The EC Model

Under the framework of the

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insur­

ance regulation, insurance funds consist oftwo kinds of assets, namely "the assets covering the technical provisions"s6 and "the assets co­

vering solvency margin". The respective rules applicable to the valuation of these assets are also provided in the

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Insurance Directives7 . Regarding the assets covering the technical provisions, the

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harmonizes the types of assets which may be used to cover technical provisions. Its context is to set out a list of permitted assets, to contain a set of basic rules on the spread, valuation, locali­

zation and matching of such assets, to ensure the diversity, safety, yield, and marketability of the investments by imposing limits in

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certain types of assets, and to remove a·

number of restrictions currently imposed by Member States.

On the other hand, the

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provides that the solvency margin is represented by the insurers' assets which are "free of any foreseeable liabilities less any intangible items." In other words, the assets in excess of those representing technical provisions are not subject to the same investment rules applied to the assets representing technical provisions, and they can be invested in a more flexible way.

(I) Assets Representing Technical Pro­

visions

1) Acceptable Assets

With respect to the investment of assets covering technical provisions, the

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Insur­

ance Directives^S8 give board guidance on the investment of assets representing technical provisions. Such assets are to be invested in such a way as to achieve "safety, yield and marketability". These investments will also have to be "diversified and adequately

56) Insurance companies in the EC must maintain sufficient assets as technical provisions to cover all underwriting liabilities. The EC prescribes guiding principles rather than detailed rules for Member State supervisors to calculate technical provisions requirements.

According to the Insurance Company Accounts Directive (9l/674/EEC), technical provisions include following items: 1) Unearned premiums provision (Art. 25); 2) Life assurance provisions (Art. 27); 3) Claim outstanding (Art. 28); 4) Provision for bonuses and rebates (Art. 29); 5) Equalization provision (Art. 30); and 6) Other technical provisions (Art.

26).

57) See generally Art. 20-22 of the Third Non-life Insurance Directive (92/49/EEC) and Art.

20-23 of Third Life Insurance Directive (92/96/EEC).

58) Art. 20 of Third Non-life Insurance Directive and Art. 20 of Third Life Insurance Directive.

272

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spread". Based on these principles, the EC Insurance Directives⁵⁹ provide that the home Member State must restrict acceptable assets to three categories: investment, debts and claims, and others. In the category of in­

vestment, there are five items can be treated as acceptable assets:

(a) debt securities, bonds and other money and capital market instruments;

(b) loans;

(c) shares and other variable yield parti­

cipation;

(d) units in undertakings for collective investment in transferable securities (DCITS) and other investment funds;

(e) land, buildings and immovable pro­

perty rights.

Notwithstanding the above categories of assets, the home Member State must lay down more detailed rules fixing the conditions for the use of acceptable assets. In this connec­

tion, it may require valuable security or guarantee, particularly in the case of debts owed by reinsurers. In the determination and the application of the rules which it lays down, the home Member State shall ensure the following principles are complied with:⁶⁰

-- assets covering technical provisions shall be valued net of any debts arising out of their liquidation;

-- all assets must be valued on a prudent basis, allowing for the risk of any amounts' not being realizable. In particular, tangible fixed assets other than land and buildings may be accepted as cover for technical provisions only if they are valued on the basis of prudent amortization;

-- loans, whether to undertakings, to States authorities or, international organi­

zations, to local or regional authorities or natural persons, may be accepted as cover for technical provisions only if they are sufficient as to their security, whether these are based on the status of the borrower, mortgages, bank guarantees or guaranteed granted by insurance undertakings or other forms of security;

-- derivatives instruments such as op­

tions, futures and swaps in connection with assets covering technical provisions may be used in so far as they contribute to a reduction of investment risks or facilitate efficient portfolio management. They must be valued on a prudent basis and may be taken into account in the valuation of the underlying assets;

-- transferable securities which are not dealt in on a regulated market may be accepted as cover for technical provisions only if they can be realized in the short term;

-- debts owed by and claims against a third party may be accepted as cover for

59) Art. 21 of Third Non-life Insurance Directive and Art. 21 of Third Life fnsurance Directive.

60) Ibid.

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technical provisions only after deduction of all amount owed to the same third party;

-- the value of any debts and claims accepted as cover for technical provisions must be calculated on a prudent basis, with due allowance for the risk of any amounts not being realizable. In particular, debts owed by policyholders and intermediaries arising out of insurance and reinsurance operations may be accepted only in so far as they have been outstanding for not more than three months;

-- where the assets held include an in­

vestment in a subsidiary undertaking which manages all or part of the insurance under­

taking's investments on its behalf, the home Member State must, when applying the rules and principles laid down in this Article (Art.

21), take into account the underlying assets held by the subsidiary undertaking; the Member State may treat the assets of other subsidiaries in the same way;

-- deferred acquisition costs may be accepted as cover for technical provisions only to the extent that this is consistent with the calculation of the technical provision for unearned premium (or mathematical provi­

sions).

2) Investment Restrictions

To ensure diversification and spread of investment, EC Insurance Directives⁶¹ further

provides a set of admissibility rules which contains the principal restrictions on the investment of the acceptable assets. These rules specify the maximum percentage which is allowable for investment in a wide range of assets. Generally speaking, insurer should invest no more than:

-- 10% of total gross technical provisions in anyone piece of land or building, or a number of pieces of land or building close enough to each other to be considered effec­

tively as one investment;

-- 5% of total gross technical provisions in shares and other negotiable securities treated as shares, bonds, debt securities and other money and capital market instruments from the same undertaking, or in loans granted to the same borrower, taken together, the loans being loans other than those granted to a State, regional or local authority or to an international organization of which one or more Member States are members. This limit may be raised to 10% if an undertaking invests not more than of its gross technical provisions in the loans or securities of issuing bodies and borrowers in each of which it invest more than 5% of its assets;

-- 5% of total gross technical provisions in unsecured loans, including 1% for any single unsecured loan, other than loans granted to credit institutions, assurance undertakings

61) Art. 22(1) of Third Non-life Insurance Directive and Art. 22(1) of Third Life Insurance Directive.

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and investment undertakings established in a Member State;

-- 3% of total gross technical provisions in the fonn of cash in hand; and

-- 10% of total gross technical provisions in shares, other securities treated s shares and debt securities, which are not dealt in on a regulated market.

In addition, the absence of a limit on investment of any particular category does not imply that assets in that category should be accepted as cover for technical provisions without limit. The home Member States shall lay down more detail~d rules fixing the conditions for the use of acceptable assets. In particular it must ensure, in the detennination and the application of those rules, that following principles are complied with:⁶²

-- assets covering technical provisions must be diversified and spread in such a way as to ensure that there is no excessive reliance on any particular category of asset, investment market or investment;

-- investment in particular types of assets which show high level of risk, whether be­

cause of the nature of the asset or the quality of the insurer, must be restricted to prudent levels;

-- limitations on particular categories of asset must take account of the treatment of

reinsurance in the calculation of technical provisions;

-- where the assets held include an in­

vestment in a subsidiary undertaking which manages all or part of the insurance under­

taking's investments on its behalf, the home Member State must, when applying the rules and principles laid down in this Article (Art.

22), take into account the underlying assets held by the subsidiary undertaking; the Member State may treat the assets of other subsidiaries in the same way;

-- the percentage of assets covering technical provisions which are the subject of non-liquid investment must be kept to a prudent level;

-- where the assets held include loans to or debt securities issued by certain credit institutions, the home Member State may, when applying the rules and principles in this Article, take into account the underlying assets held by such credit institutions. This treatment may be applied only where the credit institu­

tion has its head office in a Member State, is entirely owned by that Member State and/or that State's local authorities and its business, according to its memorandum and articles of association, consists of extending, through its intennediaries or of loans to bodies closely linked to the State or to local authorities.

62) Art. 22(2) of Third Non-life Insurance'Directive and Art 22(2) of Third Life Insurance Directive.

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(2) Assets Representing Solvency Margin The EC Insurance Directives⁶³ provide that the solvency margin is represented by the insurers assets free of any foreseeable liabi­

lities less any intangible items. Under such a scenario, the rules of the acceptable assets and investment restriction would not be applied to the investment of the assets representing the solvency margin of an insurance undertaking.

In particular, the solvency margin cor­

responding to the assets of an insurance undertaking free of any foreseeable liabilities, less any intangible items, shall include the following:

-- the paid-up share capital or, in the case of a mutual insurance undertaking, the effective initial fund plus any members' account which meet certain criteria;

-- one half of the unpaid share capital or initial fund, once the paid-up part amount to 25% of that share capital or fund,

-- reserves (statutory reserves and free reserves) not corresponding to underwriting liabilities,

-- any profits brought forward,

-- in the case of mutual or mutual-type association with variable contributions, any claim which against its member by way of a

call for supplementary contribution, within the financial year, up to the specific limits,

-- at the request of and on the production of proof by the insurance undertaking, any hidden reserves arising out of the undervalue of assets, insofar as those hidden reserves are not of an exceptional nature,

-- cumulative preferential share capital and subordinated loan capital may be included but, if so, only certain limited amounts and subject to prescribed conditions.

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