On 26 November, the PRA and FCA published two consultation papers (CP 14/26 and CP 14/25) for a new senior insurance managers regime (SIMR) and amending the FCA’s current approved persons regime to reflect the Solvency II framework, respectively. The PRA’s proposals are particularly significant and will apply to individuals at insurance and reinsurance firms, including insurance special purpose vehicles, UK branches of foreign firms (seemingly just non-EEA firms in the case of the PRA proposals), the Society of Lloyd’s and managing agents. The proposals will also apply at the level of holding companies above the regulated firms themselves. The proposed SIMR is relevant to insurers who fall within the scope of the Solvency II Directive; firms outside the scope of Solvency II will continue to be regulated under the existing rules for the time being.
The consultation follows the PRA and FCA consultations on the senior managers regime for individuals in the banking sector (the bank regime) and sets out to replicate the bank regime in many, but not all, key respects.
This newsletter sets out some of the key points arising from both the PRA and FCA consultation papers. The proposals represent an important change for the development of personal responsibility for managers and key executives and demonstrates that the PRA and FCA are serious about ensuring that individuals have the right expertise to carry out their functions properly but also will not hesitate to ascribe individual blame should there be regulatory failings in the future.
Key business impacts
- A narrower range of individuals will, in future, need to be pre-approved by the PRA to perform a controlled function. Certain information concerning a wider group of individuals (including “key function holders”) will need to be given to the PRA, including information on their responsibilities, and the firm itself will need to ensure that they are “fit and proper”.
- The FCA will maintain its approved persons regime with some adaptations. In particular, in relation to those executive and certain other controlled functions which the PRA is proposing not to maintain, the FCA proposes to make them Significant Influence Functions (SIFs) and therefore subject to FCA pre-approval. The relationship between the FCA’s regime and the PRA’s SIMR is considered in this newsletter.
- The application of the SIMR to non-executive directors (and the FCA’s consideration of non-executive directors as part of its regime) is largely left to a later consultation – this has proved a difficult issue in relation to the bank regime and will be just as difficult for insurers.
- Firms will need to have a governance map allocating certain core responsibilities to PRA-approved individuals. This will be a key regulatory tool for day-to-day supervision as well as in enforcement cases.
- Unlike the bank regime, individuals regulated under the SIMR will not be presumed to have committed misconduct merely because there is a regulatory breach in their area. Nor (unlike the bank regime) will there be a criminal offence of reckless misconduct leading to the failure of an insurer.
- Conduct rules for individuals performing key functions will be aligned more closely with the rules for bankers, and there will be three new generic standards applicable to senior individuals.
- The PRA will set out a non-exhaustive set of factors to be considered by a firm when assessing the fitness and properness of individuals. Firms will have to request references and carry out criminal record checks for individuals who are to hold controlled functions or key functions.
The PRA’s SIMR proposals aim to enhance the regulatory regime applicable to individuals carrying out specific roles and key functions. They give effect to measures set out in the Solvency II Directive relating to governance and the fitness and propriety of relevant individuals which require the PRA to update its approved persons regime. Further, the PRA had expressed its intention to amend the approved persons regime for insurers to include certain aspects of the bank regime.
The PRA rightly recognises the differences between the business models of a bank and an insurer and notes that regimes should not be identical.
The FCA’s proposals focus largely on changes it proposes to make to its current approved persons regime for Solvency II firms to address (i) its role in reviewing firms’ assessment of the fitness and propriety of certain important individuals; (ii) provisions in the Banking Reform Act which allow regulators to apply Conduct Rules to certain individuals; and (iii) the PRA’s proposed reforms to the scope of its pre-approval regime.
Solvency II and scope
Since the PRA has prime responsibility for the transposition of the Solvency II Directive most of the changes are set out in the PRA’s consultation paper. The PRA states that its intention is for the new SIMR to be consistent with the Solvency II framework and Solvency II requires all insurance and reinsurance undertakings to have in place an effective system of governance which provides for the sound and prudent management of the business and to ensure that all persons who effectively run the business or have other key functions fulfil certain fit and proper requirements.
The Directive together with the Delegated Acts provide clarity as to which functions within the firm are key functions for the purposes of Solvency II. These are: risk management, compliance, actuarial and internal audit. Under Article 257 of the Directive, the same standards are also applied at the group level to those persons who effectively run an insurance holding company (or mixed financial holding company) as well.
The PRA adopts the Solvency II language and requires “senior persons who are effectively running insurers, or who have responsibility for other key functions at those firms [to] behave with integrity, honesty and skill.”
The SIMR will therefore cover (1) senior insurance managers who are subject to pre-approval by the PRA for a Controlled Function under the Financial and Services Markets Act 2000; and (2) all other senior persons who are effectively running an insurer or who have responsibility for other key functions. The responsibility for determining which functions under Solvency II – e.g. the actuarial function, risk management function, internal audit and compliance – are “key functions” lies with the insurer itself. The list of key functions may therefore vary from insurer to insurer.
Under the PRA regime, Controlled Functions will be known as Senior Insurance Management Functions (SIMFs) and include the Chief Executive Officer, Chief Finance Officer, Chief Risk Officer and Head of Internal Audit. The scope of the SIMR will be broadly aligned with the bank regime, although a key difference to the bank regime is that Controlled Functions also include the Chief Actuary and for life insurers writing with-profits business, the With Profits Actuary but not a Head of Key Business Area function. For general insurance and reinsurance firms and managing agents at Lloyd’s, it includes the Chief Underwriting Officer and for the Society of Lloyd’s, an Underwriting and Risk Oversight Function.
The purpose of the new SIMR regime is to focus responsibility more clearly on certain individuals with senior roles. It focuses on a narrower range of individuals than the current regime and looks to those individuals who the PRA could hold accountable when determining responsibility for maintaining the safety and soundness of the firm and protection of policyholders. The combination of this and the governance map (described below) gives the PRA powerful tools to identify, supervise and enforce against individual function holders in appropriate circumstances.
The FCA regime is wider than the PRA regime. It covers senior executives and compliance officers, including the Chairperson, Senior Independent Director, Chair of the Risk Committee, Chair of the Audit Committee, Chief Executive Officer - both Group-wide or for the UK entity or entities -, Chief Risk Officer, Chief Finance Officer, solo-regulated firms and compliance and CASS oversight officers. All of the above not covered by the PRA regime will be designated FCA Senior Managers by the FCA. The FCA considers all of these positions to have SIFs. SIF holders are subject to FCA pre-approval, and the FCA proposes to convert any of the Controlled Functions that the PRA will no longer maintain under its new regime into SIFs.
The FCA is not expanding the current scope of its Controlled Functions for the purposes of Solvency II and proposes to use its existing regime for pre-approving Controlled Functions, adapted slightly to align with the Solvency II framework. Where individuals being approved by the FCA are also carrying out Solvency II key functions (e.g. CF29 (Significant Management) and CF10 (Compliance)), FCA assessments are proposed to demonstrate that the appropriate checks by firms have been made in line with the Solvency II framework. Anyone performing Solvency II functions which fall outside the FCA’s Approved Persons regime will therefore be subject to the PRA’s rules.
When looking at group structures, the PRA proposes that not only those individuals who take up Controlled Functions in insurers would be subject to the new regime, but also other senior executives within the group who have a significant influence on the management or conduct of the affairs of the insurer will be subject to pre-approval as Group Entity Senior Insurance Managers. It is also worth noting that the PRA has the right to make directions to qualifying parent undertakings under s.192C FSMA where it will advance any of the objectives of the PRA, or, in the case of qualifying authorised persons authorised by the PRA, where the direction is desirable for the effective consolidated supervision of the group.
Key function holders
The fit and proper requirements apply to all persons who effectively run the undertaking or have other key functions in order to ensure that all the persons holding relevant functions in the undertaking are appropriately qualified. As with the current regime, the responsibility to carry out fit and proper assessments lies with the firm itself. The scope of the requirements aims to avoid gaps where important persons for the undertaking are not covered, accepting at the same time that there may well be considerable overlap between persons from senior management who are considered to effectively run the undertaking and other key function holders.
Insurers will still need to notify the PRA and provide relevant information about all key function holders and will need to conduct their own fit and proper assessments in respect of these individuals along with all individuals that perform a key function under the Solvency II Directive. Pre-approval, however, will not be required for people holding key functions who are not controlled function holders.
The SIMR proposals aim to improve a firm’s governance procedure and the PRA proposes a new rule requiring insurers to compile and maintain a governance map which records the positions of those individuals that effectively run the firm and the names of the individuals holding these positions or with responsibility for a key function.
This new obligation, although it identifies individuals who are responsible for certain functions, is not aimed at changing the existing obligations on the board of directors. Instead, the map will be used by the PRA to monitor and supervise firms’ governance arrangements. The new proposals are similar to the requirements in the bank regime; however the SIMR proposals do not currently include the same certification requirements as are necessary under the bank regime.
The conduct standards that the PRA proposes are: acting with integrity, acting with due skill, care and diligence and dealing with PRA and other regulators in an open and co-operative way. This is consistent with the PRA’s objectives and also with the objectives set out in the Solvency II Directive. These standards will be applied directly through the rulebook to PRA controlled function holders and to other individuals approved by the FCA for a controlled function that is a “relevant senior management function” (this term has yet to be defined). A firm is also expected to require all its key function holders to observe these standards.
In the joint PRA/FCA consultation on the bank regime (CP14/14), the regulators proposed new Conduct Rules for approved persons. The FCA believes that these Conduct Rules are appropriate to insurers as well as banks and it therefore proposes to introduce Conduct Rules for Approved Persons which will build on the existing Statements of Principle for Approved Persons (APER), with two additions:
- individuals would be explicitly required to pay due regard to the interest of customers and treat them fairly, which mirrors the current responsibility for firms; and
- those in positions of particular responsibility must take reasonable steps to ensure that any delegation of their authority is to an appropriate person and that they oversee the discharge of that delegated responsibility effectively.
In Solvency II firms, the Conduct Rules will only apply to those individuals who are subject to FCA or PRA pre-approval.
Fit and proper assessments
The PRA is proposing to set out a list of factors that firms will need to consider when assessing the fit and proper status of individuals. However, the PRA has stated this list will be non-exhaustive. Under the Approved Persons Regime, the persons seeking pre-approval to take on SIFs will need to show that they are competent to perform their role and have high standards of personal integrity before they can take the position.
The FCA proposes to amend its Fit and Proper Test for Approved Persons to state that it will take into account the Solvency II framework when making its assessment. This will include consideration of firms’ own assessment of candidates’ fitness and propriety as required under PRA rules and the Solvency II Regulation and EIOPA Guidelines, as well as EIOPA Guidelines directed to supervisory authorities themselves.
The deadline for responses to the consultations is 2 February 2015. Further consultations will follow early in 2015 on the regulatory regime for non-executive directors and on technical issues. So far as the new rules are necessary to implement Solvency II, they will be made by 31 March 2015 and will come into force on 1 January 2016 to meet the Solvency II deadline. These include the rules relating to key function holders. Full implementation of the SIMR may take longer and, if so, the current list of Controlled Functions set out in SUP 10B of the PRA Handbook will continue to apply in the meantime.
These proposals would appear to be a turning point for the regulation of senior individuals working at insurance firms in the UK following the financial crisis. They represent an important change for the development of personal responsibility for managers and key executives and demonstrate that the PRA and FCA are serious about ensuring that individuals have the right expertise to carry out their functions properly but also will not hesitate to ascribe individual blame should there be regulatory failings in the future. The PRA proposes to place greater emphasis on technical capabilities and personal characteristics in its pre-approval process so that the most senior individuals in an insurance company can expect more detailed and focussed questioning when applying for approval. New approvals are likely to have a longer lead time and it is still not yet clear how the changes will work in any transitional period. The regime also sends out a clear message (which has already to a certain extent been premised by, for example, the FCA’s enforcement action against senior executives of the Swinton Group) that any future regulatory failings will be unlikely to fall solely with the firms themselves in future but we can anticipate more scrutiny of responsible individuals via the governance map and the Conduct Rules.