In anticipation of the approaching deadline under the “three year solvency reprieve” reported in June 2012, extending to August 2015 the deadline for insurance companies carrying out composite business to segregate life and non-life business into separate undertakings, the UAE Insurance Authority (the IA) has been working on refining the draft solvency and financial reporting regulations which appeared in 2011. The seven previous draft regulations have now been consolidated into “Draft Combined Regulations”, published in December last year.
Existing UAE legislation in these areas currently lacks prescriptive detail. Insurance companies are subject to a somewhat "one-size fits all" approach in respect of maintaining capital, a security deposit, a solvency margin and minimum guarantee according to the type of insurance transacted, as well as technical provisions estimated at the end of each financial year. Hitherto there has been little guidance from the IA in respect of calculating and satisfying these requirements. Perhaps with one eye on developments in Europe under the Solvency II regime and a domestic market progressing out of the financial crisis. The Draft Combined Regulations (the Combined Regulations), mark a decided shift towards a more complex capital adequacy regime with the emphasis on self-assessment.
Overview of the Combined Regulations
The Draft Combined Regulations, as their name suggests, combine seven previously separate but related draft regulations :
- the Instructions Pertinent to the Basis of Investing the Rights of the Policyholders;
- the Instructions Pertinent to the Solvency Margin and Minimum Guarantee Fund;
- the Instructions Pertinent to the Basis of Calculating the Technical Provisions;
- the Instructions Pertinent to Determining Companies’ Assets to Meet Accrued Insuring Obligations;
- the Instructions Pertinent to the Records to be maintain and Data to be made Available to the Authority;
- the Instructions Pertinent to the Principles of Organising Accounting Books and Records of Companies, Agents, and Brokers; and
- the Instructions Pertinent to Accounting policies to be adopted (together the Draft Regulations).
The Combined Regulations set out each Draft Regulation as a separate sub-section.
Changes from the Draft Regulations
In reality, the Draft Regulations have not developed a great deal from the original 2011 draft in their new guise, although several key changes have been made. As under the Draft Regulations, the “Basis of Investing the Rights of Policyholders” section of the Combined Regulations sets out guidance in respect of general requirements for investments and investment policies including the characteristics and diversification of insurance companies’ investments. The instructions set out specific guidance on asset distribution and allocation limits, guidance on investment related risks, the domiciling of investments and the use of derivatives. There are some marked changes in the asset distribution and allocation limits. For instance, the permitted exposure previously specified for investing in real estate was up to 20% (25% exposure with IA approval) with no sub-limit on the exposure to a single counterparty. Under the new Combined Regulations, this has been increased to 30% or 40% with IA approval (although a 10% sub-limit now applies to any single counterparty).
The maximum limit on non-UAE equity holdings (and such equities must have strong or very strong ratings) has gone down from 10% to 7.5% while the maximum limit on UAE government securities/bonds issued by individual emirates has, rather surprisingly, gone up from 30% to 100%. The limit on securities issued by A rated countries has gone up from 5% to 30%. Derivative limits stay at 1%, for hedging purposes only.
The overall limit on foreign held assets is 20% by value and any foreign jurisdiction in which they are held must have a sovereign rating no less strong than that of the UAE. This restriction applies not only to the insurance fund, but to shareholders funds as well, even if they do not support the margin of solvency.
Valuation must still, as in the previous draft, be on a mark to market basis wherever possible. The requirements for expert revaluation of real estate have been loosened slightly as regards the number of experts required for real estate worth less than USD 30 million. A new requirement for a Board level Investment Committee with its own charter, investment policy and guidelines approved by the main board has been introduced. As before, independent internal audit is required, with reporting to an Audit Committee.
Minimum capital for an insurer, as currently, remains at AED 100 million and AED 250 million for reinsurance. As in the draft, a new Group Capital Adequacy test is imposed. The criteria for assessing risk and evaluating solvency have been maintained under the Combined Regulations, necessitating consideration of underwriting risks, market risk, credit risk, liquidity risk and operational risk, as well as prescribing in detail the use of scenario and stress testing in calculating the capital requirement. Companies must have an effective risk management framework in place. The Combined Regulations now include a compulsory template to be completed by a company to facilitate the assessment of solvency requirements, covering market and liquidity risk, underwriting risk, credit risk and operational risk.
As was the case under the Draft Regulations, the “Basis of Calculating Technical Provisions” section of the Combined Regulations maintains the methodology to be used by insurance companies when calculating their technical provisions. It states that Unearned Premium Reserves, Unexpired Risk Reserve (a new addition), Outstanding Loss Reserves, Incurred but not Reported Reserves, Unallocated Loss Adjusted Expense Reserves, Actuarial Reserves and Catastrophic Risk Reserves must be taken into account and that technical provisions must be reported on a quarterly basis electronically to the IA. There are detailed guidelines on the mathematical estimation of IBNR reserves. An actuarial certification and Board of Directors certification must also be submitted to the IA on an annual basis. The instructions require that each insurer appoint an actuary accredited with the IA to assess the quality of the data used for calculating the technical provisions. The actuary is responsible for reporting exceptional and significant risks to the Board of Directors of the insurer. The methodology used by the actuary to calculate IBNR is required to be approved by the IA. This methodology is to be consistent from year to year. Of significance for insurers in comparison to the Draft regulations, the Combined Regulations state that a company’s management will be ultimately responsible for the information provided to the IA. What appears to be lacking is any base line solvency and capital position which companies can use as a starting point before deciding on the position most suitable to their own profile.
There are extensive requirements imposed on insurers to maintain books and records across the entire spectrum of their operations across all lines of business and to make them available to the IA for examination. Companies will have to appoint an accounts’ auditor whose remit includes reviewing actuarial reports, and establish an internal audit department headed by an internal auditor to oversee risk management and governance, reporting direct to the audit committee. A regulatory compliance officer will also be required.
Impact of the Combined Regulations
The Combined Regulations mark a decisive move towards an EU capital self-determination regime of the type that has been in place in the UK for well over 10 years now.
If and when these regulations finally come into force in 2015, together with the prohibitions on composites, they are likely to have a dramatic effect on the UAE insurance industry which has resisted the forces of change, in much the same way that the new brokers’ regulations (already law, but which come into full force at the end of 2014) are already putting acute pressure on small and medium size intermediaries.
For some time the postponement of reform (partially prompted by the credit crunch) has allowed family run, traditional local insurers to continue writing business, relatively immune from the forces of change. The Combined Regulations will constitute a dramatic intensification of the complexity and cost of operation for the industry which is likely to force many of the less strong local insurers to import more professional management and seek new sources of capital and investment. This comes at a time when the upswing in the UAE economy is gaining momentum. The interest of foreign insurers, long kept out of expansion by the moratorium, is likely to intensify. Interesting times lie ahead.