What is Solvency II?
Solvency II is an EU-wide directive for the insurance industry that came into effect on 1 January 2016.
Simplistically, it requires that insurers set aside enough capital to cover claims and do more to manage risk in their businesses. It does this by setting out new rules covering:
- Balance sheet: how an insurer calculates the value of its assets and liabilities;
- Capital requirements: how much capital an insurer needs to hold to protect policyholders against adverse changes in its business;
- Governance: how the business is managed and evidence that appropriate risk management processes are in place; and
- Reporting: specific information that an insurer is required to make available to regulators and the public.
Solvency II replaces the Solvency I directive introduced in the 1970s, which set out more basic requirements for maintaining capital and managing risk, and all but the smallest insurance companies operating in any of the 28 EU member states (including the UK plus the three European Economic Area (EEA) countries) are required by law to comply with its provisions.
Why does it matter?
Before Solvency II came into effect, many EU countries had their own national systems of regulation. Solvency II has standardised much of this making it easier for insurance companies to do business across different countries within the EEA.
The introduction of a common reporting framework also makes it easier for customers, investors and regulators to assess and compare the relative financial strengths of insurance companies. And it gives regulators much earlier warning of any significant changes to an insurer’s business or risk profile, enabling them to intervene sooner, should they need to, to protect policyholders.
One of Solvency II’s most significant changes is the introduction of a new Solvency Capital Requirement (SCR). It’s an indicator of an insurer’s risks and can be calculated using either:
- A standard formula that uses industry data to identify risk factors that are then applied to individual insurer risks; or
- An internal model designed by the insurer and approved by the Prudential Regulation Authority (PRA).
Gaining regulatory approval
As far back as 2010, RSA set up a dedicated Solvency II team, made up of people from different regions and functions, to work closely with regulators to ensure that RSA would be fully compliant with the various requirements.
They led the development of RSA’s internal model to calculate SCR, which was subsequently approved by the PRA on 5 December 2015. RSA was one of only 19 UK insurance companies to achieve the milestone.
The approval process involved interviews with members of RSA’s Group Executive and Board, over 100 meetings with European regulators, and the submission of a 3,000+ page application pack along with many supporting documents.
How does Solvency II directly affect RSA Insurance Group?
Solvency II’s long inception has given RSA plenty of time to prepare for its formal introduction – in many ways, the business been operating in line with Solvency II’s core requirements for several years.
The most significant practical change for RSA is making changes to the information the company publishes in order to meet Solvency II’s enhanced reporting requirements.
RSA’s full year results for 2015 are the first time that figures relating to the Solvency II internal model – including SCR, own funds (capital), surplus and coverage – will be included. In 2017, RSA will also publish its first Solvency and Financial Condition Report.
Solvency II also necessitates significant changes to the amount and type of information shared with European regulators including a new assessment, Own Risk and Solvency Assessment (ORSA), which is designed to prompt insurers to reflect on how the risks projected for the business for the following few years compare to the capital available to support them in a variety of scenarios.