HM Treasury's ILS proposals are a good start

Earlier this month, the UK’s HM Treasury published a formal consultation in relation to a new regulatory, corporate, insolvency and tax framework for insurance linked securities (ILS) business in the UK. The consultation sets out the government’s thinking in three separate parts and closes on 29 April 2016.

The consultation focuses on creating a regime to enable the transformative insurance special purpose vehicles (ISPVs) which are used in ILS issuances to be domiciled in the UK. Although this has not been mentioned in the consultation, we understand the government’s long term plans may also include attracting to the UK offshore fund and investment vehicles through which investors participate in ILS deals.

The first section of the consultation confirms the authorisation and supervisory framework applicable to “special purpose vehicles” under Solvency II will be applied to ISPVs in the UK. A core requirement of the ongoing supervisory regime will be compliance by UK ISPVs with the Solvency II “fully funded requirement”. There will also be a more streamlined Prudential Regulatory Authority authorisation regime, especially for multi-issuance UK ISPV vehicles.

The ISPV framework in Solvency II was not created with ILS transactions in mind and there is the potential for this to put the UK ILS regime at a disadvantage. The “fully funded requirement” means ISPVs in the UK may need a “buffer” against collateral shortfalls or an ability to call extra capital from investors. UK ISPVs will not, as things stand, be able to undertake direct insurance business, ruling out their use in deals which the UK might have otherwise been well positioned to host.

The second section proposes amending companies and insolvency law in the UK to allow for the creation of protected cell companies (PCCs). PCCs would be novel in the UK and their introduction would be one of the more radical changes to UK corporate and insolvency law in recent times. The new PCC regime is only envisaged to be available for ISPVs involved in ILS transactions.

The final section deals with taxation aspects of ILS deals. Ensuring competitive tax treatment for ISPVs and the investors in ILS deals will be fundamental to the success of the government’s proposals. The focus of the consultation is on ensuring that there is no tax leakage at the level of the ISPV, while at the same time making sure that ultimately any investors pay tax at the profit they make. The government will introduce enabling legislation in the 2016 Finance Bill, so that the tax changes can be made later. 

This article first appeared in InsuranceDay