By: Eiland (Senate Sponsor - Averitt) H.B. No. 2752

(In the Senate - Received from the House April 14, 2009; April 27, 2009, read first time and referred to Committee on Business and Commerce; May 19, 2009, reported adversely, with favorable Committee Substitute by the following vote: Yeas 7, Nays 0; May 19, 2009, sent to printer.)

COMMITTEE SUBSTITUTE FOR H.B. No. 2752 By: Estes

A BILL TO BE ENTITLED

AN ACT

relating to independent audits of insurer financial statements and insurer internal controls.

BE IT ENACTED BY THE LEGISLATURE OF THE STATE OF TEXAS:

SECTION 1. Section 401.001, Insurance Code, is amended by adding Subdivisions (2-a), (2-b), (4-a), (4-b), (6), (7), (8), and (9) and amending Subdivision (4) to read as follows:

(2-a) "Audit committee" means a committee established by the board of directors of an entity for the purpose of overseeing the accounting and financial reporting processes of an insurer or group of insurers and audits of financial statements of the insurer or group of insurers. At the election of the controlling person, the audit committee of an entity that controls a group of insurers may be the audit committee for one or more of the controlled insurers solely for the purposes of this subchapter. If an audit committee is not designated by the insurer, the insurer's entire board of directors constitutes the audit committee.

(2-b) "Group of insurers" means those authorized insurers included in the reporting requirements of Chapter 823, or a set of insurers as identified by management, for the purpose of assessing the effectiveness of internal control over financial reporting.

(4) "Insurer" means an insurer authorized to engage in business in this state, including:

(A) a life, health, or accident insurance company;

(B) a fire and marine insurance company;

(C) a general casualty company;

(D) a title insurance company;

(E) a fraternal benefit society;

(F) a mutual life insurance company;

(G) a local mutual aid association;

(H) a statewide mutual assessment company;

(I) a mutual insurance company other than a mutual life insurance company;

(J) a farm mutual insurance company;

(K) a county mutual insurance company;

(L) a Lloyd's plan;

(M) a reciprocal or interinsurance exchange;

(N) a group hospital service corporation;

(O) a stipulated premium company; [and]

(P) a nonprofit legal services corporation; and

(Q) a health maintenance organization.

(4-a) "Internal control over financial reporting" means a process implemented by an entity's board of directors, management, and other personnel designed to provide reasonable assurance regarding the reliability of the entity's financial statements. The term includes policies and procedures that:

(A) relate to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of assets;

(B) provide reasonable assurance that:

(i) transactions are recorded as necessary to permit preparation of the financial statements; and

(ii) receipts and expenditures are made only in accordance with authorizations of management and directors; and

(C) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of assets that could have a material effect on the financial statements.

(4-b) "Management" means the management of an insurer or group of insurers subject to this subchapter.

(6) "SEC" means the United States Securities and Exchange Commission.

(7) "Section 404" means Section 404, Sarbanes-Oxley Act of 2002 (15 U.S.C. Section 7262), and rules adopted under that section.

(8) "Section 404 report" means management's report on internal control over financial reporting as determined by the SEC and the related attestation report of an accountant.

(9) "SOX-compliant entity" means an entity that is required to comply with or voluntarily complies with:

(A) the preapproval requirements provided by 15 U.S.C. Section 78j-1(i);

(B) the audit committee independence requirements provided by 15 U.S.C. Section 78j-1(m)(3); and

(C) the internal control over financial reporting requirements provided by 15 U.S.C. Section 7262(b) and Item 308, SEC Regulation S-K.

SECTION 2. Sections 401.002, 401.003, and 401.004, Insurance Code, are amended to read as follows:

Sec. 401.002. PURPOSE OF SUBCHAPTER. The purpose of this subchapter is to:

(1) require an annual audit by an independent certified public accountant of the financial statements reporting the financial condition and the results of operations of each insurer;

(2) require communication of internal control related matters noted in an audit; and

(3) require management to report on internal control over financial reporting [or health maintenance organization].

Sec. 401.003. EFFECT OF SUBCHAPTER ON AUTHORITY TO EXAMINE. This subchapter does not limit the commissioner's authority to order or the department's authority to conduct an examination of an insurer [or health maintenance organization] under this code or the commissioner's rules.

Sec. 401.004. FILING AND EXTENSIONS FOR FILING OF AUDITED FINANCIAL REPORT. (a) Unless exempt under Section 401.006, 401.007, or 401.008 and except as otherwise provided by Sections 401.005 and 401.016, an insurer [or health maintenance organization] shall:

(1) have an annual audit performed by an accountant; and

(2) file with the commissioner on or before June 1 [30] an audited financial report for the preceding calendar year.

(b) The commissioner may require an insurer [or health maintenance organization] to file an audited financial report on a date that precedes June 1 [30]. The commissioner must notify the insurer [or health maintenance organization] of the filing date not later than the 90th day before that date.

(c) An insurer [or health maintenance organization] may request an extension of the filing date by submitting the request in writing before the 10th day preceding the filing date. The request must include sufficient detail for the commissioner to make an informed decision on the requested extension. The commissioner may extend the filing date for one or more 30-day periods if the commissioner determines that there is good cause for the extension based on a showing by the insurer [or health maintenance organization] and the [insurer's or health maintenance organization's] accountant of the reasons for requesting the extension. An extension granted under this subsection also applies to the filing of management's report on internal control over financial reporting.

(d) An insurer required to file an annual audited financial report under this subchapter shall designate a group of individuals to serve as its audit committee. The audit committee of an entity that controls an insurer may, at the election of the controlling person, be the insurer's audit committee for purposes of this subchapter.

SECTION 3. The heading to Section 401.005, Insurance Code, is amended to read as follows:

Sec. 401.005. ALTERNATIVE FILING FOR CANADIAN OR BRITISH INSURERS [OR HEALTH MAINTENANCE ORGANIZATIONS].

SECTION 4. Section 401.005(a), Insurance Code, is amended to read as follows:

(a) Instead of the audited financial report required by Section 401.004, an insurer [or health maintenance organization] domiciled in Canada or the United Kingdom may file the insurer's [or health maintenance organization's] annual statement of total business on the form filed by the insurer [or health maintenance organization] with the appropriate regulatory authority in the country of domicile. The statement must be audited by an independent accountant chartered in the country of domicile.

SECTION 5. Section 401.006, Insurance Code, is amended to read as follows:

Sec. 401.006. EXEMPTION FOR CERTAIN SMALL INSURERS [AND HEALTH MAINTENANCE ORGANIZATIONS]. (a) An insurer [or health maintenance organization] that has less than $1 million in direct premiums written in this state during a calendar year and fewer than 1,000 policyholders or certificate holders of direct written premiums nationwide at the end of the calendar year is exempt from the requirement to file an audited financial report if the insurer [or health maintenance organization] submits an affidavit, made under oath by one of the insurer's [or health maintenance organization's] officers, that specifies the amount of direct premiums written in this state during that period and the number of policyholders or certificate holders of direct written premiums nationwide at the end of the calendar year.

(b) Notwithstanding Subsection (a), the commissioner may require an insurer [or health maintenance organization], other than a fraternal benefit society that does not have any direct premiums written in this state for accident and health insurance during a calendar year, to comply with this subchapter if the commissioner finds that the insurer's [or health maintenance organization's] compliance is necessary for the commissioner to fulfill the commissioner's statutory responsibilities.

(c) An insurer [or health maintenance organization] that has assumed premiums of at least $1 million under reinsurance agreements is not exempt under Subsection (a).

SECTION 6. The heading to Section 401.007, Insurance Code, is amended to read as follows:

Sec. 401.007. EXEMPTION FOR CERTAIN FOREIGN OR ALIEN INSURERS [OR HEALTH MAINTENANCE ORGANIZATIONS].

SECTION 7. Section 401.007, Insurance Code, is amended by amending Subsections (a) and (b) and adding Subsection (c) to read as follows:

(a) A foreign or alien insurer [or health maintenance organization] that files an audited financial report in another state in accordance with that state's requirements for audited financial reports may be exempt from filing a report under this subchapter if the commissioner finds that the other state's requirements are substantially similar to the requirements prescribed by this subchapter.

(b) An insurer [or health maintenance organization] exempt under this section shall file with the commissioner a copy of:

(1) the audited financial report, the communication of internal control-related matters noted in the audit [report on significant deficiencies in internal controls], and the accountant's letter of qualifications filed with the other state; and

(2) any notification of adverse financial conditions report filed with the other state.

(c) A foreign or alien insurer required to file management's report of internal control over financial reporting in another state is exempt from filing the report in this state if the other state has substantially similar reporting requirements and the report is filed with the commissioner in that state in the time specified.

SECTION 8. Section 401.008, Insurance Code, is amended to read as follows:

Sec. 401.008. HARDSHIP EXEMPTION. (a) An insurer [or health maintenance organization] that is not eligible for an exemption under Section 401.006 or 401.007 may apply to the commissioner for a hardship exemption.

(b) Subject to Subsection (c), the commissioner may grant an exemption under this section if the commissioner finds, after reviewing the application, that compliance with this subchapter would constitute a severe financial or organizational hardship for the insurer [or health maintenance organization]. The commissioner may grant the exemption at any time for one or more specified periods.

(c) The commissioner may not grant an exemption under this section if:

(1) the exemption would diminish the department's ability to monitor the financial condition of the insurer [or health maintenance organization]; or

(2) the insurer [or health maintenance organization]:

(A) during the five-year period preceding the date the application for the exemption is made:

(i) has been placed under supervision, conservatorship, or receivership;

(ii) has undergone a change in control, as described by Section 823.005; or

(iii) has been subject to a significant number of complaints, as determined by the commissioner;

(B) has been identified by the department as troubled;

(C) has been or is the subject of a disciplinary action by the department; or

(D) is not complying with the law or with a rule adopted by the commissioner.

SECTION 9. Sections 401.009(a), (b), and (c), Insurance Code, are amended to read as follows:

(a) An audited financial report required under Section 401.004 must:

(1) describe the financial condition of the insurer [or health maintenance organization] as of the end of the most recent calendar year and the results of the insurer's [or health maintenance organization's] operations, changes in financial position, and changes in capital and surplus for that year;

(2) conform to the statutory accounting practices prescribed or otherwise permitted by the insurance regulator in the insurer's [or health maintenance organization's] state of domicile; and

(3) include:

(A) the report of an accountant;

(B) a balance sheet that reports admitted assets, liabilities, capital, and surplus;

(C) a statement of gain or loss from operations;

(D) a statement of cash flows;

(E) a statement of changes in capital and surplus;

(F) any notes to financial statements;

(G) supplementary data and information, including any additional data or information required by the commissioner; and

(H) information required by the department to conduct the insurer's [or health maintenance organization's] examination under Subchapter B.

(b) The notes to financial statements required by Subsection (a)(3)(F) must include:

(1) a reconciliation of any differences between the audited statutory financial statements and the annual statements filed under this code, with a written description of the nature of those differences;

(2) any notes required by the appropriate National Association of Insurance Commissioners annual statement instructions [or by generally accepted accounting principles]; and

(3) a summary of the ownership of the insurer [or health maintenance organization] and that entity's relationship to any affiliated company.

(c) The financial statements included in the audited financial report must be prepared in a form and use language and groupings substantially the same as the relevant sections of the annual statement of the insurer filed with the commissioner. The financial statements must be comparative, including amounts on December 31 of the current year and amounts as of the immediately preceding December 31, except for the first year in which an insurer is required to file the report. [An insurer or health maintenance organization required under Section 401.004 to file an audited financial report that does not retain an independent certified public accountant to perform an annual audit for the previous year may not be required to include in the report audited statements of operations, cash flows, or changes in capital and surplus for the first year. The insurer or health maintenance organization must include those statements in the first-year report and label the statements as unaudited. The insurer or health maintenance organization must include in the first-year report all other reports described by Section 401.004.]

SECTION 10. Section 401.010, Insurance Code, is amended to read as follows:

Sec. 401.010. REQUIREMENTS FOR FINANCIAL STATEMENTS IN AUDITED FINANCIAL REPORT. (a) An accountant must audit the financial reports provided by an insurer [or health maintenance organization] for purposes of an audit under this subchapter. The accountant who audits the reports must conduct the audit in accordance with generally accepted auditing standards or with standards adopted by the Public Company Accounting Oversight Board, as applicable, and must consider the standards specified in the Financial Condition Examiner's Handbook adopted by the National Association of Insurance Commissioners or other analogous nationally recognized standards adopted by commissioner rule.

(a-1) In accordance with "Consideration of Internal Control in a Financial Statement Audit," AU Section 319, Professional Standards of the American Institute of Certified Public Accountants, the accountant shall obtain an understanding of internal control sufficient to plan the audit. To the extent required by AU Section 319, for those insurers required to file a management's report of internal control over financial reporting under Section 401.024, the accountant shall consider the most recently available report in planning and performing the audit of the statutory financial statements. In this subsection, "consider" has the meaning assigned by Statement on Auditing Standards No. 102, "Defining Professional Requirements in Statements on Auditing Standards," or a successor document.

(b) The financial statements included in the audited financial report must be prepared in a form and using language and groupings substantially the same as those of the relevant sections of the insurer's [or health maintenance organization's] annual statement filed with the commissioner. Beginning in the second year in which an insurer [or health maintenance organization] is required to file an audited financial report, the financial statements must also be comparative, presenting the amounts as of December 31 of the reported year and the amounts as of December 31 of the preceding year.

SECTION 11. Section 401.011, Insurance Code, is amended by amending Subsections (a), (b), and (c) and adding Subsections (c-1), (e), (f), (g), (h), (i), (j), (k), (l), and (m) to read as follows:

(a) Except as provided by Subsections (c), [and] (d), (e), (f), (g), and (l), the commissioner shall accept an audited financial report from an independent certified public accountant or accounting firm that:

(1) is a member in good standing of the American Institute of Certified Public Accountants and is in good standing with all states in which the accountant or firm is licensed to practice, as applicable; and

(2) conforms to the American Institute of Certified Public Accountants Code of Professional Conduct and to the rules of professional conduct and other rules of the Texas State Board of Public Accountancy or a similar code.

(b) If the insurer [or health maintenance organization] is domiciled in Canada, the commissioner shall accept an audited financial report from an accountant chartered in Canada. If the insurer [or health maintenance organization] is domiciled in Great Britain, the commissioner shall accept an audited financial report from an accountant chartered in Great Britain.

(c) A lead partner or other person responsible for rendering a report for an insurer may not act in that capacity [or health maintenance organization] for more than five [seven] consecutive years and may not, during the five-year [two-year] period after that fifth [seventh] year, render a report for the insurer [or health maintenance organization] or for a subsidiary or affiliate of the insurer [or health maintenance organization] that is engaged in the business of insurance. On application made at least 30 days before the end of the calendar year, the [The] commissioner may determine that the limitation provided by this subsection does not apply to an accountant for a particular insurer [or health maintenance organization] if the insurer [or health maintenance organization] demonstrates to the satisfaction of the commissioner that the limitation's application to the insurer [or health maintenance organization] would be unfair because of unusual circumstances. In making the determination, the commissioner may consider:

(1) the number of partners or individuals the accountant employs, the expertise of the partners or individuals the accountant employs, or the number of the accountant's insurance clients;

(2) the premium volume of the insurer [or health maintenance organization]; and

(3) the number of jurisdictions in which the insurer [or health maintenance organization] engages in business.

(c-1) On filing its annual statement, an insurer for which the commissioner has approved an exception under Subsection (c) shall file the approval with the states in which it is doing or is authorized to do business and with the National Association of Insurance Commissioners. If a state other than this state accepts electronic filing with the National Association of Insurance Commissioners, the insurer shall file the approval in an electronic format acceptable to the National Association of Insurance Commissioners.

(e) In providing services, the accountant shall not:

(1) function in the role of management, audit the accountant's own work, or serve in an advocacy role for the insurer; or

(2) directly or indirectly enter into an agreement of indemnity or release from liability regarding the audit of the insurer.

(f) The commissioner may not recognize as qualified an accountant, or accept an annual audited financial report that was prepared wholly or partly by an accountant, who provides an insurer at the time of the audit:

(1) bookkeeping or other services related to the accounting records or financial statements of the insurer;

(2) services related to financial information systems design and implementation;

(3) appraisal or valuation services, fairness opinions, or contribution-in-kind reports;

(4) actuarially oriented advisory services involving the determination of amounts recorded in the financial statements;

(5) internal audit outsourcing services;

(6) management or human resources services;

(7) broker or dealer, investment adviser, or investment banking services;

(8) legal services or other expert services unrelated to the audit; or

(9) any other service that the commissioner determines to be inappropriate.

(g) Notwithstanding Subsection (f)(4), an accountant may assist an insurer in understanding the methods, assumptions, and inputs used in the determination of amounts recorded in the financial statement if it is reasonable to believe that the advisory service will not be the subject of audit procedures during an audit of the insurer's financial statements. An accountant's actuary may also issue an actuarial opinion or certification on an insurer's reserves if:

(1) the accountant or the accountant's actuary has not performed management functions or made any management decisions;

(2) the insurer has competent personnel, or engages a third-party actuary, to estimate the reserves for which management takes responsibility; and

(3) the accountant's actuary tests the reasonableness of the reserves after the insurer's management has determined the amount of the reserves.

(h) An insurer that has direct written and assumed premiums of less than $100 million in any calendar year may request an exemption from the requirements of Subsection (f) by filing with the commissioner a written statement explaining why the insurer should be exempt. The commissioner may grant the exemption if the commissioner finds that compliance with Subsection (f) would impose an undue financial or organizational hardship on the insurer.

(i) An accountant who performs an audit may perform nonaudit services, including tax services, that are not described in Subsection (f) or that do not conflict with Subsection (e), only if the activity is approved in advance by the audit committee in accordance with Subsection (j).

(j) The audit committee must approve in advance all auditing services and nonaudit services that an accountant provides to the insurer. The prior approval requirement is waived with respect to nonaudit services if the insurer is a SOX-compliant entity or a direct or indirect wholly owned subsidiary of a SOX-compliant entity or:

(1) the aggregate amount of all nonaudit services provided to the insurer is not more than five percent of the total amount of fees paid by the insurer to its accountant during the fiscal year in which the nonaudit services are provided;

(2) the services were not recognized by the insurer at the time of the engagement to be nonaudit services; and

(3) the services are promptly brought to the attention of the audit committee and approved before the completion of the audit by the audit committee or by one or more members of the audit committee who are the members of the board of directors to whom the audit committee has delegated authority to grant approvals.

(k) The audit committee may delegate to one or more designated members of the audit committee the authority to grant the prior approval required by Subsection (i). The decisions of any member to whom this authority is delegated shall be presented to the full audit committee at each of its scheduled meetings.

(l) The commissioner may not recognize an accountant as qualified for a particular insurer if a member of the board, the president, chief executive officer, controller, chief financial officer, chief accounting officer, or any person serving in an equivalent position for the insurer, was employed by the accountant and participated in the audit of that insurer during the one-year period preceding the date on which the most current statutory opinion is due. This subsection applies only to partners and senior managers involved in the audit. An insurer may apply to the commissioner for an exemption from the requirements of this subsection on the basis of unusual circumstances.

(m) The insurer shall file, with its annual statement filing, the approval of an exemption granted under Subsection (h) or (l) with the states in which it does or is authorized to do business and with the National Association of Insurance Commissioners. If a state, other than this state, in which the insurer does or is authorized to do business accepts electronic filing, the insurer shall file the approval in an electronic format acceptable to the National Association of Insurance Commissioners.

SECTION 12. Section 401.012, Insurance Code, is amended to read as follows:

Sec. 401.012. HEARING ON ACCOUNTANT QUALIFICATIONS; REPLACEMENT OF ACCOUNTANT. The commissioner may hold a hearing to determine if an accountant is qualified and independent. If, after considering the evidence presented, the commissioner determines that an accountant is not qualified and independent for purposes of expressing an opinion on the financial statements in an audited financial report filed under this subchapter, the commissioner shall issue an order directing the insurer [or health maintenance organization] to replace the accountant with a qualified and independent accountant.

SECTION 13. Section 401.013(a), Insurance Code, is amended to read as follows:

(a) The audited financial report required under Section 401.004 must be accompanied by a letter provided by the accountant who performed the audit stating:

(1) the accountant's general background and experience;

(2) the experience of each individual assigned to prepare the audit in auditing insurers [or health maintenance organizations] and whether the individual is an independent certified public accountant; and

(3) that the accountant:

(A) is properly licensed by an appropriate state licensing authority, is a member in good standing of the American Institute of Certified Public Accountants, and is otherwise qualified under Section 401.011;

(B) is independent from the insurer [or health maintenance organization] and conforms to the standards of the profession contained in the American Institute of Certified Public Accountants Code of Professional Conduct, the statements of that institute, and the rules of professional conduct adopted by the Texas State Board of Public Accountancy, or a similar code;

(C) understands that:

(i) the audited financial report and the accountant's opinion on the report will be filed in compliance with this subchapter; and

(ii) the commissioner will rely on the report and opinion in monitoring and regulating the insurer's [or health maintenance organization's] financial position; and

(D) consents to the requirements of Section 401.020 and agrees to make the accountant's work papers available for review by the department or the department's designee.

SECTION 14. Sections 401.014(a) and (b), Insurance Code, are amended to read as follows:

(a) Not later than December 31 of the calendar year to be covered by an audited financial report required by this subchapter, an insurer [or health maintenance organization] must register in writing with the commissioner the name and address of the accountant retained to prepare the report.

(b) The insurer [or health maintenance organization] must include with the registration a statement signed by the accountant:

(1) indicating that the accountant is aware of the requirements of this subchapter and of the rules of the insurance department of the insurer's [or health maintenance organization's] state of domicile that relate to accounting and financial matters; and

(2) affirming that the accountant will express the accountant's opinion on the financial statements in terms of the statements' conformity to the statutory accounting practices prescribed or otherwise permitted by the insurance department described by Subdivision (1) and specifying any exceptions the accountant believes are appropriate.

SECTION 15. Sections 401.015(a), (b), and (d), Insurance Code, are amended to read as follows:

(a) If an accountant who signed an audited financial report for an insurer [or health maintenance organization] resigns as accountant for the insurer [or health maintenance organization] or is dismissed by the insurer [or health maintenance organization] after the report is filed, the insurer [or health maintenance organization] shall notify the department not later than the fifth business day after the date of the resignation or dismissal.

(b) Not later than the 10th business day after the date the insurer [or health maintenance organization] notifies the department under Subsection (a), the insurer [or health maintenance organization] shall file a written statement with the commissioner advising the commissioner of any disagreements between the accountant and the insurer's [or health maintenance organization's] personnel responsible for presenting the insurer's [or health maintenance organization's] financial statements that:

(1) relate to accounting principles or practices, financial statement disclosure, or auditing scope or procedures;

(2) occurred during the 24 months preceding the date of the resignation or dismissal; and

(3) would have caused the accountant to note the disagreement in connection with the audited financial report if the disagreement were not resolved to the satisfaction of the accountant.

(d) The insurer [or health maintenance organization] shall file with the statement required by Subsection (b) a letter signed by the accountant stating whether the accountant agrees with the insurer's [or health maintenance organization's] statement and, if not, the reasons why the accountant does not agree. If the accountant fails to provide the letter, the insurer [or health maintenance organization] shall file with the commissioner a copy of a written request to the accountant for the letter.

SECTION 16. Sections 401.016 and 401.017, Insurance Code, are amended to read as follows:

Sec. 401.016. AUDITED COMBINED OR CONSOLIDATED FINANCIAL STATEMENTS. (a) An insurer [or health maintenance organization] described by Section 401.001 [401.001(3) or (4)] that is required to file an audited financial report under this subchapter may apply in writing to the commissioner for approval to file audited combined or consolidated financial statements instead of separate audited financial reports if the insurer [or health maintenance organization]:

(1) is part of a group of insurers [or health maintenance organizations] that uses a pooling arrangement or 100 percent reinsurance agreement that affects the solvency and integrity of the insurer's [or health maintenance organization's] reserves; and

(2) cedes all of the insurer's [or health maintenance organization's] direct and assumed business to the pool.

(b) An insurer [or health maintenance organization] must file an application under Subsection (a) not later than December 31 of the calendar year for which the audited combined or consolidated financial statements are to be filed.

(c) An insurer [or health maintenance organization] that receives approval from the commissioner under this section shall file a columnar combining or consolidating worksheet for the audited combined or consolidated financial statements that includes:

(1) the amounts shown on the audited combined or consolidated financial statements;

(2) the amounts for each insurer [or health maintenance organization] stated separately;

(3) the noninsurance operations shown on a combined or individual basis;

(4) explanations of consolidating and eliminating entries; and

(5) a reconciliation of any differences between the amounts shown in the individual insurer [or health maintenance organization] columns of the worksheet and comparable amounts shown on the insurer's [or health maintenance organization's] annual statements.

(d) An insurer [or health maintenance organization] that does not receive approval from the commissioner to file audited combined or consolidated financial statements for the insurer [or health maintenance organization] and any of the insurer's [or health maintenance organization's] subsidiaries or affiliates shall file a separate audited financial report.

Sec. 401.017. NOTICE OF ADVERSE FINANCIAL CONDITION OR MISSTATEMENT OF FINANCIAL CONDITION. (a) An insurer [or health maintenance organization] required to file an audited financial report under this subchapter shall require the [insurer's or health maintenance organization's] accountant to immediately notify the board of directors of the insurer [or health maintenance organization] or the insurer's [or health maintenance organization's] audit committee in writing of any determination by that accountant that:

(1) the insurer [or health maintenance organization] has materially misstated the insurer's [or health maintenance organization's] financial condition as reported to the commissioner as of the balance sheet date being audited; or

(2) the insurer [or health maintenance organization] does not meet the minimum capital and surplus requirements prescribed by this code for the insurer [or health maintenance organization] as of that date.

(b) An insurer [or health maintenance organization] that receives a notice described by Subsection (a) shall:

(1) provide to the commissioner a copy of the notice not later than the fifth business day after the date the insurer [or health maintenance organization] receives the notice; and

(2) provide to the accountant evidence that the notice was provided to the commissioner.

(c) If the accountant does not receive the evidence required by Subsection (b)(2) on or before the fifth business day after the date the accountant notified the insurer [or health maintenance organization] under Subsection (a), the accountant shall file with the commissioner a copy of the accountant's written notice not later than the 10th business day after the date the accountant notified the insurer [or health maintenance organization].

(d) An accountant is not liable to an insurer [or health maintenance organization] or the insurer's [or health maintenance organization's] policyholders, shareholders, officers, employees, directors, creditors, or affiliates for a statement made under this section if the statement was made in good faith to comply with this section.

SECTION 17. Section 401.019, Insurance Code, is amended to read as follows:

Sec. 401.019. COMMUNICATION OF [REPORT ON SIGNIFICANT DEFICIENCIES IN] INTERNAL CONTROL MATTERS NOTED IN AUDIT. (a) In addition to the audited financial report required by this subchapter, each insurer [or health maintenance organization] shall provide to the commissioner a written communication prepared by an accountant in accordance [report of significant deficiencies required and prepared by an accountant in accordance] with the Professional Standards of the American Institute of Certified Public Accountants that describes any unremediated material weaknesses in its internal controls over financial reporting noted during the audit.

(b) The insurer [or health maintenance organization] shall annually file with the commissioner the communication [report] required by this section not later than the 60th day after the date the audited financial report is filed. The communication must contain a description of any unremediated material weaknesses, as defined by Statement on Auditing Standards No. 112, "Communicating Internal Control Related Matters Identified in an Audit," or a successor document, as of the immediately preceding December 31, in the insurer's internal control over financial reporting that was noted by the accountant during the course of the audit of the financial statements. The communication must affirmatively state if unremediated material weaknesses were not noted by the accountant.

(c) The insurer [or health maintenance organization] shall also provide a description of remedial actions taken or proposed to be taken to correct unremediated material weaknesses [significant deficiencies], if the actions are not described in the accountant's communication [report].

[(c) The report must follow generally the form for communication of internal control structure matters noted in an audit described in Statement on Auditing Standard (SAS) No. 60, AU Section 325, Professional Standards of the American Institute of Certified Public Accountants.]

SECTION 18. Sections 401.020(a) and (b), Insurance Code, are amended to read as follows:

(a) In this section, "work papers" means the records kept by an accountant of the procedures followed, the tests performed, the information obtained, and the conclusions reached that are pertinent to the accountant's audit of an insurer's [or health maintenance organization's] financial statements. The term includes work programs, analyses, memoranda, letters of confirmation and representation, abstracts of company documents and schedules, and commentaries prepared or obtained by the accountant in the course of auditing the financial statements that support the accountant's opinion.

(b) An insurer [or health maintenance organization] required to file an audited financial report under this subchapter shall require the [insurer's or health maintenance organization's] accountant to make available for review by the department's examiners the work papers and any record of communications between the accountant and the insurer [or health maintenance organization] relating to the accountant's audit that were prepared in conducting the audit. The insurer [or health maintenance organization] shall require that the accountant retain the work papers and records of communications until the earlier of:

(1) the date the department files a report on the examination covering the audit period; or

(2) the seventh anniversary of the date of the last day of the audit period.

SECTION 19. The heading to Section 401.021, Insurance Code, is amended to read as follows:

Sec. 401.021. COMMISSIONER-ORDERED AUDIT [PENALTY FOR FAILURE TO COMPLY].

SECTION 20. Sections 401.021(a), (b), and (c), Insurance Code, are amended to read as follows:

(a) If an insurer [or health maintenance organization] fails to comply with this subchapter, the commissioner shall order that the insurer's [or health maintenance organization's] annual audit be performed by a qualified independent certified public accountant.

(b) The commissioner shall assess against the insurer [or health maintenance organization] the cost of auditing the insurer's [or health maintenance organization's] financial statement under this section.

(c) The insurer [or health maintenance organization] shall pay to the commissioner the amount of the assessment not later than the 30th day after the date the commissioner issues the notice of assessment to the insurer [or health maintenance organization].

SECTION 21. Subchapter A, Chapter 401, Insurance Code, is amended by adding Sections 401.022, 401.023, 401.024, and 401.025 to read as follows:

Sec. 401.022. REQUIREMENTS FOR AUDIT COMMITTEES. (a) This section does not apply to foreign or alien insurers authorized in this state or to an insurer that is a SOX-compliant entity or a direct or indirect wholly owned subsidiary of a SOX-compliant entity.

(b) An insurer to which this subchapter applies shall establish an audit committee conforming to the following criteria:

(1) an insurer with over $500 million in direct written and assumed premiums for the preceding calendar year shall establish an audit committee with an independent membership of at least 75 percent; and

(2) an insurer with $300 million to $500 million in direct written and assumed premiums for the preceding calendar year shall establish an audit committee with an independent membership of at least 50 percent.

(c) The commissioner may require the insurer's board to enact improvements to the independence of the audit committee membership if the insurer:

(1) is in a risk-based capital action level event;

(2) meets one or more of the standards of an insurer considered to be in hazardous financial condition; or

(3) otherwise exhibits qualities of a troubled insurer.

(d) An insurer with direct written and assumed premiums, excluding premiums reinsured with the Federal Crop Insurance Corporation and the National Flood Insurance Program, of less than $500 million may apply to the commissioner for a waiver from the requirements of this section based on hardship. The insurer shall file, with its annual statement filing, the approval of a waiver under this subsection with the states in which it does or is authorized to do business and with the National Association of Insurance Commissioners. If a state other than this state accepts electronic filing, the insurer shall file the approval in an electronic format acceptable to the National Association of Insurance Commissioners.

(e) In this section, premiums that are assumed from affiliates in the same group of insurers are excluded in determining whether an insurer has less than $500 million in direct written premiums and assumed premiums.

(f) The audit committee is directly responsible for the appointment, compensation, and oversight of the work of any accountant, including the resolution of disagreements between the management of the insurer and the accountant regarding financial reporting, for the purpose of preparing or issuing the audited financial report or related work under this subchapter. Each accountant shall report directly to the audit committee.

(g) Each member of the audit committee must be a member of the board of directors of the insurer or a member of the board of directors of an entity elected under Subsection (j) and described under Section 401.001(2-a).

(h) To be independent for purposes of this section, a member of the audit committee may not, other than in the person's capacity as a member of the audit committee, the board of directors, or any other board committee, accept any consulting, advisory, or other compensatory fee from the entity or be an affiliated person of the entity or any subsidiary of the entity. To the extent of any conflict with another statute requiring an otherwise nonindependent board member to participate in the audit committee, the other statute prevails and controls, and the member may participate in the audit committee unless the member is an officer or employee of the insurer or an affiliate of the insurer.

(i) If a member of the audit committee ceases to be independent for reasons outside the member's reasonable control, the member may remain an audit committee member of the responsible entity, if the responsible entity gives notice to the commissioner, until the earlier of:

(1) the next annual meeting of the responsible entity; or

(2) the first anniversary of the occurrence of the event that caused the member to be no longer independent.

(j) To exercise the election of the controlling person to designate the audit committee under this subchapter, the ultimate controlling person must provide written notice of the affected insurers to the commissioner. Notice must be made before the issuance of the statutory audit report and must include a description of the basis for the election. The election may be changed through a notice to the commissioner by the insurer, which must include a description of the basis for the change. An election remains in effect until changed by later election.

(k) The audit committee shall require the accountant who performs an audit required by this subchapter to report to the audit committee in accordance with the requirements of Statement on Auditing Standards No. 114, "The Auditor's Communication With Those Charged With Governance," or a successor document, including:

(1) all significant accounting policies and material permitted practices;

(2) all material alternative treatments of financial information in statutory accounting principles that have been discussed with the insurer's management officials;

(3) ramifications of the use of the alternative disclosures and treatments, if applicable, and the treatment preferred by the accountant; and

(4) other material written communications between the accountant and the management of the insurer, such as any management letter or schedule of unadjusted differences.

(l) If an insurer is a member of an insurance holding company system, the report required by Subsection (k) may be provided to the audit committee on an aggregate basis for insurers in the holding company system if any substantial differences among insurers in the system are identified to the audit committee.

Sec. 401.023. PROHIBITED CONDUCT IN CONNECTION WITH PREPARATION OF REQUIRED REPORTS AND DOCUMENTS. (a) A director or officer of an insurer may not, directly or indirectly:

(1) make or cause to be made a materially false or misleading statement to an accountant in connection with an audit, review, or communication required by this subchapter; or

(2) omit to state, or cause another person to omit to state, any material fact necessary in order to make statements made, in light of the circumstances under which the statements were made, not misleading to an accountant in connection with any audit, review, or communication required under this subchapter.

(b) An officer or director of an insurer, or another person acting under the direction of an officer or director of an insurer, may not directly or indirectly coerce, manipulate, mislead, or fraudulently influence an accountant performing an audit under this subchapter if that person knew or should have known that the action, if successful, could result in rendering the insurer's financial statements materially misleading.

(c) For purposes of Subsection (b), actions that could result in rendering the insurer's financial statements materially misleading include actions taken at any time with respect to the professional engagement period to coerce, manipulate, mislead, or fraudulently influence an accountant:

(1) to issue or reissue a report on an insurer's financial statements that is not warranted and would result in material violations of statutory accounting principles prescribed by the commissioner, generally accepted auditing standards, or other professional or regulatory standards;

(2) not to perform an audit, review, or other procedure required by generally accepted auditing standards or other professional standards;

(3) not to withdraw an issued report; or

(4) not to communicate matters to an insurer's audit committee.

Sec. 401.024. MANAGEMENT'S REPORT OF INTERNAL CONTROL OVER FINANCIAL REPORTING. (a) Each insurer required to file an audited financial report under this subchapter that has annual direct written and assumed premiums, excluding premiums reinsured with the Federal Crop Insurance Corporation and the National Flood Insurance Program, of $500 million or more shall prepare a report of the insurer's or group of insurers' internal control over financial reporting. The report must be filed with the commissioner with the communication described by Section 401.019. The report of internal control over financial reporting shall be as of the immediately preceding December 31.

(b) Notwithstanding the premium threshold under Subsection (a), the commissioner may require an insurer to file the management's report of internal control over financial reporting if the insurer is in any risk-based capital level event or meets one or more of the standards of an insurer considered to be in hazardous financial condition as described by Chapter 404.

(c) An insurer or a group of insurers may file the insurer's or the insurer's parent's Section 404 report and an addendum if the insurer or group of insurers is:

(1) directly subject to Section 404;

(2) part of a holding company system whose parent is directly subject to Section 404;

(3) not directly subject to Section 404 but is a SOX-compliant entity; or

(4) a member of a holding company system whose parent is not directly subject to Section 404 but is a SOX-compliant entity.

(d) A Section 404 report described by Subsection (c) must include those internal controls of the insurer or group of insurers that have a material impact on the preparation of the insurer's or group of insurers' audited statutory financial statements, including those items listed in Sections 401.009(a)(3)(B)-(H) and (b). The addendum must be a positive statement by management that there are no material processes with respect to the preparation of the insurer's or group of insurers' audited statutory financial statements, including those items listed in Sections 401.009(a)(3)(B)-(H) and (b), excluded from the Section 404 report. If there are internal controls of the insurer or group of insurers that have a material impact on the preparation of the insurer's or group of insurers' audited statutory financial statements and those internal controls are not included in the Section 404 report, the insurer or group of insurers may either file:

(1) a report under this section; or

(2) the Section 404 report and a report under this section for those internal controls that have a material impact on the preparation of the insurer's or group of insurers' audited statutory financial statements not covered by the Section 404 report.

(e) The insurer's management report of internal control over financial reporting must include:

(1) a statement that management is responsible for establishing and maintaining adequate internal control over financial reporting;

(2) a statement that management has established internal control over financial reporting and an opinion concerning whether, to the best of management's knowledge and belief, after diligent inquiry, its internal control over financial reporting is effective to provide reasonable assurance regarding the reliability of financial statements in accordance with statutory accounting principles;

(3) a statement that briefly describes the approach or processes by which management evaluates the effectiveness of its internal control over financial reporting;

(4) a statement that briefly describes the scope of work that is included and whether any internal controls were excluded;

(5) disclosure of any unremediated material weaknesses in the internal control over financial reporting identified by management as of the immediately preceding December 31;

(6) a statement regarding the inherent limitations of internal control systems; and

(7) signatures of the chief executive officer and the chief financial officer or an equivalent position or title.

(f) For purposes of Subsection (e)(5), an insurer's management may not conclude that the internal control over financial reporting is effective to provide reasonable assurance regarding the reliability of financial statements in accordance with statutory accounting principles if there is one or more unremediated material weaknesses in its internal control over financial reporting.

(g) Management shall document, and make available on financial condition examination, the basis of the opinions required by Subsection (e). Management may base opinions, in part, on its review, monitoring, and testing of internal controls undertaken in the normal course of its activities.

(h) Management has discretion as to the nature of the internal control framework used, and the nature and extent of documentation, in order to form its opinion in a cost-effective manner and may include an assembly of or reference to existing documentation.

(i) The department shall maintain the confidentiality of the management's report of internal control over financial reporting required by this section and any supporting documentation provided in the course of a financial condition examination.

Sec. 401.025. TRANSITION DATES. (a) An insurer or group of insurers whose audit committee as of January 1, 2010, is not subject to the independence requirements of Section 401.022 because the total written and assumed premium is below the threshold under that section, and that later becomes subject to one of the independence requirements because of changes in the amount of written and assumed premium, has one year following the year in which the written and assumed premium exceeds the threshold amount to comply with the independence requirements. An insurer that becomes subject to one of the independence requirements as a result of a business combination must comply with the independence requirements not later than the first anniversary of the date of the acquisition or combination.

(b) An insurer or group of insurers that is not required by Section 401.024 to file a report beginning with the reporting period ending December 31, 2010, because the total written premium is below the threshold amount, and that later becomes subject to the reporting requirements, has two years after the year in which the written premium exceeds the threshold amount to file a report. An insurer acquired in a business combination must comply with the reporting requirements not later than the second anniversary of the date of the acquisition or combination.

SECTION 22. Section 401.001(3), Insurance Code, is repealed.

SECTION 23. (a) Section 401.011(c), Insurance Code, as amended by this Act, takes effect January 1, 2010.

(b) Section 401.022, Insurance Code, as added by this Act, takes effect January 1, 2010.

(c) Except as provided by Subsections (a) and (b) of this section, Chapter 401, Insurance Code, as amended by this Act, takes effect beginning with the reporting period ending December 31, 2010.

SECTION 24. Except as otherwise provided by this Act, this Act takes effect September 1, 2009.

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