Solvency II and its negative impact on the US reinsurance industry
Reinsurers that are owned by US entities (“Domestic Reinsurers”) are presently at a distinct disadvantage compared to their European counterparts. Barry Weissman of Carlton Fields Jorden Burt explains.
This is due to both the upcoming implementation of Solvency II on January 1, 2016 and the international movement toward making insurance look more like banking and trying to have a one rule fit all type of system across international borders. While the international bodies that are changing the insurance and reinsurance industry claim they are not trying to implement a one size fits all type of situation, on a practical basis that does appear to be what is happening. The international organizations that are active in this area are the International Association of Insurance Supervisors (“IAIS”), Financial Stability Board (“FSB), United States Trade Representative (“USTR”) and European Insurance and Occupational Pensions Authority (“EIOPA”) and of course the two major U.S. insurance organizations the Federal Insurance Office (“FIO”), and the National Association of Insurance Commissioners (“NAIC”). What these international entities seem to want is that the U.S. do away with State regulation of insurance and have a single entity responsible for U.S. insurance.
The U.S. insurance industry, in a move believed to be an attempt at “leveling of the playing field” on an international basis, recently agreed to implement a reduction in collateral required from non-U.S. based reinsurance companies (a Domestic Reinsurer is not required to post collateral in the U.S. while a non-U.S. based reinsurance is required to post 100% of the collateral for U.S. assumed risks). A key requirement of the NAIC Credit for Reinsurance Model Law that has been enacted in whole or part in 32 States as of August of this year states in part in Section 2 E. 3 (a):
In order to determine whether the domiciliary jurisdiction of a non- U.S. assuming insurer is eligible to be recognized as a qualified jurisdiction, the commissioner shall evaluate the appropriateness and effectiveness of the reinsurance supervisory system of the jurisdiction, both initially and on an ongoing basis, and consider the rights, benefits and the extent of reciprocal recognition afforded by the non-U.S. jurisdiction to reinsurers licensed and domiciled in the U.S.. (Emphasis added)
As of January of this year, the NAIC has accredited in whole or part seven jurisdictions, Bermuda, France, Germany, Ireland, Japan, Switzerland and the United Kingdom. This means that since the U.S. is not a Solvency II “Equivalent Country” these same countries will not be granting their insurers full credit for reinsurance purchased from a Domestic Reinsurer while their reinsurance companies can potentially sell reinsurance in the U.S. posting less collateral than reinsurers not located in one of these seven countries (A discussion of the financial requirements that must be satisfied for a company to actually be deemed a Certified Reinsurer and be allowed to post the reduced collateral is beyond the scope of this article.) The practical result of this is that if a Domestic Reinsurer wishes to sell reinsurance to a cedent located in a Solvency II Equivalent jurisdiction, it must sell the reinsurance through a subsidiary or affiliate located outside the U.S. and in a Solvency II compliant country; it is hard for this author to understand how this is “reciprocal recognition”.
The potential resolution being discussed is what is known as “Covered Agreements”. The idea for Covered Agreements comes from Title V of the Dodd-Frank Act (“Act”). The Act grants FIO and the USTR the authority to deal with the situations where state insurance laws or regulations appear to treat non-U.S. insurance companies differently from U.S. insurers. Reinsurance collateral is exactly this situation. Simply put, a Covered Agreement is
. . .a bilateral or multilateral agreement among the United States and foreign jurisdiction(s) regarding the recognition of regulatory measures with respect to the business of insurance or reinsurance.
. . .
A covered agreement can serve as a basis for preemption of state law under certain circumstances, but only if the agreement relates to measures substantially equivalent to the protections afforded consumers under state law.”
Covered Agreement on Reinsurance Collateral, NAIC Government Relations Issue Brief, August 24, 2015.
While there is substantial dispute on the necessity for a Covered Agreement and concern that once the “camel has its nose under the tent”, federal control of insurance is not far behind, there needs to be some resolution in the next few months in order for our reinsurance industry to not only survive but be able to thrive on the international stage.
Barry Leigh Weissman, a shareholder in Carlton Fields Jorden Burt’s Los Angeles office, has significant experience in the insurance and reinsurance industries representing non-US and domestic US companies in regulatory and transactional matters as well as in all forms of dispute resolution in the US and internationally.