11 Solvency (1)

Question 1

What are the key objectives of Solvency 2? (4)

Answer 1

1. Increase the level of harmonisation of solvency regulation across Europe.
2. Protect policyholders.
3. Introduce Europe-wide capital requirements that are more sensitive to the levels of risk being undertaken (than the current Solvency 1 requirements).
4. Provide appropriate incentives for good risk management.

Question 2

Give a brief overview of Solvency 2 Pillar 1. (4)

Answer 2

Pillar 1: Quantitative Requirements

1. Pillar 1 sets out the minimum capital requirements.
2. It sets out valuation methodologies for assets and liabilities based on market consistent principles.
3. There are two distinct capital requirements that must be held in addition to technical provisions: the SCR and MCR.
4. Supervisors may decide a firm should hold additional capital against risks that are either not covered or are inadequately modelled for the SCR.

Question 3

What are the governance requirements set out under Solvency 2 Pillar 2? (3)

Answer 3

1. The board have overall responsibility for ongoing compliance with Solvency 2.
2. All insurance companies are required to have the following functions:
   
   • Risk Management
   • Actuarial
   • Compliance
   • Internal Audit
3. The organisational structure must have clear segregation of responsibilities.

Question 4

Give a brief overview of Solvency 2 Pillar 2. (3)

Answer 4

Pillar 2: Qualitative Requirements and Supervisory Review

1. Pillar 2 includes the supervisory review process, systems of governance and risk management.
2. Each company is required to carry out an Own Risk and Solvency Assessment (ORSA).

Question 5

State what Solvency 2 Pillar 3 covers. (3)

Answer 5

Pillar 3: Reporting, Disclosure and Market Discipline:

1. The disclosure and supervisory reporting regime.
2. Defines the reports that must be made to regulators and the public.

Question 6

Summarise the ORSA requirements of Solvency 2 Pillar 2. (4)

Answer 6

The ORSA requires each insurer to

1. Identify all the risks to which it is exposed.
2. Identify the appropriate risk management processes and controls.
3. Quantify its ongoing ability to meet the SCR and MCR over the business planning horizon.
4. Provide evidence of embeddedness showing that ORSA is used by senior management, including in making strategic decisions.

Question 7

Summarise disclosure requirements of Solvency 2 Pillar 3. (4)

Answer 7

Private Disclosure:

Annual:

1. RSR (Regular Supervisory Report) containing:
   
   • The Pillar 1 SCR calculations.
   • The Pillar 2 ORSA details.
   • Details of the company’s risk management processes
2. QRTs (Quantitative Reporting Templates).

Quarterly:
A subset of the QRTs

Public Disclosure:

1. SFCR (Solvency and Financial Condition Report). This is annual and excludes confidential items.
2. NST (National Specific Templates) if local regulators impose additional reporting requirements.

Question 8

Describe the SCR requirements that apply to insurance groups. (5)

Answer 8

1. If the parent company is non-EEA, EEA supervisors must assess whether the third country parent is subject to “equivalent” group supervision.
2. There may be further requirements imposed e.g. establishing an EEA-based holding company.
3. Each insurance group must cover:
   - Its overall group SCR (which allows for diversification benefits across the group).
   - Its group solvency floor (which is the sum of the MCRs, or local equivalent, for each entity in the group).
4. Each insurance subsidiary needs to cover its own SCR and MCR.

Question 9

List the three situations in which third country equivalence can be granted and the three types of equivalence that can be granted. (6)

Answer 9

Equivalence can be granted where:

1. The solo solvency regime is equivalent.
2. The group supervision regime is equivalent.
3. The solvency regime as applied to reinsurance activities is equivalent.

Equivalence can be:

1. Full, i.e. granted for an indefinite period.
2. Provisional - granted for a limited period ending on 31 December 2020.
3. Temporary - granted for a 10 year period with possible extension for a further 10 years.