Insurance Linked Securities (ILS), which transfer insurance risk to the capital markets, have grown significantly in recent years and are projected to grow to a value of $87bn by 2019. Recognising that the majority of ILS business occurs in overseas territories such as Bermuda, Cayman Islands, Guernsey and Jersey, the UK government has published a new regulatory and supervisory framework designed to attract ILS business to the UK, which will come into force on 8 December 2017.
The Risk Transformation Regulations 2017 (the Regulations) make changes to English law in two key areas:
1. Corporate and insolvency law, through the introduction of a protected cell company (PCC) regime; and
2. Financial services law, through the new regulated activity of “Insurance Risk Transformation” under the Financial Services and Markets Act 2000.
A PCC, through being comprised of segregated parts (a ‘core’ and ‘cells’), provides for the strict segregation of pools of assets and liabilities within a company whilst having the benefit of being a single legal entity (a private company limited by shares). The core administers the PCC whereas the cells are used for assuming risk from undertakings, issuing investments to investors to fund risk exposure, holding the proceeds of sale of those investments and entering into arrangements with other cells.
This structure allows the PCC to ring-fence different contractual arrangements such that the assets of one cell cannot be used to meet the obligations of any other part of the PCC. For ILS business, this enables the segregation of multiple ILS transactions so that buyers and investors are protected; losses on any one transaction will not affect any other transaction within the PCC. The changes to insolvency legislation mean that each cell may also be put into liquidation or administration without having an impact on the assets of the wider PCC.
In order to drive ILS business to the UK, a bespoke, streamlined authorisation and supervision process has also been designed by the PRA and FCA. By recognising ILS vehicles as entities that exist to service a particular transaction or group of transactions for risk transfer, with those risks being pre-funded, the process aims to be as quick and efficient as possible, whilst also maintaining robust supervisory oversight.
In conjunction with the Regulations, the Risk Transformation (Tax) Regulations 2017 will introduce changes to the way in which ILS vehicles are taxed, making UK domiciled insurance special purpose vehicles (ISPVs) neutral in tax terms (by exempting ISPVs from corporation and withholding tax).
The Regulations, together with the Risk Transformation (Tax) Regulations 2017, are a clear indication of the efforts being made to develop London’s reputation as a sophisticated and specialist insurance market. The new framework will give (re)insurers the ability to offer ILS products that are not only backed by English law but the ability to do so in a market that has historically been at the forefront of innovation.