Solvency II implementation continues

Financial Services analysis: Steven Francis, a partner at Reynolds Porter Chamberlain, suggests that it’s easy to get lost in the legislative detail of Solvency II and fail to connect these EIOPA consultation papers with the wider legislative framework being developed.

EIOPA consults on Set 1 of its Implementing Technical Standards for Solvency II, LNB News 01/04/2014 196

Special purpose vehicles and the granting of supervisory approval are two of the areas of Solvency II being consulted on by the European Insurance and Occupational Pensions Authority (EIOPA). The seven consultations are the first set of its Implementing Technical Standards (ITS) for Solvency II and will come to an end on 30 June 2014. Solvency II will become applicable on 1 January 2016.

What is the background to the publication of this consultation?
The overall context is the implementation of Solvency II, the Europe-wide programme to assess and regulate the capital requirements of insurers and reinsurers. It is easy to get lost in the legislative detail of Solvency II and fail to connect these EIOPA consultation papers with the wider legislative framework being developed.

It is intended that member states must make the new regime part of their domestic law by 31 March 2015. The regime will have force of law, and so firms will be required to comply with it, from 1 January 2016. However, an enormous amount of work is needed to move from the directive itself, which is nothing but an open-textured framework law, to a set of detailed and prescriptive rules that can be applied to individual insurers and reinsurers. What is certain is that, by January 2016, there will be in place a single Europe-wide Solvency II rulebook which contains the prudential rules and principles with which insurers and reinsurers will be required to comply. With that in mind, it might be tempting to wait until the current preparatory work crystallises and becomes law in 2016, but of course that option is not open to firms. First, many elements of internal systems and controls will need to be in place, tested and functioning well before implementation day. Second, the consultation stage is a key opportunity to shape the laws and work to make them palatable. The tracking of proposed laws involves coming to terms with the EU’s nomenclature and legislative process.

The Solvency II Directive was adopted under the Lamfalussy process, comprising four levels, each level fleshing out the framework directive, enabling the creation of a prescriptive set of rules that can be applied in each member state. The aim of the Lamfalussy process is to ensure that in certain areas discretion is left to member states and their regulators, taking into account the specific features of their industry while, to avoid regulatory arbitrage and ensure a level playing field and common standards of customer protection, some key areas will be legislated through directly effective laws that leave no latitude for member states.

In brief terms, level 1 is the Solvency II Directive itself. The directive is based on a three ‘pillar’ structure similar to the one adopted for the investment and banking sectors. Pillar 1 concerns capital requirements, pillar 2 governance and pillar 3 disclosure and transparency requirements.

Level 2 will comprise directly effective regulations, but this encompasses a range of laws, some of a broad nature that might be of relevance to senior individuals in firms, others more concerned with detailed elements of the capital regime for insurers. Strategically significant level 2 regulations have been circulated for consultation but the texts have not been finalised. In most cases level 2 regulations will be drafted by EIOPA and then, after consultation, adopted by the Commission.

Level 3 comprises guidelines produced by EIOPA, the purpose of such guidelines being to encourage the convergence of supervisory practices. Guidelines are not binding on firms, countries or regulators, but member states must make every effort to comply with guidelines once they are finally published or state the reasons for any non-compliance. This is known as ‘comply or explain’.

Level 4 is the monitoring of member states’ compliance with what will effectively be a Europe-wide Solvency II rulebook and the assessment of the quality of supervision applied by state supervisory agencies to insurance and reinsurance undertakings within their jurisdiction.

The draft implementing technical standards (ITS) published on 1 April 2014 by EIOPA are the means by which EIOPA consults on what are termed level 2 technical provisions. As EIOPA has itself said: ‘Technical Standards are meant to be technical, not to imply strategic decisions or policy choices and their scope and content shall be limited by the specific empowerment.’ Accordingly then, while the ITS are important, it is very unlikely that they will be fully appreciated other than by those involved in the detail of firms’ Solvency II projects.

In addition, EIOPA has also published for consultation as part of level 3 guidelines on the operational functioning of Colleges of Supervisors, which will be the groupings of national regulators responsible for supervising large firms operating on a cross-Europe basis. This will be treated on the ‘comply or explain’ basis.

What are the key features of the consultation?

Each consultation relates to a proposed ITS which will have direct effect. There are as follows:

• the procedures to be used for granting supervisory approval for the use of ancillary own-fund items
• internal models approvals process
• the process to reach a joint decision for group internal models
• the procedures to be used for the approval of the application of a matching adjustment
• the proposal for special purpose vehicles, and
• the approval procedure to use undertaking-specific parameters
This is known as Set 1.

Comments are due by 30 June 2014, using the template provided on EIOPA’s website.

What is the time frame for the implementation of these technical standards?
EIOPA will submit the ITS to the European Commission by 31 October 2014.

How many sets of implementing technical standards do EIOPA expect to produce?
At the current time EIOPA is consulting on the six ITS above—Set 1. According to EIOPA’s timetable, further ITS (Set 2) concerning pillar 1 (quantitative basis), pillar 2 (qualitative requirements), pillar 3 (enhanced reporting and disclosure) and supervisory transparency will be consulted on between December 2014 and March 2015 with their submission to the Commission by 30 June 2015.

What advice should advisers be giving their insurance clients at this stage?
The main advice for insurance and reinsurance undertakings is to ensure that these standards are put through to the appropriate people in firms for comment and consideration. It is important to note that these are technical standards. In most cases the appropriate consultees in firms will be the actuaries working on the firm’s Solvency II projects and those in the firm’s treasury function.

Steven Francis advises on most aspects of regulation, in particular as it affects insurance businesses, banks and securities firms. He was formerly a member of the management team of the FSA’s wholesale enforcement division where he worked on insider dealing and market abuse cases and rules and principles cases against large financial services institutions. A former barrister, he often conducts his own advocacy in criminal courts and tribunals and in mediations.

Interviewed by Kate Beaumont.

The views expressed by our Legal Analysis interviewees are not necessarily those of the proprietor.

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