Bermuda faces a host of regulatory challenges from both Europe and the US. The team at Locke Lord talks us through the hurdles facing the Island and how it can position itself to thrive.
Sitting not quite mid-way between the US and Europe, Bermuda has forged ahead with regulatory changes and implemented a number of new regimes in order to ensure that it is at the forefront of equivalency, and that it remains attractive to both traditional and alternative capital.
As well as making progress towards third country equivalence with the (yet again stalled) European Solvency II regime, the Bermuda market has also been vocal in its views on the EU/US equivalency debates. In addition, because Bermuda recognises the differing regulatory demands for fully collateralised alternative capital vehicles, its legislative provisions for special purpose insurers (SPIs) provide for a lighter and more effi cient regime for suffi ciently sophisticated and fully funded insurance-linked securities (ILS) products. So far so good, but what impact are external regulatory pressure and inaction on the part of other jurisdictions having on Bermuda?
Despite Deloitte’s September, 2013 report—Rethinking the response: A strategic approach to regulatory uncertainty in European insurance, which states that between 2010 and 2012 the cost to European re/ insurers of proposed regulatory changes reached a staggering €9 billion, political inertia within Europe and competing national interests means that Bermuda has created a regime that now appears to be ahead of the system with which it was designed to be equivalent.
With no due date yet in sight, and with US and EU discussions on equivalency at an early stage at a time when arguments for and against federal (as opposed to state) regulation are still taking place, it seems that the only certainty as far as Solvency II is concerned is the uncertainty as to whether it will ever come to fruition, and if so, in what form.
It also remains to be seen whether other competing jurisdictions, which have yet to decide on more rigorous or Solvency II-equivalent regulation, will seek to portray themselves as providing a more attractive regulatory jurisdiction for capital providers. The Cayman Islands, for example, which has adopted a wait and see position as regards Solvency II equivalency, has implemented its own legislative changes specifi cally to regulate SPIs in order to continue to attract non-traditional capital into its own burgeoning ILS market, and in direct competition with Bermuda.
From the US, a deluge of domestic legislation, with its own list of acronyms and far reaching extra-territorial applications, continues to pose questions, but there are no clear answers as to how the Bermuda market and capital providers will be impacted.
Implementation of the Foreign Account Tax Compliance Act (FATCA) has now been deferred from January 1, 2014, to June 30, 2014—largely in response to concerted pressure from othejurisdictions as to the means and methodology of compliance. While FATCA will not have an impact on all Bermuda insurers and reinsurers, those companies that do fall within its remit will—if they have not already done so—be required to review and change their systems and processes in order to avoid falling foul of legislation initially designed to ensure full disclosure by US citizens of their offshore investments and accounts.
Bermuda has signalled its intention to engage in global tax transparency and FATCA facilitation by announcing in April of this year that it would be entering into a Model 2 Intergovernmental Agreement (IGA Model 2) with the US. The IGA Model 2 represents an intergovernmental assurance that the US will receive FATCA information on an automatic basis directly from foreign fi nancial institutions in Bermuda and that Bermuda will deploy its tax information exchange agreement (TIEA) where required to do so by the Internal Revenue Service.
In Bermuda (as is the case elsewhere), US legislation such as the Iran Freedom and Counter Proliferation Act of 2012 (IFCPA) has also refocused attention on extra-territorial sanctions compliance in both the direct and reinsurance markets. Although IFCPA has recently become effective, the US Treasury’s Offi ce of Foreign Assets Control (OFAC) has not yet issued any guidance or regulations in respect ofthis legislation. Nonetheless, the New York Department of Financial Services (NYDFS) has interrogated New York accredited and certified (reduced collateral) reinsurers, ostensibly to protect New Yorkdomiciled cedants—requiring that they and their foreign affi liates demonstrate suffi cient due diligence and adequate controls to ensure compliance. The NYDFS may expand its inquiry to other categories of insurers licensed in New York, while the OFAC’s formal position and requirements may in turn lead to further challenges.
"Against the backdrop of regulatoyr uncertainty elsewhere, Bermuda remains an innovative marketplace and has developed complementary regulatory regimes in order to enhance use and adequacy of capital."
Amid the continuing debate by the National Association of Insurance Commissioners (NAIC) regarding state versus federal regulation, the NAIC is also progressing the so-called Process for Developing and Maintaining the NAIC List of Qualifi ed Jurisdictions (which will include Bermuda in its first wave as one of four jurisdictions previously approved by individual states). This process is designed to ensure that non-US reinsurers which are domiciled in a qualified foreign jurisdiction will be eligible for certification as a certified reinsurer by the state in which their cedants are domiciled, and on September 16 the Bermuda Monetary Authority confirmed that it has accepted the NAIC’s invitation to participate in an expedited review.
In addition, the US Reinsurance Financial Analysis Working Group (R-FAWG) has also reported on its intention to organise a peer-review working group at the NAIC to review reinsurers already certified in any state with the expectation that an NAIC review would create a passport system to allow other states to certify reinsurers without having to conduct their own extensive review of applicants. This review goes hand-in-hand with the adoption by 18 states of reduced collateral requirements for reinsurers, which is already increasing the effi ciency of capital utilisation for Bermuda reinsurers.
The Federal Office of Insurance (FOI), which was created by the Dodd-Frank Act, has also released its fi rst report, and while not heavy on the recommendations front, it does make clear the importance of the Bermuda market for US policyholders. However, still under debate and discussion is the re-emergence of the Neal/Menendez federal tax proposal, a further area in which the Bermuda market must continue to ‘wait and see’. In addition to the regulatory and tax-driven overseas challenges which are currently being faced by the Bermuda market, loss-driven changes are also being sought and pursued in various US states. For example, immediately post Superstorm Sandy (as indeed was the case in the wake of Katrina/Rita/Wilma in 2005), political and consumerfocused proposals were put forward by representatives who sought to ameliorate specific insurance provisions which were perceived as being unfair to the affected direct policyholders. In particular, attempts have been made to override key provisions in insurance policies including demands to eliminate hurricane deductibles, impair or remove anti-concurrent causation clauses, and indeed to seek to increase bad faith penalties and remedies. Given that the Bermuda market is the largest supplier of property catastrophe reinsurance to the US generally, and almost exclusively in some states, such moves do have the potential to affect both the buyers and sellers of such coverage programmes.
So where does all this leave Bermuda? On the positive side, Bermuda remains at the forefront of attracting new and traditional capital into its reinsurance market. Against the backdrop of regulatory uncertainty elsewhere, Bermuda remains an innovative marketplace and has developed complementary regulatory regimes in order to enhance the effi cient use and adequacy of capital, while at the same time seeking to ensure that it maintains its ability to transact with major international marketplaces without suffering a competitive (real or perceived) disadvantage.
However, it is clear that Bermuda companies and capital providers are facing increased demands on compliance adequacy, not only to maintain their local regulatory status but also to respond to the extra-territorial reach of overseas regulators and lawmakers. While some matters—in particular IFCPA—are already being seized upon as a means of questioning, or challenging, those who transact with the US, the unfortunate position remains that, due to delays in implementation—or even agreement as to what to implement— of non-Bermuda regulatory bodies, it seems likely that regulatory uncertainty will not be addressed any time soon.
Gavin Coull is a partner, and Helena Coates a senior associate in the London offi ce, and Robert Romano a partner in the New York office, of Locke Lord LLP. For more details visit www.lockelord.com
Locke Lorde, Bermuda, regulation