Regulatory Arbitrage and Solvency II

2012 Looming

Although Solvency II is expected to be implemented over a number of years, the process is expected to start rolling out in early 2013.

Major corporate insurance buyers and captive insurance owners, particularly in Europe where the full impact of Solvency II will be levied, feel that this new regulatory regime cannot be applied to them on a wholesale basis in the same way that it would apply to traditional, open-market, insurance companies. Their contentions are perhaps based on a number of factors namely:

  • The objective of insurance regulation is to protect consumers. In a captive scenario the buyer, captive owner and client are traditionally one and the same entity.


  • The smaller the size of an insurance undertaking the proportionately more taxing regulation is expected to be. This is particularly more the case with protected cell companies.


  • Even if major insurance buyers are in favour of greater regulation in the market, some feel that perhaps, post-crisis, is not the ideal time for the perceived increased financial burden that such regulation would inevitably produce.


There are also other concerns being raised by insurance companies such as  

  • Will regulators have the capacity and competence to implement and supervise the new regulatory regimes which Solvency II will unfold?


  • If yes, what are the financial implications of more onerous regulations?


  • If too complex, will they eventually be relegated to ‘tick box’ exercises because of the sheer volume of work and/or expertise required; thus defeating the purpose of the ‘new and improved’ legislation in the first place.


Post crisis regulators are also contemplating additional regulatory requirements – through the ComFrame directive – on internationally active (and presumably systemically relevant) insurance enterprises. These are also the enterprises with whom captive owners and/or major insurance buyers generally interact; hence indirectly adding more to their regulatory burdens.

The latest addition to the fray is the stand of certain jurisdictions, such as Guernsey, not to adopt Solvency II or to seek equivalence on the basis that they are not part of the European Union. This will undoubtedly be a source for regulatory arbitrage for major corporate insurance buyers / captive owners with undertakings in or close to these markets.

Wise Move?

Is it a wise move to ‘opt out’ of Solvency II? Certain jurisdictions have developed or will undoubtedly develop their own regulatory frame work that is / would be equivalent to Solvency II. These jurisdictions include Switzerland, Bermuda and the USA. Jurisdictions outside the EU are, frankly, not obliged to implement Solvency II.

However, what are the potential implications of not implementing Solvency II and who, like Guernsey, may stand to benefit from this stance?

All insurance centres in onshore Europe, whether international insurance and/or reinsurance markets such as London (UK) and Germany or ones that have developed an ‘insurance centre’ status, such as Dublin (Eire), Luxemburg and Malta do not have an option. They are ‘onshore’ EU centres and therefore are in the process of implementing Solvency II. This comes with the territory of operating seamlessly across a 27-state unified market. EU applicant countries would also, naturally, be expected to be Solvency II compliant.

Other centres that are in or around Europe but not part of the EU, such as Guernsey, Isle of Man, Jersey, Gibraltar etc. or outside the region from as far West as Cayman or Bermuda and as far East as Labuan, Singapore or Hong Kong, are not obliged to implement Solvency II.

The big question is why some jurisdictions that are close to the EU can afford not to embrace Solvency II. The answer perhaps lies in:

  • The nature of their captive / target market: Geographically, where do they come from?


  • The nature of captives that they establish: Are they open market or close market captives?


  • The extent of interaction that the captive will have with conventional EU insurers and/or reinsurers. The lesser the mobility the lesser the perceived need to be Solvency II compliant.


The main risk of such a decision is that such jurisdictions would be driving themselves into a cul-de-sac in terms of business development potential. Why?

There has been a trend in recent years that corporate buyers have created captive and /or affiliated companies not only to cover their own pure / internal risk exposures. In recent years captives or affiliated companies have been established to either carry insurance risk of their clients (i.e. extended warranty business in electronics and/or automotive business etc.) or as open market vehicles by insurance aggregators, brokers etc. who expanded from intermediation into risk carrying.  If such vehicles are intended for a wider European market then insurance centres opting out of Solvency II and or an equivalent regime would lose out on such opportunities. These would need to be in a Solvency II compliant environment. If on the other hand, captives are of a traditional, closed, type then they can be served by either type of domicile / centre.  Similarly, if parent operations are entirely outside the EU, them whether they establish in a Solvency II complaint domicile or not would not be that relevant. Therefore, jurisdictions that follow the Guernsey decision are either happy with their existing market or confident that there is potential for them to grow their market with clients of a similar profile / from similar geographical background and can afford to close the door on certain EU and/or multi-domicile opportunities or proposals for open-market cross border insurance vehicles.

The main implication of this is that onshore jurisdictions, with the more onerous but more widely recognised regulatory regime would be more attractive to potential EU investors / alternative market entrants post Solvency II implementation.  

Time will tell whether a decision to opt out is wise. However, is there a perception that Dublin, Malta and Luxemburg will continue to be rising stars as European domiciles in the wake of this decision by other domiciles?


About insuranceguild

Sharing Knowledge for the Common Good: Many associate guilds with British pre-industrial era. However, predecessors of guilds are found as far back as the 3rd century BC in the Roman Empire. They were also present in various civilizations including Ptolemaic Egypt, India, Iran, China, African dynasties as well as various European countries such as medieval Germany and Italy. A guild is typically an association of practitioners from the same trade. In addition to protecting and developing crafts, trades and business, guilds also helped foster a learning environment among members. Through this platform I wish to share articles of an insurance / risk management nature and hopefully generate comments from readers that would help to enrich my knowledge as well as the knowledge of other insurance and/or risk management practitioners. About the Author: A Chartered Insurance Practitioner by profession, James Portelli is also a Fellow of the UK Chartered Insurance Institute and of the UK Institute of Risk Management and holds an MSc in Risk Management from Glasgow Caledonian University, U.K. James has been active in insurance and risk management since 1990 and in training since 1987. He started his insurance career in general insurance underwriting and agency/broker management with Middlesea Insurance plc (also forming part of the company's Risk Management Implementation Committee and assisting in captive insurance development). He first moved to the Middle East in 1998 occupying senior training, technical, consulting, business development, risk management and strategic development roles. James is also a 2008 CII (UK) Morgan Owen Prize Winner and the 2011 IRM (UK) Steve Butterworth Award Holder.
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One Response to Regulatory Arbitrage and Solvency II

  1. HMW says:

    Interesting article, but Gibraltar does have to comply, it is not the same territorial status as Iom, Guernsey, Jersey etc.

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