The Model Audit Rule 205, Model Audit Rule, or MAR 205 are the commonly applied terms for the Annual Financial Reporting Model Regulation. Model Audit Rule is a financial reporting regulation applicable to insurance companies, and borrows significantly from the Sarbanes Oxley Act of 2002 (see ‘key sections’ below). The Model Audit Rule is co-developed by the American Institute of Certified Public Accountants (“AICPA”) and National Association of Insurance Commissioners (“NAIC”) and issued by NAIC with revisions in 2006 and has taken effect in 2010.
The NAIC internal designation for the Annual Financial Reporting Model Regulation is MDL 205, where MDL stands for Model, and the number of the model rule is 205. Because the regulation was issued by NAIC, which is not a federal agency with direct regulatory power, its adoption is on a state-by-state basis.
Purpose
The Model Audit Rule was issued to: Govern the submission of audited statutory financial statements by insurance companies Drive Consistency Across Insurance Regulators Improve the ability of state insurance departments to oversee the financial condition of insurers
The Model Audit Rule requires the following to be submitted by insurance companies operating in states which have adopted the regulation: An Annual Financial Statement Audit by an Independent CPA Communication of Internal Control Related Matters Noted in the Audit Managements Report of Internal Control over Financial Reporting
Key Sections
Section 4 – Financial Report Filing Requirements
All insurers must have an annual audit by an independent CPA. This audit must be filed by June 1 following the preceding December 31 year end. An insurer may receive an extension for both the Audit report (performed by an independent CPA) and Managements report on internal controls. Here, the term Management refers to the management of the insurer.
For example, filing for the year ending December 31, 2012 must be done by June 1, 2013.
Section 5 – Financial Report Contents
The annual audited financial report should show the financial position, results of its operations, cash flows and changes in capital and surplus. The insurers report must be in conformity with statutory accounting practices of the Department of Insurance of the insurers’ state.
§5(G) The financial reports must be comparative, that is, to show the most recent year end against the preceding year end. For example, in a financial report for the year ending December 31, 2013, for each line item, the report must show the result for December 31, 2013, and December 31, 2012.
§5(A – F) The financial report must include: Report by an Independent CPA (i.e. Independent Auditors Report) Balance Sheet Statement of Operations (i.e. Income Statement in a for-profit operation) Statement of Cash Flow Statement of Changes in Capital and Surplus Notes to the Financial Statements
Section 7 – Qualifications of Independent External Auditor
Many items in this section are based on the underlying requirement that the audit of the insurer must be performed by an independent CPA / CPA firm.
This section of the Model Audit Rule describes the qualifications of an Independent external auditor for an insurer through the following major themes: Liability – External Auditor Liability and Disassociation – Mandatory Audit Partner Rotation, and Audit Leadership being apart from insurers leadership through a minimum time frame Non Audit Services – Description of Services that the External Auditor cannot perform while engaged in the audit of the insurers financial statement
Liability
§7(A)(2) The external auditor is liable for representations made in the audit of the insurer. This promotes auditors independence because the external auditor has “skin in the game” and can be held liable for misrepresentations made on its audit report, and other responsibilities.
Disassociation
§7(D)(1) is similar to SOX 203 in requiring the rotation of the lead audit partner, with a five year “cool off” period, after a five year consecutive period with the audit of the insurer. In addition to this, Section 7(L)(1) addresses that a CPA firms senior manager or partner cannot be a part of the insurers leadership for one year prior to the audit.
Non-Audit Services
§7(G)(1) is similar to SOX 201 in the restriction of non-audit services being performed by the CPA firm conducting the audit of the insurers financials.
The principles governing non-audit services are that the CPA / CPA firm cannot: Function in the role of management (§7(G)(2)) Audit their own work (§7(G)(2)), and Serve in an advocacy role for the insurer (§7(G)(2))