In the lead-up to Solvency II, the new prudential regime for insurers, a concern for firms is whether they will obtain in due time the approvals from their supervisor they are looking for. Firms subject to the Solvency II regime should consider the possibility of appealing if the PRA does not grant them the approvals they need and if there are grounds for arguing that the PRA's decision is wrong.
Solvency II comes into force on 1 January 2016. It creates a new European regime for the prudential regulation of (re) insurance firms and groups. The process of preparing for this regime is a heavy burden for the industry and the supervisor and regulator, the Prudential Regulation Authority (PRA). This means that timescales have often tended to slip.
Between April and December 2015 the PRA, in common with other EEA insurance supervisors, must deal with applications by firms for approvals to take effect on the commencement date. If granted, most of these approvals will give firms an advantage over the default position under the Directive.
For instance firms and groups may apply for approval to use internal models for the calculation of the Solvency Capital Requirement (SCR). If an internal model application is granted, firms or groups will usually expect to reduce the amount of regulatory capital which they hold. Apart from this the fact that a firm has had its internal model approved may be regarded as a vote of confidence by the regulator in the quality of the firm's systems and governance and may affect its rating.
2. The Tribunal
If the PRA refuses to grant one of these approvals or grants it on terms less favourable than those applied for (for example, subject to conditions), the relevant firm has a right of appeal to the "Upper Tribunal (Tax and Chancery Chamber)" under regulation 56 of the Solvency II Regulations 2015. The Tribunal does not have the power to substitute its decision for that of the PRA. It can only dismiss the appeal or remit the case to the PRA for further consideration in the light of the views expressed in the Tribunal's judgment. This may prove to be a lengthy process. Further appeals from the Tribunal decision are possible. If any point arises on the interpretation of the Solvency II Directive or the adequacy of the UK transposition, a reference to the Court of Justice of the European Union might be necessary. This typically takes 2 or more years to resolve.
The appeals procedure, however, satisfies the requirement under Article 297 of the Solvency II Directive that firms should have a right to apply to the courts.
3. Waivers and modifications
The PRA is required to make some other, less significant, prudential decisions under Solvency II by waiving or modifying its rules rather than by granting a specific approval. An example of this would be a UK insurer whose ultimate parent is based in a non-EEA jurisdiction which is not regarded as being "equivalent" to Solvency II in its approach to insurance supervision. By default group supervision is exercised within the EEA at the ultimate parent, or "world" level. The insurer in question can, however, apply for a waiver and/or modification to substitute a less onerous alternative (see article 262).
In such cases, there is no explicit right of appeal in UK law, but an aggrieved firm may have grounds to challenge the decision by way of judicial review. This is a review of the way in which a decision was taken as regards its legality, rationality and procedural fairness, rather than a full appeal of the merits of a decision. A judicial review application will usually be heard by the High Court but may also end up in the Tribunal.
Appeals to the Tribunal in prudential cases have been very rare since the current UK insurance prudential regime came into force in 2004. In particular, there is no public record of any case where an insurance firm or group has appealed against capital guidance given to it under the current Solvency I individual capital adequacy standards (ICAS) regime. In some cases, such capital guidance can require firms to hold significantly higher levels of capital than provided for in the rules. This suggests that firms:
- have been able to resolve their differences with the regulator;
- have been advised against appealing, e.g. because the regulator's decision is right or to a large degree involves an exercise of discretion; and/or
- are reluctant to launch a public challenge.
4. Examples of approvals and waivers
The PRA has listed the various species of approvals and waivers which may be given before the Solvency II regime comes into force. Apart from internal models, the most difficult and financially significant approvals include:
- those arising from the "long term guarantees regime" (including the matching adjustment, the volatility adjustment and the transitional measure on technical provisions). These approvals allow technical provisions for long term business to be significantly reduced where long term liabilities are covered by long term assets and where a number of other stringent requirements are satisfied;
- the approval of ancillary (i.e. off balance sheet) capital instruments. Such approvals are required to allow firms to include such capital within tier 2 or 3 "own funds" i.e. regulatory capital.
Other examples (apart from the one already given) of Solvency II applications open to challenge using the waiver procedure include those relating to whether to use the default Method 1 (accounting consolidation) or the alternative Method 2 (aggregation deduction) to calculate the group Solvency Capital Requirement.
Most UK firms have a financial year which coincides with the calendar year. It will therefore end in 2015 on the day before Solvency II comes into force. Insurers will need to have their approvals and waivers in place before Solvency II comes into force. Otherwise they may have to report publicly on the footing that they did not get them, making their balance sheet look less healthy and in some cases putting them in regulatory breach. This may affect their year end Solvency I accounts and their opening figures for the Solvency II regime.
That leaves very little time for the hearing of a Tribunal appeal if a firm's application is rejected (or granted on unhelpful terms) between now and the end of the year. Some firms still waiting for an approval or waiver may struggle to decide what to do next. This is likely to be less of an issue for firms who have been forewarned by the PRA what to expect and are either happy with that or have decided to let the PRA have its way.
In other cases, however, no doubt largely because of the pressures on PRA resources, the timetable for the granting of approvals and waivers will have slipped.
For example, the PRA has announced that it will decide internal model applications in early December 2015. This is despite the fact that it is required under Article 112(4) of the Solvency II Directive to determine them within 6 months. Some firms will have made their application as early as April 2015 and would therefore have been entitled to a decision as early as October.
Any firm or group aggrieved by the outcome of its internal model application will thus have less than a month to get a decision on its Tribunal appeal without suffering negative consequences. To achieve this daunting deadline would require persuading the 3 person Tribunal to deal with the matter on a highly expedited basis and to sit over the Christmas period.
Although decisions in relation to matching adjustment approvals were given to firms in early November, other approvals may also not be granted until later in the year.
Applications judicially to review a late PRA refusal to grant a waiver or rule modification may also need to be launched at a very late stage if the challenged decision is not made until December 2015.
6. Suspending the PRA's decision pending the hearing of the appeal?
A better alternative for the aggrieved firm is to apply to the Court or Tribunal and invite it to suspend the PRA's decision pending the appeal or judicial review. The Tribunal has power to do this under section 133(3) of the Financial Services and Markets Act 2000 and a Court has similar powers. The firm would need to go a step further and ask the Tribunal to treat the internal model application (or other approval) as also having been granted on a provisional basis. The first public Solvency and Financial Condition Report covering the firm's regulatory capital position would not be due for over a year. So a "provisional approval" would take the time pressure off the parties and the Tribunal without creating any prudential risk. A similar approach might be adopted in judicial review applications.
Provisional approval might be justified because the Tribunal's rules say that it can "regulate its own procedure". But it involves applying a "stretched" interpretation of the rules.
Whether there is a case for applying for an expedited hearing and the provisional relief discussed above will depend on the individual circumstances of the insurer or its group. In deciding whether to grant provisional relief, the tribunal or court will consider the possible implications of its actions. These include how the PRA may be affected, whether the court has adequate powers and the "balance of convenience" as between detriment suffered by the PRA if provisional relief is granted and by the firm if it is refused.
7. The European dimension
Secondly, as noted above, Article 297 says that there should be a right to apply to the courts. This means an effective right and not just a theoretical right. Provisional approval may be the only way of giving effect to that right, which arguably justifies the "stretched approach". The European Court has ruled that domestic legislation should be interpreted so far as possible to give effect to rules in European law (Marleasing SA v La Comercial Internacional de Alimentación SA  C- 106/89). This has been applied in the UK courts by the use of stretched interpretations.
Aggrieved firms will need carefully to consider their options and be willing to move fast once the PRA's decision on their application (whatever the subject matter) is known and they have been advised as to the merits of an appeal or judicial review.