On 9 August 2016, the China Insurance Regulatory Commission (“CIRC“) issued the Notice on Matters Relating to Collateral Provided by Offshore Reinsurers (Draft) (the “Draft Notice“) for public consultation until 19 August 2016. According to CIRC’s corresponding explanatory note, since the China Risk Oriented Solvency System (“C-ROSS“), formally effective from 1 January 2016, differentiates between risk factors in the calculation formula for a PRC ceding company’s minimum capital for counterparty risk based on whether or not its counterparty, the foreign reinsurer, has provided eligible collateral, the CIRC has formulated the Draft Notice to state detailed requirements for collateral provided by foreign reinsurers to be eligible under C-ROSS.
Scope of the Draft Notice
The Draft Notice applies to reinsurance (and retrocession) transactions between a Chinese insurance company (the “Chinese Ceding Company“) and a foreign reinsurance company (the “Foreign Reinsurer“). The definition of Chinese Ceding Company includes insurance companies, reinsurance companies, branches of foreign insurance companies and branches of foreign reinsurance companies which are established in China upon CIRC’s approval. “Foreign Reinsurer” refers to a reinsurer established outside China, including (re)insurance companies, captive insurance companies, mutual insurance organizations, reinsurance pools, Lloyd’s as well as other types of insurance institutions recognized by the CIRC.
Collateral Not Mandatorily Required
The Draft Notice provides that a Chinese Ceding Company can require its counterparty, the Foreign Reinsurer, to provide collateral for the relevant risk exposure arising from their reinsurance transaction. However, collateral is not a compulsory requirement imposed by the CIRC on every cross-border reinsurance transaction or Foreign Reinsurer. Rather, whether or not collateral is provided will have an effect on the Chinese Ceding Company’s capital requirements arising from the relevant reinsurance transaction.
Types of Collateral Recognized under the Draft Notice
A Foreign Reinsurer can provide one or more of the following types of collateral eligible under C-ROSS:
- Cash deposits by the Foreign Reinsurer in the Chinese Ceding Company’s bank account made in accordance with the Draft Notice;
- A Standby Letter of Credit (“SBLC“) applied for by the Foreign Reinsurer for the benefit of the Chinese Ceding Company in accordance with the Draft Notice; and
- Other collateral recognized by the CIRC.
Requirements for Qualifying Deposits
If the Foreign Reinsurer chooses to provide a cash deposit as collateral for the underlying reinsurance transaction, such deposit shall meet the following requirements:
- The deposit must be made in the Chinese Ceding Company’s bank account opened with a commercial bank established in China;
- The deposit can be withdrawn and is fully controlled by the Chinese Ceding Company;
- The deposit shall not be transferred back to the Foreign Reinsurer’s bank account within one year after being transferred to the Chinese Ceding Company’s bank account, unless the underlying reinsurance contract has been settled within one year; and
- If used as collateral for multiple reinsurance contracts entered into by a single Chinese Ceding Company, the collateral amount for each reinsurance contract shall be clearly stated and the aggregate amount collateralised shall not exceed the total amount of the deposit.
Requirements for Qualifying SBLCs
1. Qualifying SBLC
If the Foreign Reinsurer chooses to provide a SBLC as collateral for the underlying reinsurance transaction, the SBLC must:
- Be Irrevocable, clean and unconditional;
- Have the Chinese Ceding Company as its beneficiary;
- Not be subject to any conditions other than the ones stated in the SBLC;
- State that the obligation of its issuing bank (the “Issuing Bank“) shall not be subject to the Issuing Bank first recovering the funds from the Foreign Reinsurer;
- Clearly state its issuance and expiration date;
- Be such that claims and payment on it are made within China;
- Have a term of no less than one year and include an automatic renewal clause (and if the Issuing Bank decides not to renew the SBLC, it must be required to notify the beneficiary in writing at least 30 days before the SBLC’s expiration date);
- State that applicable PRC laws prevail in case of any conflict between the applicable international model rules and PRC laws; and
- If used as collateral for multiple reinsurance contracts, clearly state the collateral amount for each reinsurance contract, with the aggregate amount collateralised not exceeding the total amount covered by such SBLC.
2. Issuing Bank of the SBLC
The Issuing Bank of a qualifying SBLC shall also meet the following requirements:
- Be a commercial bank established in China;
- Have a capital adequacy ratio of no less than 11% or a credit rating no lower than AA-; and
- Not be a related party of either the Foreign Reinsurer or the Chinese Ceding Company.
3. Requirements for Confirmed SBLC
If the Issuing Bank fails to satisfy any of the requirements mentioned under section 2 above, the SBLC shall be confirmed by a commercial bank (the “Confirming Bank“) which meets the above three requirements.
The confirmation in respect of the SBLC is subject to requirements similar to those listed above in respect of the SBLC itself.
4. Change of Qualification of the Issuing Bank or Confirming Bank
If the Issuing Bank or the Confirming Bank fails to meet any of their respective qualification requirements indicated above, the Foreign Reinsurer shall engage another qualifying commercial bank to issue a new SBLC or Confirmation in a timely manner. The original SBLC or Confirmation will be deemed as qualifying for 90 days upon the disqualification of its Issuing Bank or Confirming Bank.
Calculation by the Chinese Ceding Company under C-ROSS
The Draft Notice further clarifies that the Chinese Ceding Company, while determining its solvency, shall only apply the lower risk factor under C-ROSS to that part of the exposure actually supported by collateral satisfying the requirements of the Draft Notice.