Long-awaited proposals to reform the EU’s Solvency II insurance regime published
The recent proposal to revise the Solvency II regime adopted by the European Commission anticipates interesting topics which will generate much debate in the future as they will define a new regulatory framework to which the insurance sector in the EU will have to adapt. Long-term sustainable investments, proportionality, coordination of supervision, systemic risk and a new regime for restructuring or resolution of insurance companies are some of the main issues that are subject to reform in line with to this proposal.
On September 22, 2021, the European Commission adopted, among other measures, a proposal for an in-depth review of the Solvency II Directive. This reform has several immediate objectives, in particular that of allowing insurers to increase their long-term investments in order to contribute to the political agenda of the European Union (for example the Capital Markets Union or the European Green Pact) . Another strong point of the Proposal is the increased relevance of the principle of proportionality, already present in Solvency II, and defined as the application of rules proportionate to the scale, nature and complexity of the risks inherent in the activity. insurance. The review exercise also includes a proposal for a new directive on the restructuring and resolution of insurance companies. To achieve these objectives, the proposal:
- encourages long-term sustainable financing of insurers;
- improves the measurement of risk sensitivity;
- mitigates excessive short-term volatility in insurer positions;
- improves proportionality;
- improves the quality, consistency and coordination of insurance supervision in the European Union;
- tackling the potential build-up of systemic risks in the sector; and
- creates a legal regime to prevent extreme scenarios from requiring restructuring or resolution of an insurer in insolvency.
Main changes included in the Solvency II review
Corrective measures relating to long-term guarantees are put in place, in particular concerning the increase in risk-free interest rates and the adjustment for volatility.
Regarding the first, it is proposed to modify Article 77 bis, which defines the rules for extrapolation of the term structure of risk-free interest rates, so that this extrapolation takes into account financial market information for the maturities for which the term structure is extrapolated. As regards the volatility adjustment, it is proposed to amend Article 77d in order to subject new cases of volatility adjustment to the authorization of the competent authorities. In order to mitigate the risk that the volatility adjustment compensates beyond investment losses due to an increase in credit spreads, an institution-specific “credit spread sensitivity coefficient” is introduced.
A new dimension of the principle of proportionality will allow small insurers to be exempted from the scope of Solvency II. This would create a more appropriate framework for insurers with a low risk profile.
The proposal includes:
- Amendment of Article 4 to increase the thresholds for exclusion from the scope of the rule;
- The new articles (29a to 29e) to (i) set the criteria for identifying insurers with a low risk profile; (ii) determine the proportionality measures applicable to these entities; or (iii) define the reporting obligations of these entities;
- Insurers with a low risk profile may concentrate several key functions in one person;
- Insurers can update certain internal policies (eg risk management, compensation, internal control, internal audit and outsourcing) every three years instead of once a year;
- Two-year period (instead of one) for low-risk institutions and insurance captives to carry out their solvency assessment.
The information requested from insurers will be better aligned with the information needed by recipients.
To this end, it is proposed to amend Article 51 on the report on solvency and financial situation in order to split the report into two parts, the first part, addressed to policyholders and beneficiaries of insurance policies. , which should contain key information on the business, business performance, capital management and risk profile; and the second part, addressed to analysts and other market players, which should contain specific information on the institution’s governance structure, technical provisions or solvency.
With regard to compliance with prudential rules, it is proposed:
- Amend Article 45 to include adverse economic scenarios in the internal assessment of risks and solvency;
- Amend Article 132 to include macroeconomic considerations in the principle of prudence in investment;
- The addition of new articles 144a to 144c to impose the obligation to develop liquidity indicators to properly monitor this risk.
Regarding the cross-border group activity, it is proposed:
- Amend Article 18, to require entities requesting to operate in another Member State to provide information on previous refusals or withdrawals of authorization in other Member States;
- Add a new Article 33a concerning the minimum requirements for the exchange of information between the authorities of the home and host Member States;
- Include an article 159 bis empowering the host supervisor to request information from the home supervisor about the company’s solvency situation, including the possibility of requesting a joint inspection on the spot.
With regard to insurance groups;
- Section 212 is amended to facilitate the identification of companies forming part of a group;
- Article 213 is amended to bring insurance holding companies and mixed financial holding companies directly into the scope of the EU prudential framework, for example by obliging them to comply with governance requirements;
- Articles 244, 245 and 265 are amended in order to extend the list of indicators on the basis of which group supervisors can define significant intragroup transactions and risk concentrations; and
- the articles on the calculation of the group’s solvency are amended to provide some clarifications on the rules governing the calculation of the group’s solvency.
In order to better manage and monitor climate and systemic risks, new requirements for the analysis of long-term climate change scenarios will be introduced.
In particular, it is proposed to introduce a new article 45 bis on the analysis of climate scenarios, according to which insurers will be required to identify any significant exposure to risks linked to climate change and to assess the impact of these scenarios. on their economic model. In addition, a new article 304a is included which instructs the European Insurance and Occupational Pensions Authority (“EIOPA”) to review, until 2023, the prudential treatment of assets or activities associated with climatic or social objectives, and periodically review the scope and calibration of the parameters of the natural disaster risk formula.
Develop the regulatory framework for the recovery and resolution of insurance institutions
The proposal for a Directive on the recovery and resolution of insurance problems aims to ensure that both insurers and competent authorities can deal with the significant financial difficulties in the sector in order to mitigate their consequences and the potential impact on the economy. . To this end, the competent authorities will have the necessary legal instruments to maintain the coverage of policyholders and beneficiaries, while preventing taxpayers from indirectly paying for the insolvency of insurers.
The proposed directive has a structure similar to the relevant legislation applicable to credit institutions. In particular, it is divided into the following main blocks:
Scope, definitions and competent authorities (Articles 1 to 3): the scope of the directive is the management of quasi-insolvency or insolvency situations of institutions subject to the Solvency II regulatory framework. It also provides for Member States to set up resolution authorities specific to the insurance sector.
Preparation (Articles 4 to 17): restructuring and resolution planning of insurance institutions. This section regulates the resolution and restructuring plans of insurance companies, as well as the assessment of these plans by the competent authorities.
Resolution (Articles 18 to 66): establishment of common parameters to determine the application of the solving tools. In addition, the various resolution tools that can be applied by the competent authorities are regulated (i.e. business sale, bail-in, bridge institution, asset separation and revocation of administrative authorization to enter into new contracts). Ancillary provisions relating, among other things, to the valuation of assets and liabilities, securities, procedural obligations or rights of recourse are also drawn up.
Resolution of cross-border insurance groups (Articles 67 to 71): given the cross-border nature of insurance groups, an authority will be set up at European level under the leadership of EIOPA to coordinate preparatory and resolution activities to be carried out by national authorities in order to ensure optimal solutions at European level. of the European Union .
Relations with third countries and sanctions regime (Articles 72 to 82): a legal framework for cooperation between the European authorities and the authorities of third countries is created, with the aim of effectively controlling the resolution of insurance establishments operating in third countries. Finally, a sanctions regime has been developed for the competent authorities to enable them to take effective, proportionate and dissuasive measures to ensure compliance with the resolution framework.
Next steps and ongoing procedures
Following the publication of the proposal by the European Commission, it will be discussed by the European Parliament and the Council. The Commission asked the European Parliament and the Council to make rapid progress in the interinstitutional negotiations; at the same time, the Commission will start work on delegated acts which will complement the amendments to the Solvency II directive.