Insurance Regulatory Update August 2020
This is the August edition of the Arthur Cox Insurance Regulatory Update, the monthly bulletin of the Arthur Cox Insurance Group focused on recent developments in insurance regulation, law and practice.
This issue includes: commencement of the Consumer Insurance Contracts Act 2019; Central Bank approach on supervision of business interruption insurance; Thematic Inspection into Diversity and Inclusion in the Irish insurance market; EIOPA statement on Solvency II reporting deadlines; and EC public consultation on Solvency II.
Commencement of the Consumer Insurance Contracts Act 2019
The Consumer Insurance Contracts Act 2019 (the “2019 Act”) will significantly change the way insurers contract with Irish consumers. The majority of the 2019 Act’s provisions are set to come into effect on 1 September 2020. However, some of the more controversial aspects of the 2019 Act contained in sections 8, 9, 12 and 14 will not be commenced until 1 September 2021 to allow insurers time to comply with those requirements.
Similar to its English law counterpart, the Consumer Insurance (Disclosure and Representation) Act 2012 (“CIDRA”), the 2019 Act dis-applies the pre-contractual principle of utmost good faith and aims to clamp down on the technical avoidance of claims by providing for proportionate remedies for breach of the consumer’s pre-contractual duty of disclosure.
However, the scope of the 2019 Act is substantially broader than CIDRA. For example CIDRA applies to insurance contracts entered into with individual consumers, whereas the definition of “consumer” under the 2019 Act also includes unincorporated bodies (such as clubs and charities) and incorporated bodies with an annual turnover of less than €3 million.
Key Changes coming into effect on 1 September 2020
Similar to CIDRA, the 2019 Act will invalidate basis of contract clauses that have the effect of converting pre-contractual representations into contractual warranties. However, other changes, which will become effective on 1 September 2020 that go beyond the scope of CIDRA include:
(a) The abolition of the principle of insurable interest as a pre-requisite for making a valid claim;
(b) The enhancement of third party rights to take claims against insurers;
(c) Limitations on an insurer’s ability to exercise subrogation rights against family members, personal contacts and employees of policyholders;
(d) Increased claims handling duties for insurers; and
(e) A new cooling-off period, which will give a consumer the right to cancel a contract within 14 working days after the date the consumer was informed that the contract was concluded.
Changes taking effect on 1 September 2021
Commencement of the more burdensome provisions of the 2019 Act have been deferred until 1 September 2021 to allow insurers and product manufacturers sufficient time to update their systems and processes to comply with these new requirements. These provisions are:
- Section 8: which abolishes the principle of utmost good faith and replaces it with a statutory duty on consumers to answer honestly and with reasonable care specific questions posed on a durable medium.
- Section 9: which introduces proportionate remedies for consumer misrepresentation and distinguishes between three classes of misrepresentation: innocent, negligent and fraudulent.
- Section 12: which requires insurers, when issuing renewal notices, to provide details of any premiums paid by the consumer (including mid-term adjustments) and a list of claims (including third party claims) that have been paid for the last five years on foot of the contract.
- Section 14 (1)-(5): which alters the consumer’s duty of disclosure at renewal stage.
Although the 2019 Act and CIDRA are broadly aligned in their policy objectives, insurers with operations in the UK and Ireland should be aware that there are differences between the English and Irish legislation (e.g. (a) to (e) above) when updating their processes and systems to comply with the requirements of the new 2019 Act.
Central Bank explains approach to business interruption insurance
In a letter to Pearse Doherty TD, the Central Bank has outlined the actions it has taken in response to the uncertainty surrounding business interruption policies in the context of the COVID-19 pandemic.
The Central Bank notes that it made clear its expectation that where the language in a policy is ambiguous, the interpretation most favourable to the policyholder should prevail. In addition, the Central Bank has said that the government advice to close businesses should be treated as a specific direction to each business. Also, the Central Bank is currently undertaking a programme of supervision and engagement with the larger insurance firms to assess their response to COVID-19, which includes their handling of business interruption claims. In particular, the Central Bank is focussed on identifying any firms that are not meeting the expectations set out in the Central Bank’s “Dear CEO” letter of 27 March 2020. The Central Bank makes reference to the range of supervisory powers set out in the Central Bank (Supervision and Enforcement Act) 2013 to assist the Bank in holding firms and individuals involved in managing those firms to account, but will not publicly disclose details of ongoing supervisory reviews.
The Central Bank is aware of actions taken by regulators in other jurisdictions in respect of business interruption cover, particularly the actions taken by the FCA in the UK in launching a test case. The Central Bank notes that jurisdictions may vary and believes that its current approach is the most effective way forward at this time but stresses that other options may be considered and no course of action has been ruled out.
Central Bank’s Thematic Inspection of Diversity and Inclusion in the insurance industry
On 29 July, the Central Bank published results of a recent Thematic Inspection of Diversity and Inclusion in Insurance Firms, which looked at a sample of 11 insurers operating in Ireland. The findings of the inspection highlight a significant lack of diversity and inclusion within the 11 sample firms.
The thematic inspection, which evaluated firms’ policies, practices and procedures in this regard, found that most of the sample entities did not have a diversity and inclusion strategy in place, or if one was in place, it was not sufficiently aligned with the overall strategy of the firm. There was also evidence that insurers were not prioritising diversity and inclusion in senior recruitment and succession planning.
The inspection also found evidence of significant gender pay gaps. While women accounted for 51% of the total workforce, they represented only 24% of the top 10 earners across the sample and accounted for just 34% of the upper pay quartile. In addition, between 2012 and 2018 only 21% of PCF applications submitted to the Central Bank were from women.
The lack of diversity evidenced in the sample firms may have wider consequences for the culture and functioning of the insurance sector. The Central Bank has issued a Risk Mitigation Programme (RMP) to each of the 11 firms included in the thematic review. Under the terms of the RMP, each firm is required to submit a detailed action plan to address firm-specific issues identified by the Central Bank, and to ensure these issues are appropriately addressed.
A link to the Central Bank’s press release is here.
Central Bank responds to European Commission’s Consultation on Renewed Sustainable Finance Strategy
The Central Bank of Ireland has responded to the European Commission’s Consultation on the Renewed Sustainable Finance Strategy. This strategy is ultimately intended to increase private investment in sustainable activities in order to meet the objectives of the European Green Deal and to integrate climate and environmental risks into the European financial system.
The views of the Central Bank on the strategy are outlined in four main areas of focus:
- Focus on Effective Implementation: the Central Bank is concerned by the lack of consistency in environmental, social and governance disclosures caused by deficiencies in the availability and quality of corporate reported data as well as a lack of consistency across third party reporting frameworks.
- Protecting Consumers’ and Investors’ Interests: the Central Bank emphasises the importance of consistency and standardisation in the provision of advice and information on financial products to adequately protect consumer interests and to avoid the problem of “greenwashing,” where a product may be advertised as sustainable when, in fact, it is not.
- Maintaining a risk-based approach: an agreed methodology and taxonomy should be developed to reflect the fact that backward-looking risk modelling methodologies are of limited use in the context of climate-related risks.
- Cooperation and convergence: it is necessary to increase international collaboration to gain an understanding of the impact that a transition to a low carbon based economy would have in different regions of the world.
European Commission issues notice to stakeholders on the withdrawal of the United Kingdom and EU rules in the field of insurance/reinsurance
The European Commission has issued a notice asking (re)insurers to consider the business implications of the withdrawal of the United Kingdom from the EU at the end of the transitional period on 31 December 2020. The notice replaces a previous notice dated 8 February 2018.
There are numerous consequences for the insurance/reinsurance sector of the UK leaving the EU:
- UK insurance undertakings will become third-country undertakings, which fall outside the scope of the Solvency II regime and will not be permitted to operate in the EU (including via online sales).
- Branches of UK insurance undertakings in the EU will become branches of third-country undertakings. They will require branch authorisation from the Member State in which they carry on their activities. This authorisation does not extend beyond the Member State which grants it.
- EU subsidiaries of UK insurance undertakings are permitted to continue providing services as EU insurance undertakings in accordance with their authorisation, provided that they at all times comply with EU rules and regulations.
- UK reinsurance undertakings must observe the conditions set by the Member State in which they operate. These conditions may be less advantageous than those that apply to EU reinsurance undertakings and there may be divergence between Member States.
- The end of the transitional phase may affect service continuity. UK undertakings should take steps to reduce the potential for service disruption.
- Policyholders should be notified of the effect of the end of the transition period on their rights and on the provision of insurance services in accordance with Articles 183-186 of the Solvency II Directive and Articles 17-25 of Directive (EU) 2016/97.
- (Re)insurers with group activities in the EU where the parent company is registered in the UK will remain subject to Solvency II and must comply with requests from the EU supervisory authorities to provide a worldwide group solvency or to put in place other measures to ensure adequate group level supervision – such as the formation of a holding company with a head office in an EU Member State.
- The Commission may declare the UK framework as equivalent – in which case, these requirements would not apply. A final decision has not yet been reached. Stakeholders must prepare for the possibility of there being no equivalence.
Group-level internal models for UK groups with EU operations, authorised in the UK prior to the end of the transition period will no longer be valid. A new application must be submitted and approved by an EU supervisor. However, entity-level internal models for subsidiaries of UK insurance undertakings established and authorised in a Member State will remain in force.
EIOPA Statement on Solvency II supervisory reporting in the context of COVID-19
Following its recommendations on 20 March that competent authorities exercise supervisory flexibility in relation to annual and quarterly reporting deadlines, EIOPA has published a statement confirming (re)insurers should now be in a position to comply with the reporting deadlines provided in the Solvency II framework.
EIOPA also urges competent authorities to submit the information received quarterly to EIOPA no later than 2 weeks upon receipt to allow EIOPA to monitor the situation in a timely manner.
European Commission launches public consultation on Solvency II
While EIOPA is conducting its own technical consultations with insurers on the review of Solvency II, the European Commission has launched a public consultation on the review so as to hear the views of policyholders, consumer associations and financial stakeholders.
The Solvency II Directive requires the Commission to review the following aspects of the prudential framework and make legislative changes if necessary:
- Long-term guarantees measures and measures on equity risk;
- Standard formula solvency capital requirements;
- Minimum capital requirements; and
- Group supervision and group capital management.
The review will assess the impact of short-term market volatility on the solvency position of insurers and whether changes can be made to incentivise insurers to offer long-term life and pensions products. To minimise unnecessary burdens on small and less complex insurers, the review will also look at ways of expanding the effective application of the proportionality principle. The review will also look at ways to improve the level-playing field and protect policyholders in the event of insurers failing. Finally, it is intended that environmental and climate factors will become part of the Solvency II framework as part of the European Green Deal.
The Commission intends to take account of any lessons learned by the COVID-19 pandemic and its impact on the insurance industry as well as on wider society.
The invitation to provide feedback to the public consultation is here and the inception impact assessment explaining the purpose of the review is here. The consultation period runs from 1 July 2020 until 21 October 2020.
COVID-19: EIOPA clarifies supervisory expectations on Product Oversight and Governance (POG) requirements
In light of COVID-19, EIOPA has published a statement clarifying its expectations on the application of POG requirements during the course of an insurance product’s life cycle. EIOPA expects insurance product manufacturers to systematically identify products whose features, guarantees or coverage have been materially impacted by COVID-19. In doing so, manufacturers are to take into account the extent to which lockdowns and other government restrictions have impacted consumer behaviour, including mobility, liability risks, travel and access to services (e.g., non-essential medical services).
Once manufacturers identify materially affected products, they are expected to look at how these products can continue to offer value to their target market, taking into account factors such as risk coverage, exclusions and key benefits. Annual benchmarks such as claims ratios should be assessed to see if they are materially different from what was envisaged during the product testing phase. In this regard, EIOPA recommends that manufacturers take a medium to long-term perspective, disregarding minor temporary fluctuations in order to avoid temporary changes that are neither sustainable nor sufficient in scale.
If an insurance product no longer provides sufficient utility to the market or has the potential to result in unfair outcomes for policyholders, EIOPA expects manufacturers to take action that is proportionate to the potential unfair treatment. Examples of such remedial measures might include: adjustments to coverage and benefits; extensions of existing guarantees through “tailor-made” clauses; higher no claims bonuses; provision of additional services and coverage; improvements in the clarity of description of product features, risks coverage and exclusions; and in specific individual circumstances, proportionate premium rebates.
Any such remedial actions taken should also take into account: the circumstances of national markets prior to, during and following the pandemic; national insurance contract law; product sustainability; and the broader perspective of ensuring policyholders are treated fairly, including possible solvency related risks and other measures implemented to alleviate the impact of COVID-19 on policyholders and the sector.
A link to EIOPA’s press release is here.
EIOPA launches Solvency II single rulebook
On 31 July, EIOPA published its Solvency II single rulebook, an online tool that aims to promote the consistent implementation of the Solvency II regulatory framework for insurance supervision. As well as covering the Solvency II Directive, it also includes the Solvency II Delegated Regulations, implementing technical standards, and EIOPA’s guidelines, opinions, and supervisory statements. EIOPA plans to expand the scope of the single rulebook by adding Q&As via its Q&A process.
A link to EIOPA’s press release is here.
ESAs notify the European Commission about the outcome of the review of the PRIIPs key information document
In a joint letter EIOPA, the European Banking Authority (EBA) and the European Securities and Markets Authority (ESMA) have informed John Berrigan, Director General of Directorate-General Financial Stability, Services and Capital Markets Union (DG FISMA) of the outcome of the review of the PRIIPs key information document.
This follows the Consultation Paper opened on 16 October 2019 on the draft regulatory technical standards (RTS) to amend Delegated Regulation (EU) 2017/653 (PRIIPs Delegated Regulation).
The draft RTS was adopted at the EBA and ESMA Boards by way of a qualified majority. At the EIOPA Board, it did not receive the backing of a qualified majority. Largely due to the voting members’ view that a review of the RTS should be deferred until the comprehensive review of the regime contemplated by Article 33 of the PRIIPS Regulation. As such, the ESAs are unable to formally submit an RTS to the Commission at this time.
The EIOPA press release is available here.
European Commission publishes agreed best practices for insurers in responding to the COVID-19 crisis
As part of its COVID-19 response, the European Commission has published a set of best practices for insurers, banks and non-banks agreed by the financial sector. Industry stakeholders have agreed nine best practices for insurers to help mitigate the impact of the pandemic on businesses and consumers. To demonstrate flexibility towards consumers and business clients who may not be able to fulfil their contractual obligations, or who may be forced to change their normal behaviour, or who may be experiencing financial difficulties;
- To act in the best interests of consumers throughout the lifecycle of their relationship;
- Process and pay-out claims as quickly as possible, including settling disputes over coverage and keeping in mind the interests of all policyholders;
- Be open to requests from policyholders, who are experiencing financial difficulties due to the pandemic, to temporarily postpone regular payments of due premiums, as far as the insurer’s financial capacity permits;
- The eligibility criteria for payment deferral, which should be applied on a case by case basis, should not be too strict or deter policyholders from availing of this option;
- Provide policyholders with clear and comprehensive information about the consequences of the payment deferrals, in particular about the cost of such deferral;
- In line with EIOPA’s product governance and oversight expectations, insurers are to continue assessing whether insurance products materially affected by COVID-19 are fit for purpose in meeting the needs of the product’s target market;
- Adjust tariffs to reflect the claims experience and risk incurred during the pandemic, taking into account the overall period of cover and having due consideration to individual business and national circumstances; and
- To protect the interest of policyholders with long-term savings products by discouraging any hasty redemptions or reallocations of funds as a result of a temporary drop in asset values.
Insurance Europe has issued a press release endorsing the Commission’s work to facilitate the creation of insurer best practices. According to its director general, Michaela Koller “the best practices very much reflect the initiatives and actions that insurers throughout Europe have already been taking — both individually and collectively — since the beginning of the COVID-19 pandemic to reduce its impact on their clients. Europe’s insurers will continue this dialogue with consumers, businesses and the Commission in the weeks to come”.
A link to the Commission’s press release is here.
IAIS publishes recommendations to insurance sector on LIBOR transition
The International Association of Insurance Supervisors (IAIS) has published a report on supervisory issues associated with benchmark transition from an insurance perspective. The report primarily relates to the transition away from LIBOR, which will not be published after the end of 2021.
The report notes that insurers will be affected on both sides of their balance sheet. Assets may include investments linked to LIBOR and liabilities may be affected through regulatory valuation methods that reference LIBOR rates. Certain insurers may be more exposed due to factors such as their geographical location, the products they offer and their balance sheet structure and size.
IAIS has recommended that supervisory authorities work to facilitate the transition through identifying transition exposure risks and ensuring greater cooperation and coordination. The report notes that, to date, most insurance supervisors have not imposed deadlines on insurers to transition away from LIBOR rates and has recommended that they introduce timelines and milestones to assess the progress of insurers in moving away from LIBOR. IAIS is also encouraging supervisory authorities to issue public statements on the LIBOR transition and to follow up with “Dear CEO” type letters. Insurers should be expected to include information on the LIBOR transition in their regular reports and risk management plans.
This report complements a similar report on LIBOR transition from the Financial Stability Board – Basel Committee on Banking Supervision. The two reports will be submitted to the G20.
EIOPA outlines key financial stability risks of the European insurance and pensions sector
On 29 July, EIOPA published its July 2020 Financial Stability Report of the (re)insurance and occupational pensions sectors in the European Economic Area, which finds that the industry was well capitalised to deal with the initial impact of the market shocks arising from the COVID-19 crisis. As of year-end 2019 the insurance sector had a solid and comfortable capital buffer (median SCR ratio of 213%).
However, as the levels of uncertainty regarding future economic developments remain extremely high, EIOPA emphasised that insurers should continue to preserve their capital position by postponing dividend distributions until this uncertainty subsides.
According to EIOPA, market shocks have increased credit risk, challenging the asset side valuations of insurers and their solvency positions. There is also significant concern that a recession will negatively impact profitability and result in increased defaults and unemployment.
EIOPA warns that decreases to insurers’ underwriting profitability may take some time to unfold in parallel with the deterioration of the macroeconomic environment. Particularly, as some insurers run the risk of becoming involved in lengthy and costly legal battles in relation to claims occurring as a consequence of the lockdown measures.
Lockdown measures have in turn also increased cyber risk and further highlighted the importance of a reliable cyber risk insurance market. All these factors might lead to materialisation of the risks on insurers’ balance sheet with a substantial lag and high uncertainties.
In the reinsurance sector, at the end of 2019, solvency ratios improved by 22% to 240% compared to the last quarter of 2018. However, investment and underwriting profitability remained broadly unchanged in 2019, but considerable pressure is expected from COVID-19 shock.
A link to EIOPA’s press release is here.
EIOPA report on the impact of ultra-low yields and COVID-19 crisis on the insurance sector
EIOPA has published a report, which assesses the implications of the ultra-low/negative yields on the investment behaviour, profitability and solvency positions of European insurers in light of the COVID-19 crisis. The report takes into consideration NCAs views regarding the events in Q1 2020 and their expert judgement regarding potential future risks.
Investment Behaviour: as insurers adapt their investment behaviour to try to mitigate the overall negative effects of the low yield environment it is possible that insurers will look for more matched durations between their assets and liabilities, increasing the durations of the assets (and hence potentially increasing liquidity risk). However, the search for assets with longer durations could potentially put further downward pressure on the yields for these durations. Alternatively, insurers may invest in assets with higher yields (so called “search for yield behaviour”). Nevertheless, the impact of COVID-19 on the financial markets might increase insurers’ need for liquidity and less risky investments.
Profitability: in terms of income prospects, if market bond yields remain at very low levels for a significant period of time, it is expected that this will have an impact on insurers’ profitability in the medium to long-term horizon. EIOPA also warns that as insurers hold fixed income investments, significant amounts of earned coupons and redemptions from matured bonds will be reinvested at lower rates.
Solvency: the low yield environment directly affects insurers’ solvency position typically through the balance sheet channel, but also indirectly in a longer time horizon. As Solvency II prescribes the valuation of assets and liabilities held by insurers, decreases in yields will lead to an increase in fixed income assets and in technical provisions evaluations. In addition, the duration of the technical provisions is typically longer than that of the fixed income assets, which in turn may cause a negative duration gap (i.e. when interest rates fall, the increase in fixed income assets does not compensate for the increase in technical provisions). Life insurers are particularly sensitive to the changes in interest rates due to their longer liabilities.
Finally, the report confirms EIOPA’s statement on 2 April 2020 regarding prudence on all discretionary dividend distributions and share buy backs.
EIOPA responds to the European Commission’s consultation on a renewed sustainable finance strategy
EIOPA has responded to a European Commission consultation on its renewed sustainable finance strategy. The strategy forms part of the Commission’s Green Deal and strives to increase sustainable investments and to incorporate climate risks into the financial sector.
In a joint letter to the Executive Vice-President of the European Commission, Valdis Dombrovskis, EIOPA, together with the European Banking Authority (EBA) and the European Securities and Markets Authority (ESMA), has welcomed the Commission’s consultation.
EIOPA is a strong proponent of the Commission’s strategy and believes that the pension and insurance sectors are perfectly positioned to act as stewards for sustainability and drive forward the green agenda. EIOPA intends to continue supporting the Commission’s work in this field.
The availability of and access to high-quality and user-friendly sustainability data is highlighted by EIOPA as being key to the success of the sustainable finance strategy. This will ensure enhanced disclosures and a more vigorous regulatory framework. It is also essential that both consumers and investors can buy and use sustainable products safely and transparently.
A link to the EIOPA press release is available here.
EIOPA’s full response can be accessed here.
Insurance Europe has also published its response to the consultation, calling for an increased availability of long-term sustainable assets to meet the needs of institutional investors, such as insurers, who want to invest sustainably going-forward.
Insurance Europe also makes the case for proportionate ESG rules and increased access to data.
Separately, AMICE has published its response to the Commission’s consultation.