NAIC Rule on CTLs: Unintended Consequences

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The National Association of Insurance Commissioners (“NAIC”) recently set off a firestorm among life insurance companies that invest in credit tenant loans (“CTLs”) and other so-called “loan-backed and structured securities” by adopting regulations that change the NAIC designation of debt securities (other than those already designated NAIC-1), which trade in the secondary market at either a discount from face value or at a premium (or are carried on the books of an insurance company at either a premium or discount). A lowering of a security’s NAIC designation requires the insurance company holding it to set aside an increased capital reserve; conversely, an upgrade reduces the lender’s risk based capital requirement. This update will describe the traditional approach to credit tenant loans by the NAIC, details of the new rule, and some of the consequences and possible distortions attributable to the new approach.

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