LAM01090 - Introduction and long-term insurance business overview: life insurance regulation: Solvency II, PRA and FCA

Companies writing insurance business in the UK through a company or a branch in the UK are subject to prudential regulation by the PRA, while branches of EEA companies are regulated by the regulator in the home state. The UK leaving the EU may bring branches of EEA companies within PRA regulation. In the UK regulation of conduct is undertaken by the FCA.

Insurance regulation typically comes from two sources:

  • The European Insurance and Occupational Pensions Authority (EIOPA) is the primary driver of European insurance regulation. Broadly speaking and subject to the EU legal process it writes a variety of prudential and conduct regulations into European Law using EU Directives. These are then accepted for implementation in U.K. law by the Government
  • The Treasury and UK Government can also write UK insurance regulations independent of the EU

The PRA and FCA are responsible for ensuring that insurance regulation is appropriately drafted and followed. This is done through PRA rulebooks and FCA handbooks. The application of EU regulation is dependent on the status of the UK within the EU.

As well as regulation at the legal entity level, there is regulation at group level within the EEA with a lead regulator identified generally in the territory where the headquarters or main operating company is based.

For regulatory purposes insurance is divided between:

This distinction is recognised for tax purposes. FA12/S64 links the definition of a ‘contract of insurance’ and a ‘contract of long-term insurance’ for the purpose of Part 2 of FA12, to the definitions in FSMA 2000 (Regulated Activities) Order SI 2001/544. Further information on regulated insurers is available in the General Insurance Manual (GIM).

Regulation of life insurers has evolved over many years, to protect the interests of policyholders. Life insurance products may involve premiums paid up front with pay-outs taking place many years later – in the case of some pension products up to 50 years or more after the policy is first taken out. It is therefore particularly important that policyholders have assurance that the company will be able to meet their claims over such long time periods.

EU regulation under the Solvency II Directives introduced a new system of prudential regulation effective from 1 January 2016 which applies to all insurers except the smallest entities. Solvency II (SII) imposes revised requirements on companies as to the quality and amount of capital they must hold to provide assurance that they can meet obligations to policyholders in times of financial stress. SII built on risk based capital requirements which had already been in place in the UK for a number of years. SII also applies harmonised standards across the EEA for risk management, governance and regulatory reporting.

In the past policyholder protection developed by designating assets held by the insurance company that were ‘ring fenced’ for meeting claims from policyholders on long-term business. This ring fenced fund of assets and liabilities was referred to as the ‘Long-term Insurance Fund’, with assets outside that fund commonly referred to as the ‘Shareholder Fund’.

For prudential regulatory purposes, under Solvency II, there is no concept of a long-term insurance fund with all assets included in the prudential return available to meet obligations to policyholders and support the solvency position of the company.

A life company may have a number of designated sub-funds identified as backing specific types of policies or groups of policyholders. The assets (and liabilities) may be segregated. These are referred to as “ring fenced funds”. The most common are ‘with- profit’ funds where profits of the business are shared with policyholders, typically in a 90:10 or 100:0 Policyholder:Shareholder split. Only a few companies still actively write with profit business but the historic funds remain and there is therefore still a significant amount of with-profits business in life companies. More information on with-profit funds is in LAM05110.

Note that none of these ‘funds’ have legal personality. They are all internally designated funds within the single corporate entity. In some cases the rules governing the fund may be specified in the Articles of Association of the company. With-profits funds will have published Principles and Practices of Financial Management. In other cases specific funds may be set up and/or governed by the terms of a Scheme of Arrangement approved by a court or may be the result of the transfer in of with-profit funds which retained their separate identity after transfer. Each company will have its own specific arrangements.

Although the PRA prudential regulation has most relevance for tax, an awareness of the conduct regulation and concepts such as ‘Treating Customers Fairly’ is helpful background. Details of regulations and summaries of the concepts for PRA and FCA are available on their websites. Insurer’s regulatory returns the ‘Solvency and Financial Condition Report’ are also a good source of information on the business.