Regulatory Reinsurance Collateralisation Requirements

1. Regulatory Reinsurance Collateralisation Requirements AIDA Reinsurance Working Party Copenhagen, Thursday 11 June 2015 Julian Burling

2. Credit for reinsurance • Permitted reduction in liabilities/increase in assets on cedant’s balance sheet • Capital charges • Authorised reinsurer status • Collateral: funds (premium) withheld; cash deposit; LOC/bank g’tee; trust fund

3. Why require collateral? (1) • Concern at adequacy of reserves outside jurisdiction – credit and liquidity risk • Regulators’ unfamiliarity with foreign accounting standards/ regulatory requirements • Inability to enforce abroad judgments obtained in default of pre-answer security

4. Why require collateral? (2) • Collateral will not be part of insolvent’s estate, so no hotchpot – Cleaver v Delta American [2001] UKPC 6 (Cayman Is) • Collateral will be subject to rights in rem – Solvency 2 Directive, Art 286, so excluding Art 275 policyholder priority

5. ObjectionsRequirements: • (Usually) draw no distinction between well capitalised reinsurers and others • Duplicate capital expenditure/increase reinsurance cost • Prevent efficient global reinsurance market place • Impede effective transnational co-operation between regulators • Often mask protectionism

6. EEA • Supervision of EEA reinsurers by home state – Reinsurance Directive w.e.f. 2008 • Member states not to require pledging of assets to cover technical provisions where reinsurer is authorised in EEA or equivalent third party state (none yet) - Solvency 2 Directive, Art 134 • Some member states (eg France) still require collateral from non-equivalent third party states

7. USA (1) • Individual state regulation • “Credit for reinsurance” laws based on NAIC Model Act and Regulation, governing r/i credit given to US cedant • Unlicensed reinsurers must provide collateral for 100% gross assumed liabilities: • multi-beneficiary trust (100%) + $20m surplus (with special arrangements for Lloyd’s) • qualifying LOC • cedant-specific trust (“reg 114”) • funds deposited with cedant as collateral

8. USA (2) • Since 2011 NAIC Model Law reform, reduced collateralisation requirements by some states for “certified reinsurers” based in “qualified jurisdictions”, depending on criteria including credit rating and reputational history of reinsurer • Cedant specific LOC or trust – may be as low as 20% of gross ceded liabilities • NRRA 2010: cedant’s state of domicile (if NAIC accredited) determines credit for reinsurance applicable to that cedant throughout USA. • FIO Modernisation report – “covered agreements”

9. Canada • OSFI collateral requirements for unregistered insurance give cedant capital or vested asset requirement relief • Reinsurance security agreement (RSA) • Pledged assets covering 100% of reinsurer’s gross liabilities to cedant and cedant’s associated capital requirement are deposited with Collateral Agent in Canada

10. Australia • APRA Prudential standard GPS 114 • Whole or partial reduction in asset risk capital charge (default factor) on reinsurance recoverables where collateral, LOC or TP guarantee • Collateral from non-APRA-authorised reinsurers must be either trust fund in Australia, deposit held by cedant in Australia, or other form approved by APRA (LOC or bank guarantee) • Collateral must match reinsurance recoverable in cedant’s b/s, inc. IBNR, discounted for time value.

11. Others (not exhaustive) • Japan requires statutory deposit and locally held reserves • New Zealand, Singapore and Hong Kong require statutory deposits • France requires security over an investment account