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Clifford Chance – The new insurance recovery and resolution directive (IRRD) proposal

Article rédigé par Clifford Chance dans le cadre de leur sponsoring de l’ACA Insurance Days 2022.

In September 2021, the European Commission published a legislative proposal for a new EU insurance recovery and resolution directive (« IRRD« ) as part of its comprehensive review package of the Directive 2009/138/EC (« Solvency II« ).

IRRD will create a harmonised recovery and resolution planning framework for EU (re)insurance undertakings and their groups. The aim of the framework is to provide a credible set of resolution tools to intervene sufficiently early and quickly if insurers are failing or likely to fail, in order to ensure a better outcome for policy holders, while minimising the impact on the economy, the financial system and any recourse to taxpayers’ money.

While this proposal is largely inspired by Directive 2014/59/EU establishing a framework for the recovery and resolution of credit institutions and investment firms (« BRRD »), there are many differences between the proposed IRRD and BRRD, reflecting the different nature, complexity and issues of (re)insurance undertakings.

The adoption of IRRD and subsequent implementation thereof across EU Member States will require (re)insurance undertakings and their groups to take significant actions to ensure that they comply with their new obligations.

In the following, we will provide a broad overview of these main requirements as well as the legislative and expected implementation timeline.

Scope of application

The new framework will apply to the following entities:

  • EU (re)insurance undertakings as defined under Article 2 of Solvency II;
  • Parent (re)insurance undertakings established in the EU;
  • Insurance holding companies and mixed financial holding companies that are established in the EU;
  • Parent insurance holding companies and parent mixed financial holding companies established in a Member State;
  • Union parent insurance holding companies and Union parent mixed financial holding companies;
  • Branches of insurance and reinsurance undertakings that are established outside the Union and that fulfil the conditions laid down in Articles 72 to 77 of IRRD.

Unlike BRRD, IRRD does not cover ‘mixed-activity financial holding companies’ or group companies that are ‘financial institutions’. In its negotiating position paper, the European Council has added « group entities that provide essential services to undertakings under resolution » to the above list.

Preparatory measures and early intervention

The IRRD will require Member States to establish resolution authorities equipped with a minimum harmonised set of powers to apply the resolution tools and exercise the resolution powers. For insurance groups, the resolution authority in the Member State in which the group supervisor is situated will be the group resolution authority. The resolution authority may also be the insurance sector supervisory authority, provided adequate structural arrangements are in place to avoid conflicts of interest and ensure operational independence.

The IRRD requires (re)insurance undertakings and their groups to prepare pre-emptive recovery plans and the resolution authorities will in addition prepare resolution plans based on information provided by insurers and groups. Are in principle exempted from these preemptive recovery plans and resolution planning obligations insurance undertakings classified as low risk profile or small and non-complex respectively. There are furthermore certain minimum coverage rates for the market in a Member State that will need to be made subject to recovery and resolution planning obligations. These plans will need to be updated at least annually (or every two years according to the negotiating position paper of the Council) or when there is a material change to the legal framework, organisational structure, its business or the financial situation of the entity.

The IRRD proposal also provides for a minimum set of additional powers for supervisory powers to address an insurer’s deteriorating financial condition, including notably the powers to update or activate recovery plans and to suspend or restrict variable remuneration, bonuses, distribution and repurchases.

Unlike BRRD, the EU Commission’s IRRD proposal does not require the creation of prefunded resolution financing arrangements (or insurance guarantee schemes) nor the existence of a minimum capital requirement. However, the Council foresees in its recently issued negotiating position paper on IRRD pre- or post-funded resolution financing arrangements which would in particular create a new financial burden for (re-)insurance undertakings located in countries like Luxembourg which do not currently have resolution financing arrangements or insurance guarantee schemes in place.

Resolution: conditions, powers and safeguards

The IRRD gives resolution authorities powers and tools intended to ensure the continuity of essential services and manage the failure of a (re)insurance undertaking or member of a group in an orderly manner in the public interest. The resolution tools include solvent run-off (not foreseen in BRRD as resolution tool), sale of business, bridge undertaking, asset and liability separation, write down and conversion.

The IRRD provides a series of safeguards for shareholders and creditors, including policyholders, where the resolution tools are used to transfer part of the business of an entity in resolution to a purchaser or bridge institution or to write down or convert claims into equity (including the no-shareholder-or-creditor-worse-off (NCWO) principle).

Like BRRD, IRRD requires in-scope entities to include bail-in recognition clauses in their contracts governed by the law of a non-EU member state. However, unlike BRRD, IRRD does not provide any exemption for existing contracts or for contracts where it may be impracticable to include the clause and does not foresee the adoption of technical standards to specify the contents of the required clauses. In addition, the entities must also include stay recognition clauses in their financial contracts governed by the law of a non-EU member state. This only applies to contracts creating new obligations or materially amending existing obligations after entry into force of the relevant national implementing provisions or to contracts which provide for termination rights or security enforcement rights affected by the IRRD override or stay. The in-scope entities will need to amend their new and existing contracts to include the above.

Other aspects

With respect to non-EU insurers, the IRRD will allow resolution authorities to recognize and give effect to comparable resolution actions taken by non-EU authorities in relation to EU subsidiaries, EU branches of non-EU insurance companies and parent companies. This new framework will also allow them to take resolution action against EU branches of third-country undertakings.

Legislative process and timing

In terms of legislative progress, the proposal for the IRRD published by the European Commission in September 2021 is currently being considered by the Council and the Parliament. Last December 2022, the Council has agreed its negotiating position and published the text that will form the basis for entering into trilogue negotiations with the European Commission and the Parliament, once the latter has determined its own position (following a draft of the Parliament’s rapporteur published in June 2022) in order to agree on a final version of IRRD in due course.

The IRRD is expected to be finalised and published later in 2023 or in 2024 only, possibly disconnected from the Solvency II review package of which IRRD was initially part. IRRD currently foresees an implementation into national law within 18 months from the date of its entry into force. Similarly, EIOPA will be expected to adopt guidelines and deliver draft regulatory and implementing technical standards within 18 months from the date of its entry into force.

Action points for insurers and reinsurers

While the national implementation still appears far away, there will be many points for (re)insurance undertakings and their groups to be analysed and considered for further action in relation to the new IRRD (e.g., additional recovery planning obligations going beyond Solvency II, group restructuring and other changes that may be needed to pass new resolvability assessments, extensive information disclosure to resolution authorities for resolution planning, adaptation of third country law governed contracts to include bail-in and resolution stay recognition clauses, revision of risk disclosures for capital markets documents, new resolution authorities getting a key role in ongoing supervision and on future M&A and other transactions, possible increase of funding costs or possible impacts on client and counterparty evaluation of (re)insurance protections).