the state laws and regulations dealing with capital and surplus requirements, liabilities and reserves,<sup>and</sup> limits on permitted investments-all of which are designed to maintain a safe and sound financial<sup>condition</sup> among companies.

A second line of defense is the regulatory procedures for reviewing financial statements filed with each state and the financial examination of the company's accounts. As a general practice, each<sup>company</sup> is examined by the state regulators every third year, unless there are indications of difficulties which warrant more frequent attention. Priority is assigned to problem companies, based on review of financial statements, history of deteriorating financial condition, change of management control, or information from outside sources that difficulties have arisen. While many states reserve the right to examine<sup>any</sup> insurance company licensed in their state, financial examinations are usually conducted<sup>only by the state</sup> of domicile.

A key element in solvency surveillance and identification of troubled companies<sup>is provided by</sup> the Central Office of the NAIC, which developed an Insurance Regulatory Information<sup>Service (IRIS)</sup> several years ago to monitor potential insolvency situations. Annual statements filed with the NAIC are used to compile 12 financial ratios thought to indicate impending financial difficulties (see<sup>Appendix).</sup> If a company has four or more ratios outside the usual range, further analysis is undertaken in greater depth and regulators in the state of domicile are notified of the need for further review. The system<sup>has</sup> been useful in identifying a number of troubled companies in recent years, but there have been doubts within the industry as to whether they have the same predictive value for large companies that they<sup>seem</sup> to have for smaller insurers. Further refinements in the ratios and the review process are now in process by the NAIC. Since financial examinations by state regulators normally are conducted<sup>on a triennial</sup> basis, the IRIS system allows for more timely means to correct troubled situatio;s among<sup>life companies.</sup> WVhen an insurer is found to be in serious financial difficulties, or is actually insolvent, the state insurance department is required to assume control over the company's assets and management. A<sup>court</sup> order is obtained to appoint the regulator as receiver for the purpose of rehabilitating the company, if that can be accomplished, or liquidating the company if it is insolvent. The NAIC has developed model<sup>laws</sup> for such procedures and these have been adopted by most states. In the distribution of assets provided by these laws, highest priority is given to costs of administration, employee salaries, and<sup>policyholder</sup> claims.

Insolvencies among U.S. life insurance companies have been on the rise over the past few years. Before 1987, insolvencies numbered 10 or less and involved smaller companies with assets below _$50_ million. In 1989 there were 40 insolvencies, including an insurer with $646 million in assets. A task force of the ACLI that undertook a special study of the insolvencies during the 1985-1990 period focused on 68 cases, finding the causes to include affiliate transactions (often involving<sup>fraud) in 47 cases,</sup> problems in accident and health insurance lines in 41 cases, underpricing of products in 40 cases, investment problems (often real estate) in 31 cases, and problems with new management in 25<sup>cases. The</sup> identified causes were, of course, often interrelated.

A series of insolvencies of major life insurance companies surfaced in 1991, leading to wide scale public attention and calls for reform in regulatory standards. The first of these insolvencies<sup>was</sup> Executive Life of California (a $13 billion company) followed by its affiliate, Executive Life of New York (a $3 billion company). Soon after, a $4 billion company in California named First Capital<sup>Life</sup> was taken over by the state inskurance department, as was its $4 billion affiliate called Fidelity Bankers Life in Virginia; both units were shut down to halt the surge in policyholder withdrawals of policy funds.

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