Brexit: Legal impacts on insurers

Clearly, we are only starting to identify what the implications of Brexit might be: they are bound to be multi-faceted. However, the following key points are worth noting at this stage: 

Article 50 of the Treaty on European Union

The biggest issue is that, if a member state gives notice of intention to leave the EU, and if a withdrawal agreement cannot be agreed within two years, then the treaties cease to apply unless all the other member states agree otherwise (acting through the European Council).

There is a real risk therefore that the UK - EU relationship will come to an abrupt halt, if Article 50 is invoked.

Solvency II

The new regime for EU insurers took effect on 1 January 2016. Essentially, it applies in the UK by virtue of the Directive being implemented by UK law, and by an EU Regulation which is directly effective. However, it seems likely that notwithstanding Brexit, the UK government and the Prudential Regulation Authority will want to retain the existing law because companies have only just started to comply (after years of legislative development, including active PRA input) and it has been costly for UK companies to comply.

Cross border business

Solvency II includes a regime of “equivalence” that is designed to apply to non-member states. However, the equivalence regime does not extend to the freedom of establishment and freedom to provide services, as these only apply (i) to insurers incorporated in a member state and (ii) cross-border as between member states. Therefore, UK companies will lose their freedoms once UK ceases to be a member state of the EU. Similarly, non-UK companies incorporated elsewhere in the EU will lose their rights to establish branches and underwrite in the UK.

Query how big an issue this will be: cross-border insurance business does not seem to have flourished in the same way as other financial services (as the European Commission has recognised). On the other hand, if “digitisation” is thought likely to encourage cross-border activity, then the benefits of this may not be felt by UK insurers if as a result of Brexit they lose the existing freedoms.

In any case, loss of these freedoms will be a challenge for those insurers that have consolidated various businesses into one entity that sells cross border. Where such an entity is outside UK but has a branch in UK (or underwrites in the UK), insurance groups will want to consider establishing a new, UK incorporated entity to conduct UK business – and transferring existing UK-sourced business into it. Similarly, where groups currently rely on a UK insurer to make sales into the EU, they may want to consider establishing a new, non-UK, insurer for this purpose – and transferring existing business to it.

However, there is a risk that cross-border transfers between UK and non-UK companies will cease to be possible, so there is an argument for starting to consider reorganisations immediately.

Equivalence

The regime of equivalence applies in relation to how reinsurance with a non-EU reinsurer is treated; solvency capital; and group supervision. Given that UK regulation currently complies with Solvency II, it is likely that equivalence status will apply immediately post-Brexit (when UK ceases to be an EU member state). On the other hand, to retain this status the PRA is likely to need to keep up with Solvency II developments, including the effect of EIOPA input. Obviously, post-Brexit the PRA will not have any direct influence on the development of Solvency II.

Gender directive

Given that insurers have had to comply with the Tests Achats ruling for over three years (and so have not been allowed to use gender-related factors in pricing), and perhaps given society’s views about gender equality in the UK, it seems unlikely that this element of EU law will be disapplied.

ORSA

The risks associated with legal and commercial uncertainty arising from Brexit will need to be reflected in insurers’ own risk and solvency assessments. Developments will have to be reflected as they occur, and taken into account in strategic planning. The PRA is likely to be keen to ensure a degree of consistency between UK firms, but given the uncertainties surrounding Brexit, and the fact that the PRA will be under pressure on various fronts, consistency may not be a short-term aim.

Alternative arrangements

If the UK left the EU and became a member of the EEA, UK insurers would continue to benefit from freedom of establishment and freedom to provide services, as currently enjoyed under Solvency II (and its predecessor directives).

The chief disadvantage would be absence of influence over EU rules. Further, there seems to be no right for the UK to become a member of the EEA on leaving the EU. Free movement of people applies within the EEA, so this may be another reason why the UK government might want to avoid becoming a member of the EEA.

The UK is a member of the World Trade Organisation (WTO) in its own right, but tariffs with WTO members outside the EU are set on an EU-wide basis. Therefore, these would have to be separately negotiated if the UK ceased being a member of the EU. Furthermore, the WTO’s General Agreement on Trade In Services (GATS) does not generally confer rights to carry on cross-border insurance, so GATS is very unlike the EU regime. The WTO does not deal with the movement of people.

Conclusion

For the time being, it seems likely that the existing legal framework will remain. One of the biggest questions for the mid-term is whether the existing directive-based freedoms will be continued after Brexit.