| Our experience with the New Zealand life insurance industry |
| 4.1 |
Life insurance companies are complex financial institutions. There are both mutual and proprietary companies. There is no single measure or standard available in New Zealand to measure the financial strength of individual life companies. What might be wholly adequate
capital for one company may be inadequate for another depending on the
nature of its life insurance liabilities, the nature of and concentration
of its risk exposures, the degree of any mismatching between assets
and liabilities, and its liquid resources.
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| 4.2 |
Having regard to the above measurement limitations we have observed
what has seemed to us to be a wide diversity in the financial strength
of life insurance companies operating in New Zealand over recent years.
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| 4.3 |
4.3 During the period section 7A was in force one life insurance company,
ACL Insurances Limited22, was placed in judicial management. This occurred
late in 1989.
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| 4.4 |
ACL's assets were concentrated in two major
investments, a retirement home which was a related party of ACL (exposure
of 53% of ACL's assets) and a commercial development (36.6% of total assets
but subject to a mortgage to a bank). Included among ACL's funding were
call insurance bonds of around 8% of total assets. |
| 4.5 |
The retirement home was in financial difficulty.
Its primary financier, DFC New Zealand Limited, was in statutory management.
The retirement home's security arrangements were such that financiers
had security claims ahead of those of the residents. The retirement home's
prospectus was cancelled by the Commission in November 1989 on the grounds
that it was misleading as to material particulars. |
| 4.6 |
Despite having shareholders funds of 26% of
total assets the company ultimately went into liquidation. |
The legal provisions relating to the solvency and capital adequacy
of New Zealand life insurance companies
Disclosures to Government agencies
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| 4.7 |
There are no explicit requirements for New Zealand
life insurance companies to maintain minimum levels of solvency or capital
adequacy other than the requirement that companies deposit securities
to the value of $500,00023with the Public Trustee. These securities are
held in trust for the policyholders.
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| 4.8 |
There is a requirement for an annual actuarial investigation of each
life company. Section 18 of the Life Act says:
- Every company shall, once in every year, cause an investigation
to be made into its financial condition by an actuary, and shall cause an abstract of the actuary's report to be made in the form prescribed in the Sixth Schedule hereto.
- [The remaining subsections provide that, by public notice, the Minister can, for individual companies, relax the requirement for an annual valuation to not less than a five yearly valuation.]
The requirements of the Sixth Schedule to the Life Act are set out
in Appendix Two to the paper.
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| 4.9 |
The Sixth Schedule abstract is required to disclose
the company's "profit" for the year, prepared on a solvency basis (see the footnote related to para 9.13), and to include a valuation balance
sheet. The valuation balance sheet discloses whether or not there is any
surplus or deficit between the value of the company's liabilities to its
policyholders as calculated by the actuary and the amount of its "life
insurance funds" as disclosed in the company's financial statements (see
para 9.3 for further discussion).
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| 4.10 |
The actuary is required to state the principles
on which the valuation was prepared, and to identify whether those principles
were determined by the company's constitution, some other instrument,
or otherwise. The abstract is required to include information concerning
the interest rates and mortality tables used.
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|
4.11 |
Life insurance companies are required to deposit various other statutory returns with the Secretary of Commerce, including revenue statements and balance sheets relating to their business. These returns are to be in the form prescribed in schedules to the Life Act. They include some very quaint investment categories, such as investments in Colonial and Indian government securities and in railway shares. Barker J commented on these returns in his judgment in the ACL case (see para 6.5).
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| 4.12 |
Pursuant to section 22 of the Life Act a
copy of the returns and abstract has to be provided by the Secretary to
the Government Actuary. The Secretary can enquire from a company concerning
any matter covered in the returns or abstracts, and may request from the
company any further information considered necessary for the purposes
of the Life Act.
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| 4.13 |
The section 18 reports, and any information or explanations provided by life companies in response to requests from the Secretary, form one basis for official intervention should the Government Actuary choose to investigate further or report to the Minister24 on the position of any company whose returns or abstract report indicate there may be cause for concern.
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| 4.14 |
Section 40A of the Life Act relates to powers
of judicial management, and provides that one of the grounds for a company
to be placed in judicial management is that there is "... a likelihood
that the company is or will be unable to meet any of its liabilities to
policyholders". Information supporting an application for judicial management
can include a report by the Government Actuary prepared under section
22 of the Life Act.
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Disclosures to investors and prospective investors
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| 4.15 |
Life companies are required to publish or place
on public record financial statements disclosing their performance and
financial condition.
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| 4.16 |
Under the FRA life insurance companies are "issuers"
of securities (and also "reporting entities"). As such they are required
to deliver to the Registrar of Companies ("the Registrar") for registration
audited financial statements which comply with the requirements of that
Act (compliance with applicable approved financial reporting standards
and generally accepted accounted practice) within five months and twenty
days of balance date.
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| 4.17 |
However there is no approved financial reporting standard applicable
to life insurance business. There are a number of approaches to life
insurance accounting which arguably come within the scope of "generally
accepted accounting practice". These alternative approaches generally
involve use of market values rather than historic costs for the valuation
of assets and some liabilities. They differ in how they value policyholder
liabilities25.
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| 4.18 |
The Accounting Standards Review Board ("the
ASRB") has given life insurance companies "which adopt a market value
basis of accounting" what are in effect a number of dispensations from
compliance with current accounting standards26. One of the reasons given
(in August 1994) by the ASRB for giving these dispensations was that promulgation
of a new financial reporting standard for life insurance companies was
"imminent".
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| 4.19 |
The importance given to compliance with financial
reporting obligations under the FRA is underscored by a number of offence
provisions relating to various aspects of non-compliance. They are of
limited effect in relation to the content of life insurance company financial
statements because the penalty provisions relate to non-compliance with
approved financial reporting standards.
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| 4.20 |
A prospectus for life insurance policies is required to include27 reference to the issuer's latest financial statements that comply with, and have been registered under, the FRA. Financial statements prepared in terms of the present draft financial reporting standard for life insurance business would have to:
- refer to the date of the actuary's report on policy liabilities (and
solvency reserves, once a basis for their calculation is available);
- give the actuary's name and qualifications;
- state the basis on which the liabilities have been determined; and
- state whether the actuary is satisfied as to the accuracy of the
company's data.
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| 4.21 |
A prospectus for life insurance policies is required by Schedule 3B
to disclose:
- The date of the latest actuarial report in respect of the life insurance company that has been deposited with the Secretary of Commerce under the Life Insurance Act 1908, and the period to which the report relates.(Clause 12(4));
- the place at which the actuarial report (among other documents) may
be inspected (Clause 13);
- the name of the actuary involved in the preparation of the prospectus
(Clause 4(5)).
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| 4.22 |
The returns, abstracts, financial statements
and prospectuses are available on request by any policyholder or shareholder
of the company. Thus in the absence of further enquiry the Secretary and
the Government Actuary have available to them, for monitoring purposes,
the same information as that available to any shareholder or policyholder.
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The duties of directors
of life insurance companies
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| 4.23 |
Directors of a life insurance company are bound
by their normal obligations as company directors.
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| 4.24 |
There are no specific duties imposed by the Companies Act 1993 on directors of life companies in relation to the interests of policyholders. Policyholders are creditors of the life company and
are owed duties in that capacity. Policyholders are, however, in the unusual
situation for creditors that companies can in many cases determine the
amount owed to them (see para 8.1 onwards).
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| 4.25 |
To the extent that a life company's financial
position can be adversely affected by related party transactions the Companies
Act permits a company incorporated under that Act29 to act in the best interests
of its holding company, even if this is not in its own best interests
(see para 4.26), where it is a wholly owned subsidiary, and its constitution
enables it to so act. The other requirements of the Act, however, including
those covering related party transactions, still have to be observed.
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4.26
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The relevant provisions in the Companies Act 1993 relating to directors' duties include:
Sect. 131. Duty of Directors to Act in Good Faith and in Best Interests of Company--
- Subject to this section, a director of a company, when exercising powers or performing duties, must act in good faith and in what the director believes to be the best interests of the company.
- A director of a company that is a wholly-owned subsidiary may, when exercising powers or performing duties as a director, if expressly permitted to do so by the constitution of the company, act in a manner which he or she believes is in the best interests of that company's holding company even though it may not be in the best interests of the company.
Sect. 137. Director's Duty of Care--
A director of a company, when exercising powers or performing duties as a director, must exercise the care, diligence, and skill that a reasonable director would exercise in the same circumstances taking into account, but without limitation,--
- The nature of the company; and
- The nature of the decision; and
- The position of the director and the nature of the responsibilities
undertaken by him or her.
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| 4.27 |
There are no provisions in either the Companies
Act or the Life Act which bear specifically on the conduct of life company
business. While Barker J observed in the ACL case (see para 6.5) that
section 15 of the Life Act creates a trust in favour of the policyholders
in relation to a separate fund established under that section, the directors
of life insurance companies are not trustees in the formal legal sense
in relation to a company's general or non-separated funds.
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| 4.28 |
The situation in New Zealand for the regulation
and supervision of capital adequacy and solvency of life insurers is in
contrast to that in Australia and the United Kingdom. In addition, the
directors of Australian life insurance companies owe special duties to
their policyholders.
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Approach to the regulation of solvency and capital adequacy for life
insurers in Australia and the United Kingdom
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| 4.29 |
In Australia the Life Insurance Act 1995 ("the LIA (Aust)") requires that all companies observe solvency (Part 5, Division 1) and capital adequacy (Part 5, Division 2) standards. Section 66 describes the purpose of the solvency standard as:
... to ensure, as far as practicable, that, at any time, the
financial position of each statutory fund of a life company is such
that the company will be able, out of the assets of the fund, to meet
all policy and other liabilities referable to the fund at that time
as they become due.
Section 71 describes the purpose of the capital adequacy standard as:
... to ensure, as far as practicable, that there are sufficient
assets in each statutory fund of a life company to provide adequate
capital for the conduct of the business of the fund in accordance
with this Act and in the interests of the owners of the policies referable
to the fund.
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| 4.30 |
The Life Insurance Actuarial Standards Board
("the LIASB")30 has promulgated standards for both solvency and capital
adequacy of Australian life companies.
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| 4.31 |
The aim of the solvency standard is to ensure
that "under a range of adverse circumstances the company would be expected
to be in a position to meet (guaranteed) obligations to policy owners
and other creditors." The aim of the capital adequacy standard, on
the other hand, is to "prescribe the capital requirement of a statutory
fund to ensure that the obligations to, and reasonable expectations of,
policy owners and creditors are able to be met under a range of adverse
circumstances, in the context of a viable ongoing operation."
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| 4.32 |
The requirements arising from the capital adequacy
and solvency standards are separate but related. Companies are required
to meet the larger requirement of the two, which is generally that arising
from the capital adequacy standard because that standard includes capital
requirements related to planned levels of new business. Australian life
companies are required to disclose the manner of their compliance with
the solvency standard but not the capital adequacy standard in their published
financial statements. The reason for this distinction is not known.
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| 4.33 |
The Australian standards are detailed, with
the actuaries given parameters within which to calculate the requirements
and guidance as to how to deal with most factors. The solvency standard,
in particular, is quite prescriptive. Nevertheless the Australian prudential
framework still leaves scope for considerable judgement on the part of
the appointed actuary31.
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| 4.34 |
In the United Kingdom, prior to 1982, the solvency
requirements of UK life offices were not specified. Provided the appointed
actuary was able to certify that the liabilities of the long-term fund
could be met from the fund the company was at liberty to continue trading.
The valuation of assets was guided by regulations but the actuary had
a free hand in measuring the company's liabilities. However, since the
passage of the Insurance Companies Act 1982 ("the ICA(UK)") in 1982, life
offices have had to demonstrate a specified margin of solvency, having
valued their assets and determined their liabilities in accordance with
regulations. There is also a minimum solvency requirement, providing for
a minimum guarantee fund, which must be met by all life companies.
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| 4.35 |
While the regulations for calculating the solvency margin are detailed
and prescriptive, there is a need for greater reliance on the judgement
of the appointed actuary than is the case in Australia. We will note
later (see para 5.9) that the UK asset valuation rules operate as a
de facto restraint on exposure concentrations.
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The legal duties of directors of Australian life insurance companies
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| 4.36 |
In Australia, under section 32(1)(b) of the LIA (Aust), a life insurance company is required, in the investment, administration and management of the assets of a statutory fund, to give priority to the interests of policyholders of the fund. Section 48 of that Act states that directors of a life company have a duty to the owners of policies referable to a statutory fund of the company. The director's duty is defined as being a duty to take reasonable care, and to use due diligence, to see that, in the investment, administration and management of the assets of a statutory fund, the company gives priority to the interests of policyholders of the fund. Where there is a conflict between the interests of policyholders and shareholders section 48(3) states that the directors' duty is to see that the company gives priority to the interests of policyholders and prospective policyholders over the interests of shareholders.
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| 4.37 |
These are relatively new rules of law. Their effect was described
in the February 1997 edition of the Australian Business Law Review
volume 25, page 62, in an article "Life Insurance Company Directors:
Beyond the Call of Duty" by Amanda Morgan, a solicitor with Freehill
Hollingdale & Page. Morgan concluded her article with:
In addition to the duties which all directors face, directors
of life insurance companies have additional duties. Under the 1995
Act, directors have a duty to ensure that in the investment, administration
and management of statutory fund assets, policy owners are given priority.
Such a duty is unique outside fiduciary law. That is, directors are
not trustees via-a-vis policy owners, yet they are still required
to exhibit one of the characteristics of a fiduciary, namely the duty
to avoid a conflict of interest. Furthermore, the priority duty is
unique in being owed to a third party and not to the company as a
whole. Although some commentators have exaggerated the duty of priority,
it does go further than previous legislation in spelling out the exact
nature of the duty which leads to the personal liability of directors
to make good any loss to a statutory fund. Furthermore, the introduction
of the duty makes it clear that it is not enough simply to consider
the interests of policy owners (...); their interests must be given
priority. ...
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Comment
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| 4.38 |
There has been one failure of a New Zealand
life insurance company involving losses to policyholders in recent years.
There have been life insurance company failures in overseas countries.
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| 4.39 |
New Zealand life companies currently operate
in a regulatory environment combining some official sector scrutiny with
provision for last-resort intervention, and regulated disclosure obligations
to policyholders, prospective policyholders and government agencies (although
the effectiveness of the disclosure obligations is constrained by the
lack of an approved financial reporting standard for life insurance business).
The directors of life companies are required to carry out a number of
statutorily imposed duties and responsibilities.
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| 4.40 |
The current regulatory environment for life
insurance companies is somewhat different from that prevailing in Australia
and the United Kingdom.
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| 4.41 |
In the next sections of the report we comment
on a number of specific aspects of life company activities which are commonly
subject to regulatory intervention in other countries, and which can impact
on the financial soundness of, and/or the benefits received by policyholders
of, life insurance companies.
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