This is the October 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.
Government publishes Brexit Readiness Plan and new Brexit Omnibus Legislation
As negotiations for a long-term trade agreement between the EU and the UK have made disappointing progress, the Irish government has decided to plan for the possibility of the UK leaving the transition period on 31 December 2020 with no long-term trade agreement in place with the EU. If no agreement is reached, it is possible that there will be significant disruption to the Irish economy as trade between Ireland and the UK will be based on World Trade Organisation rules.
The Brexit Readiness Action Plan outlines the government's approach to various sectors in order to deal with such disruption. In financial services, the plan notes that while the sector is sufficiently resilient to withstand disruption (with significant preparation already completed or in progress in the sector), some level of disruption remains unavoidable. The government is working closely with the Central Bank and NTMA to identify key risks in the financial system and to plan for those risks, taking into account the additional pressure caused by the ongoing COVID-19 crisis.
The general scheme of a new "omnibus" bill dealing with the potential consequences of the UK leaving the transition period without a deal has been published. The proposed legislation, extends the three year temporary run-off regime for UK and Gibraltar based insurers and intermediaries, that was provided for in the Withdrawal of the United Kingdom from the EU (Consequential Provisions) Act 2019 to 15 years.
Central Bank publishes additions to the list of PCFs
The Central Bank has announced three new Pre-Approval Controlled Functions ("PCFs"):
- PCF-49, Chief Information Officer (general application);
- PCF-50, Head of Material Business Line (banking); and
- PCF-51, Head of Marketing Risk (banking).
PCF-49 applies to all regulated financial service providers (including insurers and intermediaries) other than credit unions and will typically apply to the most senior individual at the firm with responsibility for information technology matters.
In accordance with the Central Bank's Guidance on the Fitness and Probity Standards, the Central Bank does not require a PCF to be in existence where the size or complexity of the business does not warrant it. Thus, the onus is on firms to review its function to determine whether the role meets the substance of a PCF-49 role. In this regard, firms should take their PRISM rating and the importance that technology plays as a component of their business model into account.
PCF-50 Head and PCF-51 apply to Credit Institutions within the meaning of the European Union (Capital Requirements) Regulations 2014 and were introduced to reflect the changing landscape of the banking sector in Ireland due to Brexit, including the entry/expansion of investment banks/broker-dealer firms with significant capital markets activity.
UK High Court delivers FCA Test Case judgment
The UK High Court recently handed down its much-anticipated judgment in the Financial Conduct Authority's ("FCA") business interruption insurance test case. The Court examined policy wordings in a sample of 21 policy wordings from 8 different insurers including interpretation of ambiguities in relation to disease clauses, prevention of access/ public authority wordings, and hybrid wordings. In relation to disease clauses, the Court found that most, but not all of the policies were triggered by the pandemic. The prevention of access/ public authority clauses and hybrid wordings were construed more restrictively, although some were found to provide cover. We understand that the FCA and a number of the insurer defendants have obtained certificates entitling them to apply to the Supreme Court for permission to appeal. For a more in-depth analysis of the judgment and what it might mean for policyholders, please see our previous briefing.
Central Bank sets out requirements for firms following first phase of review Of differential pricing in the insurance sector
On 21 November 2019, the Central Bank wrote to the insurance sector announcing that it intended to carry out a review of differential pricing practices in the market. The Central Bank has now concluded the first of its three-phase review and has issued a Dear CEO letter setting out its initial observations and its supervisory expectations from the conclusion of phase 1.
Key observations include:
Differential pricing: the majority of firms use differential pricing techniques such as price elasticity modelling, retention/lapse modelling, conversion rate modelling and models that facilitate the flexing of sales remuneration but that firms have failed to recognise these techniques as differential pricing practices.
Governance and controls: firms have failed to clearly document what controls are in place to quantify or monitor the impacts of differential pricing on consumer groups and there were varying degrees of awareness of pricing practices at board level, which point to inadequate oversight of the use and application of differential pricing practices.
Culture and Conduct: firms have developed pricing policies without sufficient consideration of customers' interests.
The Central Bank expects firms to immediately address these observations by:
- Assessing their own pricing methodologies against the Central Bank's definition of differential pricing. Where a firm does not consider such methodology to fall within the definition of differential pricing the rationale for this needs to be documented and agreed at board level;
- Ensuring at board level that there are appropriate controls in place to ensure that pricing practices are well governed with roles and responsibilities for pricing activities being clearly defined; and
- Manage conduct risk by ensuring that an embedded consumer protection risk framework forms an integral part of the pricing process and reflects fair treatment of consumers in accordance with the Consumer Protection Code 2012.
The Central Bank has also published an FAQ on differential pricing for consumers explaining what differential pricing is and encouraging consumers to shop around when purchasing or renewing their policy to ensure that they are getting the most suitable cover at the most competitive price.
A link to the Central Bank's press release is here.
Central Bank publishes insurance news letter
Key topics in the Quarterly News Letter include:
Navigating the Covid-19 Uncertainty: based on its observations over the last six months, the Central Bank shares its expectations of firms for sound and prudent financial management as they navigate their way through the uncertainty.
CP 131 – Regulations for pre-emptive recovery planning for (re)insurers: on 25 June, the Central Bank published a consultation paper, which details the regulations and accompanying guidelines that the Central Bank is proposing to issue regarding the structure and content of pre-emptive recovery plans. Stakeholders have been asked to provide their responses to the consultation by 30 October.
Emerging Risks & Climate Survey: the Central Bank will issue a survey to a sample of insurers later this year to assess their understanding of and consideration given to emerging risks such as climate change risks (including flooding) and cyber underwriting risks, in particular policies issued. Insurers will have four weeks to complete the survey.
Business Interruption Insurance Covid-19 Supervisory Framework: the Central Bank's new supervisory framework was published on 5 August and sets out the Central Bank's: approach to the identification of potentially systemic issues of customer harm; expectations of insurers to address identified issues; and escalation strategy for intervention where necessary. For more details on what to expect from the Central Bank's supervisory framework, see our client briefing, which can be accessed here.
Diversity & Inclusion: in July 2020, the Central Bank published findings from its Thematic Review of Diversity and Inclusion from a sample of 11 insurers. The assessment concluded that most of the insurers surveyed are not sufficiently prioritising D&I, and considerations of diversity are not sufficiently evident in senior recruitment and succession planning.
SCR Calculations – Request for Quarterly Updates: on 7 September 2020, the Central Bank wrote to insurers regarding Solvency II quarterly information reporting. In light of the Statement issued by EIOPA on 27 July 2020, the Central Bank now expects all (re)insurers to submit updated SCR calculations on a quarterly basis.
Central Bank of Ireland rescinds guidelines for reinsurers subject to Solvency II
The Central Bank has published a statement confirming that it has rescinded the Guidelines on the Reinsurance Cover of Primary Insurers and the Security of their Reinsurers in respect of all (re)insurers subject to Solvency II. The Guidelines, which were issued in 2012, have been rescinded with effect from 14 September 2020 and have been removed from the Solvency II section on the Central Bank's website, as they are no longer relevant to (re)insurers subject to Solvency II. The Guidelines will however continue to apply to Non-Solvency II undertakings and remain on the Non-Solvency II section of the Central Bank website.
New classes of non-life insurance to be included in national claims database
The Central Bank (National Claims Information Database) Regulations 2020 (the "Regulations") were commenced on 30 September. The purpose of the Regulations is to expand the scope of the National Claims Information Database to include employer's liability insurance, public liability insurance and property insurance taken out by one or more persons in connection with their business, trade or profession. The Regulations expand on previous regulations in 2019, which provided for information on motor insurance policies being included in the database.
The database was established on the recommendation of the Costs of Insurance Working Group as a means of collecting data to examine the causes of high insurance costs. The Central Bank collects aggregate data from insurers including levels of premium and claims data and publishes an annual report on costs and the settlement of claims with a view to identifying ways to reduce costs. The first report, dealing exclusively with private motor insurance was published on 16 December 2019.
EIOPA'S effective supervision of product oversight and governance
EIOPA has outlined its approach to the supervision of product oversight and governance ("POG") requirements, which covers product approval, distribution as well as monitoring and review processes under the IDD. EIOPA hopes to provide clarity to insurance manufacturers and distributors when implementing their own approach to POG requirements.
The POG requirements aim to ensure that a 'customer-centric' approach is taken at various stages of product design, production and distribution. This ensures products produce good customer outcomes, i.e. that they are sufficiently aligned with the needs and complexity of both the product and target markets.
In line with its Conduct of Business Supervision Strategy, EIOPA's POG supervisory activities should be risk-based and proportional; should not limited to assessing whether manufacturers and distributors have developed POG policies and processes, but also extends to other POG supervisory areas (as set out below), to assess whether:
- POG policies and processes are adequate and proportionate, taking into account the business model, product characteristics and complexities of the target markets;
- Manufacturers and distributors have implemented adequate systems and controls for their POG processes and that the products have been designed and distributed in line with distribution strategies;
- Adequate processes and procedures are in place to perform relevant target market assessments;
- Insurance products have been appropriately tested in the testing phase to meet target market's objectives, needs and interests;
- Manufacturers have developed an appropriate distribution strategy in light of the target market and product characteristics; and
- Monitoring and review processes are conducted regularly, and whether the POG policy provides adequate guidance on such review processes.
The implementation of POG requirements is ultimately the responsibility of the individual manufacturer and distributor. EIOPA hopes that, by outlining its expectations, manufacturers and distributors will have some clarity on what to expect from the supervisory approach so they can better engage with their supervisors.
EIOPA sets out its priorities for 2021-2023
EIOPA has published a Single Programming Document setting out its key priorities for the years 2021-2023, taking into account the current market situation in light of the COVID-19 pandemic and the European Commission's political priorities.
EIOPA's four strategic objectives are:
- Driving forward conduct of business regulation and supervision;
- Leading supervisory convergence to ensure high-quality prudential supervision across Europe;
- Strengthening financial stability of the insurance and occupational pension sectors; and
- Delivering EIOPA's mandate effectively and efficiently while remaining adaptable to new priorities and demands.
To deliver on the above objectives, EIOPA's Single Programming Document has designated strategic priorities for the future, which include activities such as COVID-19 crisis management, risk mitigation and active support to the recovery of the European economy. Crisis management and adaptation will play a central role in the coming years as the insurance and pension industries adapt to structural changes that materialize in the post-pandemic era.
EIOPA is also dedicated to both continuing and intensifying its existing work streams on consumer protection, digitalization and cyber risk, sustainable finance and supervisory convergence.
European supervisory authorities assess risks arising from COVID-19
EIOPA, the EBS, and ESMA have completed their first joint assessment report on the financial services sector in Europe since the beginning of the COVID-19 crisis.
The report highlights uncertainties about the medium and long-term consequences of the pandemic and the likelihood of a fragile market environment for some time to come. In particular, the ESAs are concerned about liquidity, credit risks and profitability throughout the financial services sector, which is expected to result in the deterioration of EU banking assets.
The ESAs recommend a set of policy actions to regulators, financial institutions and market participants, some of which will be relevant to insurers:
- Firms in the financial services sector should be prepared for market corrections and further deterioration in liquidity by performing stress testing and taking into account a range of potential scenarios.
- The report highlights the importance of firms to remain well-capitalised. Firms should therefore adopt a prudent approach to dividend, distribution and variable remuneration policies.
- It is likely that a low interest rate environment will prevail for some time to come and firms should be prepared for this.
- Firms should carefully assess and correct any deficiencies in their information and communications technology to avoid growing cybersecurity risks.
Apart from the risks arising from COVID-19, the report also notes the continuing uncertainty concerning the possibility of the United Kingdom leaving the EU on expiry of the transition period with no long-term trade arrangements agreed with the EU. The report points out that, even with a trade agreement, there is likely to be significant disruption to the financial sector.
EIOPA to undertake peer reviews
EIOPA is set to undertake a two-year peer review work plan covering the period 2020-2022 in areas approved by the EIOPA Board of Supervisors in June 2020. The purpose of the review is to monitor the implementation of benchmarks in the EEA, challenge supervisory practices that are not adequately aligned and identify best practices. The peer reviews will reflect EIOPA's future priorities of adapting to the long-lasting effects of the COVID-19 pandemic and continuing the work related to EIOPA's supervisory convergence programme and regulatory framework.
Peer reviews, many of which are ongoing, include:
- Regular Supervisory Report, which identified divergent practices among NCAs in their approach to seeking RSRs from firms, resulting in 51 recommendations being issued to 26 NCAs.
- Collaboration of the insurance supervisory authorities: this ongoing review will assess the level of cooperation between NCAs in relation to the authorisation of (re)insurers, notification of the establishment of a branch and/or the commencing of activities by way of freedom to provide services, and cooperation regarding cross-border activities.
- Supervisory practices for the application of the proportionality principle in governance requirements regarding key functions: will follow-up on a previous review of the implementation of the Solvency II framework, to assess whether NCAs have made use of the recommended actions.
- Outsourcing: this upcoming peer review will include a thorough analysis of NCAs' application of relevant provisions of Solvency II related to outsourcing and information exchange as well as identifying best practices.
- Propriety of administrative, management or supervisory body members and qualifying shareholders: this follow-up peer review will assess whether NCAs have made use of the 80 recommended actions regarding the lack of harmonisation relating to cross-border cases and lack of clarity in supervisory expectations, which were identified in a previous peer review.
- Requirements for product oversight and governance ("POG"): this upcoming peer review will assess how NCAs supervise POG and its application in relation to target market assessment, product testing and product marketing, as required under the IDD.
Insurance Europe publishes key positions for Solvency II review
Insurance Europe is strongly in favor of the risk-based framework underpinning Solvency II but shares its views on the improvements it believes the upcoming Solvency II review should lead to, including:
- A more appropriate valuation of liabilities that will significantly reduce the current excessive level of artificial volatility;
- An overall increase in insurers' capacity to take on risks by reducing the current capital requirements;
- A less burdensome framework so that (re)insurers are in position to meet the reporting requirements;
- A more diversified and efficient insurance market;
- An enhancement of the risk-based nature of the framework; and
EU companies being better able to compete with foreign firms in domestic and foreign markets.
Insurance Europe Publishes Insurance Distribution Directive Insight Briefing
The Insurance Distribution Directive was introduced as a legal framework for the sale of insurance products and has applied across the EU since 1 October 2018. While a review of the IDD is due to take place in 2021 and the European Commission is launching an external study of distribution systems to assess where improvements can be made to the consumer experience, Insurance Europe has published an insight briefing on the IDD to reflect on reasons for its success:
- Improvements in consumer protection: the IDD introduced effective conduct rules for the sale of insurance products to ensure that insurance distributors act honestly, fairly and professionally and in the best interests of the consumer. Examples of some requirements include the "demands and needs" test, which requires that all insurance products meet the expectations of customers, as well as product oversight and governance rules.
- Respect for existing distribution channels: the IDD complements, rather than overrides, existing and well-functioning insurance distribution methods that are focused on the needs of customers.
- Tailored to reflect the industry it covers: the IDD introduced rules that are appropriate for the distribution of insurance products, as well as additional requirements that are tailored to specific types of insurance products, e.g. the Insurance Product Information Document is specifically tailored to non-life products.
- Diversity of national markets: the IDD is a "minimum harmonisation" directive, which means that minimum standards must be applied, but there is flexibility for certain additional measures to be introduced at a national level to consider local market structures or consumer behavior.
This article contains a general summary of developments and is not a complete or definitive statement of the law. Specific legal advice should be obtained where appropriate.