OSFI proposes changes to MCT rules

Included in the myriad of proposed changes to the Minimum Capital Test (MCT) issued by OSFI on May 24, 2013, is a small section that affects the calculation of capital required for structured settlements owned by P&C insurers.

The current formula followed by a P&C insurer that owns a structured settlement is as follows:

 Current structure value x Capital Factor of 0.5%¹  x Credit Conversion Factor of 50%.

Once the P&C insurer has a listing of the current value of owned structures, the math is simple.

Under the proposed changes, far more detail is required.

1. The proposals speak of a “Term to Maturity” to determine which Credit Factor applies (broken down to periods of less than one year; greater than one year but less than five years; and greater than five years).  The difficulty: “Term to Maturity” doesn’t apply to structures.  Structures don’t mature, they exhaust.  Moreover, structures are intended to be long term in nature.  Breaking down “Term to Maturity” in categories less than five years is rather meaningless.

When queried on this, OSFI clarified that the date of the last structure payment will be the “maturity date”.  While this works for annuities that pay for a fixed period of time, it is less clear when annuities pay “for life”.

When asked for clarification on lifetime annuities, OSFI advised that the P&C insurer should determine the remaining life expectancy of the payment recipient (presumably using data from Statistics Canada), taking into account any impairment ratings.  For our clients that have asked us for the extra detail to prepare their QIS reports², we have assumed that any structure that is lifetime in nature will have a “Term to Maturity” greater than five years.

2. The Credit Factors are also more finely graduated depending on the credit rating of the issuing Life insurer.  Under the existing rules, all Life insurers currently in the structured settlement market are “Investment Grade”.  Under the proposed rules, three of the Life insurers currently in the structure market have a credit rating of AA+ to AA- and two are A+ to A-.

We prepared the structure portion of the QIS report for one P&C client. The capital required under the proposed rules, was 5.5 times the amount calculated under the current rules.

We have advised OSFI that it would be far simpler to simply increase the Credit Factor to whatever they deem appropriate (although we are not sure of any justification for doing so) rather than to force P&C companies to spend potentially countless hours going through these calculations.

As before, structures that are assigned to a third party are no longer the concern of the P&C company that provided the funds to purchase the structured settlement.  If the proposed rules come into effect, we anticipate that more P&C companies will consider Absolute Assignment.

We welcome any questions or comments you may have about the proposed OSFI changes as they pertain to structured settlement reporting.
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^₁ Assuming the underwriting life insurer is rated “Investment Grade”
^₂ OSFI's proposal requests P&C insurers to participate in a Quantitative Impact Study (QIS) to estimate the capital impact of the proposed changes. Essentially, they are asked to refile the most recent MCT reports assuming the proposed changes are in effect.

By: Gordon Hornsveld, Principal (CPA,C.A.)