Greater regulatory muscle

01-02-2011

Janita Burke

Greater regulatory muscle

Bermudian law firm, Appleby, outlines recent regulatory changes on the Island and explains how the Bermuda Monetary Authority’s approach is keeping the re/insurance industry ahead of the curve.

Regulatory trail-blazing

Bermuda is highly regarded as the premier offshore insurance domicile and has three thriving subsectors—namely captive insurers, commercial reinsurers and long-term insurers.

The insurance regulatory landscape in Bermuda is dynamic as the chief regulator, the Bermuda Monetary Authority (BMA), is focused on ensuring that Bermuda’s risk-based regulations meet or exceed international standards.

Craig Swan of the BMA indicated in Bermuda Re’s November 2010 edition that the BMA has entered into the next phase of its multiyear regulatory change programme for the insurance sector and is re-engineering Bermuda’s insurance regulations.

The BMA undoubtedly had to respond to the demands of the international regulatory community following the global financial crises. However, its amendments to the Insurance Act 1978 are not only in response to such demands, but are also being promulgated with a clear intention for Bermuda to become a regulatory equivalent jurisdiction. Such equivalency is achievable only if Bermuda’s insurance regulations meet the technical requirements of Europe’s Solvency II Directive.

Success never comes without its challenges and not all insurers within the aforementioned subsectors are welcoming of the proposed changes to the industry. This is not surprising as both the captive insurers and the commercial reinsurers were resistant to some of the measures imposed by the BMA in previous amendments to the insurance regulation impacting their business, and they continue to be active in communication with the BMA in respect of future changes. The spotlight is now on insurers writing long-term business as the most recent amendments to the Insurance Act 1978 represent a dramatic overhaul of the regulations governing insurers in this subsector.

The two other pieces of legislation passed in 2010—which, for the most part, are the fruit of extensive consultation with the industry and other stakeholders by the BMA commencing in early 2009 are the Insurance Amendment Act 2010, which came into force on March 25, 2010 (No. 1 Act); the Insurance Amendment (No. 2) Act 2010, which came into operation on March 29, 2010 (No. 2 Act); and the Insurance Amendment (No.3) Act 2010, which became law on December 31, 2010 (No. 3 Act). Each of the acts implement provisions to modernise and strengthen Bermuda’s insurance regulations.

The key provisions of the amending acts and those affecting longterm insurers are:

Statutory financial statements

The No. 1 Act contains an amendment allowing the Minister of Finance to make regulations relating to statutory financial statements or returns, which have retroactive application for a period of up to 90 days before they come into operation.

Group supervision

The No. 2 Act introduced a group-wide supervisory regime, initially applicable principally to Class 3B and Class 4 insurers, which together are referred to as ‘specified insurers’. The purpose of the new supervisory regime is to enable the BMA to form a comprehensive view of the overall risk exposure of an insurance group. This framework of group supervision further prepares Bermuda for achieving regulatory compliance under Solvency II. By an amendment in the No. 3 Act, the BMA may now include within group supervision, any company that is a member of a group, whether on its own initiative or upon the application of a relevant designated authority.

BMA notifications

The No. 2 Act and the No. 3 Act implemented provisions amending the requirements for persons registered under the Insurance Act 1978, and such persons wishing to control, or have increased control, over such entities to notify the BMA. Further, insurers wishing to make material changes to their operations must notify the BMA in advance of such changes and could, in some cases, be prevented from making amendments.

Increased power

The scope of the BMA’s power has been extended to rule on prudential standards, including insurance reserves, and on orders covering designated insurers in relation to insurance groups. The BMA now also has the power to exempt designated insurers that are part of insurance groups from prudential standards. The No. 2 Act also widened the scope of offences under the Insurance Act 1978 to include non-compliance with the power to obtain information and reports, and the power to require the production of documents.

Long-term insurers

Classification

The No. 3 Act introduces a classification system for insurers carrying out long-term business and gives legislative effect to the BMA’s proposals to introduce an enhanced solvency framework for such insurers. The No. 3 Act defines the new classes as follows:

Class A: Insurer wholly owned by one person and whose business consists only of insuring the risks of that person or is an affiliate of a group and intends only to insure the risk of any other affiliates of that group or its own shareholders.

Class B: Insurer is wholly owned by two or more unrelated persons and not less than 80 percent of the premiums written will be written for the purpose of insuring the risk of any of those persons or of affiliates of any of those persons or risks arising out of the business of those persons or any affiliates.

Class C: Insurer has total assets of less than $250 million and is not registrable as a Class A or Class B insurer. The BMA’s present expectation is that reinsurers that only conduct business with their affiliated insurers will be licensed in this class.

Class D: Insurer has total assets of $250 million or more but less than $500 million and is not registrable as a Class A or Class B insurer.

Class E: Insurer has total assets of more than $500 million and is not registrable as a Class A or Class B insurer.

Insurers carrying on long-term business have until September 2011 to reclassify under the new regime.

Implications for the industry

As noted above, the BMA has implemented its enhanced solvency framework for insurers writing long-term business. The BMA’s riskbased capital adequacy model termed the Bermuda Solvency Capital Requirement (BSCR) now applies to insurers writing long-term business. The BSCR generates a capital requirement based on the assessment of risk factors related to credit, equity, fixed income securities, premium, loss reserves, an interest rate/liquidity shock, and probable maximum loss catastrophe levels. In addition to other requirements, long-term insurers are required to maintain their statutory capital and surplus at a level equal to, or exceeding, its minimum solvency margin (MSM). Such insurers must also maintain available statutory capital and surplus at a level equal to, or in excess of, its enhanced capital requirement— which is the higher of its minimum solvency margin and the figure derived from the insurer’s standard risk-based capital requirement model, or its BMA approved internal capital model.

This framework is a major departure from the historical capital and solvency requirements required under the Insurance Act 1978. While almost every insurer in this subsector would agree that $250,000 (the previous minimum capital level for all insurers writing long-term business) of capital was too low for the majority of insurers (and indeed most had capital far exceeding that amount), some believe that the planned measures are excessive and risk driving business away from Bermuda’s shores.

The BMA acknowledged concerns from stakeholders, namely, the aggressive time-frame proposed for development and implementation, insufficient consultation with stakeholders compared to the process undertaken with insurers writing general business, and the time required for data-gathering to judge the impact of the new captive standards.

The BMA maintains that the changes are required in order to adopt internationally recognised regulatory standards. However, in response to stakeholder concerns, and in recognition that insurers will need time to raise the additional capital required, it plans to phase in the new standards over a three-year period. Insurers will be required to meet 50 percent of the ultimate capital requirement in the first year, 75 percent in the second year and 100 percent from the third year onwards. The phased approach will apply to both the ECR (enhanced capital requirement) and the MSM requirements.

Bermuda’s captive insurers, commercial reinsurers and longterm insurers retain pride of place with regard to the Island’s reputation as the premier offshore insurance domicile. The BMA keeps this reputation pristine by remaining committed to ensuring that Bermuda’s risk-based regulations meet or exceed international standards. Through the amendments to the Insurance Act 1978 and their projected effects, Bermuda has been confirmed for assessment in the first wave of Solvency II equivalency. As such, the industry can expect further enhancements to the Insurance Act 1978, as the BMA continues in its quest to establish a leading, risk-based supervisory regime for Bermuda’s insurance market.

Janita Burke is a partner and member of the insurance team at Appleby. She can be contacted at: jburke@applebyglobal.com

Appleby, BMA, Bermuda, reinsurance, regulation