UK: Solvency II And Group Regulation

The major developments that have emerged in insurance regulation over recent years are capital adequacy and corporate governance. It is anticipated that Solvency II will incorporate these developments.

In the UK the FSA has attempted to anticipate the implementation of Solvency II by bringing its own risk based regulatory capital regime into force. The FSA introduced Individual Capital Adequacy Standards ("ICAS") two years ago.

It is widely believed that the FSA has been very influential in the development of Solvency II and accordingly many of the measures it contains will reflect FSA thinking. It is therefore worth considering the discussion paper "Supervising Insurance Groups under Solvency II" published by the Treasury and the FSA in November last year. Given the influence that the FSA has had on Solvency II, the Directive is likely to contain provisions similar to those that are proposed in the discussion paper.

Currently, individual companies within insurance groups are considered separately for regulatory capital purposes. In the UK the FSA will often require companies within groups to enter into deeds of mutual guarantee as an ad hoc means of obtaining group support to individual companies. The proposal in the discussion paper requires that groups are regulated as a whole. Each company will have its own Minimum Capital Requirement ("MCR"), but the Solvency Capital Requirement ("SCR") will be calculated on a group basis and will include any Pillar 2 capital adjustment, i.e. the adjustment needed to be carried out following the risk based solvency assessment in Pillar 2. The assessment of risk and capital will be applied on a group-wide basis. The MCR for each company in the group will be retained in that company. The SCR for the group would be retained anywhere within the group subject to the group satisfying transferability criteria.

In the event of a group member becoming insolvent or requiring an injection of capital, the discussion paper envisages that other group members will be able to transfer capital into the group member. Such a transfer will be limited so as to preserve the solo SCR for that member of the group.

On the face of it any group regulation under Solvency II will be no different than the risk-based regulation that already exists under ICAS. It should be noted, however, that the risk based regulatory capital regime exists only in the UK. Accordingly, if a group contains an entity that is currently regulated outside the UK that entity will, as a result of Solvency II, fall under the risk based regime. As a result, the regulatory capital requirement of the group as a whole will increase.

If a group contains companies or books of business where it is anticipated that the regulatory capital requirement will increase it may be time for the group to consider obtaining finality in relation to that business either by way of a Part VII transfer or scheme of arrangement or utilising whatever future mechanism or mechanisms that may become available in order to obtain finality. Obviously, it may be necessary to transfer the business into England to utilise these solutions. Such transfers are possible provided there is some connection to the English jurisdiction.

It will be interesting to see the extent to which the ideas promulgated by the discussion paper are taken up by Solvency II. It will also be interesting to see the industry's reaction to the more wide ranging changes that will be introduced by the Directive.

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