NAIC Working Group Extends Guidance on Restructuring Troubled Debt

Insurers with portfolio assets that are distressed because of the COVID-19 pandemic will want to consider the extension of prior guidance from the National Association of Insurance Commissioners (NAIC) on restructuring such debt.

On Jan. 25, 2021, the NAIC’s Statutory Accounting Principles Working Group (SAPWG) adopted two interpretations (INT 20-03 and INT 20-07, available here) extending the NAIC’s accounting methodologies that insurers are to use in restructuring mortgage loans, other loans and debt securities where issuers may be unable to make payments on the obligation due to the pandemic.

• Under INT 20-03, when modifying mortgage loan or bank loan terms in response to COVID-19, insurers must follow the provisions detailed in
  
  
  • the April 7, 2020 “Interagency Statement on Loan Modifications and Reporting for Financial Institutions Working with Customers Affected by the Coronavirus” (a joint statement encouraging lenders to work with borrowers on COVID-19-related delinquencies) and
    
    
  • the Coronavirus Aid, Relief, and Economic Security Act (CARES Act) of March 2020

in determining whether the modification is reported as a “troubled debt restructuring” (TDR) within applicable statutory accounting rules (i.e., SSAP No. 36). INT 20-03 applies to any modification, including a forbearance arrangement, interest rate modification, repayment plan, and other similar arrangement that defers or delays the payment of principal or interest for a loan that was not more than 30 days past due as of Dec. 31, 2019. In response to the federal legislation enacted in December 2020 (the Consolidated Appropriations Act, 2021) extending the CARES Act, the interpretation applies the guidance on troubled debt through the earlier of Jan. 1, 2022, or the date that is 60 days after the date on which the COVID-19 national emergency terminates.

• INT 20-07 provides guidance on TDRs and impairments for all debt securities.
  
  
  • The interpretation does not provide exceptions to
    
    
    • the recognition of a TDR for debt securities with modifications that result in non-insignificant concessions to a debtor that is experiencing financial difficulties or
      
      
    • the assessment or recognition of impairment for debt instruments.
      
      
  • The interpretation provides the following “limited-time practical expedients” in determining whether a modification is a concession under the statutory accounting guidance.
    
    
    • SSAP No. 36 provides that restructured payments are considered insignificant
      
      
      • if the delay is insignificant to the unpaid principal or collateral value of the debt and will result in an insignificant shortfall in the contractual amount due or
        
        
      • if the delay in timing of the restructured payment period is insignificant to the frequency of payments due under the debt, debt’s original contractual maturity or the debt’s original expected duration
        
        
    • For these purposes, the interpretation states that
      
      
      • debt security restructurings in response to COVID-19 are considered to be insignificant if
        
        
        • the restructuring results with a change that reflects a 10% or less shortfall amount in the contractual amount due or
          
          
        • if the restructuring does not result in an extension of the maturity of the debt by more than three years, and
          
          
      • debt security restructurings in response to COVID-19 that solely impact covenant requirements are not considered TDRs.
        
        
  • With respect to SSAP No. 103’s provisions on modifications:
    
    
    • Modifications that reflect a 10% or less change in contractual cash flows do not need to be further evaluated to determine whether the modification is more than minor based on the specific facts and circumstances (and other relevant considerations) surrounding the modification. As such, these investments are not to be reported as an extinguishment and a new debt instrument.
      
      
    • Modifications in response to COVID-19 that exceed the practical expedient of a 10% shortfall in contractual cash flows deemed insignificant under SSAP No. 36 are not considered an exchange of debt instruments with substantially different terms under SSAP No. 103. Insurers must work with auditors and regulators to confirm that a change in contractual cash flows in excess of 10% qualifies as insignificant.
      
      
  • Modifications that would be considered TDRs, particularly as they provide a non-insignificant concession, may be presented to the domiciliary state regulator for a permitted practice exception to prevent TDR recognition and disclosure. However, because of the need for reliable and accurate financial information, exceptions are not allowed that would permit “wide-spread non-insignificant restructurings to occur and not be recognized on the statutory financial statements.”
    
    
  • This interpretation was originally adopted in 2020, with an effective period beginning on March 1, 2020, and ending on the earlier of Dec. 31, 2020, or the date that is 60 days after the date on which the national COVID-19 state of emergency terminates. In accordance with the CARES Act extension of December 2020, the new interpretation extends effectiveness to the earlier of Jan. 1, 2022, or 60 days post-termination of the state of emergency.