The New Principle-Based Bond Definition (SSAP No. 26 & 43)#
Under US Statutory Accounting Principles (SAP) governed by the NAIC, classifying an investment as a "Bond" allows for favorable capital treatment. Historically, insurers classified highly complex, risky equity-like structures as "bonds." To stop this, the NAIC implemented The Principle-Based Bond Project.
The Two Distinct Categories#
A security must pass a strict principle-based test to qualify for Schedule D-1 reporting:
1. Issuer Credit Obligations (SSAP No. 26R)#
The repayment must rely entirely on the general creditworthiness of the operating entity. Does the issuer have operations and cash flows separate from the specific assets backing the bond? If yes, it’s an Issuer Credit Obligation.
2. Asset-Backed Securities (ABS) (SSAP No. 43R)#
Repayment relies entirely on the cash flows generated by a specific pool of underlying assets. To qualify, an ABS must have a "substantive credit enhancement" (like overcollateralization) ensuring the bondholder gets paid even if underlying assets suffer losses.
If a security fails, it must be reported as standard equity, subjecting the insurance company to massive, punitive risk-based capital (RBC) charges.