What is Solvency II?
Solvency II is an EU legislative programme expected to be implemented in all 28 Member States, including the UK, by 1 January 2016. It introduces a new, harmonised EU-wide insurance regulatory regime. The legislation replaces 14 EU insurance directives.
The key objectives of Solvency II are as follows:
- Improved consumer protection: It will ensure a uniform and enhanced level of policyholder protection across the EU. A more robust system will give policyholders greater confidence in the products of insurers.
- Modernised supervision: The “Supervisory Review Process” will shift supervisors’ focus from compliance monitoring and capital to evaluating insurers’ risk profiles and the quality of their risk management and governance systems.
- Deepened EU market integration: Through the harmonisation of supervisory regimes.
- Increased international competitiveness of EU insurers.
Solvency II is not just about capital. It is a comprehensive programme of regulatory requirements for insurers, covering authorisation, corporate governance, supervisory reporting, public disclosure and risk assessment and management, as well as solvency and reserving.
The Solvency II programme is divided into three areas, known as pillars:
Pillar 1 Pillar 2 Pillar 3 Financial Requirements Governance & Supervision Reporting & Disclosure
- Two thresholds:
– Solvency Capital Requirement (SCR)
– Minimum Capital Requirement (MCR)
- SCR is calculated using either a standard formula or, with regulatory approval, an internal model.
- MCR is calculated as a linear function of specified variables: it cannot fall below 25%, or exceed 45% of an insurer’s SCR.
- There are also harmonised standards for the valuation of assets and liabilities.
- Effective risk management system.
- Own Risk & Solvency Assessment (ORSA)
- Supervisory review & intervention.
- Insurers required to publish details of the risks facing them, capital adequacy and risk management.
- Transparency and open information are intended to assist market forces in imposing greater discipline on the industry
- Two thresholds:
Solvency II will be implemented as EU legislation. Since 2001, the EU has sought to effect financial services legislation though a standard framework, termed the “Lamfalussy Process”, which has four levels:
Level 1 – Primary legislation
This defines a proposal’s broad principles. Solvency II’s Level 1 is the “Solvency II Framework Directive”, formally entitled the “Directive on the taking up and pursuit of the business of insurance and reinsurance”.
The Solvency II Framework Directive was adopted and published in the Official Journal of the EU in December 2009. Certain provisions of this Directive, including the implementation deadline, were amended by the Omnibus II Directive. After much delay, this was adopted by the Council of the EU in April 2014 and entered into force on 22 May 2014, following publication in the Official Journal.
The Solvency II Framework Directive will replace the EU’s existing 14 insurance and reinsurance directives. It must be transposed into national law in each of the 28 Member States.
Level 2 – Implementing measures
Solvency II Level 2 implementing measures spell out the detailed requirements that insurers must meet. They are set out in Delegated Regulation 2015/35 of 10 October 2014, published in January 2015. This has direct effect in EU Member States, so does not need to be transposed into national laws. There are Implementing Technical Standards and Regulatory Technical Standards in addition, which will be finalised in 2015.
Level 3 – Guidelines
Guidelines are one of the tools used to increase supervisory convergence. Guidelines are not binding on Supervisory Authorities, but do present an opportunity to harmonise outcomes from Supervisory Authority decisions as they are based on the ‘comply or explain’ principle..
To help national supervisors to implement Solvency II, EIOPA is designing Guidelines and Recommendations on how to put Solvency II’s detailed provisions into effect.
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Level 4 – Post-implementation enforcement
After the deadline for implementation, the European Commission is responsible for ensuring that member states are complying with the legislation. If they are not doing so, the Commission will take enforcement action.
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