Insurance update - Europe

Publication October 16, 2014


Introduction

This update covers the European Commission's draft Solvency II Delegated Regulation. We review two papers published by the PRA and FCA on the regulatory approach to with-profits insurance business. The PRA has also issued a consultation paper proposing changes to the rules for policyholder protection. Finally, from our Paris office, we consider the insurance specific consumer measures introduced by the Loi Hamon.

European Commission adopts Solvency II Delegated Regulation

On October 10, the European Commission adopted the draft Delegated Regulation that will introduce much of the detail of Solvency II. The framework Directive which was adopted in November 2009, and has been subsequently amended by Omnibus II, specifies that the European Commission should adopt a Delegated Act (the published Regulation) which sets out detailed implementing rules. Like most Regulations, the Solvency II Delegated Regulation will have direct effect once adopted to ensure that there is consistency in implementation.

The Regulation has not been subject to specific public consultation although various stakeholders have seen iterations of the Regulation in advance of its adoption. The Council of the European Union and the European Parliament can object to the Commission’s draft Regulation but have a limited window in which to do so.

The Commission has also published 26 Annexes to the Delegated Regulation.

Solvency II is due to come into force on January 1, 2016.

For further information:
European Commission Delegated Regulation (C(2014) 7230 final)

With-profits insurance business – PRA and FCA approach papers

On October 14, the Prudential Regulation Authority (PRA) and Financial Conduct Authority (FCA) simultaneously published papers on their respective approaches to with-profits insurance business. The two papers are:

  • CP22/14: The PRA’s approach to with-profits insurance business. This CP clarifies the PRA’s role and objectives in relation to with-profits and explains how the new PRA Rulebook will affect the current designation of with-profits provisions within the existing shared Handbook. The CP also proposes changes in anticipation of prudential regulations associated with Solvency II.
  • FS14/1: Feedback statement on FSA 12/13 Solvency II – COBS rules changes. This paper provides feedback on the Financial Services Authority’s (FSA) July 2012 consultation on Transposition of Solvency II Part 2. The paper focuses primarily on the Conduct of Business Sourcebook (COBS) chapters 20 (with-profits) and 21 (unit-linked business).

PRA approach to with-profits

The PRA consultation applies to all insurance firms that write with-profits business, whether or not they are within the scope of Solvency II. The proposed new rules outlined in CP22/14 would replace the current PRA-designated rules in COBS 20. The PRA has a supervisory role to play in ensuring that with-profits firms maintain adequate financial resources to provide security of benefits for both guaranteed and discretionary policyholder benefits and that discretionary increases do not adversely affect the firm’s ability to meet the PRA’s safety and soundness requirements. The FCA meanwhile is responsible for ensuring that firms’ proposed bonus payments or other benefits are fair to with-profits policyholders.

The PRA proposes only rules as follows:

  • A requirement that firms hold, within each of its with-profits funds, assets that are sufficient to meet the with-profits liabilities of those funds. The PRA explains that the rationale for this rule is consistent with the Solvency II ring-fenced fund (RFF) regime. The PRA’s view is that the restrictions on assets resulting from the nature and regulatory context of with-profits business in the UK will generally mean that each with-profits fund gives rise to a RFF. The existence of a RFF will have prudential implications for a firm’s Solvency Capital Requirement (SCR) and the amount of own funds available to meet the SCR.
  • A requirement that with-profits firms ensure that their distribution strategies are affordable, sustainable and are not expected to have a significant negative impact on the PRA’s standards for safety and soundness.
  • The PRA notes that some firms have set up arrangements to support their with-profits funds to enable the firm to provide some degree of benefit security for policyholders where it would not be able to do so from the resources of the with-profits fund alone. The PRA is proposing that firms clarify and document the structure, terms and conditions of such support arrangements, including the extent of any restrictions on a firm’s use of those arrangements.

The deadline for comments on CP22/14 is January 14, 2015. The PRA is expected to publish feedback, finalised rules and a final supervisory statement in early 2015. The rule changes will come into force on January 1, 2016 in order to align with Solvency II.

FCA feedback statement on Solvency II transposition

While the PRA leads on transposing Solvency II into rules, as the majority is prudential in nature, the FCA is responsible for transposing a small number of Solvency II articles covering conduct issues, including information provision and permitted links in unit-linked business.

FS14/1 provides feedback on the conduct elements of the FSA’s consultation on Solvency II transposition. The FCA notes that firms were broadly supportive of the proposed changes to COBS 20 and 21. The FCA has amended some of its proposals based on the feedback received and has generally sought to clarify the consulted-on rules. A revised draft of the Solvency II instrument 2015 is included in the Appendix. 

The FCA notes that it plans to remove guidance which said that each with-profits fund will be treated as a separate RFF under Solvency II, as this is principally a PRA issue. Although, interestingly the PRA has pointed out that in the UK the regulatory obligation to treat with-profits sub funds which are participating in different assets/profits, as separate with-profits funds, is what will generally cause such funds to be treated as RFFs under Solvency II.

The FCA makes the point that some of what may be classified under the PRA rules as surplus funds may in fact be subject to FCA restrictions on distributions (e.g. planned enhancements). There will therefore be a duty to consider 'conduct liabilities' in making distributions.

The FCA is going ahead with amended definitions of key terms used in relation to with-profits funds - including a new definition of what constitutes a with-profits fund surplus (for Solvency II firms). The FCA has clarified that the 'risk margin' (which is an insurance entity requirement rather than an individual with-profits fund requirement) should not be included. The FCA also makes the point in relation to items such as loans to connected parties that the Solvency II requirement in the event of 'conflict' situations is that investment of a firm's assets must be in the 'best interests of policyholders'.

FS14/1 also includes additional draft rules following the FSA’s consultation on Solvency II and linked long-term insurance business (CP11/23). Partial feedback on CP11/23 was published in 2012. FS14/1 includes the draft Handbook text which will be put to the FCA Board in early 2015. Feedback is also included on three outstanding issues in relation to unit-linked rules (COBS 21): derivatives; stock lending; and governance.

The FCA intends to make all the changes required early next year and the rules will come into force on January 1, 2016.

For further information:
CP22/14 PRA approach to with-profits insurance business
FS14/1 Feedback on FSA CP12/13 Solvency II – COBS rule changes

PRA consultation on policyholder protection

The PRA has published a consultation paper proposing changes to rules for insurance policyholder protection. The proposals aim to align compensation rules more closely with the PRA’s statutory objective to contribute to securing an appropriate degree of protection for those who are, or may become, policyholders. The consultation is divided between proposals for compensation limits, operational changes for the Financial Services Compensation Scheme (FSCS) and funding rules.

The PRA is proposing changes to the FSCS insurance limits to ensure that policyholders are protected in the event of an insurer’s failure. Compensation is currently set at 100 per cent for liabilities subject to certain compulsory insurance, such as third party motor and employers’ liability, and 90 per cent for all other general insurance. The PRA proposes extending the 100 per cent compensation limit to:

  • professional indemnity insurance claims;
  • claims arising from death or incapacity due to injury, sickness or infirmity of the policyholder; or
  • benefits falling due are payable in the form of income or other regular payment.

Long-term insurance

For long-term insurance, the PRA proposes an increase to 100 per cent for annuities in payment and other benefits in the form of regular income. The long-term locked-in nature of annuities means that policyholders have a lower capacity to protect themselves or seek alternative cover and, therefore, justifies an increase from the current limit of 90 per cent.

The PRA proposes to maintain the 90 per cent cover for both pension life savings and investment life savings. Policyholders are not yet receiving income while these products are in the accumulation phase and are not locked in to their policies to the same degree annuitants. The PRA therefore considers such policyholders are less vulnerable to a sudden reduction in income.

Claims arising from death or incapacity (pure protection long-term insurance products), under the PRA’s proposals, will increase to 100 per cent cover. For policyholders that have savings products with both a saving and protection element, the PRA proposes to maintain 90 per cent cover for the saving element but increase cover to 100 per cent for the pure protection element. This aims to ensure that mixed policies are treated the same regardless of whether the policy is pure protection or a combined savings and protection product.

General insurance

The PRA will maintain full coverage for certain liabilities relating to compulsory insurance. The proposals extend 100 per cent protection to general insurance claims arising from the death or incapacity of the policyholder under, for example, creditor, accident, sickness and unemployment insurance. Professional indemnity insurance (PII) cover will remain at 100 per cent given the consequences could be significant should PII holders have their cover withdrawn.

For all other general insurance products, which are usually short term in nature, the PRA proposes maintaining 90 per cent cover.

Operational changes for the FSCS

The consultation also includes recommendations that aim to address operational issues facing the FSCS. The PRA proposes giving the FSCS the power to provide that the payment of compensation by the FSCS shall have the effect of automatically subrogating the FSCS to the claimant’s rights against the insurer, a successor and/or against any third parties as an alternative to assignment. The PRA notes that by expanding the range of options available to the FSCS to secure a right of recovery against insurers when making payments of compensation, the PRA is seeking to give the FSCS flexibility to pursue the most operationally effective strategy given the circumstances.

The PRA recognises, however, that concepts such as ‘subrogation’ and ‘assignment’ are technical in nature and the Financial Services and Markets Act 2000 does not expressly require the PRA to adopt these terms in making rules for the FSCS. Respondents’ views are sought on whether simpler language, for example ‘transfer’, would be desirable in the PRA’s rules.

The PRA proposes extending the scope of the FSCS power to require information from insurers in situations where the firm is in financial difficulty or where the FSCS is seeking to secure continuity of cover, for example, through a transfer of business or issue of policies by another firm.

The consultation closes on January 6, 2015, with a policy statement and final rules expected to be published in the first half of 2015.

For further information:
CP21/14 Policyholder Protection

Loi Hamon: France raises the bar of consumer protection measures

Orsolya Hegedus from our Paris office consider the insurance specific measures in the Loi Hamon. The Loi Hamon (named after Minister Benoît Hamon) has introduced a number of consumer protection measures into French law. Apart from introducing a system of class actions for competition or consumer law breaches, the consumer protection bill has also introduced a number of protections specific to consumer insurance policies – namely measures to enable consumers to cancel automatically renewed annual policies and imposing an obligation to inform policyholders that they should check that they do not already have cover in place.

The Loi Hamon reflects the change in emphasis across Europe towards tougher consumer protection measures and highlights the interest by both regulatory and legislative bodies to increase supervision over cancellation rights and add-on products.

Our full briefing on the Loi Hamon is available here.


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