some input into changes of company or portfolio ownership;
- whether directors of life companies should be required to obtain independent actuarial advice in relation to major transactions including changes of company or portfolio ownership.
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The appointment of a trustee or statutory supervisor for life insurance companies
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11.11
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Issues which arise in relation to a possible requirement
to appoint a trustee or statutory supervisor to a life insurance company include:
- the similarity of some life company policies, particularly short-term fixed
interest bonds, with debt securities, for which a trustee is required to be appointed;
- the similarity of some life company policies to interests in a unit trust
under the Unit Trusts Act 1960 or in a contributory scheme under the Securities
Act, which have a trustee or a statutory supervisor;
- the actuary does not appear have a clear role in relation to policyholders;
- although the Government Actuary has power to report to the Minister on the
basis of his analysis of a company's statutory returns, this power has, in practice,
been one of last-resort used where the solvency of a life insurance company appeared
to be at risk;
- a trust deed could provide a mechanism to overview life insurance company
capital adequacy, solvency and investment practices, major transactions, profit
allocation policies and the giving of security over company assets, in the interests
of the policyholders;
- a trustee would be in a position to initiate winding up action on behalf
of policyholders;
- difficulties may arise with any proposal to introduce a trustee requirement because of the number of New Zealand insurance companies which are incorporated overseas and, potentially, subject to comprehensive regulation in their primary place of business.
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An appointed actuary for life insurance
companies
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| 11.12 |
Issues which arise in regard to possible introduction of an appointed actuary
regime in New Zealand include:
- the Life Act does not currently define "actuary" nor set minimum standards
of education, experience or competence;
- actuaries currently have no guaranteed rights of access to company records, speaking rights at board meetings, nor protection for "whistle-blowing";
- actuaries currently have no reporting obligations to policyholders;
- restricting participation in a statutory office to those persons who meet certain academic and other qualifications may restrict competition among those wishing to provide actuarial advice to life companies;
- whether an appointed actuary regime needs to have statutory backing or whether, alternatively, it could be established and managed by the actuarial profession in consultation with the life companies.
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A requirement for compulsory rating of
life insurance obligations
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| 11.13 |
Issues which arise concerning possible introduction of a compulsory rating
requirement for life insurance companies include:
- requiring disclosure of a rating could be an effective way of communicating
a professional assessment of a company's long-term claims paying ability to prospective
investors;
- a rating requirement could be seen as a substitute for, or addition to,
a more broadly-based scheme of regulation for life insurance companies;
- life insurance companies would be put in a similar position to general insurance
companies, which already have a legislative requirement to obtain a rating of
their claims-paying ability;
- it may be necessary to distinguish for this purpose companies offering term
life insurance policies only, which are no longer subject to the Securities Act,
and companies offering investment linked policies. The term life policy is likely
to be renewed annually. The investment linked policy will tend to be of a much
longer duration, and have a surrender value during the life of the policy;
- should the policyholder have any rights in the event that a company's rating
deteriorates, e.g. a right to terminate a policy, or to alter the terms of investment;
- the quality of rating agencies for the purposes of any compulsory requirement
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