The following guide brings together summaries of the top legal concerns for the remainder of 2020 for insurers from a number of different regions. This summary has been put together with the support of lawyers from across our global practice.
We hope that this guide helps identify the main legal concerns for the year ahead.
What are the top concerns for 2020?
The impact of COVID-19 will dominate business decisions over the next year and beyond as insurers manage their claims as well as their regulatory capital levels. Insurers’ business continuity plans will be tested as the majority of workers operate from home during the pandemic. Conduct and governance will be carefully scrutinized by supervisors during this period and reviewed for effectiveness after the crisis subsides.
Aside from the pandemic, other market challenges should not be overlooked. The pace of regulatory change has continued over the past year and will continue for the future. In Australia, the Government plans to focus on individual accountability in insurance companies as well as product governance. In South Africa, a new ‘Twin Peaks’ model of regulation settles in under which prudential supervision is separated from market conduct.
China is increasingly opening up its insurance market to foreign investment. The restriction on the ownership of life companies in China was lifted in January this year. The result is that foreign investments into any life or non-life insurers, reinsurers or insurance intermediaries are no longer subject to any foreign ownership restrictions.
The risks arising from climate change will have a significant impact on insurers over the next few years. Regulators expect insurance companies to be able to manage their exposure to these risks and be able to report how they are doing. In a number of jurisdictions insurance companies have to be able to demonstrate how they are managing the financial risks of climate change, including the impact of ‘transition risks’ as the economy shifts away from carbon assets. Furthermore, as climate change causes more extreme weather-related damage many insurers will find themselves exposed to unanticipated losses, or ‘silent climate’ exposures.
As has been seen over the past few years, technology is transforming the insurance market with dynamic new providers entering the marketplace. Jurisdictions, such as Hong Kong, have introduced expedited licensing or ‘sandboxes’ (in which products can be tested) to encourage new market entrants. In the current economic environment InsurTech start-ups may be able to thrive as existing products reliant upon legacy systems struggle to keep pace with changing consumer demand.
COVID-19: A global challenge in 2020
COVID-19 will impact insurers and reinsurers across the globe. Claims under personal lines will be made under travel and PMI and health policies and, tragically, also life policies. Commercial lines will face numerous business interruption (as well as contingent business interruption) claims, trade credit, D&O, professional liability, public liability and employers’ liability claims. In many instances existing policies will not extend to covering claims related to the pandemic, without extensions for diseases or pandemics.
Escalating claims will require insurers to closely monitor their capital position over the next few months and consider new exclusions to cover. Regulators will expect insurers to treat policyholders fairly and not unreasonably reject legitimate claims. This will mean providing clear information about claims and coverage when policyholders get in touch.
Operational challenges will test business systems as employees rely on remote working to access company IT. With remote working comes vulnerability in terms of cyber security and privacy.
The fallout from the virus will dominate the remainder of the year as insurers manage claims, and ensure business continuity. There will inevitably be disputes as a result of the outbreak, as was seen after the 2003 SARS epidemic.
Top concerns from different markets:
Regulatory change in Australia
Insurers in Australia will have to deal with significant regulatory change in 2020, expected to hit all parts of the insurance value chain. The reforms follow a year of public scrutiny during the Financial Services Royal Commission, which handed down its final report in February 2019.
The majority of regulatory change affects those businesses involved in retail insurance, although some broader compliance and governance reforms will be felt by all insurers. Major changes have taken effect in respect of product design and distribution of retail products, with new laws set to come into effect on April 5, 2021. The law will require product issuers, who may be insurers, coverholders or underwriting agencies, to make available a Target Market Determination which sets the target market and restrictions on selling each product. The reforms are intended to reduce the improper sale of insurance products. Following the lead of the UK, Australia is also set to implement a deferred sales model for add-on insurance.
Another significant change is the introduction of licensing for claims handling activities. Entities that provide claims handling services may need to obtain an Australian Financial Services Licence (AFSL) or become an authorized representative of an AFSL holder. The regulations are expected to also capture loss adjusters and other allied services making a decision on a claim. The government also intends to introduce a Financial Accountability Regime for insurers, which will be based off the Banking Executive Accountability Regime. As the next Australian federal elections may be held as early as August 2021, there will be immense pressure on the government to implement many of the new laws in 2020. No doubt insurers in Australia have a busy few months ahead.
Proposed changes to the Ontario Class Proceedings Act, 1992 would benefit insurers
The Ontario government’s recent announcement of proposed changes to Ontario’s class proceedings legislation bodes well for defendants and their insurers. If the amendments become law, they would provide greater latitude to defendants seeking to narrow or dismiss claims prior to certification, make certification a somewhat steeper hill for class counsel to climb, and provide mechanisms to prevent duplicative multijurisdictional class actions from proceeding in Ontario. Details of certain of these proposed changes include the following:
- Early dismissal motions and dismissal for delay. Prior to the motion for certification, motions by defendants that may dispose of the proceeding in whole or in part or narrow the issues to be determined would be permitted. Currently, Ontario courts tend to discourage motions of this nature prior to certification. This is a welcome change for defendants. As well, a proceeding could be dismissed if, by the first anniversary of the day on which the proceeding was commenced, the representative plaintiff has failed to file a final and complete motion record for certification.
- A stricter test for certification. The amendments provide that certification will only be granted if “the questions of fact or law common to the class members predominate over any questions affecting only individual class members.” This test would be more in line with the test for certification applied in the United States, which requires a predominance of the common issues over individual issues. These changes may create additional obstacles to plaintiffs seeking certification in cases involving significant individual issues.
- Determining preferable forum for multijurisdictional class actions. If a class proceeding has been commenced in a Canadian jurisdiction other than Ontario involving the same or similar matters and some or all of the class members, the court will be required to determine whether it would be preferable for some or all of the claims or common issues of the class members to be resolved in the proceeding commenced in the jurisdiction outside of Ontario. This will avoid the expense of duplicative class actions proceeding in Ontario and another province.
- Appealing certification orders. Defendants and plaintiffs will be able to appeal certification orders directly to the Court of Appeal, instead of first having to appeal to the Divisional Court, and then seek leave to appeal to the Court of Appeal. This will save the cost of appeals to the Divisional Court.
- Third-party funding. Third-party funding agreements would require approval by the court based upon specified criteria and on notice to the defendant. A defendant would be able to recover a costs award made against the representative plaintiff directly from the funder, to the extent of the indemnity provided under the approved funding agreement.
China opens up market to wholly foreign-owned life companies
The restriction on foreign ownership of life companies in China has been lifted. Originally planned for January 2021, the timetable was later accelerated to January 2020 following the Premier Li Keqiang’s announcement at the 2019 Summer Davos Forum. In December 2019, the foreign ownership restriction was officially lifted by the China Banking and Insurance Regulatory Committee (CBIRC) with effect from January 1, 2020.
In a nutshell, foreign investments into any of the life/non-life insurance sector, reinsurance sector or insurance intermediary sectors are no longer subject to any foreign ownership restriction, though the relevant regulatory approvals/filings remain required.
Aside from the foreign ownership rules, various other relaxation measures have been introduced to foreign investments in the insurance sector in 2019, the highlights include:
- Certain qualification requirements on foreign investors of insurance sector, i.e. a track record of engaging in insurance business for at least 30 years and having established an insurance representative office for at least two years, have been removed.
- Qualified foreign financial institutions and insurance groups, not limited to foreign insurance companies, are permitted to invest into insurance companies in China.
- Specific requirements imposed on branch setup by a foreign-invested insurance company (insurance FIEs) are removed – insurance FIEs are now subject to national treatment as domestic insurance companies for branch opening.
With the liberalization of these qualifications, more foreign investors are expected to enter into the market and compete with their domestic peers. It is anticipated that the insurance market will continue to be an appealing area for offshore capital and a varieties of players are expected to make the market more vitalized, mature and competitive.
Further reform in insurance asset management business
In July 2019, the Financial Stability and Development Committee under the China State Council announced that foreign investment into insurance asset management companies, which is currently subject to an ownership limitation of 25 percent, will be fully lifted up to 100 percent. The announcement also mentioned that the main regulations governing insurance asset management companies, i.e. the Interim Regulations on Administration of Insurance Asset Management Companies (in Chinese《保险资产管理公司管理暂行规定》), will soon be amended.
Market reaction to this new development has been positive. According to public information, three Sino-foreign life insurance joint ventures have established their 100 percent asset management subsidiaries during 2019. A fourth entity obtained approval from the CBIRC in December 2019. We expect that this area will be a continuous focus for foreign investors.
It is also worth noting that, CBIRC recently issued a draft paper regarding insurance asset management products (IAMPs) for public consultation, which aims to grant more flexibility to insurance asset managers on offering the relevant IAMPs. One important development in the draft paper is that qualified individual investors would be allowed to invest in IAMPs, which under the existing regime are deemed to be only available to institutional investors. Besides, insurance asset management companies may use bank and insurance channels to distribute IAMPs. These new developments are anticipated to incentivize greater distribution of IAMPs in the market.
Opportunities in health insurance and pension insurance sectors
According to the regular policy briefing meeting held by the State Council on January 2, 2020, the Opinions on Promoting the Development of Commercial Insurance in Social Services Area (in Chinese 《关于促进社会服务领域商业保险发展的意见》, were passed by the Standing Committee of the State Council on December 30, 2019. The opinions have outlined development plans in respect of health insurance products and commercial pension insurance products. Key points to note are:
- Insurance market participants are encouraged to develop innovation and technology for their health insurance products.
- Insurance market participants are encouraged to develop a diversified range of commercial pension and annuity products.
- Insurance funds are encouraged to invest in social benefit areas, such as health and eldercare.
- A separate regulatory system on use of pension insurance funds is currently under consideration.
The Chinese government has always encouraged commercial insurance companies to support statutory social security benefits, such as healthcare and retirement insurance. Last year, the CBIRC approved the first foreign invested specialized pension insurance company (the other eight are all domestic companies). We anticipate that these two specialized insurance sectors (health and pensions) will become a hot topic to both domestic and foreign participants in the Chinese insurance market.
Reforms to make Hong Kong a more conducive domicile for insurance-linked securities
With climate change raising the possibility of catastrophe risks, insurers are increasingly considering alternative forms of risk financing. This has, in part, driven the market for insurance-linked securities (ILS), including catastrophe bonds, which enable insurance risks to be transferred to the capital markets.
Whilst reforms to facilitate the issuance of ILS in Hong Kong have been in the pipeline for some time, the Hong Kong Government has recently reaffirmed its commitment to introduce legislative amendments in early 2020 to make Hong Kong a more conducive domicile for ILS. Under the proposals, a new regulatory regime will be established under the Insurance Ordinance (Cap. 41) (IO) which will (amongst other things) enable the formation of a fully funded special purpose vehicle (SPV) for the issuance of ILS and the SPV’s authorization as a new type of special purpose reinsurer solely for the purpose of (i) acquiring insurance risks from other insurers or reinsurers under a risk transfer contract and (ii) issuing an ILS. It is proposed that the selling of ILS be restricted to institutional investors through private placement.
Whilst this is a welcome development for insurers and institutional investors alike, the extent to which (and how quickly) ILS business is brought onshore to Hong Kong following these changes remains to be seen. Given Hong Kong’s unique location, it is likely that mainland Chinese companies looking to issue ILS will be the first to take advantage of these new rules.
InsurTech takes hold in Hong Kong
Following the authorization of the first life virtual insurer under the Fast Track scheme (an expedited licensing initiative for digital-only insurance providers) in late 2018, the Hong Kong Insurance Authority has granted the first authorization of a non-life virtual insurer under the scheme in October 2019. We expect this program to be one of the primary drivers of the InsurTech market in Hong Kong.
Although the lack of InsurTech start-ups passing through the scheme is surprising, when contrasted with the success similar start-ups have had in equivalent regulatory environments abroad, the result of an untapped market, along with the start-up friendly regulation introduced by the regulator, is that more InsurTech start-ups are emerging in Hong Kong. As these start-ups begin to grow and tap into Asia’s insurance market, it is likely that there will be some consolidation as companies battle for more market share.
We are also seeing a trend of InsurTech companies moving into the virtual banking space. This is likely to challenge the dominance of traditional financial institutions and cause some disruption to the banking industry.
Italy’s new Insolvency Code and its impact on D&O insurance policies
Italy has a new Insolvency Code that will be fully effective as of August 15, 2020 (the New Italian Insolvency Code or “NIIC”). The primary goals of the NIIC are to prevent corporate financial distress and to help companies that are experiencing financial difficulties avoid insolvency and maintain goodwill.
To achieve these goals, the NIIC establishes new and increased responsibilities for directors and officers. For example, the NIIC imposes a new corporate auditing duty to promote continuous and scrupulous monitoring of a company’s financial status (the “Internal Mechanisms”). Companies will have to put in place Internal Mechanisms to monitor financial stability, so that any sign of difficulty is flagged as soon as possible to the relevant directors and officers of the company. Regional chambers of commerce will set up specialized units to assist companies in complying with this requirement. These specialized units will have an obligation to support companies in distress that must engage in negotiation procedures with their creditors. These negotiations must be undertaken promptly by the directors and officers of the company (the “External Mechanisms”). In addition, the NIIC provides for reform of certain aspects of the managerial liability regime under the Italian Civil Code.
The NIIC also provides for a new, presumptive criterion in relation to damages sought by a bankruptcy receiver in cases against directors and officers involving claims for wrongful trading. Damages will be set at the difference between the net worth of the company at the time the business should have ceased trading and the net worth of the company at the time the directors and officers resigned from their positions or applied for insolvency (whichever comes first). This new, presumptive criterion in relation to damages could give a plaintiff receiver an advantage in disputes against directors and officers; it may imply a decrease of the sometimes onerous duty of the plaintiff to prove which single transactions were in effect carried out in breach of the requirement to cease trading.
The NIIC will impact D&O insurance policies both because it imposes new responsibilities on directors and officers and because it changes rules in relation to the calculation of damages in lawsuits brought by receivers against directors and officers involving claims for wrongful trading. Coverage could also be affected by the potential identification of new risk indicators, such as the use of the External Mechanisms for financial crisis management, as described above. In addition, new duties of disclosure regarding External Mechanisms procedures at the underwriting stage may be introduced.
Finally, policy triggering may be affected in the event that a launch of the External Mechanisms procedure is deemed to be a “relevant circumstance” that might give rise to a claim.
Twin Peaks regulatory model settles in
The implementation of the Twin Peaks model introduced in South Africa in 2018 is slowly gaining momentum but not as fast as originally anticipated. The relicensing of insurers under the new Insurance Act of 2017 is likely to happen this year. It is more difficult for foreign insurers to do business with South African insureds unless registered in this country. Reinsurers will be able to register branches of their foreign entities.
It will still be possible for South African corporations to place their insurance business offshore by reverse solicitation where the contract is entered into and performed in an offshore jurisdiction. Lloyd’s will continue to operate in South Africa as before, represented locally by coverholders and a representative backed by Lloyd’s South Africa.
Whilst the new prudential regulatory regime is largely in place the expected Conduct of Financial Institutions Act has not yet seen the light of day. An early flawed draft is being re-drafted and is expected to appear in the first half of 2020. It will cover all financial institutions and it will be an effort to get it through Parliament in 2020. Market conduct is still regulated under the previous insurance laws and updated Policyholder Protection Rules.
The new insurance regime will be familiar to insurers around the world. The Twin Peaks model follows an Australian example but with unneeded complexity. The prudential standards and market conduct standards will be familiar to anybody who has dealt with regulators elsewhere (such as the FCA in the UK). Many of the South African laws follow the pattern of other major insurance jurisdictions.
More general market concerns
The concerns of insurers are no different from those elsewhere, such as the increase in climate-change environmental risk, cyber risks and directors' and officers' claims. None of these is the major factor that they are elsewhere because things are calmer in these respects at the tip of Africa.
The South African courts remain competent and independent and, though they continue to favor the insured instinctively, justice will be done. Both the life ombudsman and the non-life ombudsman are active and many insurers’ disputes are resolved in those forums. There tends to be less insurance litigation. Because of the power of social media and the sensitivity of corporate reputations, insurers are careful what claims they resist. Even totally unjustified public outcry sometimes leads to settlements where none is due.
The regulation and supervision of insurance intermediaries is increasingly strict to avoid excessive remuneration to those in the middle of transactions. South Africa is however a robust market with brokers playing a major role particularly in the commercial risks and they mostly justify the money they earn for competent intermediary and outsourced services.
The new regime has given the regulator considerably more powers than they had in the past both to give directives to and to impose penalties on financial services companies operating in the insurance market.
New insurance laws and requirements appear regularly and proper advice needs to be sought for anyone engaging in the market.
Going it alone: The future trade deal with the EU
The UK left the European Union at the end of January. Although the past three and a half years since the vote to leave the EU have been the most politically disruptive in the UK for many decades, the challenges for the insurance market are still to come. At the center of the uncertainty will be how much access to reciprocal insurance markets any future trade deal with the EU provides. Until the end of 2020, EU law will continue to apply in the UK under a transitional period. Insurers and intermediaries can continue to use the “passport” to provide insurance products to clients in the EU; EU insurers and intermediaries can also access UK customers. After next year, EU insurance companies and intermediaries must seek authorization in the UK if they wish to carry on regulated activities in the UK. Similarly, UK firms will need to establish an authorized branch within the EU if they wish to sell to local customers. Without the necessary authorizations, firms are given a limited period within which they can run-off their existing contracts.
Will any future trade deal allow anything similar to the passport? It is unlikely. Equivalence regimes offer limited market access. There is no ability to recognize equivalence in respect of intermediaries. The latest statement from the UK government states the ambition for any agreement to provide “a predictable, transparent, and business-friendly environment for financial services firms, ensuring financial stability and providing certainty for both business and regulatory authorities” and “enhanced provision for regulatory and supervisory cooperation arrangements with the EU.” The rhetoric from some government ministers however is not to prioritize the UK’s financial services sector above other areas of the economy such as fishing and agriculture with the result that insurance companies’ desire for market access may come down the list of priorities in trade negotiations.
Managing the climate
In 2020 the regulatory interest in how insurance companies are preparing for the impact of climate change will continue. Having been an aspect of corporate social responsibility, climate change has now become a balance sheet concern. The PRA is likely to take short shrift with firms that still fail to see the importance of managing the financial risks of climate change.
In 2019, the Prudential Regulation Authority (PRA) published a statement setting out its expectations of how insurers embed the consideration of the financial risks arising from climate change in their governance arrangements and ensure that climate change is brought within existing risk management practices within the business. The statement requires that the boards of UK insurers should have clear responsibilities for managing the financial risks from climate change. The PRA expects insurers to use long-term scenario analysis to inform business strategy and risk identification. Importantly, in the supervisory statement, the PRA also sets expectations in respect of the disclosure of financial risks arising as a result of climate change.
It is clear that firms that do not manage the changing climate as they would other material risks to their business will fall foul of the PRA’s expectations. As climate is managed as a risk within the Solvency II framework, firms should not be surprised if capital add-ons are imposed where the PRA has doubts that the business is prepared for the changing climate.