United States: New York's New Cybersecurity Rules: Will DFS Rule The Financial Services Cyberworld?

This month, the long-gestating regulation from the New York Department of Financial Services (DFS) mandating that extensive cybersecurity measures be taken by New York-licensed insurance companies and banks, as well as other financial services companies regulated by DFS, including, agents, brokers, adjusters, registered service contract providers, licensed reinsurance intermediaries, licensed life settlement providers, licensed life settlement brokers and licensed insurance consultants, took effect. DFS had first proposed the rule last September and significantly revised it, after considerable public comment.

What does the regulation require?

In summary, the regulation, which is set forth at 23 N.Y.C.R.R. Part 500, requires all non-exempt licensees and registrants to take the following steps to protect "nonpublic information"1:

  • Maintain a specific cybersecurity program based on the licensee's "Risk Assessment," which must be periodically conducted and updated "as reasonably necessary"
  • Conduct monitoring and testing of the program—either continuously or periodically (but at least annually)—to assess system vulnerabilities
  • Execute written policies and procedures—approved by either the board of directors (or a board committee) or by a senior officer with specific cybersecurity responsibilities—that include criteria for identifying both particular cybersecurity risks and the adequacy of existing controls to minimize them, as well as what measures the entity will take to detect, respond to and mitigate those risks
  • Appoint a qualified individual from among its own personnel or from an affiliate to oversee and implement the cybersecurity program in the role of "chief information security officer" (CISO) or, if using a third-party service provider, appoint a senior officer or employee to supervise and direct the service provider to achieve compliance
  • Ensure that the CISO reports annually to the board of directors (or, if no board exists, to a designated senior officer holding cybersecurity oversight responsibility) about the integrity and confidentiality of the non-public information held by the entity, the material cybersecurity risks, the overall effectiveness of the cybersecurity program and any "material" attempts—successful or unsuccessful—to breach the cybersecurity protections during the reporting year
  • Implement encryption of non-public information based on the Risk Assessment or, if infeasible, such alternate measures that the CISO approves
  • Utilize only trained and qualified personnel to implement the program
  • Conduct regular training of all personnel on cybersecurity awareness
  • Submit an annual report to DFS, beginning February 15, 2018, certifying compliance with all the rules in the preceding calendar year
  • Have a written, detailed "Incident Response Plan" to respond to and recover from material breaches and attempted breaches
  • Notify the DFS Superintendent of Financial Services of any material breaches or attempted breaches within 72 hours, and any time the entity must so report to another government agency or to a self-regulating body such as FINRA
  • Keep, for at least five years, secure "audit trail" records, if applicable based on the Risk Assessment, to reconstruct material financial transactions necessary to restore normal operations
  • Maintain, for at least three years, a similar "audit trail" designed to detect and respond to material breaches and attempts
  • Develop written policies and procedures to:

    • Limit unauthorized access to confidential information—including, possibly, the use of "multi-factor authentication" controls
    • Make sure that any applications developed in-house are secure
    • Govern periodic secure disposal of non-public information that is no longer needed

If a licensee or registrant chooses to use a third-party service provider to implement these required steps, then it must utilize written policies and procedures designed to ensure the security of the nonpublic information and the systems to which the provider will be given access. Based on its Risk Assessment, the licensee or registrant must also develop guidelines that address how the service provider will comply with the rules and what due diligence and contractual protections will be utilized in order to ensure such compliance. Licensees or registrants whose parent, subsidiary or sister company has policies and procedures that comply completely with the regulations may use that entity to comply, but ultimate responsibility for compliance rests with the licensee or registrant.

Will the information compiled by DFS be confidential?

Besides the annual certification filing, the regulations explicitly permits DFS to obtain all documentation relating to compliance. The DFS regulation states that information submitted to DFS "is subject to exemptions" from disclosure contained in federal law, New York Insurance Law and New York's Freedom of Information Law (Article 6 of the Public Officers Law). One such exemption, in Section 87(2)(d) of the FOIL, is for information in the nature of a trade secret or for proprietary information submitted by a business that, if disclosed, would "cause substantial injury to the competitive position" of the business. Note, however, that the regulation does not commit DFS to actually invoking such an exemption, only that such an exemption may apply.

Licensees and registrants will want to make sure that any reports or other information disclosed to DFS is accompanied, first, by an explicit and detailed request for confidential treatment explaining exactly how disclosure would cause material competitive injury and, second, under Section 89 of the FOIL, a request to be notified and to be afforded a chance to oppose any FOIL request for that information.

Who is exempt from these rules?

Charitable annuity societies, risk retention groups that were chartered in another state, and accredited or certified reinsurers appear to be completely exempt from all of these rules. Small businesses with fewer than 10 employees "including any independent contractors"2 of the covered entity or its affiliates located in New York or responsible for business of the covered entity, or less than $5 million in New York-based revenue for the entity and all affiliates in each of the prior three years, or less than $10 million in assets including all affiliated companies, are exempt from most of these rules, but only after they have successfully applied for an exemption.3

Note, however, that there are NO EXEMPTIONS from the rules requiring even small businesses to (i) maintain a cybersecurity program and have written and approved cybersecurity policies (unless they never possess, receive, generate or access "nonpublic information"), (ii) conduct a Risk Assessment, (iii) have guidelines for allowing third-party service providers to access nonpublic information, (iv) notify DFS if a material breach or attempted breach occurs, (v) submit the annual compliance certification, beginning February 15, 2018, and (vi) have procedures in place, which they must periodically review, to limit unauthorized access to nonpublic information and for secure disposal of unneeded "nonpublic information."

Given the limited nature of the exemptions, DFS will likely receive thousands of certifications from non-resident licensed agents and small producers with an office in New York, and it is hard to understand how DFS personnel will have time to review all of them or what enforcement steps DFS will take for relatively small companies that do not file—keeping in mind that every violation of these regulations could subject the violator to a penalty as high as $1,000 under Section 408 of the Insurance Law.

Captive insurers that are domiciled in New York and never receive, generate or control "nonpublic information" (except that which relates to its parent company or affiliates) are exempt from most of the rules. However, as is the case for even the smallest producers, they must still (i) conduct a specific Risk Assessment, (ii) file the annual compliance certification, and (iii) have written policies for dealing with any third-party service providers.

What is the timetable for compliance?

The regulation envisions a phased implementation period. Unless exempt, licensees and registrants will have to comply with most requirements by September 1, 2017. There is a March 1, 2018, deadline for the annual report to the board of directors or equivalent, the training of all personnel, the periodic assessment of vulnerability and the development of a Risk Assessment. By September 1, 2018, the "audit trails," the security measures covering in-house developed applications and the policies for disposing of "nonpublic information," as well as for executing controls on access such as encryption must be in place. Finally, DFS has provided a two-year window—until March 1, 2019—for the establishment of policies and guidelines covering third-party service providers.

How long will New York rule the financial services cyberworld?

New York's cybersecurity regulations affect each and every agent and broker of any size licensed in New York, whether their office is in Manhattan or Mongolia. Every insurer or bank in the world that has a New York license or charter (and that is not a New York-based captive) is similarly affected. There do not appear to be any other states with a comparable set of rules in development, although this year the NAIC is striving to expose a Model Insurance Data Security Act that would promote uniformity among the states. Of course, even if the NAIC promulgates a model law, it cannot force New York to conform to it.

The current Congress and President are highly unlikely to impose any federal cybersecurity mandate on insurers and producers. Yet Congress has acted before to limit the extra-territorial effect of state insurance oversight—most recently in 2010 when, as part of the Dodd-Frank Act, Washington preempted the credit for reinsurance rules New York (and California) imposed on all licensed ceding insurers—no matter where they were domiciled. It would not take more than a paragraph, either as a rider to an unrelated measure or as part of the forthcoming revision of Dodd-Frank promised by House Financial Services Committee Chairman Jeb Hensarling, for the federal government to exempt every foreign and alien licensee and registrant, and every New York insurer and producer operating in other states, from New York's cybersecurity mandates. Will that happen? Stay tuned. In the meantime, insurers and everyone else with a DFS license or registration should consider obtaining advice from counsel intimately familiar with DFS policies and personnel.


1 "Nonpublic information" is broadly defined to mean all electronic information, reasonably believed not to be publicly available, which (i) if business related, would cause a material adverse impact to the business if accessed or used without authorization; or (ii) is individual identifying information--along with a name or other identifier, an individual's social security number, account or credit/debit card number, driver's license number or equivalent, security code or access code for a financial account, or biometric records; or (iii) any information compiled by a health care provider (except age or gender) that relates to the past, present or future physical, mental or behavioral health of an individual or member of an individual's family, or provision of health care to any individual, or payment for such provision.

2 The regulation does not specify how an independent contractor is to be deemed an employee for purposes of the exemption.

3 Section 500,19(f) somewhat confusingly states that these entities are exempt provided they "do not otherwise qualify" as a "Covered Entity", the latter term defined as " any [p]erson operating under or required to operate under a license, registration, certificate, permit, accreditation or similar authorization under the ...Insurance Law...."

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