Summary
On 10 July 2023, the European Insurance and Occupational Pensions Authority (EIOPA) launched a public consultation on its supervisory statement on the supervision of reinsurance concluded with third-country reinsurers. Interested parties are able to comment and participate until 10 October 2023.
The consultation forms part of the ongoing Solvency II review, but its outcome will be of interest both to UK insurers and to EU cedants, with implications in particular for collaboration with traditional reinsurance markets like London or Bermuda.
Equivalence
EIOPA and the Solvency II Directive recognise that the insurance industry is a global industry. To avoid unnecessary duplication of regulation, the European Commission may decide on the equivalence of a third country's (i.e. non-EEA country's) solvency and prudential regime. If deemed equivalent, reinsurance agreements concluded with third-country insurance or reinsurance undertakings ("third-country reinsurers") from those countries are treated in the same manner as reinsurance agreements concluded with undertakings authorised in the EU. Equivalence decisions are taken by the European Commission on the basis of EIOPA's technical assessment. The list of the assessed countries can be found on EIOPA's and European Commission's websites. e.g. Bermuda obtained full equivalence on 26 November 2015, but the United Kingdom still has to undergo the assessment.
What is the scope and objective of the consultation?
The consultation's aim is to ensure proper regulatory supervision of those insurance undertakings using reinsurance arrangements with third-country reinsurers, both from equivalent and non-equivalent countries. Although Solvency II includes provisions that regulate the conditions for recognising reinsurance with third-country reinsurers, EU Member States may introduce national provisions, such as requiring notification or prior authorisation or the establishment of a local branch office.
As a result of the consultation, and the revised supervisory statement which is expected to follow, EIOPA may implement changes to supervision requirements where it believes that these will warrant the solvency of market participants and ensure that the promises given by insurance and reinsurance entities to insureds are being kept.
It is unclear whether equivalence assessments will have to be re-taken, or whether the criteria might change following the outcome of the consultation. In any case, British reinsurers or EU insurance companies wishing to deal with reinsurers in the UK and third countries may want to keep a close eye on developments.
Supervisory expectations
EIOPA, alongside national regulators, expects:
- Assessment of the business rationale for using third-country reinsurance, and early supervisory dialogue:
Undertakings will need to consider (and national regulators to assess) the advantages and disadvantages of any reinsurance strategy, including balancing reinsurance premiums, additional risks and the impact on Solvency Capital Requirement (SCR) as well as other regulatory considerations arising from third country reinsurance.
- Assessment of the insurance undertaking's risk management system regarding the use of third-country reinsurers:
Undertakings will need to ensure that they have adequate internal risk management and internal control systems. National regulators following a risk-based supervision approach will need to assess the risk management and internal control systems of those insurance undertakings using material reinsurance arrangements with third-country reinsurers. Factors to take into account include whether or not there are procedures in place to monitor and report on risks (taking account of any third country reinsurers' domicile), whether the risk assessments identify legal/compliance risks arising from the law of relevant third countries (like differing sanctions regimes), and whether the risk management policies in place cover the selection and creditworthiness of reinsurance counterparties. The regulators will evaluate how insurance undertakings assess the different domicile/country of the third country reinsurers to be used. Undertakings are expected to identify the legal consequences arising in case of insolvency, winding-up procedures or recovery and resolution mechanisms, and to identify how risks arising from such regimes may be mitigated. Collateral, and the relevant third-country law and bankruptcy procedures, play an important role in both the internal assessment of the undertaking but also in the regulatory assessment.
- Assessment of the reinsurance agreement:
Assessing that the agreement complies with Articles 209-211, and Articles 213-214, of the Solvency II Delegated Regulation and that its terms (particularly termination provisions) do not jeopardise the effective transfer of risk, as well as whether the agreement is an intragroup or non-intragroup reinsurance, short or long-term reinsurance, reinsurance of primary insurance or retrocession (and then of any retrocession arrangements and terms).
- Tools to mitigate any additional risks:
Any concerns, or identification of increased risk, should be mitigated. This may be through terms in the agreement, security or diversification. For third-country regimes where the law on liquidation and bankruptcy raises risks of non-compliance with the reinsurance agreement or the supervisory and resolution procedures include the power of disavowal (or similar) of the reinsurance agreement, the requirements of Article 214 of Solvency II Delegated Regulation cannot be met without specific mitigation measures, such as a specific clauses choosing the law (and jurisdiction for disputes) of an EU Member State.
Undertakings will need to document their assessment of the reinsurance agreement.
Conclusion
As discussed, it is early days and there is no certainty about the outcome of the consultation which seems to be in line with other Brexit and Solvency II reform related consultations EIOPA is undertaking. Inevitably we will see changes to regulation coming out of the process. Given the importance of reinsurance for the entire market, and with increased volatility due to inflation, natural catastrophies and other elements, it is vital market participants keep themselves informed about developments. Also, both UK based reinsurers as well as interested market participants wishing to trade with the UK should consider participating actively in the consultation process.
