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SOLVENCY 2 An Introduction By John Brady 12/07/10 Don’t forget the risk analysis
Solvency 2 <ul><li>To protect the interests  of  policy holders or beneficiaries by ensuring the financial stability of in...
Solvency 2 (2009/138/EC) <ul><li>Signed by the Council of European Union </li></ul><ul><li>Signed by the European Parliame...
Solvency 2 - Ireland <ul><li>There are two elements relevant in Ireland </li></ul><ul><ul><li>The Solvency 2 Directive (20...
Solvency 2 Pillars <ul><li>Solvency two is based on three pillars: </li></ul><ul><ul><li>Pillar One - Adequacy of Financia...
Pillar One <ul><li>Pillar One sets out the quantitative requirements that undertakings must satify to demonstrate they hav...
Balance Sheet Equation 07/13/10 Free Surplus Assets Solvency Capital Requirement (SCR) Minimum Capital Requirement (MCR) T...
Pillar One <ul><li>Under pillar 1 undertakings must maintain: </li></ul><ul><ul><li>Technical provisions in respect of all...
Technical Provisions <ul><li>All undertakings must </li></ul><ul><ul><ul><li>Establish technical provisions with respect t...
Solvency Capital Requirement [SCR] <ul><li>“The economic capital to be held by an undertaking in order to ensure that ruin...
Solvency Capital Requirement [SCR] <ul><li>The Solvency Capital Requirement are in relation to </li></ul><ul><ul><li>All e...
Minimum Capital Requirement 1 [MCR] <ul><li>The Minimum Capital Requirement is </li></ul><ul><ul><li>A capital value which...
Minimum Capital Requirement 2  [ MCR] <ul><li>If the value slips below the minimum capital requirement: </li></ul><ul><ul>...
Pillar Two <ul><li>System of Governance </li></ul><ul><li>Own risk and Solvency Assessment </li></ul><ul><li>Oversight and...
System of Governance 1 Article 41 <ul><li>An effective system of governance to ensure sound and prudent management of the ...
System of Governance 2 <ul><li>The system of governance must include </li></ul><ul><ul><ul><li>An adequate and transparent...
Documented Policies and Procedures <ul><ul><ul><li>Documented Policies and Procedures which must be reviewed at least annu...
Own risk and Solvency Assessment  (ORSA) <ul><li>All undertakings must </li></ul><ul><ul><li>Assess overall solvency needs...
Oversight and Control Functions Internal Control System (Article 46) <ul><li>Undertakings are required to have internal co...
Oversight and Control Functions Internal Audit Function (Article 47) <ul><li>All undertakings must have an internal audit ...
Oversight and Control Functions Actuarial Function (Article 48) <ul><li>All undertakings must have an actuarial function w...
Outsourcing <ul><li>Solvency 2 permits outsourcing but full responsibility remains with the undertaking. </li></ul><ul><li...
Supervisory Review Process 1 (SRP) <ul><li>The Financial Regulator will regularly review and evaluate the </li></ul><ul><u...
Supervisory Review Process 2 <ul><li>The review will consider </li></ul><ul><ul><li>System of governance and risk assessme...
Financial Regulator Consultation Paper 41 (CP41) <ul><li>Published by Financial Regulartor on 27 th  April 2010 </li></ul>...
Pillar 3 Disclosures <ul><li>An annual report on solvency and financial condition </li></ul><ul><li>The report must includ...
Disclosures <ul><li>Capital Management disclosures must include </li></ul><ul><ul><li>The structure and amount of own fund...
Implementation of Solvency 2 <ul><li>The Financial regulator has set out four steps to implementation </li></ul><ul><ul><l...
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Solvency 2

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Introduction to Solvency 2

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  1. 1. SOLVENCY 2 An Introduction By John Brady 12/07/10 Don’t forget the risk analysis
  2. 2. Solvency 2 <ul><li>To protect the interests of policy holders or beneficiaries by ensuring the financial stability of insurance and reinsurance undertakings within the European Union </li></ul>07/13/10
  3. 3. Solvency 2 (2009/138/EC) <ul><li>Signed by the Council of European Union </li></ul><ul><li>Signed by the European Parliament </li></ul><ul><li>Signed on 25 th November 2009 </li></ul><ul><li>Publishd in the Official Journal on the 17 th December 2009 </li></ul><ul><li>Implementation due by 31 st October 2012 </li></ul>07/13/10
  4. 4. Solvency 2 - Ireland <ul><li>There are two elements relevant in Ireland </li></ul><ul><ul><li>The Solvency 2 Directive (2009/138/EC) </li></ul></ul><ul><ul><li>Financial Regulator - Consultation Paper 41 (CP41) </li></ul></ul>07/13/10
  5. 5. Solvency 2 Pillars <ul><li>Solvency two is based on three pillars: </li></ul><ul><ul><li>Pillar One - Adequacy of Financial Resources </li></ul></ul><ul><ul><li>Pillar Two – Effective Governance </li></ul></ul><ul><ul><li>Pillar Three – Disclosure Requirements </li></ul></ul>07/13/10
  6. 6. Pillar One <ul><li>Pillar One sets out the quantitative requirements that undertakings must satify to demonstrate they have sufficient capital resources. </li></ul>07/13/10
  7. 7. Balance Sheet Equation 07/13/10 Free Surplus Assets Solvency Capital Requirement (SCR) Minimum Capital Requirement (MCR) Technical Provision Other Liabilities
  8. 8. Pillar One <ul><li>Under pillar 1 undertakings must maintain: </li></ul><ul><ul><li>Technical provisions in respect of all obligations </li></ul></ul><ul><ul><li>A minimum capital requirement [MCR] </li></ul></ul><ul><ul><li>A higher solvency capital requirement [SCR] </li></ul></ul><ul><li>These requirements must be covered by the undertakings own funds [Regulatory Capital] </li></ul>07/13/10
  9. 9. Technical Provisions <ul><li>All undertakings must </li></ul><ul><ul><ul><li>Establish technical provisions with respect to policy holders and beneficiaries. </li></ul></ul></ul><ul><ul><ul><ul><li>Value of technical provision should correspond to value of obligation (if transferred to another undertaking). </li></ul></ul></ul></ul><ul><ul><ul><li>There are two elements to the technical provision </li></ul></ul></ul><ul><ul><ul><ul><li>A best estimate – the best estimate should take account of the time value of money </li></ul></ul></ul></ul><ul><ul><ul><ul><li>A risk margin – </li></ul></ul></ul></ul><ul><ul><ul><ul><ul><li>this is on top of the best estimate and is based on the value if there is an immediate transfer to another undertaking </li></ul></ul></ul></ul></ul><ul><ul><ul><ul><ul><li>This is calculated by determining the cost of providing eligible own funds equal to the SCR necessary to support the undertakings insurance obligations over their lifetime. </li></ul></ul></ul></ul></ul>07/13/10
  10. 10. Solvency Capital Requirement [SCR] <ul><li>“The economic capital to be held by an undertaking in order to ensure that ruin occurs no more than once in 200 cases” </li></ul><ul><li>The SCR corresponds to the Value at risk of the basic own funds of an undertaking subject to a confidence level of 99.5% over a one year holding </li></ul><ul><li>The SCR can be calculated based </li></ul><ul><ul><li>on the standard formula as set out in the directive </li></ul></ul><ul><ul><li>an internal model, subject to Financial Regulator approval. </li></ul></ul>07/13/10
  11. 11. Solvency Capital Requirement [SCR] <ul><li>The Solvency Capital Requirement are in relation to </li></ul><ul><ul><li>All existing business </li></ul></ul><ul><ul><li>Expected new business for the next 12 months </li></ul></ul><ul><li>The Solvency Capital Requirement covers </li></ul><ul><ul><li>Non Life underwriting risk </li></ul></ul><ul><ul><li>Life underwriting risk </li></ul></ul><ul><ul><li>Health underwriting risk </li></ul></ul><ul><ul><li>Market risk </li></ul></ul><ul><ul><li>Credit risk </li></ul></ul><ul><ul><li>Operational risk </li></ul></ul>07/13/10
  12. 12. Minimum Capital Requirement 1 [MCR] <ul><li>The Minimum Capital Requirement is </li></ul><ul><ul><li>A capital value which triggers regulatory intervention </li></ul></ul><ul><ul><li>The amount below which the amount of financial resources should not fall </li></ul></ul><ul><ul><li>It must be calculated quarterly </li></ul></ul><ul><ul><li>A report showing the results must be submitted to the Financial Regulator </li></ul></ul><ul><ul><li>The results cannot be less than 25% of the SCR or greater than 45% of the SCR. </li></ul></ul>07/13/10
  13. 13. Minimum Capital Requirement 2 [ MCR] <ul><li>If the value slips below the minimum capital requirement: </li></ul><ul><ul><li>The authorisation of a firm is withdrawn unless the minimun capital can be achieved in a short period of time. </li></ul></ul>07/13/10
  14. 14. Pillar Two <ul><li>System of Governance </li></ul><ul><li>Own risk and Solvency Assessment </li></ul><ul><li>Oversight and Control Functions </li></ul><ul><li>Outsourcing </li></ul><ul><li>Supervisory Review Process </li></ul>07/13/10
  15. 15. System of Governance 1 Article 41 <ul><li>An effective system of governance to ensure sound and prudent management of the business proportionate to the nature, scale and complexity of the undertaking </li></ul><ul><li>The system of governance must be subject to review </li></ul>07/13/10
  16. 16. System of Governance 2 <ul><li>The system of governance must include </li></ul><ul><ul><ul><li>An adequate and transparent organisational structure </li></ul></ul></ul><ul><ul><ul><li>Clear allocation and segregation of duties </li></ul></ul></ul><ul><ul><ul><li>An effective system for transmission of information </li></ul></ul></ul><ul><ul><ul><li>Documented Policies and Procedures which must be reviewed at least annually or more often if there are any material changes </li></ul></ul></ul>07/13/10
  17. 17. Documented Policies and Procedures <ul><ul><ul><li>Documented Policies and Procedures which must be reviewed at least annually or more often if there are any material changes </li></ul></ul></ul><ul><ul><ul><li>Policies must at least cover </li></ul></ul></ul><ul><ul><ul><ul><li>Risk management </li></ul></ul></ul></ul><ul><ul><ul><ul><li>Internal control </li></ul></ul></ul></ul><ul><ul><ul><ul><li>Internal auditing </li></ul></ul></ul></ul><ul><ul><ul><ul><li>Outsourcing </li></ul></ul></ul></ul><ul><ul><ul><li>Documented Policies and Procedures are subject to prior approval by the Financial regulator (Article 41.3) </li></ul></ul></ul>07/13/10
  18. 18. Own risk and Solvency Assessment (ORSA) <ul><li>All undertakings must </li></ul><ul><ul><li>Assess overall solvency needs with a view to their risk profile </li></ul></ul><ul><ul><li>Complete a regular review </li></ul></ul><ul><ul><li>Identify any deviations form the assumptions underlying the regulatory capital calculation </li></ul></ul><ul><ul><li>Be specific to the undertakings risk profile – dependent on the complexity of the undertaking </li></ul></ul><ul><ul><li>Provide the result to the Financial Regulator </li></ul></ul><ul><ul><li>If an internal model is used for the calculation of the SCR, the result can be used for the ORSA. </li></ul></ul>07/13/10
  19. 19. Oversight and Control Functions Internal Control System (Article 46) <ul><li>Undertakings are required to have internal controls which include: </li></ul><ul><ul><ul><li>An internal control framework </li></ul></ul></ul><ul><ul><ul><li>Compliance function </li></ul></ul></ul><ul><ul><ul><li>Administration procedures </li></ul></ul></ul><ul><ul><ul><li>Accounting procedures </li></ul></ul></ul><ul><ul><ul><li>Reporting process </li></ul></ul></ul><ul><li>The compliance function is responsible for all aspects of compliance including laws, regulations, directives and any other industry rules. </li></ul>07/13/10
  20. 20. Oversight and Control Functions Internal Audit Function (Article 47) <ul><li>All undertakings must have an internal audit function which is responsible for evaluating : </li></ul><ul><ul><li>the adequacy of the internal control system </li></ul></ul><ul><ul><li>the effectiveness of the internal control system </li></ul></ul><ul><ul><li>Evaluating any other elements of the governance system </li></ul></ul>07/13/10
  21. 21. Oversight and Control Functions Actuarial Function (Article 48) <ul><li>All undertakings must have an actuarial function which is responsible for: </li></ul><ul><ul><li>Assessing the adequacy of the methodology and model used to calcualte the technical provision </li></ul></ul><ul><ul><li>Co-ordinating and overseeing the calcualtion of the technical provision </li></ul></ul><ul><ul><li>Assess the adequacy of the data used and any assumptions in the calculation of the technical provision </li></ul></ul><ul><ul><li>Expressing opinions on the underwriting policies and reinsurance arrangements </li></ul></ul><ul><ul><li>Support the effective implementation of the risk management system - particularly in relation to the ORSA </li></ul></ul>07/13/10
  22. 22. Outsourcing <ul><li>Solvency 2 permits outsourcing but full responsibility remains with the undertaking. </li></ul><ul><li>The FR must be informed </li></ul><ul><ul><li>prior to outsourcing of any critical or important function </li></ul></ul><ul><ul><li>Of any material developments in relation to these outsourced functions </li></ul></ul><ul><li>The undertaking must </li></ul><ul><ul><li>review and monitor the outsourcer </li></ul></ul><ul><ul><li>Document the review to a standard acceptable to the FR </li></ul></ul>07/13/10
  23. 23. Supervisory Review Process 1 (SRP) <ul><li>The Financial Regulator will regularly review and evaluate the </li></ul><ul><ul><li>The quantitative and qualitative compliance of the undertaking in relation to its operating environment </li></ul></ul><ul><ul><li>Current and potential risks </li></ul></ul>07/13/10
  24. 24. Supervisory Review Process 2 <ul><li>The review will consider </li></ul><ul><ul><li>System of governance and risk assessment </li></ul></ul><ul><ul><li>Technical provisions </li></ul></ul><ul><ul><li>Capital requirements </li></ul></ul><ul><ul><li>Investment rules </li></ul></ul><ul><ul><li>Quality and quantity of own funds </li></ul></ul><ul><ul><li>Use of full or partial internal model </li></ul></ul><ul><li>Following the review the FR can require an undertaking to remedy any discovered weakness or deficiency. Under Article 37 a Capital Add On can be imposed if the undertaking has deviated from it underlying assumptions. </li></ul>07/13/10
  25. 25. Financial Regulator Consultation Paper 41 (CP41) <ul><li>Published by Financial Regulartor on 27 th April 2010 </li></ul><ul><li>Sets the minimum requirements for credit institutions and insurance undertakings (life and non life ) </li></ul><ul><ul><ul><li>Membership of boards </li></ul></ul></ul><ul><ul><ul><li>Role of the chairman </li></ul></ul></ul><ul><ul><ul><li>Operation of board committees </li></ul></ul></ul>07/13/10
  26. 26. Pillar 3 Disclosures <ul><li>An annual report on solvency and financial condition </li></ul><ul><li>The report must include: </li></ul><ul><ul><li>A description of the business and the undertakings performance </li></ul></ul><ul><ul><li>A discription of the governance system and an assessment of its adequacy for the risk profile of the undertaking </li></ul></ul><ul><ul><li>A risk assessment for each category of risk – risk exposure, concentration, mitigation and sensitiviy </li></ul></ul><ul><ul><li>A description for each asset, technical provision , other liabilities with bases and methods of valuation </li></ul></ul><ul><ul><li>A description of the capital management </li></ul></ul>07/13/10 © John Brady 2010
  27. 27. Disclosures <ul><li>Capital Management disclosures must include </li></ul><ul><ul><li>The structure and amount of own funds, and their quantity </li></ul></ul><ul><ul><li>The amount of the MCR </li></ul></ul><ul><ul><li>The amount of the SCR and the option used to calculate it </li></ul></ul><ul><ul><li>Information which allows for an understanding of the main differences between the underlying assumptions of the standard formula and those of any internal model used in calculating the SCR </li></ul></ul><ul><ul><li>The amount of any non compliance with the MCR with explanations and consequences as well as remedial action taken. </li></ul></ul><ul><ul><li>The amount of any significant non compliance with the SCR with explanations and consequences as well as remedial action taken. </li></ul></ul>07/13/10
  28. 28. Implementation of Solvency 2 <ul><li>The Financial regulator has set out four steps to implementation </li></ul><ul><ul><li>Implement an appropriate governance framework </li></ul></ul><ul><ul><li>Appoint an execute with responsibility for overseeing the implementation (the Financial regulator recommends there should be a specific Board member responsible) </li></ul></ul><ul><ul><li>Performa gap analysis to identify shortfalls </li></ul></ul><ul><ul><li>Implementation should focus on all three Pillars </li></ul></ul><ul><li>The Financial Regulators needs to be informed of the Person appointed and if the undertaking intends to use an internal model </li></ul>07/13/10
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