W-7: Reporting NFIP Expenses to the NAIC Presenters: Sara Robben, NAIC Tom Hayes, FEMA Phil Zakas, iService

Reporting NFIP Expenses to NAIC AGENDA  Introduction / BackgroundTom Hayes  NAIC PerspectiveSara Robben  Federal Flood Line of the IEE – FEMA’s Expectations Tom Hayes  Overview of Data with Key FindingsPhil Zakas  WYO Expense Allowance – past experience applied to future time periods Tom Hayes  WYO Compensation – Where do we go from here? Tom Hayes  Q&A

Background WYO Compensation  WYO program began in 1983  Types of WYO Company compensation WYO Expense Allowance Marketing Bonus Allocated Loss Adjustment Expenses Unallocated Loss Adjustment Expenses Special Allocated Loss Adjustment Expenses  WYO Expense Allowance currently based on industry’s five-year average for five property lines weighted by premium Fire Homeowners Allied Lines Farmowners CMP (Non-Liability)

Background GAO’s Review of WYO Compensation Prior to BW12:  Post-Katrina, GAO addressed WYO Company compensation in Opportunities Exist to Improve Oversight of the WYO Program (GAO )  GAO’s Key Findings re: WYO Compensation “FEMA does not systematically consider actual flood insurance expense information when it determines the amount it pays the WYO for selling and servicing flood insurance policies and adjusting claims.” “When GAO compared expense payments FEMA made to six WYOs to the WYOs’ actual expenses for calendar years 2005 through 2007 … payments exceeded actual expenses by … 16.5 percent of total payments made.” “Considering actual expense information would provide transparency and accountability over payments to the WYOs.”

Background Biggert-Water 2012 Reform Act Provisions of Section 224: Oversight and Expense Reimbursements of WYOs  Paragraph (b) – Methodology to Determine Reimbursed Expenses Within 180 days of passage, “develop a methodology for determining the appropriate amounts … companies … should be reimbursed …” FEMA instructed to use NAIC data, special data calls, or some combination of the two  Paragraph (c) – Submission of Expense Reports ( authorizes data calls )  Paragraph (d) – FEMA Rulemaking  Paragraph (e) – Report to Congress ( 60 days after final rule ) Report on how new compensation methodology “accurately represents the true operating costs and expenses” of WYO companies  Paragraph (f) – GAO Study and Report on WYO Expenses ( details next slide )

Background Biggert-Water 2012 Reform Act Provisions of Section 224(f): GAO Study and Report (1)STUDY – “Not later than 180 days” after FEMA’s final rule (A)Study “efficacy, adequacy, and sufficiency of the final rule …” (B)Report to Congress (2)GAO AUTHORITY –The GAO (A)“may use any previous findings, studies or reports” GAO completed on the WYO Program (B) “shall determine if” (i)the final rule allows FEMA to “access adequate information regarding the actual expenses” of WYO companies (ii)“the actual reimbursements paid out under the final rule … accurately reflect the expenses reported by” WYO companies, “including the standard business costs and operating expenses” (C) “shall analyze the effect of the final rule … on the level of participation of property and casualty insurers in the Write Your Own program.”

FEMA has three possible sources of data:  A.M. Best  NAIC Federal Flood line on the Insurance Expense Exhibit  The NAIC has been very helpful in providing us multiple years of extensive data from Annual Reports – especially the Insurance Expense Exhibit  Data Calls of WYO Companies  At least two previous data calls: Principle Residents and LAE  Data calls for company operating expenses might require supporting audits and company site visits There are two sources of NFIP data to balance the above against:  NFIP Financial Statement Data  NFIP Statistical Data (TRRP) Background Biggert-Water 2012 Reform Act

Background Biggert-Water 2012 Reform Act Data Calls or NAIC Data?  Data Calls  Expensive to design and administer  Time consuming for FEMA to compile results  Audit control assurances  Should result in best quality data – when properly designed  NAIC Data  Readily available  Subject to NAIC reporting and auditing standards  Historically data has been reported under a variety of accounting interpretations, rendering it unusable by FEMA  NAIC and FEMA have worked together to issue new guidelines beginning with the reporting of calendar year 2012 expense data for the Federal Flood line of IEE

NAIC Perspective Sara Robben, NAIC National Association of Insurance Commissioners

NAIC History HISTORY May 24, 1871 Annual Statement Blank National Association of Insurance Commissioners

Solvency Modernization Initiative - Background Evolution of the U.S. Solvency System Detailed and Uniform Financial Regulatory System Early 1990s –Major Changes to Financial Regulation Continuous Improvement National Association of Insurance Commissioners

Solvency Modernization Initiative SMISMI Capital Requirements Governance & Risk Management Group Supervision Statutory Accounting Financial Reporting Reinsurance US Solvency Regulation Framework US Solvency Regulation Framework National Association of Insurance Commissioners

Regulatory Principles National Association of Insurance Commissioners

Statutory Accounting Principles National Association of Insurance Commissioners

The Insurance Expense Exhibit INSURANCE EXPENSE EXHIBIT (IEEE) INSURANCE EXPENSE EXHIBIT (IEEE) ALLOCATION TO EXPENSE GROUPS ALLOCATION TO LINES OF BUSINESS NET OF REINSURANCE ALLOCATION TO LINES OF DIRECT BUSINESS WRITTEN National Association of Insurance Commissioners

Insurance Expense Exhibit – Summary Purpose of the Insurance Expense Exhibit National Association of Insurance Commissioners

Insurance Expense Exhibit – Summary What is Expected of Reporting Entities National Association of Insurance Commissioners

Contact Information: Sara Robben, Statistical Advisor (816) National Association of Insurance Commissioners

Federal Flood Line of the IEE– FEMA’s Expectations Tom Hayes, FEMA

Federal Flood Line of the IEE– FEMA’s Expectations  FEMA’s Expectations for the Federal Flood line on the IEE [Note: NAIC expectations are what companies should meet] Written Premium – Should match amounts reported on NFIP Financial Statement (after adjusting for differing time periods) NAIC WP (Calendar Year YY) = NFIP Fin’l Stmt WP (first 3 mos of FY YY+1) +NFIP Fin’l Stmt WP (full 12 mos of FY YY) –NFIP Fin’l Stmt WP (first 3 mos of FY YY) Earned Premium & Unearned Premium Reserve – should also balance Paid Loss, Incurred Loss and Unpaid Losses (Direct) should also balance to amounts reported on the NFIP Financial Statement. On a net basis, these should be reported as $0 on the IEE. LAE – Defense and Cost Containment (DCC) and Adjusting and Other Expenses (AOE) have no specific amount to balance to on the NFIP Financial Statement, but reasonability tests can be performed as ratios to Paid and Incurred Loss.

 FEMA’s Expectations for the Federal Flood line on the IEE Other Underwriting Expenses o Commission & Brokerage Expenses o Taxes, Licenses & Fees o Other Acquisition, Field Supervision & Collection o General Expenses On a direct basis, these should reflect the actual expenses of the WYO Company. The Company may use a vendor service and the expenses paid the vendor for these expense categories should be reported as well as their own company expenses. The latter category includes salaries and benefits of employees of the WYOs working full or part time on the NFIP, as well as prorated expenses that are apportioned among all lines (HR department, facilities, etc.) On a net basis, the direct amounts should be reduced to reflect the income received from the NFIP under the WYO Allowance and the Marketing Bonus Federal Flood Line of the IEE– FEMA’s Expectations (continued)

Overview of Data with Key Findings Phil Zakas, iService

Overview of Data with Key Findings  Data Reviewed  NFIP Financial Statement vs. NAIC’s IEE  NAIC vs. A.M. Best  WYO vs. Non WYO  Federal Flood from IEE Overall Reasonableness Year to Year Consistency Comparison to Homeowners  Reporting under revised NAIC Instructions  Observed Improvements  Areas for Improvement

Overview of Data w/Key Findings NFIP Financial Statement vs. NAIC’s IEE  WYO Financial Statement Data to NAIC data  Unable to perform this year (due to time constraints…)  Our analysis and conclusions generated in 2011 remain unchanged Acceptable comparisons observed for premiums and losses Many large WYOs matched within a few percentage points Some displayed greater variations A few companies matched exactly every year Generally, premiums matched more closely than losses  Conclusion: While nothing alarming appeared, it is worth further investigation. It seems likely that FEMA (and probably NAIC also) would be questioning why numbers aren’t exact

 Data Differences between NAIC and A.M.Best are expected due to:  Nature of A.M. Best’s “voluntary” data subscription service  Tendency of A.M. Best to update/revise data in certain circumstances  By design, NAIC data requested by FEMA is known to exclude some smaller writers  Insurance Expense Exhibit is an NAIC base report. It is supported by A.M. Best Overview of Data w/Key Findings NAIC vs. A.M.Best

Overview of Data w/Key Findings WYO vs. Non WYO How we grouped companies for our review WYO vs. Non-WYO: Study of Homeowner Expense Ratios Note: WYO companies are ranked based on their Homeowners Premium volume, not on their Flood Insurance Premium volume. WYO (74% of HO prem) Non-WYO (26% of HO prem) Largest companies (7 companies) ~65% of WYO HO ~34% of non-WYO HO Second Tier (15 companies) ~23% of WYO HO ~24% of non-WYO HO

Overview of Data w/Key Findings WYO vs. Non WYO

 Review of Homeowners U/W expense ratios to DWP:  Expense ratios for WYOs appear to be higher than Non WYOs when commission and brokerage is excluded from the ratio  Expense ratios for WYOs appear to be equal to, or lower than Non WYOs when commission and brokerage is included in the ratio  Further reviews of total U/W expenses versus the component parts may be warranted in support of future Expense Allowance determinations  NAIC data allows us to readily perform these detailed reviews

Overview of Data w/Key Findings Federal Flood From IEE How we grouped companies for our review WYOs: Study of Federal Flood Expense Ratios Note: WYO companies are ranked based on their Federal Flood Insurance Premium volume WYOs Largest companies (7 companies) ~70% of WYO FF Second Tier (15 companies) ~24% of WYO FF

Overview of Data w/Key Findings Federal Flood From IEE

Overview of Data w/Key Findings Reporting under revised NAIC Instructions Observed improvements

Overview of Data w/Key Findings Reporting under revised NAIC Instructions Observed improvements

Overview of Data w/Key Findings Reporting under revised NAIC Instructions Observed improvements

Overview of Data w/Key Findings Reporting under revised NAIC Instructions Areas for improvement

Overview of Data w/Key Findings Federal Flood From IEE  Review of Federal Flood U/W expense ratios to DWP:  Comparison to Homeowners: U/W expense ratios, both excluding and including commission and brokerage expenses, are well below those observed for the HO line. Further review is required however. U/W expense ratios reported appear to be lower for largest WYOs, however further review may indicate that this trend may be reversing.  Overall Reasonableness / Year to Year Consistency: Overall reasonableness may be improving in the reporting of U/W Expenses. That is, several WYOs now appear to be converging to similar values, variations from the average U/W expense ratios being reported each year are now improving, and for certain companies, negative entries observed in prior reviews are now positive. Improvements are still needed for some WYOs

Overview of Data w/Key Findings Federal Flood From IEE  Review of Federal Flood U/W expense ratios to DWP:  Final Additional Observations/ Updates from 2011 Analysis: Of the largest 22 WYOs (ranked by size of Federal Flood Direct Written Premiums): 6 have relatively high (i.e. relative to the average value) U/W Expense ratios to DWP. 4 of these are fairly stable (i.e. relatively small variations for their 2008 through 2012 values) 5 have relatively low (i.e. relative to the average value) U/W Expense ratios to DWP. 4 of these are fairly stable (i.e. relatively small variations for their 2008 through 2012 values) 9 are closest to the overall average indications. 3 of these are fairly stable (i.e. relatively small variations for their 2008 through 2012 values) 2 have indications that are negative or 0

WYO Expense Allowance past experience applied to future time periods WYO Expense Allowance – past experience applied to future time periods & WYO Compensation – Where do we go from here? Tom Hayes, FEMA

WYO Expense Allowance past experience applied to future time periods WYO Expense Allowance % Calculation Data currently provided by A.M. Best Company’s “Aggregates and Averages” publication featuring consolidated industry data Data is from Part III of the Insurance Expense Exhibit Uses data published, as of March 15 of the prior Arrangement year Data used is for the five property lines of coverages: Fire, Allied Lines, Farmowners, Multiple Peril, Homeowners Multiple Peril, and Commercial Multiple Peril (non-liability portion), all insurers combined An average of the latest 5 years of data is used for each Expense Allowance % calculation Typical time lag from mid point of experience to average date of Expense Allowance % application is over 4 years Methodology favors stability over responsiveness

WYO Expense Allowance past experience applied to future time periods

WYO Compensation Where do we go from here?

WYO Compensation - Where do we go from here?  Biggert Water instructs FEMA to use WYO Expenses to construct the Expense Allowance……

Overview of Data w/Key Findings Reporting under revised NAIC Instructions Observed improvements

WYO Compensation - Where do we go from here?  Reporting NFIP Expenses to the to NAIC:  Federal Flood expense data reported to the NAIC is showing improvements in overall consistency  Federal Flood expense data reported to the NAIC will need to become increasingly more credible in order to use it most effectively in the annual WYO Expense Allowance Percentage calculation.  Currently, Federal Flood U/W expense ratios, both excluding and including commission and brokerage expenses, are well below those observed for the HO line. Further review is required.

WYO Compensation - Where do we go from here?  While BW12 requries WYO compensation to be based on actual WYO expenses … it does not require WYO compensation to be based solely on actual WYO expenses  So possibly, WYO Allowance could be a blended result of current method and actual flood insurance expenses  One big remaining question: LAE -- How reliable are IEE numbers?  Relationship of WYO company to their vendor will need to be monitored. If WYO company has financial interest in vendor, that will complicate reporting expenses

QUESTIONS? ?